These highlights are from the Kindle version of China: The Bubble That Never Pops by Thomas Orlik.

In the years ahead of the great financial crisis—the Lehman shock that pushed the world’s major economies into recession—China was already running off-balance. The combination of the one-child policy (which reduced the requirement for spending on children and increased the need for saving for old age) and an inadequate welfare state (which pushed families to self-insure against risk of unemployment and illness) drove the savings rate higher. A high savings rate meant consumption was weak. The economy leaned heavily on investment and exports as drivers of growth. As the crisis hammered global demand, exports evaporated and reliance on investment increased. A state-dominated banking system and industrial sector, combined with creaking government controls on how credit was allocated, meant lending and investment were groaningly inefficient.

In the years before the 2008 crisis, 100 yuan of new lending generated almost 90 yuan of additional GDP. In the years after, that number fell below 30 yuan. More and more credit was required to produce less and less growth.

Starting around 2012, China’s banks began aggressively moving loans off the balance sheet. Reclassifying loans as investment products enabled them to dodge regulatory controls on loan-to-capital ratios, as well as policy campaigns aimed at cutting off funds to firms operating with too much debt, or producing too much pollution. Poring through 2016 financial reports from 237 lenders, analysts at Swiss investment bank UBS found some 14.1 trillion yuan in shadow loans (equal to about 18.9% of GDP), up from less than a trillion yuan in 2011.

The cycle is a familiar one. Cheap credit drives aggressive investment. Aggressive investment results in excess capacity. Excess capacity means that prices and profits fall.

The regional manager of one of China’s more commercially oriented banks explained how lending decisions were made. “First we look at what the central government’s plans are,” he said, “then we work out which local projects fit into those plans—that’s where we make our loans.” That—offered as a straightforward explanation of operations rather than a confession of poor practice—shows how moral hazard permeates China’s financial system. The loan assessment process had nothing to do with hard-nosed calculation of risk and return, everything to do with brown-nosed investigation of which projects had the backing of Beijing, and so would be immune from default.

In the United States in the 2000s, mortgage lending rose too quickly, much of it channeled to households with limited capacity to repay—the NINJA loans to borrowers with “No Income, No Job, and No Assets.” The foundation for that house of cards: government backing for giant mortgage financers Fannie Mae and Freddie Mac, which enabled them to borrow cheaply, stock up on high-risk loans, and operate with insufficient capital buffer.

Chinese politics is not rigidly hierarchical; it is a struggle for control between the center and the provinces. Small wonder that then-president Hu Jintao’s first anti-corruption scalp was the rebellious party boss of Shanghai, and that Xi’s anti-corruption crackdown resulted in a new roster of loyalist party secretaries across the thirty-one provinces.

A typical structure for off-the-books borrowing looks something like this. Local governments inject land and other valuable assets into an off-balance-sheet financing vehicle and implicitly promise to stand behind any debt, enabling borrowing at below-market rates. Borrowed funds are used to pay for urban development projects—ranging from new roads and water treatment plants to tourist zones and affordable housing. If the projects go well, they generate revenue and the value of the other land on the balance sheet goes up, enabling repayment of borrowed funds. If they go badly, the local government has to step in with more support—injecting additional assets that can be sold to make repayments.

There’s little consensus on the level at which government debt starts to be a problem. There is broad agreement on one point—higher is worse. Higher public debt means a heavier repayment burden. Funds that could have been used to pay for expanded provision of healthcare and education—a crucial underpinning of China’s promised transition to a consumer-driven economy—have to be used for debt servicing. Banks that could be making more loans to entrepreneurial start-ups, catalyzing China’s shift to a more dynamic, private-sector led growth model, find themselves using the funds to roll over loans to ailing government projects.

From 2010 to 2017, looking at China as a whole, construction ran at about 10 million new apartments a year. As shown in figure 2.3, demand from rural migrants, natural growth in the urban population, and depreciation of the existing urban housing stock was less than eight million units a year. In the gap between those two numbers: ghost towns of empty property, uninhabited tower blocks ringing every city, and the Luoyang developer’s desperate offer of a car with every down payment. In total, in 2016 there were about 12 million empty apartments in China—enough to house the entire population of Canada.

Based on data from the National Bureau of Statistics, total debt for real estate developers came in at about 48.9 trillion yuan at the end of 2016, up from 10.5 trillion in 2008. Mortgage lending—including loans from a government fund for homebuyers—rose fast as well, climbing to 27.9 trillion yuan in 2016, up from about 4.5 trillion yuan in 2008. Putting those numbers together, total lending to the real estate sector rose to 76.8 trillion yuan (103 percent of GDP) in 2016 from 15 trillion yuan (47 percent of GDP) in 2008. Even those numbers very likely understate the depths of the debt hole.

In the history of financial crisis, real estate plays a prominent role: In 1989, at the height of Japan’s property bubble, the land around the Imperial Palace was said to be more valuable than all of the real estate in California. Restrictions on bank loans to real estate developers were one of the catalysts for the bubble to burst, triggering a 72 percent drop in land prices and pushing Japan into a lost decade of stagnant growth and falling prices.

A bean counting approach to the value generated by investments misses the larger social benefits. China’s infrastructure generates low returns, but then all infrastructure generates low returns. That’s because it’s a public good—something that’s provided at low cost for the well-being of society. The state-owned firm that builds a bridge or high-speed rail link or water treatment plant might not generate much income. The firms and households that use the new facilities do. Ultimately—China’s government hopes—that will result in enough tax revenue to make everyone whole.

The term “shadow loans” evokes images of pawnbrokers, peer-to-peer lending platforms, and other shady operations. In fact, most of China’s shadow loans originate with the banks.

The bank has extended credit to a low-quality borrower, often an ailing industrial firm like Dongbei Steel, or local government financing vehicle borrowing to pay for an infrastructure project. Regulatory requirements make it too expensive for the bank to maintain the front-door lending relationship. The borrower might be in danger of defaulting on its existing loans, and the bank loath to report an increase in nonperforming loans. Or they might be the target of a government campaign against high pollution or some other evil. Cutting the borrower off entirely might push it into bankruptcy and trigger a default—not a desirable outcome. Instead of breaking the relationship, the bank finds a back-door workaround by inserting a shadow lender into the transaction.

The shadow lender—typically a trust or asset manager— acts as a shell company, masking the true nature of the transaction. The shadow lender provides a loan to the low-quality borrower. The loan is then securitized, with the bank buying a security from the shadow lender giving it a claim on the borrowers’ repayment of interest and principal.

The history of financial crises is littered with examples of securitization gone wrong. In the United States in the run up to the great financial crisis, banks extended trillions of dollars in mortgages to low-income households. The claim on repayment was packaged and repackaged, sold and resold, bringing in fresh funds that extended the boom. By moving mortgages off balance sheet, banks dodged regulatory requirements on how much capital they had to hold, dashing for growth at the expense of stability for the system as a whole.

Subprime mortgage origination in the United States rose from about $100 billion in 2000 to about $600 billion in 2006, taking the total over that period to about $2.4 trillion, or 17 percent of GDP.5 In China, shadow bank lending rose from 420 billion yuan ($62.5 billion) in 2010 to 8.8 trillion yuan ($1.3 trillion) in 2016. The amount outstanding was 27.2 trillion yuan ($4 trillion), or about 36 percent of GDP. The US subprime crisis shook the world economy. A Chinese shadow banking crisis could break it.

Under Chairman Mao Zedong, policy was set according to the dictates of ideological purity rather than evidence of what worked. The result was a series of disastrous mistakes. In the Great Leap Forward, Mao’s ill-conceived and worst-executed attempt to accelerate the move from agriculture to industry, the forced-march pace required requisition of the grain harvest to provide funds for investment. With not enough left to feed the hungry population, the result was history’s worst man-made famine. In the Cultural Revolution, fearing the creeping revival of bourgeois values, Mao turned workers against bosses, students against teachers, children against parents. A society turned on its head resulted in a decade of chaos and misery.

In 1984, the political winds were blowing in favor of the reformers. Growth was strong and inflation low, reducing the argument for conservative caution. The household responsibility system had been a demonstrable success, delivering bumper harvests and strengthening the hand of market advocates. Deng seized the moment. The Third Plenum of the Twelfth Central Committee approved the Decision on Reform of the Economic Structure. The decision was a breakthrough.

At the theoretical level, it affirmed that the difference between socialism and capitalism wasn’t economic planning; it was public ownership. At the level of policy, it aimed at a reduced role for government-set prices and an expanded role for the market. Firms would be allowed to organize their own production in response to changing conditions, as signaled by market prices. As long as they were publicly owned—that was still socialism.

Zhu presided over a root-and-branch reform of the state sector. Following a policy of “grasping the large and releasing the small,” Zhu aimed to nurture a core of major state-owned enterprises, creating globally competitive firms that could go toe to toe with General Electric, Siemens, and Sony. Smaller firms faced privatization, merger, or bankruptcy. For many of their workers, this meant unemployment. In 1996, on the eve of ownership reforms, there were 142 million employed in the state sector, accounting for 72 percent of urban employment. By 2002, when Jiang and Zhu were preparing to pass the baton to the next generation of leaders, those numbers had fallen to 83 million and 33 percent.

National champions like Alibaba, the e-commerce giant that started life connecting Chinese firms with foreign buyers; Huawei, the telecom equipment firm and bête noire of US intelligence agencies; and Lenovo, one of the world’s biggest producers of laptops, would not exist if China had not entered the WTO. For hundreds of millions of workers, life on the sweatshop production line was hard and sometimes bad for the health. But it provided a pathway out of hardscrabble rural poverty.

An exhaustive exercise by the US Bureau of Labor Statistics found that in 2005 China’s factory workers earned—on average—about 83 cents an hour.3 In the United States, the minimum wage was $5.15 and most earned more. An undervalued yuan, subsidized land, and cheap credit gave Chinese firms an additional competitiveness boost.

Gradualism made sense, but it came at a cost. Zhou found himself, if not trapped, then at least severely confined by what economists call the “impossible trinity.” The idea, which originates in 1960s work by Marcus Fleming and Robert Mundell, is that a country cannot simultaneously have a fixed exchange rate, free capital flows, and an independent monetary policy. That’s because capital flows to where returns are highest, so countries with an open capital account must accept either interest rates in line with the global anchor—the Federal Reserve—or a floating exchange rate.

“This is where my farm was,” says Mr. Fu, pulling his battered sedan alongside Golden Lakeshore, a collection of luxury villas on the outskirts of Chengdu, a city of 11 million in China’s southwest. The villas are out of Mr. Fu’s price range. When government-hired thugs drove him off the small plot where he ran a fish farm, local officials paid Mr. Fu just 9 yuan per square meter for it. The plot was quickly resold for 640 yuan per square meter to a developer, which built villas that sell for 6,900 yuan per square meter.

Mr. Fu is not alone. China’s urbanization boom was built on land wrenched from tens of millions of farmers. Huang Qi, a land rights activist in Chengdu, heard stories like Mr. Fu’s every day, thousands a year. Operating from his spartan apartment, Huang acted as a clearinghouse for information on land grabs, fielding a constant stream of calls on his mobile phone and posting the information on his website in the hopes negative publicity would stop the worst extremes. The authorities tolerated that act of constructive dissent for a while, then apparently decided it was too much trouble and locked him up for sharing “state secrets.”

The PBOC had cut interest rates twice in quick succession, with one 27-basis-point cut at the start of October 2008 and one at the end. Following the State Council announcement, they sent a decisive signal, cutting rates another 108 basis points—the equivalent of four rate cuts at once. Before the end of the year they would cut again. The interbank interest rate (the rate banks pay to borrow from each other) fell from a high of close to 4 percent in July to below 1 percent at the start of 2009. In parallel, the reserve requirement ratio (the share of deposits banks have to keep in reserve) was lowered, releasing more funds for lending. The 4-trillion-yuan stimulus provided the motive for banks to lend; bargain basement rates and a lower reserve requirement created the opportunity.

A lot of the new lending flowed to local government. In theory, local governments were barred from borrowing—a common-sense rule aimed at preventing local chiefs dashing for growth at the expense of blowing up the public debt. In practice, a workaround already existed, allowing local governments to set up off-balance-sheet vehicles to borrow.

In July 2011 in Wenzhou—China’s entrepreneurial hub—two high-speed trains collided on a viaduct. Forty were killed and 192 injured. The story of Xiang Weiyi, a two-year-old girl who survived the crash but lost both her parents, tugged at the nation’s heartstrings. The government came under fire for secretive and insensitive handling of the aftermath.

The Wenzhou crash came hard on the heels of a corruption scandal, with Minister of Railways Liu Zhijun hauled off by the investigators. Among other blots on his official record, Liu was reported to have kept eighteen mistresses, a state of affairs more easily explained by his stash of 800 million yuan in bribes than by his diminutive stature or stringy comb-over.

One reason Hu didn’t achieve more was a leadership style that supporters lauded as consensus-based and procedurally thorough, but critics panned as weak and ineffective. Under Xi, that would be the first thing to go.

Back in 1978, the Third Plenum marked a fundamental change in China’s economic policy—the beginning of reform and opening. Deng Xiaoping’s far-sighted decision to throw off the dogma of the Mao era and make “experience the sole criterion of truth” began a process that transformed China from an impoverished basket case to a global powerhouse.

In 2016, when deleveraging was hoisted near the top of the government’s list of priorities, the conventional wisdom was that policymakers faced an impossible choice. They could allow credit to run unconstrained, propping up growth for a few more years but inflating the bubble even further and making the ultimate day of reckoning even worse. Or they could slow the expansion of credit, hitting corporate profits, local government revenue, and household income, and making it harder for borrowers to repay their loans.

The conventional wisdom was wrong. Two years into the deleveraging campaign, China’s policymakers had achieved faster growth, a steady debt-to-GDP ratio, and a shrinking shadow banking sector. How did they do it? The answer lies in a combination of the underlying resilience of the economy and financial system, the underappreciated ingenuity of policymakers, and the unusual resources of an authoritarian state.

From 2011 to 2016, China built more than 10 million apartments a year. Demand averaged less than 8 million units. In the gap between those two numbers: ghost towns of empty property, cement shells of skyscrapers ringing the edge of major cities, and finished developments with no lights on at night. Zhu Min, at the time the deputy managing director of the International Monetary Fund and a former senior official in the People’s Bank of China (PBOC), said in 2015 there were a billion square meters of empty property.

The most highly indebted sectors of China’s economy are heavy industry, real estate, and local government. The official data doesn’t provide a breakdown of debt on a sector-by-sector basis. Using financial reports from listed companies gets around that problem. In 2015, at the height of concerns about a financial crisis, average debt for China’s 181 listed real estate developers was 18.3 times annual income. With debt at 17.9 times annual income, iron and steel firms were not far behind. For some local government financing vehicles the problem was even more severe—with no regular income, they depended on land sales to repay their borrowing.

Debt crises don’t start with average borrowers; they start with the weakest borrowers. Their defaults trigger a reassessment of risk, lenders pull back, and higher-quality borrowers run into trouble.

Bank loans and bond issuance fund real activity: investment in factories, infrastructure, and real estate. Shadow banks—providing the equivalent of payday loans for cash-strapped private businesses, or funds for speculation in the property or equity markets—do not. Put simply: bank loans make the economy grow, shadow bank loans don’t.

They would not match the size of the US or Soviet arsenal, but China’s achievement of nuclear status was a watershed moment in modern history. With China a nuclear power, its southwestern neighbor—and potential challenger as Asian hegemon, India—was sure to follow. When India followed, so did Pakistan. President Richard Nixon’s 1972 visit to China, and the alignment with the United States against the Soviet Union that followed, would have been impossible had China not achieved nuclear parity with the dueling Cold War rivals. Technology transfer, combined with China’s determination, changed the world.

Published in May 2015 the China 2025 plan is based on the idea that the manufacturing sector is in the midst of a fourth revolution. The first came in the eighteenth-century with the invention of steam power, the second with electricity in the nineteenth century, the third with computers in the twentieth. The fourth will combine industrial robots, artificial intelligence, big data and cloud computing, resulting in a manufacturing sector that marries automation and efficiency with customization and a dynamic response to a changing market.

The focus was on ten sectors: information technology, robotics, aerospace, maritime equipment and ships, trains, new energy vehicles, power, agriculture, new materials, and pharmaceuticals and medical instruments.

In 2017 China spent $444 billion on research and development (R&D). Only the United States—with R&D at $483 billion—spent more. The entire European Union spent $366 billion. In addition to spending on R&D, China was forking out billions to buy foreign technologies. Among the jewels in the crown: home appliance maker Midea’s $4 billion acquisition of the German robotics firm Kuka. Accompanying the spending power: an ever-increasing supply of brain power. In 2017 China had more than two million research students, and 600,000 studying overseas.

Whether it’s to tap the low-cost, integrated supply chain or to access the market of 1.3 billion customers, multinationals have to be in China. China’s policymakers are masters at using that to their advantage, steering foreign firms into joint ventures, or requiring them to hand over valuable technology, as the price of market entry.

Nixon called his 1972 trip to China “the week that changed the world.” That’s no exaggeration. Nixon’s meeting with Chairman Mao ended more than two decades of hostility between the two sides, and restored normal diplomatic relations. Mao died in 1976. In 1978, when Deng Xiaoping launched the reform and opening process, friendly relations with the United States provided the crucial underpinning. The path for Chinese goods to enter global markets was open. So too was the door for Western capital, technology, and expertise to enter China.

The relationship between China and other major powers is like that captured in game theory’s “stag hunt.” The hounds—United States, Japan, Germany, and other major economies—can capture the stag (China), but only if they work together and don’t get distracted. Unfortunately for foreign countries and corporations, each is easily distracted by the individual gains China dangles. As a result, cooperation breaks down and China wins.

The lesson of the last few decades is that China is a very skillful stag, and other major economies are comically maladroit hounds. A German car company doesn’t want to share its technology with a Chinese joint venture partner? No problem—we’ll see if a Japanese car company would like more market access, providing of course they are willing to disclose what’s under the hood. France’s president wants to raise human rights issues? Very well; the next leaders’ trip to Europe will skip Paris and bring deals to Berlin and London instead.

In China, information asymmetries are not an unfortunate bug in an otherwise transparent system, they are a pervasive feature. “They have no idea what they’re buying,” said one of the financial engineers behind the 29-trillion-yuan wealth management product market, referring to retail investors ignorant of the risks they were taking on. The quality of assets on banks’ 27-trillion-yuan shadow loan book is invisible to everybody but the banks.

By 1989, Japan’s households were about 80 percent as well off as those in the United States—an indication that the world’s second-largest economy had all but closed the gap with the first. The main drivers of growth were close to used up. An urbanization rate of 77 percent meant property construction was no longer a powerful engine of demand. Japan’s corporates were dominating electronics and making major inroads into autos, touching the outer limits of the technology frontier and grabbing a politically troubling share of global markets. Scope to grow by producing ever more advanced goods for export was depleted.

The parallels between Japan’s bubble economy and lost decade, and China in the post–financial crisis period, are striking. That’s not a surprise. China consciously followed Japan’s development model, paving its path to prosperity with a combination of industrial planning, state-directed credit, and an undervalued currency. As a result, China suffered from many of the same distortions. Mercantilist policies aimed at grabbing export market share, stoking protectionist sentiment in the United States: check. Wasteful public investment resulting in a landscape littered with roads to nowhere: check. Government direction of the banks resulting in massive misallocation of credit: check. Pervasive moral hazard, behind-the-scenes deals to stave off bankruptcies, and an industrial landscape stalked by zombie firms: check, check, and check.

China, like Korea, managed rapid industrialization through a nexus of closely controlled banks and corporates—a crony–capitalist system that accelerated development but allowed problems to build behind the scenes. China, like Korea, had banks stuffed with nonperforming loans, estimated at about a third of GDP in 1998.

Korea had plunged into recession, the government forced to go cap-in-hand to the IMF. US officials had dictated terms, forcing through a market opening in which Korea’s prized corporate assets sold for a song. The political order had been shaken, with a former dissident pro-democracy protestor winning the presidency. None of that could be allowed to happen in China.

The differences are also important, and in the end may prove to be decisive. Korea was behind the curve in responding to its problems. China has been ahead of it. Korea’s chaebol chiefs were allowed to run wild, investing in vanity projects that resulted in massive misallocation of capital. In China, wayward executives have been brought to heel, with some falling into the clutches of the corruption investigators. In Korea, growth in shadow banking ran unchecked until the crisis hit. In China, from 2016, the government moved aggressively against the shadow banks—bringing asset growth for the sector down to zero.

The price of money and the price of domestic versus foreign goods are key instruments for control of the economy. Set by the market, they drive efficient allocation of resources. Set by the government, they do not. In China’s case, an artificially weak yuan encouraged businesses to focus on capital-intensive manufacturing for exports, not capital-light services for domestic consumption. Artificially low interest rates made it cheap to borrow, providing funds for projects that had little commercial rationale. Both contributed to the rapid increase, and inefficient allocation, of credit.

The incremental capital output ratio—a measure of how much capital spending is required to buy an additional unit of GDP growth—rose from 3.5 in 2007 to 6.5 in 2017, the highest level in the reform era.6 The additional GDP generated by each new 100 yuan of credit fell to 32 yuan in 2018, down from 95 yuan in 2005. According to the Bank for International Settlements, close to 20 percent of GDP has to be used to service debt—higher than the United States on the eve of the great financial crisis. The picture that emerges is of a Chinese economy where an ever-increasing volume of debt-fueled investment is required to fuel an ever-decreasing volume of growth.

In the past, China was able to outrun its problems. At the end of the 1990s, China’s bad loans were close to a third of GDP—a seemingly insurmountable burden. After a decade of double-digit growth, the same bundle of bad loans was a forgotten footnote in the history of China’s rise. The same trick will be difficult to pull off again. At the end of the 1990s, China had a young and growing population. Zhu Rongji’s root-and-branch reforms of the state sector retooled the economy for growth. Entry to the World Trade Organization opened the door to an untapped global market. The ratio of bad loans to total lending was high, but overall debt levels were low, making recapitalization of the banks relatively affordable. In 2018, all those factors were reversed.

Attempts at innovation and entrepreneurial endeavor are ineffective within a controlling, state-dominated system. On innovation, a torrent of funding has created the sheeny veneer of success. Critics say the reality behind it is mediocrity and asset price inflation. Firms that succeed often benefit from massive government subsidies, protection from foreign competition, and what friends call technology transfer and rivals technology theft.

A slump in exports, a plunge in real estate, overly ambitious reform, draconian tightening, market meltdown, capital outflows, or simply the inertial weight of zombie firms all have the potential to push China into crisis.

Call it “Sinophrenia”: the simultaneous belief that China is about to collapse and about to take over the world. Reading the news headlines, and listening to commentary on China’s economy and foreign policy, it seems both are true. On the one hand, debt is too high, the property bubble too big, and the shadows of the financial sector too dark for the economy to steer clear of crisis for much longer. On the other, China has a master plan for taking over the technologies of the future, a muscular diplomacy that is extending influence around the world, and an economy poised to challenge the United States for global leadership.

China’s holdings of US Treasuries are a complicating factor in the relationship, but unlikely to be a critical factor in the event of a crisis. At the end of 2018 China held $1.1 trillion in US Treasury debt—slightly more if holdings stashed away in other financial centers are added to the total. China’s position as one of the largest foreign holders of US debt (they jostle for first place with Japan) has been a perennial source of concern.

Facing a crisis at home, China’s leaders would hope for strong global demand to lift the economy out of its slump. A fire sale of Treasury holdings, triggering a crisis in the United States and potentially the rest of the world, would be counterproductive in the extreme. Back in 2007, Larry Summers coined the term “balance of financial terror,” neatly encapsulating the idea that China had to keep lending to the United States, because if they didn’t, the resulting crisis would sweep them away too.

MIT economist Rudiger Dornbusch’s famous line, “Crises take longer to arrive than you can possibly imagine, but when they do come, they happen faster than you can possibly imagine,” will one day prove prescient in China, as it has in so many other countries.

In 2018, GDP per capita measured in purchasing power parity terms was $16,000, less than 30 percent of the level in the United States. That’s a fact often overlooked by global visitors. Flying into Beijing’s ultra-modern airport, staying in the Ritz Carlton on the west side of town or the other Ritz Carlton on the east side, attending meetings in newly built office towers, watching smartly dressed young professionals ordering ride shares on their smartphones, it’s easy to forget that China remains a developing country. Countries with development space have room to grow through financial problems that might stop a more advanced economy in its tracks.

The combination of space for development, enormous size, access to foreign technology, and a ready-made blueprint for development gave China a major head start. On top of that, add a high savings rate, controlled capital account, and a state-owned banking system. As a nation, China saves almost half of its income; a controlled capital account means it’s difficult to move those savings offshore. As a result, the vast majority ends up in the domestic banking system. That’s important because it guarantees China’s banks a steady flow of cheap funding. And with the banks state-owned, that means government planners have a constantly replenished piggy bank for funding priority projects.

China’s government only gets to pull those additional policy levers at a considerable cost. Doing away with due process in government and free debate in society risks missteps in both directions. Policymakers can overdo it—which is what happened with the 4-trillion-yuan stimulus. They can also leave problems to fester for too long, as with the one-child policy, a large-scale policy error and one that a government benefiting from democratic checks and balances would surely have avoided. In almost all cases, the short-term flexibility and resilience enjoyed by authoritarian regimes has proved a source of long-term rigidity and brittleness.

Back in the early 1980s, at the start of the first cycle, the return of land to the tiller—the “household responsibility system” that drove a step change in agricultural productivity and fired the starting pistol on China’s reforms—was not the result of a policy directive from Beijing. It started with the local initiative of farmers in Anhui province. In the early 2000s, the factories that seized the opportunity of China’s entry into the WTO were not state-owned. They were owned and operated by entrepreneurs, driven by the desire to get rich first, and providing a path out of rural poverty for millions of migrant workers.