As in other successfully industrializing countries, Chinese government investment has been a key component of industry growth. Public investment, as reported by flow‐of‐funds data, averaged 6 percent of GDP during 1995–2007, including capital transfers. Rising levels of public investment were supported by strong growth in tax collections and other revenues (for example, land transfers by local governments) and by limits on current spending. As a substantial amount of investment is financed through special‐purpose municipal investment companies, total public investment was even higher.

China’s traditional capital‐intensive, industry‐led growth pattern is amplified by its policies. The government has favored industry and investment over the services sector and domestic consumption in several ways: • _Policies have encouraged saving and investment._ Government spending has been geared to investment in physical infrastructure instead of current spending on health and education. Apart from its obvious direct effect, this has increased precautionary saving by households. In addition, investment has been encouraged by several features of the tax system, by the exemption of SOEs from paying dividends, and by the channeling of capital transfers and loans to SOEs and SOE‐type entities.

• _Investment in industry has been encouraged through the financial system._ Commercial bank lending rates have been kept low for those with access to financial markets. Access has been easier for large industrial firms, which has promoted capital‐intensive industrial development. The People’s Bank of China reports that small and medium enterprises)—which are far more prevalent in services than in industry—account for more than half of GDP, but receive less than 10 percent of total bank loans.

• _Industrialization has also been promoted by keeping the prices of key inputs low._ Besides capital, these inputs include energy, electricity, utilities (including water), land, and low pricing of environmental impacts.

• _Promoting industrial development has meant that services­sector development was not given priority._<sup>5</sup> Recognizing this, China’s State Council in March 2007 called for opening up several services sectors—including telecommunications, railways, and civil aviation—to private and foreign investors and for improving the legal framework to stimulate the services sector.

• _The containment of migration into urban areas has shaped the capital­intensive nature of growth._ The speed and nature of migration has been affected by the Hukou system of residency permits, regulations discriminating against migrant workers, the nonportability of labor and social benefits, and land tenure policies. As a result, much of the migration has taken place in the form of a growing “floating,” rather than permanent, population.

While these policies have contributed to China’s export‐led growth model, exchange rate policy has also been instrumental. In particular, the reluctance to let the exchange rate appreciate in line with the rapid productivity gains in manufacturing—which have outpaced those for most of China’s trading partners—has stimulated the production of tradable goods and services. Nominal and real effective exchange rates for the renminbi (the Chinese currency, whose unit is the yuan) are now broadly at their 2000 level (figure 5). But the exchange rate policy in China is evolving: on June 19, 2010, the government decided to return to a managed floating‐exchange‐rate regime that allows for movements 8