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The global economy finds itself at a rather interesting juncture. As traditional growth engines slow and new ones tentatively awaken, China navigates an unprecedented structural evolution. The consensus is clear: high-quality development is essential. Yet, the true conundrum is how to achieve this amidst dwindling resources, an aging population, and a murky external environment.

The Importance of Total Factor Productivity

At the crux of this matter lies “total factor productivity” or TFP, a term which may seem deceptively technical. In essence, it’s about the efficiency in transforming labor, capital, and ideas into tangible outcomes. Fundamentally, TFP reflects an economy’s adaptability, its capacity to learn, and its prowess in self-renewal.

Growth springs not from sheer labor or capital but from ingenuity. TFP encapsulates the bit of economic progress unexplained by mere numbers. Robert Solow, a Nobel laureate, described this as the “residual” of growth, the invisible essence of innovation and proficient governance.

China’s Unique Challenge

Over 40 years, China thrived on a demographic boom and capital influx, scaling the heights of economic prowess. However, as the population ages and resource constraints tighten, focus must shift from speed to efficiency.

China’s global market integration tale is noteworthy. Leveraging its abundant workforce and welcoming foreign technologies, it surged in productivity. Factories rapidly adapted and millions ascended from poverty, thanks to TFP.

Yet now, TFP growth falters. The easier gains are grasped, while fresh constraints arise. China’s previous growth model, rooted in low-cost inputs, faces obsolescence. Sustaining momentum now relies on boosting TFP.

Lessons from History

The historical landscape offers invaluable lessons. Since the 1960s, over 100 economies achieved middle-income status, but fewer than 20 advanced beyond. TFP is often the differentiator.

Japan and South Korea thrived on sustained TFP growth, driven by technological advancements. Meanwhile, the United States nurtured creativity through esteemed institutions.

Conversely, many Latin American economies, reliant on commodities and without robust institutions, stagnated. For China, this is a stark reminder: innovation and supportive institutions are non-negotiable to avoid stagnation.

Four Pillars of TFP Improvement

Improving TFP isn’t about a singular reform but coordinating multiple efforts. Four factors are particularly significant:

• Innovation: Previously, China excelled through a “learn and adapt” model. Now, as technologies evolve, mere catch-up won’t suffice. It demands robust research, patient funding for bold ideas, and institutions rewarding originality.

• Institutional Reform: Technology alone is ineffective without conducive systems. Property rights, fair competition, and predictable regulation reduce business friction and foster value creation.

• Human Capital Development: China’s shrinking working-age population can still become more capable. Investment in education and digital literacy can turn demographic challenges into strengths.

• Openness: Despite protectionism, global scientific and financial engagement is crucial. Balancing self-reliance with international cooperation keeps the innovation ecosystem vibrant.

Policy Priorities for TFP Goals

Certain policies stand out:

• Empowering Private Enterprise: Private firms drive China’s technological advances. They thrive on transparent rules, fair competition, and policy clarity.

• Aligning Finance with Innovation: Research sectors require patient capital. Financial systems need diverse instruments under sound regulation to prevent excesses without stifling exploration.

• Adapting Industrial Policy Locally: Uniformly chasing trendy industries can be wasteful. Local governments are better off creating conducive environments rather than dictating specific winners.

The Road Ahead

The forthcoming decade will reveal if China can transition to smart growth. The task at hand is no longer to merely expand but to enhance efficiency, innovation, and adaptability. If past success was built on quantity, the future hinges on quality.

TFP is beyond an academic metric; it’s the key determining China’s fate—whether it breaks through to profound growth or settles into mediocrity.

The writer is the dean of Peking University’s National School of Development and director of the Institute of Digital Finance.

The views do not necessarily reflect those of China Daily.