The World-Class Lessons of China’s Shanghai Free-Trade Zone

By: Dan_Steinbock

Amid the fifth anniversary of the Shanghai Free-Trade Zone, new economic zones are proliferating in China’s critical productivity centers. Despite trade wars, China is opening but in its own terms.

The Shanghai Free-Trade Zone (FTZ) was launched in September 2013, some five years ago. It was the first FTZ in mainland China and has progressively been expanding its territorial coverage. Yet, territorial coverage is only a part of its strategic significance.

What the FTZ experiments herald is a new stage in China’s economic reforms and opening-up policies.

FTZ impact on market liberalization

When the Shanghai FTZ was created half a decade ago, the idea was to develop Shanghai into an international financial center and trading hub by 2020, by loosening the government's grip on foreign investment, the currency market and the banking.

Initially, Shanghai FTZ covered only 30 square kilometers, including a logistics park, port and airport. In 2015, the FTZs were expanded to include Lujiazui Financial and Trade Zone, Shanghai Jinqiao Economic and Technological Development Zone and Zhangjiang Hi-Tech Park. The objective is to gradually expand the FTZ to 1,200 kilometers of Pudong.

According to research, the FTZ has already had an impact on the internationalization of the Chinese yuan. In the past, Chinese offshore yuan was traded on foreign currency markets, whereas onshore yuan trading was controlled by the China's central bank. Shanghai FTZ reduced the gap of the price spread between offshore yuan (CNH) and onshore yuan (CNY). Meanwhile, the yield gap between offshore and onshore yuan of 3-month maturity had decreased as well.

And while the internationalization of the Chinese yuan is far from complete, the Chinese currency was included as a major reserve currency in the IMF' international basket (SDR) in October 2016.

In the advanced West, free trade agreements were used in the postwar era to accelerate market liberalization. In China and emerging economies, FTZs have been deployed to foster a favorable environment to attract foreign investment and promote economic growth.

From new FTZs to the Great Bay Area

In 2014, China announced three new FTZs in Guangdong, Tianjin and Fujian. As Shanghai FTZ expanded in Pudong, new FTZs were “cloned” in other major Chinese cities. A dozen Chinese municipalities and provinces, including Shaanxi, Henan, Zhejiang, Tianjin, Guangdong and Sichuan, are building free trade ports and seek to shorten negative lists to attract foreign capital.

In early 2016, I forecasted that Guangdong was moving from industrialization to a post-industrial society, while emerging as a global hub of innovation. In China, innovation - as measured by R&D per GDP - had then climbed to 2.1% (which, despite the huge population, was higher than that of France, the UK or Australia). In Guangdong, the comparable figure was 2.5% but in Shenzhen around 4% - not far from the world leaders, South Korea (4.4%) and Israel (4.2%).

Today, the Greater Bay Area combines the nine cities of the Pearl River Delta with the special administrative regions of Hong Kong and Macao. While it comprises just 1% of China’s land mass, it has a population of 70 million and produces 37% of Chinese exports and 12% of its GDP.

It is the Guangdong FTZ that is fueling new gains in productivity and innovation.

How FTZs differ from imposed bilateral tariffs

In effect, pure “free-market” doctrines would have failed Guangdong’s growth and innovation. If all nine cities had only focused on their own narrow interests, while Hong Kong and Macao had remained insular, positive spillover effects would have been impossible.

Rather, it is economic cooperation and integration within and across these cities and regions that has made the difference.

In the U.S. tariff wars, the White House's trade hawks seek to impose bilateral trade agreements top-down on other countries. The idea is to rule and divide over major sovereign nations that trade with America. It is a 21st century version of a colonial 'open door' policy.

The idea of the Shanghai FTZ is almost diametrically the opposite. Here the effort is to open the Chinese economy progressively to multilateral world trade. The ultimate objective is to open Chinese economy bottom-up to trade with other nations.

It is China's response to rising nationalism and protectionism in the advanced West. It is also a development blueprint to other emerging and developing economies.

Dr Steinbock is the founder of the Difference Group and has served as the research director at the India, China, and America Institute (USA) and a visiting fellow at the Shanghai Institutes for International Studies (China) and the EU Center (Singapore). For more information, see http://www.differencegroup.net/

© 2018 Copyright Dan Steinbock - All Rights Reserved

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