The rise and rise of China - can it really continue?

Of all the messages that Beijing pushes to the world there is one that underpins the rest: China's rise is inexorable.

The rise and rise of China - under the Chinese Communist Party, of course - is the subtext that dissuades democratic governments from talking about Beijing's relentless assaults on independently-minded lawyers, journalists and bloggers and its underground war against the institutions of civil society in Hong Kong.

For Australians, the story of a billion people marching inexorably to urbanised prosperity is also the core assumption that underpins investment decisions, interest rate settings and budget projections. But how do we forecast the future of a market-Leninist economy for which there is no global precedent? This question is coming to the fore as history's biggest credit and construction boom now turns to bust.

The China cycle that delivered Australia a full labour market, soaring housing prices and seemingly endless personal tax cuts is now firmly in reverse. The price of iron ore has tumbled 38 per cent this year and figures released on Saturday show China's industrial output growth has slumped to its lowest rate since the depths of the Global Financial Crisis.

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Most people can broadly agree that the China story can only be sustained with a convincing sub-story of transformational economic reform. But predicting a pathway through is not easy in a tradition where the utopian future is meant to be secure while history and present reality can be relegated to contingent variables.

One way to predict the future is to lower the burden of evidence and raise the requirements of faith, as many did after the new strongman leader, President Xi Jinping, released his "decision" to deepen reforms after its third plenum meeting in November. "A golden decade of sustainable growth and unparalleled prosperity has just started," the China economy team at ANZ bank bravely told clients at the time.

Another way, reserved for the influential, is to rely on privileged channels which Beijing is only too happy to provide.

"Xi was directly involved, directly, he guided everything, he worked with everything, and everybody, he was cracking the whip and driving things every day," says an executive, explaining Xi's personal efforts to inscribe pro-market wording into the third plenum documentation, as relayed to their group at the Bo'ao Forum by Fang Xinghai, a Stanford-educated member of Xi's key economic policy-setting body.  "Fang was just incredible in how open and transparent he was," says the executive. "He was Xi's right-hand man."

But how does an Australian executive cross-reference Fang's insights or judge his relationship with the leader of one of the world's most opaque political systems? "Hmm, I didn't question it," says the executive. "I think his job is to make everybody feel good. He achieved that."

Questions about how China controls what the world says about it are becoming more important as Xi presses a hardline ideological agenda that requires scholars and officials to self-inoculate against Western agents and ideas. Even the respected governor of the central bank, Zhou Xiaochuan, has had to lead his technocrats through a bizarre Mao-era ritual of socially reinforced dictatorship called the "the mass line".

It's arguably harder than it has been in decades to see through China's fragmentary data, deliberate half-truths and irreconcilable contradictions. So what do we really know? 

Barry Naughton, at the University of California in San Diego, who literally wrote the book on China's economic reform process, has forensically sifted through documents and news reports to conclude that the third plenum decision has created a whole new pro-reform bureaucratic infrastructure which will generate a rush of bottom-up proposals. "I think we should take the economic reform initiatives very seriously; I think they're real and they'll have a significant impact," says Naughton.

But he cautions that it's far too early to asses the balance of contradictions. "They seem to be going hard in five different directions," says Naughton. "Short-term probably consistent, long-term deeply contradictory, what are they going to choose?"

Naughton's university colleague, Victor Shih, who pioneered the study of the rapidly-mutating financing structures that proliferated after the Global Financial Crisis, warns that the scorecard so far does not look good. "I think we have seen the exact opposite of reform," says Shih,  pointing out that already underpaid chief executives at China's internationally-ambitious banks have been designated as "state administrative cadres" and had their salaries slashed.

While Xi is setting up a process of economic reform, and has marketed the coming fourth plenum as being about legal reform, it is unlikely that even he knows how those objectives will be balanced against his relentless campaign to expand and deepen personal and party control.

ANZ's China economist, Zhou Hao, says he is sticking to the "golden decade" story but also acknowledges that some trade-offs will be hard. "I agree there are mixed signals," he says.

Can Xi let GDP growth slow hard enough, for long enough, to break a credit cycle which has already outstripped both Japan and the US at their pre-crisis heights?  Will he even try to level the playing field between state-backed and private firms if it means allowing state firms to go bust? 

It will take extraordinary political strength - and message control - to sustain the story of an inexorably growing economy over the deep vulnerabilities and wild uncertainties that would be exposed by any serious process of structural reform. Perversely, from an Australian's point of view, the most positive signal he could give would be to refrain from unleashing yet another flood of credit to revive the markets for real estate, industrial production and iron ore.

And even if Xi holds his nerve on the macro-settings – as destabilising as that will be (and not only in China) - he will eventually confront a much starker choice between the dictates of Leninist power and the institutions required for market economics. At that point, he can choose to keep his commitment to absolute personal and party control, or he can attempt to preserve the illusion of inexorably rising Chinese power, but he can't have both.

John Garnaut is Fairfax Media's Asia-Pacific editor.

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