Supply-side Reform

What does the term “supply-side reform” mean? What was the context in which the term got coined? What measures does supply-side reform entail?
by Huang Hanquan
November,11,2014, Shanghai: to prepare for the "Single’s Day" Shopping Spree, the staff of Best Logistics in Shanghai Cao'an warehouse are busying in sorting express packages.

Of late, the term “supply-side reform” is increasingly being used in government documents and speeches by top Chinese leaders. On November 10, 2015, President Xi Jinping pointed out at a meeting of the Central Leading Group on Financial and Economic Affairs that China should enhance structural reform on the supply side while properly expanding overall demands. On November 17, presiding over the conference on the compilation of the National Guideline for 13th Five-Year Plan, Premier Li Keqiang emphasized that the country should make effort on both the supply side and the demand side to push its industry to the middle- and high-end.

What does the term “supply-side reform” mean? What was the context in which the term got coined? What measures does supply-side reform entail?

Supply side is, almost always, in contrast to the demand side. In macro-economics, demand side refers to the three major engines of economic growth, namely: export, investment, and consumption. Supply side means the amalgamation of all market entities that offer products and services to consumers. Supply-side reform, in fact, is aimed at breaking industrial monopoly and promoting fair competition by: eliminating obstacles that hinder the effective allocation of resources; enhancing the utilization efficiency of economic factors such as land, labor, capital, and technology; and, lowering production costs to achieve long-term balanced, sustainable economic growth. Supply-side reform implies economic restructuring based on market demands, with the purpose of matching production, supply and demand and enhancing the quality and quantity of economic growth. In this regard, China’s supply-side reform and the “structural reform” currently known in the international economics circle are just two different approaches towards the same objective. More accurately, therefore, the term “supply-side reform” could be stated as “structural reform on the supply side”.

Since the 2007 global financial crisis, faced with a drop in foreign demand, the Chinese government followed the Keynesian principle of stimulating demand, and implemented a proactive fiscal policy and a prudent monetary policy. In order to stimulate export, investment and consumption, the central government invested RMB 4 trillion, while banks released loans totaling RMB 10 trillion. These measures checked the trend of economic slowdown, raising the economic growth rate from 6.2 percent in the first quarter of 2009 to 12.2 percent in the first quarter of 2010. With the gradual withdrawal of stimulus policies, however, growth once again saw a downtrend. To stabilize growth, the government came up with another round of mild stimulus from 2013 thereby reducing the interest rate five times and lowering the reserve ratio six times. However, those measures didn’t stop growth from slowing down. In the third quarter of 2015, the growth rate of investment and consumption dropped about 10 percent from the average of the past three years, which stayed at 18 percent and 14 percent, respectively. Meanwhile, the growth rate of export plummeted from 7 percent to negative.

In terms of consumption, in particular, the country suffers a severe imbalance between supply and demand: the growth rate of domestic consumption decreases with each passing year, while people are spending huge amounts overseas. In the meantime, manufacturing is facing cost increases, multinational manufacturers are returning to developed countries, and labor-intensive industries are moving to Southeast Asian countries with lower costs. As a result, China faces the risk of an industrial hollowing-out.

All indications are that the economy’s major problem isn’t insufficient demand in the short run, but the declining competitiveness of the supply side and the supply side not being in conformity with the upgrade of domestic consumers’ demand structure. For this reason, the government has shifted the focus of its policies on emphasizing demand-side administration to simultaneously reforming demand side and supply side.


The author is director of the Institute of Industrial and Technological Economics under the National Development and Reform Commission.