10. Backwards and forwards in China

Much of the outside world believes China's reform programme has been slammed into reverse by the East-Asian financial crises. But in some respects it has sped things up. The direct economic costs of the region's problems are not the issue. Despite doubts about the accuracy of last year's GDP growth of 7.8%, China is far from being in recession, unlike many of its neighbours. Certainly, China's exports will be badly hit this year, and previous high levels of foreign investment will fall. Yet the ex- port sector remains relatively small. It is China's domestic economy that counts, and this is shielded from external shocks by a largely non-convertible currency.

The impact of the regional crisis has more to do with expectations. A belated recognition by China's leaders that the corporate models of Japan and (particularly) South Korea are now bankrupt marks a profound change. China, most of its rulers now admit, can no longer simply count on state-guided growth to get out of trouble. Even though few, if any, yet believe in outright privatisation the consensus at the top is that much more reform is needed.

Hence the urgency of recent policies that aim to get the state out of business. Some of the most powerful bureaucracies, such as the Ministry of Information Industry and the Ministry of Communications, have had their business wings clipped. Indeed, the total number of ministries has been shrunk by a quarter. The armed forces, deeply involved in business, were given until the end of last year to quit commerce.

China's legions of small and medium-sized state enterprises have been told to fend for themselves. Many of them have stopped receiving state funds. Many have been merged or “privatized” in all but name. Almost all of them have been sacking workers, or sending them home on unpaid leave. Remaining workers have been put on notice that they will have to pay higher rents or buy their homes. Medical costs will rise.

Policymakers also admit to the dangers in the financial system. The People's Bank of China has been restructured along regional lines. The hope is that local barons will no longer be able to bully local central-bank officials into providing ill-judged credit. Finally, state banks have been “ordered” to lend according to strictly commercial criteria and to private companies.

The government says it wants to spur the development of consumer credit, for which there will be a great appetite. And it is determined to crack down on the welter of arbitrary fees and taxes imposed by local party bosses on farmers and on people living in small towns. This is probably the chief source of sporadic unrest in the provinces.

The trouble is, once the stimulus money is spent, there will be a further pile of shoddy infrastructure projects, redundant factories and unrecoverable loans to show for it. And all the while, the government's bill – for the banks' bad debts, for social-welfare costs and for the stimulus package – will continue to mount as China takes two steps forward and one back.