China & World Economy / 31–49, Vol. 16, No.

2, 2008 31

Changing Engines of Growth in China:

From Exports, FDI and Marketization to
Innovation and Exports

Furong Jin, Keun Lee, Yee-Kyoung Kim*

Abstract
This paper investigates the changing sources of growth in post-reform China. Using cross-
province regressions, this paper finds that, in earlier periods, exports, foreign direct investment
and marketization were significantly related to per capita income growth, whereas since the
late 1990s, foreign direct investment and marketization have lost their significance and
have been replaced by new sources of growth, such as innovation and knowledge, with only
exports continuing to be important. This finding is robust after controlling for other variables
representing other economic policies and provincial characteristics. We also tackle the
possible endogeneity of innovation variables using the instrumental variables estimation
method.

Key words: China, economic growth, innovation, foreign direct investment, exports,
marketization
JEL codes: O30, O40, R11

I. Introduction

Ever since China’s reform and open door policy started in the late 1970s, the Chinese
economy has continuously shown remarkable economic performance, with an average
annual economic growth rate of around 9 percent. Various reasons for China’s economic
growth have been considered in the published literature, including the influx of private and

* Furong Jin, Doctora l Candida te, Economics Department, Seoul National University. Ema il:
buyong9@snu.ac.kr; Keun Lee, Professor of Economics, Director of the Institute for China Studies,
Seoul National University, Seoul, Korea. Email: Kenneth@snu.ac.kr; Yee-Kyoung Kim, Doctoral Candidate,
Economics Department, Seoul National University. Email: Icejean0@snu.ac.kr. An earlier version of
this paper was presented at the All China Economics (ACE) Conference, held in Hong Kong, 18 December
2006. The first two authors acknowledge financial support provided by the BK21 program of Korea.

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Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
32 Furong Jin et al. / 31–49, Vol. 16, No. 2, 2008

foreign capital, education and openness in Chen and Feng (2000) and Lee (1996), financial
liberalization in Liu and Li (2001), new development policies to prioritize its coastal regions
in Berthélemy and Démurger (2000) and Tian et al. (2004), and various structural changes in
Phillips and Shen (2005) and Kawakami (2004). The role of foreign capital has been the main
focus in the published literature (Chen et al., 1995; Sun and Parikh, 2001; Tian et al., 2004).
However, some researchers have become skeptical about the usefulness of foreign
investment in China, given that it has failed to lead to effective technology transfer and
indigenous innovation capabilities (Wang, 2005; Zuo, 2003).
This paper is motivated by the simple idea that the engine of growth in China might
have been changing over time. For example, although the impact of foreign direct investment
(FDI) was strong in the past, its effect on the Chinese economy is becoming smaller. Also,
as science and technology (S&T) has been a major policy focus in China, one can also
expect to see some impact of S&T-related initiatives. Knowledge upgrading and innovation
are the focus of the present paper.
The present paper analyzes the changing determinant of economic growth in China
using cross-provincial regressions. In particular, we examine the relative and changing
impact of FDI, exports, marketization, and innovation on economic growth. To show the
changes in the growth engines, empirical analyses are undertaken for two different periods:
1988–1993 and 1997–2003. The periods are divided through the mid-1990s because it is
from the mid-1990s that S&T received another round of emphasis from the Chinese
Government, as discussed in Section IV.
The results indicate that in the mid-1980s and the early 1990s, openness in such areas
as foreign investment and exports had positive impacts on economic growth, which is
consistent with the findings in existing published literature (e.g. Lee, 1996). However, from
the late 1990s to 2003, knowledge or innovation variables have become significant influences
on economic growth, whereas FDI and marketization have lost their significance. This
implies that the nature of economic growth in China has been shifting toward a knowledge-
based growth from a simple openness-based growth. In particular, foreign investment, one
of the two openness variables, has now become insignificant and only exports have remained
significant.
This paper is organized as follows. Section II presents growth regression results for
two different periods with basic variables. Section III provides an overview of China’s S&T
policy and performance in knowledge/innovation. Section IV explains the empirical method
used in the present paper. Section V discusses the main empirical results found in relation
to innovation/knowledge variables. Finally, Section VI concludes the paper.

©2008 The Authors

Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
 Changing Engines of Growth in China 33

II. Changing Sources of Economic Growth in China:

1988–1993 versus 1997–2003

For the basic regression equation of economic growth, as in the cross-country comparative
analysis of Levine and Renelt (1992), we have included initial GDP, regional dummies, an
illiteracy rate, and a population growth rate as basic variables. Here, the illiteracy rate is a
proxy for secondary school enrollment. To figure out the changing determinants of economic
growth during this period, the average annual real GDP growth rates per capita during
1988–1993 and 1997–2003 were regressed on the following 4 basic variables.
1 Initial income: This is the logarithmic value of GDP per capita as of 1980 (the early
period of openness).
2 Coastal province dummy: This dummy variable takes on a value of 1 for 11 provinces
or municipalities located in the coastal areas. These include Beijing, Tianjin, Hebei, Liaoning,
Shanghai, Jiangsu, Zhejiang, Fujian, Shandong, Guangdong and Hainan.
3 Illiteracy: This is measured by the ratio of the illiterate population to the total
population of the provinces (data for 1990 and 2000).
4 Population growth rate: This is an average annual population growth rate during
1988–1993 and 1997–2003. The reported population statistics for each province (China
Statistical Yearbook, 2003, p. 120) measures the population residing in the region from the
starting point of 31 December. This reflects migrating populations between provinces
using the increase rate resulting from migration. A natural increase rate is also included.
The illiteracy rate is obtained directly from the China Statistical Yearbook (various
years). Initial income and population growth rates are calculated using the data reported in
various issues of the China Statistical Yearbook.
The regression result is presented in Table 1. As shown in the table, the coastal dummies
are positively significant for GDP growth rate over the two periods, and initial income is
negatively significant during 1988–1993, but is insignificant over 1997–2003. This implies
that in the earlier periods, some forces for convergence were working, whereas in the later
period, we are seeing more divergence between the fast growing (or coastal) versus slow
growing localities. The rates of illiteracy and population growth are insignificant for the
first period but become significant for the second period.
Next, a series of policy variables were controlled, with the results shown in Tables 2
and 3. Tables 2 and 3 show that typical policy variables are all significant for the earlier
periods, but there are some differences for the later period.
First, in Table 2, we have included a share of exports that was measured by the ratio of
provincial export value to provincial GDP. As exhibited in model (1), the share of exports
was positive and significant at the 1 percent level. Next, a share of foreign capital was
©2008 The Authors
Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
34 Furong Jin et al. / 31–49, Vol. 16, No. 2, 2008

Table 1. Regression Results with Basic Variables

(1) (2)
1988–1993 1997–2003
Coastal dummy 3.231 1.471
**
(0.015) (0.000)***
Illiteracy rate –0.077 –0.068
(0.368) (0.009)***
Initial income –1.741 0.003
*
(0.089) (0.941)
Population growth –0.191 –0.932
(0.871) (0.000)***
Observations 30 31
2
R 0.329 0.565

Notes: The regression equation is GDP per capita growth = β 1 Coastal dummy + β 2 Illiteracy rate +
β 3 Initial income + β 4 Population growth + ε . p-values are given in parentheses; *, ** and ***
indicate significance at the 10, 5 and 1 percent level, respectively.

Table 2. Policies and Economic Growth (1988–1993)

(1) (2) (3)

Coastal dummy 2.513 3.408 2.096

** ***
(0.021) (0.006) (0.205)
Illiteracy rate –0.062 –0.036 –0.089
(0.374) (0.651) (0.280)
Initial income –2.411 –1.835 –0.302
*** *
(0.007) (0.054) (0.855)
Population growth –1.301 –0.931 –0.309
(0.201) (0.414) (0.770)
Share of exports 0.119
(0.001)***
Share of foreign direct investment 0.325
(0.030)**
Size of the state sector ownership –0.17
(0.023)**
Observations 30 30 30
2
R 0.576 0.451 0.506
Note: *, ** and *** indicate significance at the 10, 5 and 1 percent level, respectively.

©2008 The Authors

Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
 Changing Engines of Growth in China 35

Table 3. Policies and Economic Growth (1997–2003)

(1) (2) (3)

Coastal dummy 1.15 0.712 1.443

(0.016)** (0.050)** (0.001)***
Illiteracy rate –0.078 –0.088 –0.07
(0.005)*** (0.000)*** (0.017)**
Initial income –0.011 –0.005 0.011
(0.811) (0.877) (0.856)
Population growth –1.054 –1.474 –0.951
(0.000)*** (0.000)*** (0.001)***
Share of foreign direct investment 0.085
(0.245)
Share of exports 0.044
(0.001)***
Size of the state sector 0.005
(0.846)
Observations 31 31 31
2
R 0.589 0.729 0.566

Notes: The regression equation is GDP per capita growth = β 1 Coastal dummy + β 2 Illiteracy rate + β 3

Initial income + β 4 Population growth + β 5 (Share of exports, Share of FDI, Share of state-ownership)
+ ε . p-values are given in parentheses; ** and *** indicate significance at the 5 and 1 percent level,
respectively.

included, which was measured using the ratio of FDI to provincial GDP. As shown in model
(2), the share of foreign capital was positive and significant for economic growth. Finally,
the ratio of state-ownership was included. This was measured by the ratio of employees in
state-owned firms to total employees. As shown in model (3), the share of state-ownership
is negative and significant for economic growth.
Next, the results in Table 3 with regard to the later period show different results: FDI
and the ratio of the state-owned sector are no longer significant and only exports are
significant. This implies that the determinants of economic growth in China have changed.
If this is the case, what then is the new growth engine?

III. China’s Science and Technology Policy and

Innovation: A New Source of Growth?

When China decided to initiate its reform and open-door policy in the late 1970s, one of its
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Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
36 Furong Jin et al. / 31–49, Vol. 16, No. 2, 2008

main reasons for doing so was to acquire access to foreign capital and technology. It was
expected that such acquisitions would boost the Chinese economy. China has also paid
attention to S&T as a key element of modernization, as indicated in the March 1985 Decision
on the Reform of the Science and Technology Management System.
In the mid-1990s, S&T received another round of emphasis, as indicated by the May
1995 Decision on Accelerating Scientific and Technological Progress (IDRC and the State
Science and Technology Commission, 1997). The May 1995 decision had aimed, among
other things, to create “a leading state science and technology group to strengthen overall
policy making and management related to scientific and technological work throughout the
country” (p. 32).
Achievements since the mid-1990s as a result of these S&T initiatives can be measured
using various knowledge/innovation variables, such as R&D intensity, invention patents,
and papers. These variables are presented in Table 4, which shows some jumps since the
late 1990s.
First, China’s spending on R&D as a percentage of GDP, termed R&D intensity, has
more than doubled from 0.6 percent of GDP in 1995 to over 1.3 percent in 2003. The average
R&D intensity in the earlier period (1990–1996) is 0.68, whereas it is 0.97 for the period of
1997–2003. It has been accelerating since the year 2000, when R&D intensity first reached
1.00. Moreover, the average growth rate of R&D intensity in the earlier period (1990–1996)
is –2.65 percent, whereas in the later period (1997–2003) it is approximately 12 percent.
China now has the world’s fourth largest R&D spending, at US$94bn, just behind the USA,
the EU and Japan (OECD, 2006).
Second, as shown in Table 4 the growing R&D in China has resulted in a rapid increase
in the number of invention patents. The average annual growth rate of invention patenting
for the period of 1988–1996 was approximately 24 percent, whereas for the period of 1997–
2004 it was approximately 43 percent. Even though the share of foreign patenting is larger
than that of domestic patenting at the present time, it is worth noting that the share of
domestic patenting shows an increasing trend. The average growth rate of domestic
invention patenting has increased, from approximately 17 percent for the earlier period to
approximately 49 percent for the later period. The number of domestic patents increased
from 5868 in 2002 to 11 404 in 2003 and 18 241 in 2004. The growth rates of domestic
inventions amounted to 94.34 and 59.95 percent in 2003 and 2004, respectively (Table 4). A
surge in domestic applications reflects the growing technological capabilities of Chinese
inventors (Motohashi, 2006). Of course, such an increase since 2003 was also partially a
result of the revision of the Chinese patent law in 2000 and China’s accession to the WTO
in 2002.
Third, China’s knowledge/innovation capabilities can also be assessed by the number
©2008 The Authors
Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
 Changing Engines of Growth in China 37

of science papers published in Science Citation Index (SCI) journals by Chinese authors.
The number of such papers has increased ten-fold: from approximately 6000 in 1988 to
around 60 000 in 2005 (Table 4). The average growth rate in the later period is higher than
that in the earlier period: 11.56 percent (1988–1996) versus 16.5 percent (1997–2005). China
is now the fifth leading nation in terms of its share of the world’s scientific publications,
after the USA, Japan, the UK and Germany, respectively. Zhou and Leydesdorff (2006)
compare the historical development of China with major countries, including South Korea,
during the last decade. According to them, China is the only country in which the percentage
share in the world’s scientific publications shows an exponential growth, although South
Korea’s growth trend was significant as well. However, Korea’s increasing trend is linear
rather than exponential. Those of Japan, the UK and France were relatively stable, whereas
Germany’s output increased during the period 1995–1998, an effect of the unification
(Leydesdorff, 2000). The world share of publications of the EU-15 (articles, reviews, letters
and notes) surpassed that of the USA in 1994 (King, 2004). The citation rate of papers with
Chinese addresses for the corresponding author also exhibits an exponential growth (King,
2004). China is the fourth country in terms of the growth of its share in citations during
1997–2001.
Can the fact that knowledge and innovation have been substantially growing account
for the economic growth in China? To answer this question, we analyze the relationship
between innovation/knowledge and economic growth by conducting regressions.

IV. Methodology and Data

1. Methodology
Here we analyze provincial data to figure out the impact of knowledge/innovation
performances on China’s economic growth. For this, we devise two composite indicators
of a knowledge/innovation performance variable. However, one might be concerned that
economic growth causes an innovation/knowledge variable to improve, rather than the
reverse, as we hypothesize. Therefore, to tackle this endogeneity problem (reverse causality
problem), this paper utilizes two-stage least square (2SLS) regressions using instrumental
variables (IV), which have been used in many cross-country regressions (Acemoglu et al.,
2001).
In particular, we regress a knowledge/innovation performance variable (T), a suspected
endogenous variable, on two types of exogenous variables: a set of instrument variables
(Z) and a set of included exogenous variables (X). The equation can be written as:
Ti = α + β Z i + γ X i + ε i . (1)

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Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
38 Furong Jin et al. / 31–49, Vol. 16, No. 2, 2008

Table 4. Indicators of Knowledge/Innovation: R&D Intensity,

Invention Patents and Papers
R&D/GDP
Earlier period
1988 1989 1990 1991 1992 1993 1994 1995 1996
R&D/GDP
N/A N/A 0.71 0.74 0.74 0.72 0.65 0.60 0.60
Growth rate (percent)
4.23 0.00 –2.70 –9.72 –7.69 0.00
Average growth rate
(1990–1996) –2.65 percent
Later period
1997 1998 1999 2000 2001 2002 2003 2004 2005
R&D/GDP
0.68 0.70 0.83 1.00 1.07 1.23 1.31 N/A N/A
Growth rate (percent)
13.33 2.94 18.57 20.48 7.00 14.95 6.50
Average growth rate
(1997–2003) 11.97 percent

Invention patents (total)

Earlier period
1988 1989 1990 1991 1992 1993 1994 1995 1996

Invention patents 1025 2303 3838 4122 3966 6556 3883 3393 2976

Growth rate (percent) 124.68 66.65 7.40 –3.78 65.31 –40.77 –12.62 –12.29
Average growth rate
24.32 percent
(1988–1996)
Later period 1997 1998 1999 2000 2001 2002 2003 2004 2005

Invention patents 3494 4733 7637 12 683 16 296 21 473 37 154 49 360 N/A

Growth rate (percent) 17.41 35.46 61.36 66.07 28.49 31.77 73.03 32.85 N/A
Average growth rate
43.31 percent
(1997–2004)
Invention patents (domestic)

Earlier period 1988 1989 1990 1991 1992 1993 1994 1995 1996

Domestic 617 1083 1149 1311 1386 2634 1659 1530 1383

Domestic/Total (60.20) (47.03) (29.94) (31.80) (34.95) (40.18) (42.72) (45.09) (46.47)

Growth rate (percent) 75.53 6.09 14.10 5.72 90.04 –37.02 –7.78 –9.61
Average growth rate
17.14 percent
(1988–1996)
Later period 1997 1998 1999 2000 2001 2002 2003 2004 2005

Domestic 1532 1655 3097 6177 5395 5868 11 404 18 241 N/A

Domestic/Total (43.85) (34.97) (40.55) (48.70) (33.11) (27.33) (30.69) (36.96) N/A

Growth rate (percent) 8.03 87.13 99.45 –12.66 8.77 94.34 59.95 N/A
Average growth rate
49.29 percent
(1997–2004)

(to be continued on the next page)

©2008 The Authors

Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
 Changing Engines of Growth in China 39

Invention patents (foreign)

Earlier period 1988 1989 1990 1991 1992 1993 1994 1995 1996

Foreign 408 1220 2689 2811 2580 3922 2224 1863 1593

Foreign/Total (39.80) (52.97) (70.06) (68.20) (65.05) (59.82) (57.28) (54.91) (53.53)

Growth rate (percent) 199.02 120.41 4.54 –8.22 52.02 –43.29 –16.23 –14.49
Average growth rate
36.72 percent
(1988–1996)
Later period 1997 1998 1999 2000 2001 2002 2003 2004 2005

Foreign 1962 3078 4540 6506 10 901 15 605 25 750 31 119 N/A

Foreign/Total (56.15) (65.03) (59.45) (51.30) (66.89) (72.67) (69.31) (63.04) N/A

Growth rate (percent) 23.16 56.88 47.50 43.30 67.55 43.15 65.01 20.85 N/A
Average growth rate
49.18 percent
(1997–2004)
Scientific articles

Earlier period 1988 1989 1990 1991 1992 1993 1994 1995 1996

Number of papers 6428 7286 8357 8278 9 667 10 302 11 175 13 531 15 218

Growth rate (percent) 13.35 14.70 –0.95 16.78 6.57 8.47 21.08 12.47
Average growth rate
11.56 percent
(1988–1996)
Later period 1997 1998 1999 2000 2001 2002 2003 2004 2005

Number of papers 18 013 19 851 23 174 25 357 29 684 33 867 40 864 46 141 59 543

Growth rate (percent) 18.37 10.20 16.74 9.42 17.06 14.09 20.66 12.91 29.05
Average growth rate
16.5 percent
(1997–2005)
Source: R&D/GDP: UNESCO Institute for Statistics S&T database, available online. Invention patents:
China Statistical Yearbook, (various years). Data for number of papers in scientific articles were retrieved
from the National Science Indicators CD-Rom, the product of Thomson Scientific (2006).
Note: For invention patents, the unit is the number of invention patents and the number in parenthesis
indicates the share of each category in the total number of invention patents.

In the second stage, as shown in Equation (2), Y, GDP growth rate per capita, is
regressed on both the predicted value of T obtained in Equation (1) and a set of exogenous
variables X:

Yi = α + β Ti + γX i + u i . (2)

Z in Equation (1) should satisfy two conditions to be a valid instrumental variable.

First, Z, the excluded exogenous variables, must be able to account for knowledge/innovation
performance variables. To verify that at least one of the instrumental variables can explain
the variables of knowledge/innovation performances, we compute the first-stage F-statistics.
Second the instrumental variable Z should be able to indirectly explain economic growth

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Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
40 Furong Jin et al. / 31–49, Vol. 16, No. 2, 2008

through knowledge/innovation variables. In other words, they should be uncorrelated to

the error term u of the income regression Equation (2). Therefore, this paper reports the
result of the Hansen test for the over-identifying restrictions test (J-statistic). Its null
hypothesis is that instrumental variables are uncorrelated to the error term u. This test has
a χ distribution with ( m − k ) degrees of freedom, where m is the number of instrumental
2

variables and k is the number of endogenous variables. To ease the comparison, the paper
reports on the coefficients of knowledge/innovation performance variables and p-values
obtained from OLS for each model specification.
For the robustness test of knowledge/innovation variables, we try two different
measures of knowledge/innovation and include a variety of variables, such as policy
variables. For the sensitivity test, we test the hypothesis by using different initial years and
household consumption growth rate per capita in lieu of the GDP growth rate per capita as
an indicator of economic growth (Beck and Laeven, 2004). Its initial level is the logarithm of
household consumption per capita observed in 1995.

2. Data
(1) Patent
Patent is an indicator to represent the degree of innovation outcome of a province by
applying knowledge. Here, the patent variable is first measured by summing up eight
(normalized) indicators, such as the number of patent applications (and grants) per 10 000
people, the growth rate of patent application (and grant), the number of utility patent
applications (and grants) per 10 000, and the growth rate of utility patent application (and

grant). These eight variables are normalized ( x − µ ), in other words, by subtracting their
σ

average and then dividing it by a standard error. Then, these eight indicators are summed
together and divided by 8.1
(2) Paper (academic articles)
The paper variable is an indicator generated by combining the number of domestic science
papers with the growth rate of domestic science papers. The combination method is
equivalent to that of the patent in calculating the average of the two indicators after
normalizing them.
(3) New product
Output values of new products can be a good proxy for the market valuation of new

1
For variables of patent, papers, new products, and start-up, their growth rates are accounted for to
represent the innovation potentials of the provinces. A similar method is followed in the competitiveness
indices used in the World Economic Forum (WEF, 2002).

©2008 The Authors

Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
 Changing Engines of Growth in China 41

technology. By combining the growth rate of output values of new products with a ratio of
new products to sales, the variable of new products is generated. Its combination follows
the same method as the preceding variables.
(4) Start-up
Creating start-up companies is closely related to innovation and its utilizations, because a
number of innovations are commercialized after many people actually set up their own
start-up companies. Here, the variable of start-up is generated by combining two variables
(the number of newly registered firms and the growth rate of these firms) following the same
method.
(5) Two composite indicators of knowledge/innovation (I and II)
To represent the level of comprehensive knowledge/innovation performances of each
province, this paper uses two composite indicators of knowledge/innovation performance.
The first indicator (knowledge/innovation I) is the value obtained by dividing it by 4, after
summing up the four indicators above; namely, patent, paper, new products and start-up.
The patents, the paper, the new products, the start-up, and the combined knowledge/
innovation performance variables are calculated as of 1991 for the earlier period and 2000
for the later period.
The second composite indicator of knowledge/innovation (II) is a simpler one. It is a
value generated by summing up the four normalized indicators, including the number of
patent grants per 10 000, the number of scientific papers domestically published per 10 000,
the ratio of output values of new products to sales, and the number of newly registered
firms and then dividing by 4.
(6) Additional variables
In addition, several more variables are used as instruments for these knowledge/innovation-
related variables when we run the 2SLS regressions to check for possible endogeneity.
They include the following:
1 Ratio of university graduates: This indicator was measured using the ratio of university
graduates over the total population in provinces. Data used in the regression are from 1997
to 2003.
2 Amount of book consumption expenditure: This is indicated by the expenditure on
book consumption per capita as of 2000.
3 Government’s investment in education: This measures the average of education
expenditure share in the provincial government’s total fiscal expenditure from 1997 to 2003.
4 Government’s expenditure on S&T: This represents the average of S&T expenditure
share in the government’s fiscal expenditure from 1997 to 2003.
5 Number of R&D personnel in firms: This indicates the number of R&D personnel per
10 000 in the medium-sized and large-sized firms observed in 2000.
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42 Furong Jin et al. / 31–49, Vol. 16, No. 2, 2008

6 R&D expenditure of firms: This measures the ratio of R&D expenditure of the medium-
sized and large-sized firms to their sales in 2000.
7 Ratio of technology trade: This indicates the average of the transaction value ratio of
technology trade to regional GDP from 1997 to 2003.2
8 Number of computers: This indicates the number of computers per 100 people by
province. Data observed in 2000 were used.
9 Number of telephones: This indicates the number of telephones per 100 people by
province. Data observed in 2000 were used.
These variables are calculated using the data reported in various issues (1991, 1992
and 2002 in particular) of the China Statistical Yearbook on Science and Technology and
the China Statistical Yearbook published by the National Bureau of Statistics of China, as
well as the Report of Regional Innovation Capability of China 2002 published by the Research
Group on Development and Strategy of Science and Technology of China.

V. Impact of Innovation on Economic Growth

Here we present the regression results on the impact of knowledge/innovation on economic

growth in China using our constructed knowledge/innovation index.
As shown in Table 5, for the earlier period, none of patent, paper, new product, start-up
or combined knowledge/innovation performance variables are significant for economic
growth. New products even have a significantly negative impact on economic growth.
Table 5, together with Table 2, shows that the GDP growth rate over this period was greatly
influenced by traditional or open door policies, not by knowledge/innovation performance.
This is equivalent to the empirical result in the published literature (e.g. Lee, 1996). The
above results show that, for the earlier period, knowledge/innovation did not contribute to
economic growth, whereas other policies did. What about the recent situation?
Table 6 shows a strong relationship between knowledge/innovation performance
(indicators for year 2000) and GDP growth rate per capita over 1997 to 2003. Furthermore,
unlike in the previous period, the illiteracy rate and population growth rate were found to be
significant.
Models (1) to (4) in Table 6 demonstrate the relationships between the four components
of knowledge/innovation performances (patent, paper, new product and start-up) and

2
Technology trade value captures a technological part of the transactions, which is the part subtracting
a non-technological part (e.g., raw material, facility purchasing cost, transportation inside factories, and
auxiliary costs for employees) from the total value of a technology contract during the reporting period.
See China Statistical Yearbook on Science and Technology (1991, p.358).

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Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
 Changing Engines of Growth in China 43

Table 5. Regression Results with Knowledge/

Innovation Variables Added (1988–1993)
(1) (2) (3) (4) (5)

Coastal dummy 3.251 3.291 3.304 3.504 3.226

** ** ** *** **
(0.016) (0.013) (0.022) (0.009) (0.016)
Illiteracy rate –0.065 –0.049 –0.078 –0.085 –0.073
(0.469) (0.580) (0.372) (0.315) (0.400)
Initial income –1.941 –2.127 –1.753 –5.215 –2.342
* * * * (0.108)
(0.083) (0.054) (0.094) (0.065)
Population growth –0.107 0.052 –0.221 –0.695 –0.042
(0.929) (0.965) (0.856) (0.567) (0.972)
Patent 0.577
(0.622)
Paper 0.945
(0.307)
New product –0.118
(0.882)
Start-up 2.168
(0.180)
Knowledge/Innovation I 0.659
(0.549)
Observations 30 30 30 30 30
2
R 0.336 0.358 0.329 0.378 0.339

Notes: The regression equation is GDP per capita growth = β 1 Coastal dummy + β 2 Illiteracy rate + β 3 Initial

income + β 4 Population growth + β 5 Patents (Papers, New products, Start-ups, Knowledge/innovation

performance) + ε . p-values are given in parentheses, and *, **; *** indicate significance at the 10, 5 and
1 percent level, respectively.

economic growth. Instrumental variables for patent are both the number of R&D personnel
in firms and the number of computers. The respective instrument variables for paper, new
product, and start-up are also tried. As shown in the table, the variables of patent and new
product variables are highly significant at the 1 percent level, and the variables of paper
and start-up are significant at the 5 percent level. In addition, a null hypothesis that
instrument variables do not simultaneously affect knowledge/innovation performances at
the first stage of regression was rejected at the level of 1 percent significance level. However,
a null hypothesis over-identifying restrictions that no correlation between instrument
variables and the error term of GDP growth rate regression existed was not rejected, indicating
that all used instrument variables are valid.
©2008 The Authors
Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
44 Furong Jin et al. / 31–49, Vol. 16, No. 2, 2008

Table 6. Knowledge/Innovation and Economic Growth, 1997–2003

(1) (2) (3) (4) (5) (6)

Coastal dummy 0.566 0.942 1.070 0.991 0.900 0.956
(0.170) ** *** ** ** **
(0.039) (0.004) (0.020) (0.018) (0.013)
Illiteracy rate –0.084 –0.056 –0.104 –0.091 –0.088 –0.086
*** ** *** *** *** ***
(0.001) (0.041) (0.000) (0.002) (0.000) (0.001)
Initial income 0.066 0.016 0.051 0.066 0.056 0.051
(0.117) (0.729) (0.221) (0.193) (0.181) (0.223)
Population growth –1.448 –1.271 –0.899 –1.114 –1.150 –1.129
*** *** *** *** *** ***
(0.000) (0.000) (0.000) (0.000) (0.000) (0.000)
Patent 1.247
***
(0.003)
Paper 0.959
**
(0.018)
New product 0.673
***
(0.004)
Start-up 0.469
**
(0.021)
Knowledge/innovation I 0.788 0.711
*** ***
(0.005) (0.010)
Observations 31 31 31 31 31 31
2
R 0.707 0.527 0.682 0.601 0.692 0.693
F-test (p-value) 0.000 0.000 0.000 0.000 0.000 0.000
Test of over identifying 0.90 0.58 0.48 0.94 0.45 0.66
restrictions (p-value)
OLS result 1.052 0.423 0.507 0.309 0.726 0.726
*** ** *** * *** ***
(0.002) (0.050) (0.003) (0.087) (0.004) (0.004)

Notes: The estimated regressions are two-stage least squares, where the first stage in column (1) is: Patents
= β 1 Number of R&D personnel in firms + β 2 Number of computers + ε . In column (2): Papers = β 1 Ratio of

university graduates + β 2 Number of computers + ε . In column (3): New products = β 1 Amount of book

consumption + β 2 Ratio of government expenditure on S&T + ε . In column (4): Start-ups = β 1 Ratio of

university graduates + β 2 Number of R&D personnel in firms + ε . In column (5): Knowledge/innovation

performance = β1 Ratio of university graduates + β 2 Number of computers + ε . In column (6): knowledge/

innovation performance = β1 Ratio of university graduates + β 2 Number of R&D personnel in firms + ε .

The second stage regression in columns (1)–(6) is: GDP per capita growth = β1 Coastal dummy + β 2

Illiteracy rate + β 3 Initial income + β 4 Population growth + β 5 Predicted value of Patents (Papers, New
products, Start-ups and Knowledge/innovation performance) + ε . p-values are given in parentheses; *, **
and *** indicate significance at the 10, 5 and 1 percent level, respectively.

©2008 The Authors

Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
 Changing Engines of Growth in China 45

Models (5) and (6) in Table 6 demonstrate the relationships between the composite
index of knowledge/innovation (I) and economic growth. Model (5) represents the result
when the ratio of university graduates and the number of computers were used as instrument
variables. Model (6) indicates the result when the ratio of university graduates and the
number of R&D personnel in firms were used as instrument variables. Knowledge/innovation
performances were highly significant in both cases at the 1 percent level. The size of
coefficients also changed from 0.711 to 0.788. The results of the two tests verify the adequacy
of all instrument variables used.
In Tables 7 and 8, by controlling for other variables, the robustness of two different
composite indicators of knowledge/innovation to economic growth was tested. Tables 7
and 8 confirm the robustness of the results previously obtained when macroeconomic
policy variables (the average from 1997 to 2003) were controlled for, with Tables 7 and 8
representing the results with two different indicators of knowledge/innovation (I and II),
respectively. The results with two indicators are very consistent with each other.
First, the share of exports is controlled for, which was measured by the share of provincial
exports to provincial GDP. As indicated in models (1), (2) and (3), the share of exports was
highly significant. When the share of exports is controlled for, knowledge/innovation
performance variables still remain significant for the GDP growth rate. Only the significance
levels of patent, new product, and combined knowledge/innovation performance decreased
to 10, 5 and 5 percent, respectively, compared to the old levels of 1 percent. Likewise, the
size of the regression coefficients also decreased.
Next, the share of foreign capital is controlled for. This was measured using the ratio
of FDI to provincial GDP. While new product and combined knowledge/innovation
performance are still significant at the 1 percent level, FDI is shown to be insignificant.
Finally, the share of state-ownership was controlled for and was measured using the ratio
of employees in state-owned firms to total employees. As exhibited in the regression
result, the ratio of state-ownership negatively affects economic growth, but this effect is
insignificant.
Overall, the variables of knowledge/innovation performance indicate a significant and
positive impact in both simple OLS and IV regressions. Furthermore, the size of the regression
coefficients of OLS and IV regression does not show any notable change. A null hypothesis
of the F-test that IV simultaneously do not influence knowledge/innovation performance at
the first stage of the regression is rejected at the 1 percent level. However, the null hypothesis
of over-identification tests is not rejected, thus indicating the validity of IV.
We undertook further sensitivity tests by alternating the sample period of GDP growth
rate per capita and by adopting different indicators for economic growth; the results are
not reported here but are available upon request. We found, for instance, that over the
©2008 The Authors
Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
 Table 7. Robustness of Knowledge/Innovation (I) to Growth Linkages:
Controlling for Other Policy Variables
(1) (2) (3) (4) (5) (6) (7) (8) (9)
Coastal dummy 0.379 0.690 0.427 0.407 0.947 0.673 0.736 1.113 0.953
(0.288) (0.047)** (0.199) (0.366) (0.027)** (0.117) (0.062)* (0.005)*** (0.015)**
Illiteracy rate –0.093 –0.106 –0.099 –0.090 –0.107 –0.095 –0.017 –0.100 –0.081
(0.000)*** (0.000)*** (0.000)*** (0.000)*** (0.000)*** (0.000)*** (0.004)*** (0.001)*** (0.002)***
Initial income 0.029 0.032 0.036 0.052 0.046 0.045 0.026 0.039 0.033
(0.417) (0.399) (0.308) (0.228) (0.302) (0.298) (0.580) (0.454) (0.508)
Population growth –1.643 –1.260 –1.535 –1.497 –0.945 –1.236 –1.336 –0.866 –1.099
(0.000)*** (0.000)*** (0.000)** (0.000)*** (0.000)*** (0.000)*** (0.000)*** (0.000)*** (0.000)***
Patent 0.655 1.165 1.213
(0.064)* (0.005)*** (0.002)***
New product 0.484 0.676 0.683
(0.035)** (0.004)*** (0.004)***
Knowledge/innovation (I) 0.591 0.778 0.862
(0.013)** (0.005)*** (0.004)***
Share of exports 0.036 0.028 0.036
(0.003)*** (0.035)** (0.002)***
Share of FDI 0.058 0.032 0.062
(0.351) (0.631) (0.329)
Size of the state sector –0.025 –0.008 –0.018
(0.259) (0.707) (0.417)
Observations 31 31 31 31 31 31 31 31 31
R2 0.799 0.765 0.797 0.721 0.685 0.705 0.727 0.628 0.698
F-test(p-value) 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000
Test of over identifying restrictions 0.89 0.85 0.29 0.75 0.52 0.54 0.75 0.56 0.85
(p-vale)
OLS result 0.775 0.329 0.548 1.017 0.484 0.701 1.183 0.513 0.776
(0.007)*** (0.037)** (0.009)*** (0.002)*** (0.006)*** (0.005)*** (0.001)*** (0.004)*** (0.003)***

Notes: The estimated regressions are two-stage least squares, where the first stage in columns (1), (4) and (7) is: Patents = β1 Number of R&D personnel in firms + β 2 Number

of computers + ε . In columns (2), (5) and (8): New products = β1 Amount of book consumption + β 2 Ratio of government expenditure on S&T + ε . In columns (3), (6)

and (9): Knowledge/innovation performance = β1 Ratio of university graduates + β 2 Number of computers + ε . The corresponding second stage regression is: GDP per

capita growth = β 1 Coastal dummy + β 2 Illiteracy rate + β 3 Initial income + β 4 Population growth + β 5 Predicted value of Patents (New products, Knowledge/innovation

performance) + β6 X + ε . X is an array of control variables. p-values are given in parentheses; *, ** and *** indicate significance at the 10, 5 and 1 percent level,
respectively.
 Changing Engines of Growth in China 47

Table 8. Robustness of Knowledge/Innovation (II) to Growth

Linkages: Controlling for Other Policy Variables
(1 ) (2 ) (3 )

C o astal d u m m y 0 .3 8 6 0 .7 1 3 1 .0 1 6

(0 .2 7 4 ) (0 .1 2 4 ) (0 .0 1 5 )**
Illiteracy rate –0 .1 0 9 – 0 .10 4 – 0 .0 9 1
（ 0 .0 0 0 ） * ** (0 .0 0 1)* ** (0 .0 0 2 )***
In itial in com e 0 .0 3 0 0 .0 3 0 0 .0 2 2

(0 .3 9 7 ) (0 .5 0 0 ) (0 .6 8 1 )
Po p u latio n g rowth –1 .6 0 7 – 1 .26 1 – 1 .1 2 1
(0.0 0 0 )** * (0 .0 0 0)* ** (0 .0 0 0 )***
Kn o wled g e/in n ov ation (II) 0 .4 5 0 0 .5 1 4 0 .6 3 2

(0.0 1 9 )** (0 .0 2 5)* * (0 .0 11 )**

Sh are of ex p orts 0 .0 3 9
(0.0 0 1 )** *
Sh are of FD I 0 .0 7 8
(0 .2 5 1 )
Sh are of state own ersh ip – 0 .0 2 0
(0 .4 2 3 )
O b serv atio n s 31 31 31
2
R 0 .7 7 8 0 .6 6 5 0 .6 4 6
F-test (p-v alu e) 0 .0 0 0 0 .0 0 0 0 .0 0 0
Test of ov er id en tifyin g restrictio n s
0 .7 2 0 .68 0 .6 9
(p -valu e)
O LS resu lt 0 .3 6 7 0 .4 4 8 0 .5 0 0
(0.0 2 7 )** (0 .0 2 7)* * (0 .0 2 3 )**

Notes: The estimated regressions are two-stage least squares, where the first stage is: Knowledge/innovation
performance = β1 Ratio of university graduates + β 2 Number of R&D personnel in firms + ε . The

second stage regression is: GDP per capita growth = β 1 Coastal dummy + β 2 Illiteracy rate + β 3 Initial

income + β 4 Population growth + β 5 Predicted value of Knowledge/innovation performance + β6 X

+ ε . X is an array of control variables. p-values are given in parentheses; ** and *** indicate
significance at the 5 and 1 percent level, respectively.

sample periods 1996–2003 and 1998–2003, the impact of knowledge/innovation was

insensitive to the beginning year. When replacing per capita GDP growth by the growth
of household consumption per capita, the results also remained the same as those in the
present study. Household consumption per capita was to represent the unofficial economic
activity that may deviate from the official GDP figure (Beck and Laeven, 2004). This is
regarded as a good experiment in transition economies with a possibly large unofficial

©2008 The Authors

Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences
48 Furong Jin et al. / 31–49, Vol. 16, No. 2, 2008

economy (Schneider and Enste, 2000).

VI. Summary

This paper is motivated by the simple idea that the engine of growth in China might have
changed over time. This paper has found that exports, FDI and the reduction of the state
sector were the most important engines of growth during the early period, and that knowledge
and innovation have become more important since the late 1990s. Among traditional policy
variables, the share of exports remains significant, but the share of foreign capital and
state-ownership were found to have insignificant impacts on economic growth in recent
years. These findings remain after controlling for other policy variables, and even when the
initial years for the GDP growth rates and the indicator for economic growth are alternated.

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(Edited by Xiaoming Feng)

©2008 The Authors

Journal compilation ©2008 Institute of World Economics and Politics, Chinese Academy of Social Sciences