China’s tech megacity Shenzhen at risk of being high-income trap as GDP soars

Cissy Zhou
·7-min read

While the world’s second-largest economy is battling a so-called middle-income trap, its tech megacity Shenzhen is now facing the dilemma of trying to avoid a high-income trap, as the city’s gross domestic product (GDP) has swollen almost 15,000-fold in the past 40 years, according to experts.

In 2018, the city’s GDP hit 2.42 trillion yuan (US$372 billion), overtaking Hong Kong for the first time. Before 1980, Shenzhen’s GDP was just 0.2 per cent of Hong Kong’s. Meanwhile, Shenzhen’s GDP per capita has skyrocketed from US$200 to US$30,000 in the past four decades, ranking first among mainland cities and approaching the level of South Korea, according to the World Bank.

“When per capita income and per capita costs rise, higher labour productivity or higher output is needed. In this process, not only will there be a middle-income trap, but Shenzhen is now faced with trying to avoid a high-income trap,” former Shenzhen vice-mayor Tang Jie said in a speech in November.

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“To avoid the trap requires restructuring the economy, but any restructuring would lead to a decline in traditional manufacturing capacity and a decrease in tax revenue,” said Tang, who is now a professor with the School of Economics and Management at the Harbin Institute of Technology in Shenzhen.

China must boost education quality ‘to avoid middle income trap’, rising inequality

A high-income trap seemingly reflects stagnation in economic growth, but it can also mean that there are deep-seated problems with a country or city’s growth momentum and development model.

When a society enters the high-income stage, residents’ demand for social welfare will increase, but unrealistically high welfare costs could lead to a fiscal crisis and high government debt, said Luo Zhiheng, an analyst at Yuekai Securities, in a note published in November.

Subsequently, the manufacturing industry declines as plants gradually relocate to emerging economies to avoid rising labour costs, and this threatens the domestic supply chain, Luo added. The gap between the rich and the poor may also widen.

As a testing ground for market-oriented reforms, Shenzhen used to be infamous for its copycat culture and sweatshops. But today, it is home to a number of the biggest names in China’s tech industry, including Huawei Technologies, the world’s largest manufacturer of telecom base stations; Tencent, the multimedia behemoth; and DJI, the world’s largest maker of drones.

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The city now accommodates 3 million enterprises and 6 million specialised talents, official data shows. But on the other hand, soaring labour expenses and a real estate bubble have already made the city less attractive to manufacturers planning to build new plants.

Shenzhen’s GDP growth rate has been below 10 per cent since 2014. It reached 6.7 per cent in 2019 before contracting to 3.1 per cent last year as the global economy was ravaged by the coronavirus pandemic.

Guo Wanda, executive vice-president of the China Development Institute (CDI) in Shenzhen, echoed Tang’s view that the tech megacity is at risk of becoming a high-income trap. He said the soaring cost of land and labour over the past few years will probably lead to a hollowing-out of manufacturing, as producers opt for low-cost facilities overseas.

“Once the hollowing-out occurs, there will be a risk of brain drain, and it may eventually lead to a capital outflow and a recession in the long run,” Guo said.

The fine division of labour in [Shenzhen’s] industrial chain also makes entrepreneurship possible

Tang Jie, former Shenzhen vice-mayor

To cope with the restructuring challenges, Tang concluded that the risks could be greatly reduced with the help of emerging industries, as innovation allows economic growth to be more sustainable.

His assessment was based on the results of a government project to financially support “innovative SMEs” from 2012 to 2015, when the Shenzhen government spent 4 billion yuan in supporting 7,500 micro, small and medium-sized enterprises (MSMEs).

As a result, the value added among these enterprises increased from 33.2 billion yuan to 105.8 billion yuan over the four years, and the government concluded that the funding policy directly amplified the output of MSMEs by 4.4 times.

“The fine division of labour in the city’s industrial chain also makes entrepreneurship possible,” Tang added. “You don’t need many assets to start a company, because you can focus on a very small part of the chain … as long as the industrial chain operates efficiently, the operating costs of the whole industry are reduced. All of these form an impeccable innovative ecosystem.”

The government project also led to an increase in patent applications, which more than doubled from 76,000 in 2012 to 187,000 in 2015, while annual spending on research and development also doubled during the four years. And applications for invention patents from the 7,500 MSMEs rose from 4.7 per cent of the city’s total applications to 12.2 per cent in the four years, Tang said.

But medium-sized enterprises have still fared better than small and micro enterprises, despite the project offering considerable support to the latter, Tang said.

The relatively low efficiency of small and micro enterprises stems from the fact that they have not yet formed mature professional capabilities, and have not yet become competitive participants in the industrial division of labour network, Tang added.

Today, industrial land still accounts for nearly one-third of the city’s total construction land area, according to Guo Wanda, but that also means the land supply for residential compounds is limited, which drives up housing prices.

“The population is basically stable, but there is still a growth of 200,000 to 400,000 every year,” Guo said. “So, in this case, Shenzhen can only improve its output.”

Shenzhen is now aiming to double both total and per capita GDP over the next 15 years by prioritising areas related to the development of integrated circuits, artificial intelligence and biomedicine, according to a blueprint released by the Shenzhen government in December.

The goal also means significantly lower growth than what it saw over the last 15 years, when the economy grew nearly fivefold, from 580 billion yuan in 2006 to 2.8 trillion yuan in 2020.

Shenzhen has greatly benefited from its proximity to Hong Kong, a key gateway to China under “one country, two systems”. However, the new national security law has raised concerns that Hong Kong’s viability as a global financial centre will be hurt, which could affect Shenzhen as well.

Guo noted that Shenzhen’s rise was largely tied to Hong Kong’s during the first 20 years of the reform and opening-up period, because a lot of Hong Kong manufacturers were setting up plants in Shenzhen. But now, he said, neither manufacturing nor the service industry in Shenzhen are reliant on Hong Kong.

Guo added that despite Hong Kong no longer being rated the world’s freest economy, its financing function “is still in place”, and some Shenzhen-based companies are eyeing a secondary listing in Hong Kong.

As the new administration of US President Joe Biden is expected to continue taking a confrontational approach to Chinese firms such as Huawei, Shenzhen’s access to foreign capital, technology and markets looks to be waning. Analysts have said the US’ restrictions on core technologies will be a blow not only to Shenzhen, but also to the broader Chinese economy.

“Huawei’s mobile phones are now very popular in China, meaning it can only offset part of the impact of US sanctions through internal circulation,” Guo said. “The impact of US sanctions is, of course, big. Shenzhen can only steer itself out of trouble with the help of entrepreneurs, who may succeed in a few years, but may also be beaten down.”

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