China Digital Policy Economy & Business Fiscal and Structural Reform Macroeconomics Technology & Innovation
Issue Brief April 19, 2022

Can China transform its economy to be innovation-led?

By Hung Tran

Introduction – Prospects and trajectories for the Chinese economy

After several decades of spectacular growth, a variety of structural problems have become more challenging for China. Growth based on investment and export has slowed in recent years. Importantly, China’s population is aging rapidly with the labor force having already shrunk.  As a consequence, total factor productivity growth has been slowing—to 1.1% per year in the past decade and a half, less than a third of the rate in the previous three decades.  In addition, China is engaging in a strategic competition with the US and Europe, making for a difficult, and at times hostile, world environment for its economy compared with the previous period. Against this backdrop, Chinese leaders especially President Xi Jinping have tried to transform the Chinese economy from the old investment and export-based model to one driven by innovation—basically to improve productivity and compensate for the declining labor force.

A three-stage framework

This paper examines the factors that could support or hinder China’s efforts to transform its economy to one driven by innovation; using a three stage framework to analyze the process of producing and using innovations. The three stages are:

  • input mobilization stage
  • R&D stage
  • output implementation stage.

This framework can help assess the relative strengths and weaknesses of China’s governance model combining party/state political control with market mechanism. Such a governance model, and until recently together with favorable global conditions and China’s demographic tailwind, delivered spectacular economic growth in the past four decades. The key question now is whether it can turn China into an autonomous innovation powerhouse, driving growth in the future.

By and large, many if not most observers in the West are skeptical of China’s ability to do so, mainly based on their negative view of Xi Jinping’s increasingly autocratic rule, tightening central control over society and the economy. While such a negative assessment of Xi’s concentration of power has merits, to summarily conclude that China’s technology push is destined to fail—no matter how intuitively appealing this conclusion is—risks underestimating China. This is not a wise thing to do while engaging in a strategic geopolitical struggle against the world’s largest economy (in purchasing power parity terms). It is better to strive for deeper insights into China’s strengths and weaknesses—to better evaluate the prospects of the Chinese economy and of the technological rivalry which forms a key part of the US-China geopolitical and strategic competition.


On balance, China can be said to have relatively more strengths in the input mobilization and output implementation stages; and more weaknesses in the R&D stage. In other words, China has been a good innovation sponge, but yet to show that it can be an innovation leader. Specifically, in the next 10-20 years, there are still many benefits in fully rolling out cutting edged but known technologies such as 5G/6G telecommunication, the Internet of Things (IoT), EV/ batteries/charging stations, smart cities and homes, automation and robotics etc. Doing so quickly at scale will give China first mover benefits as well as the ecosystem with which to foster further developments of the digital economy and society.

Beyond this foreseeable future, however, China may encounter difficulties in fostering major transformative innovations due to its authoritarian regime which restricts the free flow of ideas and information. As such, its ability to establish an autonomous innovation leadership position in the world and use it to drive economic growth remains an open question.

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