Lessons that transform the economy

One of the lessons from the recent stock market rout in Shanghai and Shenzhen lies in the fundamentals of the Chinese economy, most importantly its industry's unfitness for the transition China wants.

It is reflected in the marked decline in the general assessment by manufacturing managers of their business environment, as evidenced by the recent data from factory surveys.

The reading of the Caixin China general manufacturing purchasing managers' index dropped to 47 points in September, its lowest level in 78 months.

Investors are asked to think how much of the country's industry, built in the years when it could sell cheap manufactured goods en masse to just every country, using the moniker "factory of the world", is no longer useful and practically a waste. Nonetheless, this is the first question that the Chinese government will have to answer.

In fact, when a business cycle is completed－such as when its market demand diminishes, or its labor cost rises－it is difficult for managers to believe that their industry will rebound a few years, making the same profit by operating with the same technologies and providing the same products.

Unless the industry operates on an entirely new concept, competing with other companies in an entirely new market area, it will be dead. Its market will be taken over by either companies that can make even cheaper products of a similar kind, or by those that can offer better replacements built on more advanced technology.

One of China's problems is that in the earlier years of the century, too many resources, at central, provincial and city levels, were diverted to building manufacturing companies such as those making steel and other building materials, those taking processing orders from overseas buyers, and those supplying cheap goods for export.

There is an even more dangerous potential waste－in the enormous investment that the government has committed to building State-owned industrial monopolies, such as in oil and gas, telecommunications, electricity generation and distribution, and in making large machinery.

Despite the investment, none of those industries can have a future without going through major restructuring－not just in human resources and their knowledge structure, but also in the way they operate and make a profit.

The nation's three State-owned telecommunications service providers, for example, can no longer expect continued profit by selling mobile handsets and signing up new users. It is the services that they offer, from all the large and small e-commerce companies with diverse owners, that are enjoying the most impressive increases in profit.

Another example is the three large oil and gas monopolies, which could once afford the highest salaries and benefits for their new recruits, but are now suffering from a continuing decline in the international price of their products. Their young professionals are starting to look for opportunities for a mid-career change.

Things are clear, and will be clearer three years from now: the above-mentioned industries, with all their old-industry structures and low-tech features, will play a diminishing role in the overall economy, and have less and less value in the stock market. And this is happening in China right now. Nothing can stop the decline in the importance of the country's old industries.

That may also be why the government is eager, in its recently issued reform program, to sell part of its ownership in those old-industry SOEs to private investors and to place them under more qualified and innovative private managers. It may be lucky, but only if it acts more quickly.

Inevitably, some investment will never be recovered, given the rising demand for more and more investment in the more competitive, technology-led industries, in manufacturing and in society's management and services. Where will all the money come from? This is the next question that the world waits for China to answer.

The author is editor-at-large of China Daily.