Is China's "dual circulation" drive taking shape, reducing its dependence on the West?

Four years ago, China proposed a "dual circulation" strategy to consolidate its domestic market and reduce its dependence on the West. So, is it making progress now?

South China Morning Post, June 26, 2024, Zuo Min

The upcoming Third Plenum of the Communist Party of China (CPC) is traditionally a time to announce major economic strategies for the next five to 10 years. Here's a look at the current state of China's "dual circulation" movement. The "dual circulation" campaign is a long-term plan to promote the development of domestic markets and reduce dependence on international trade to ensure security.

Gone are the days of four-legged vehicles and the humble carrot as a fuel source, but root vegetables are still a rhetorical stand-in for incentives of all kinds. It's just that, in modern language, this incentive is rarely a real carrot; After all, human desires have outstripped what a mule might satisfy.

But for Samuel Ling and his colleagues at an agricultural company in Shanghai, metaphor and reality have become one.

Two years ago, his employer, a seed specialist, was tasked with replacing imported seeds with "self-developed" seeds. What are the top priorities? New varieties of carrots.

As in countless industries in China, self-reliance has become the watchword of agriculture. Building more domestic production capacity has been seen as crucial since the start of the trade war with the US in 2018, and this momentum has been pushed to a higher starting point in 2020 after the Chinese government adopted a "dual circulation" strategy.

I think it's worth it because it means that Chinese farmers will have access to cheaper seeds that we produce ourselves.

From seeds to semiconductors, the world's second-largest economy is rushing to replace Western technologies and goods with domestic alternatives, and under this new model, domestic consumption and international trade, or "internal" and "external" circulation, as the official parlance is, are rebalanced, giving preferential status to the domestic market in a geopolitical climate fraught with crises.

Ling's company, which has been designated as a seed producer by the Ministry of Agriculture and Rural Affairs, is entitled to special financial support, though he declined to name the company because he was not authorized to give media interviews.

"It's not easy to achieve in just a few years," he said. But I think it's worth the effort, because it means that Chinese farmers will have access to cheaper seeds that we produce ourselves."

Four years have passed since the term "dual circulation" first came into view, and there has been significant progress in some areas, but researchers and observers say it will take longer to see concrete results in most areas.

They warned that as the Third Plenum of the Chinese Communist Party approached, China would continue to turn inward and would further decouple from the United States.

Zhang Jun, dean of the School of Economics at Fudan University, said: "China is trying to replace Western technology with its own, so it is running fast, but even if it is fast, it will not catch up in a decade or two because it started late."

This lag is reflected in China's share of several basic technologies. Northeast Securities said in a research report in April that it is estimated that only about 7% of the core semiconductor devices used in China are domestic. The domestic production rate of semiconductor components is expected to be even lower, at less than 5%.

According to a research report released by Besta Securities in March, China accounts for less than 10% of the global supply of five-axis computer numerical control machines, the most advanced cutting tools in the field of high-speed machining. The global market value of these tools is estimated at $7 billion.

According to Besta's forecast for market value in 2021, China's CNC system market will be worth more than 21 billion yuan ($2.9 billion). However, three-quarters of the share of this lucrative industry is currently occupied by foreign companies.

However, since 2020, the pace of development has accelerated in certain areas, especially in the telecommunications sector, which is dominated by state-owned enterprises.

About 60 percent of telecom hardware has been localized, but software substitution is slow due to the poor comparative performance of domestic software, the research firm EO Intelligence said in a September report.

Lin Hanshen, director of China at the Asia Group, a Washington-based consultancy, said the progress made in establishing "internal" circulation could be seen in "consumers' preference for Chinese films, cosmetics, cars and other products that better reflect local values, are of high quality and are sold at lower prices."

"This has forced multinationals to assess how they should localize their approach to the Chinese market, as they realise that the days when foreign brands could easily charge high prices are gone," he said.

However, he noted that "the irony is that the struggle for self-reliance, or the absorption of production by consumption, may increase China's dependence on the global market". He cited the example of the electric vehicle industry, whose output has already exceeded domestic demand.

"These surplus products need to be exported," he said. So China depends on the rest of the world to stay open, and in return, China needs to stay open as well."

Chen Fengying, a researcher at the think tank of the China Institute of Contemporary International Relations, an organization linked to China's Ministry of State Security, said that focusing on the domestic market was a forced choice because "external" circulation was no longer as reliable as it used to be.

"We now do business with many small countries. But 100 small countries may not equal one big country," she said.

In recent years, China has diversified its trade to maintain "external" flows as the United States and its allies have taken steps to reduce their dependence on the East Asian powerhouse.

In the first four months of this year, the European Union and the United States accounted for 12.7 percent and 10.6 percent of Chinese mainland's total foreign trade, respectively, according to Zhu Yong, an economist at the Hong Kong Trade Development Council.

By contrast, nearly half of the total value of imports and exports during this period came from participants in China's Belt and Road Initiative, a strategy to enhance regional connectivity through infrastructure, while the ASEAN bloc, which is made up of Southeast Asian countries, accounted for more than 15 percent, he said.

China has rapidly shifted to relying on domestic demand to boost its growth in recent years, but it appears to face greater challenges externally. He noted that while the global economic situation is more stable, the future growth of China's foreign trade "may be affected by uncertainties such as geopolitical developments, as well as ongoing trade disputes between China and the United States and other trading partners."

Chen Zhiwu, chair professor of finance at the University of Hong Kong, agrees. "In recent years, China's economic growth has rapidly shifted to relying on domestic demand, but it seems to be facing greater challenges externally," he said.

At next month's high-profile Third Plenum, officials "will use the word 'reform,'" he said, "but, whatever they decide, more decoupling from the United States and Europe will remain a fundamental policy direction."

Based on the precedent of most previous meetings, this meeting should have taken place last fall. However, the meeting was postponed to July as the Chinese economy was grappling with a series of issues that were dragging down its economic recovery after three years of widespread rehabilitation.

Zhang Wuchang, a professor at Fudan University, said that the United States does not expect a major shift in its policy toward its only rival, China, as China is expected to continue its inward-looking policies.

"With a huge economy and talent pool, China will eventually wean itself off its dependence on imported technology, and poor U.S.-China relations will only make this shift happen sooner than previously expected," he said.

However, local governments will remain keen to attract foreign investment in areas where domestic companies still lack core technologies, adding that the government should treat companies from different backgrounds equally.

Bai Chongen, dean of Tsinghua University's School of Economics and Management, said that as China continues to seek self-reliance, it needs a relaxed policy environment to guide various types of innovation.

In an exclusive interview with NetEase last month, he said: "We can't ask everyone to pursue the same type of innovation, such as pushing all companies to solve the 'bottleneck' problem, otherwise other types of innovation will be squeezed out of the market."

He was referring to the widespread fascination with the "0-to-1" principle of innovation – to create something completely new. The idea, he said, has put the work of many Chinese scientists and companies in a difficult position. He added that it is equally important to take what already exists and improve it in a "1 to n" model, and that China has proven its way."

Ling, an employee at Shanghai Seeds, said it would take at least three years for the company's carrot research team to break out of the "0-to-1" trap.

"Even if we succeed in developing a new seed, it will still take time for it to be commercialized," he said.