It is hard not to wonder whether, when former leader of the Communist Party of China Deng Xiaoping decided to make Shenzhen a special economic zone (SEZ) in 1980, he foresaw the potential the small fishing village was poised to unleash? Did he even imagine the metamorphosis it was due to undergo? Thirty years on, the former rural backwater is replaced by glistening modern glass towers that merge into one of the world’s most impressive city skylines.

Before Mao Zedong’s death in 1978, China operated a command economy. The country was trapped in an inward-looking and isolationist paradigm that shut itself out from the world. Mr Deng’s succession to power profoundly changed China. He abandoned central planning, promoted a market economy and opened China to foreign investment and international trade through what is known as a watershed 'reform and opening up'.

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Four SEZs were set up in 1980 as frontline fields to experiment and implement these changes. They were located at Shenzhen, Zhuhai and Shantou in Guangdong province, and Xiamen in Fujian province. In 1988, the entire Hainan province was designated SEZ status. SEZs were administrative jurisdictions chosen for their convenient coastal location and distance from political fractions that were hostile to reform. Within SEZs, a series of export processing zones, which are physical enclaves aimed at attracting foreign invested production for export, were set up and soon became the growth engines of China.

“Special economic zones were important for attracting FDI, and experimenting with market-oriented reforms. They were also important for exports and bringing in advanced skills and technology,” says Douglas Zhihua Zeng, a senior economist at the World Bank. According to his research, as of 2007, major SEZs in China accounted for about 22% of national GDP, 46% of the country's FDI, and 46% of exports.  

Political commitment 

Many developing countries these days look to China as an example to follow when building their special economic zones. But a role model was a luxury China did not have when it first set up its own. Mr Deng dismissed the then rampant scepticism within the Communist Party, and spoke openly and enthusiastically about the importance and potential of SEZs from the mid-1980s onwards.

The later success of SEZs was also inextricably linked to the commitment of Beijing to continuously re-engineer the country’s institutional framework and promote national competitiveness. Overall political stability, good social order, an investor-friendly legal framework protecting property rights and the opening up of the domestic market for the procurement of raw materials are crucial factors determining foreign investment decisions. The reliability of key infrastructural supplies in the zones, such as water, electricity and telecommunications, is also important. China’s SEZs could deliver on all of these levels, and this is why such zones in the country have been so successful while the equivalents in other regions such as Africa have failed to prosper.

China's SEZs made a compelling commercial case to investors. The essential appeal is access to cheap labour. Mr Deng’s agricultural privatisation led to efficiency hikes and un-tethered millions from the rural sector. A new labour force flooded cities looking for employment and provided plentiful workers at extremely competitive rates. Preferential policies in land use and tax concessions granted by central government and administrative streamlining by local authorities to make commercial processes and custom clearance more convenient enhanced profitability in the zones. The coastal locations of the SEZs provided a distinct logistical advantage.

Complementary services emerged and matured as industrial clusters took shape, which helped attract FDI. This virtuous cycle led to the rapid development of the SEZs. The population in Shenzhen grew 30-fold and annual GDP growth averaged 27% between 1980 and 2005, transforming the small village into one of the richest and most vibrant cities in China.

Surging labour costs

However, the cheap labour advantage that underpinned the attractiveness of SEZs is fading. Rising civil awareness over labour rights is forcing the Chinese government to change its old developmental framework that favoured facilitating capitalistic accumulation at workers’ expense. The government used to tacitly endorse exploitation in forms of low wages, long working hours, unsafe working conditions and depriving workers the right to self-organised resistance.

Younger Chinese workers, who have grown up in comparative luxury compared with their parents, have higher aspirations than those employed in the country's factories in the 1980s. The suicides of 14 young workers in 2010 at the Foxconn factory, a giant export manufacturer in Shenzhen which makes Apple's iPhones and iPads, is a stark illustration of the growing discontent within China's young workforce of the despairing intensity and repetitiveness on the assembly lines that they work for a modest pay.

Pressurised minimum wage hikes were subsequently written into China’s 2011-2015 five-year plan, the national economic development charter set every five years by the central committee of the Communist Party and the National People’s Congress, projecting a 40% wage rise by 2015.

Shenzhen’s first move in line with this policy in April 2011, by raising the minimum wage by 20%, triggered a wave of factory closures and workforce downsizing. Much production was lost to Bangladesh, Vietnam and other parts of south-east Asia which boasted a cheaper labour force.

Foreign enterprises used to be required to orientate their production towards export;  now they are mostly encouraged by  economic enticements. The policy was hugely successful in ensuring China’s trade surplus, but it also exposed the country's economy to the vulnerability inherent in an export-led growth model.

Indeed, two months after the fall of Lehman Brothers in September 2008, Guangdong’s  year-on-year exports halved to its boom-time record the previous year, with low-margin sectors the worst hit as demand from developed countries fell. Year-on-year  exports in the garment sector fell 15% in October 2008, and 682 factories  closed in the first 10 months of the year, causing 50,000 workers to  lose their jobs. The only sector to defy the gloom was high-tech  exports, which grew 11% year on year that October.

Upgrading the way forward

Preferential policies in SEZs that once gave the areas an economic advantage in China are now being spread to inland provinces to boost the investment climate and help even out regional development imbalances. The changing socio-economic landscape in China and global economic downturn are eroding the bedrocks that once contributed decisively to the success of SEZs. Yet what SEZs still stand by is competitiveness underpinned by their vast talent pool, sophisticated commercial and logistical networks as well as their strategic locations, which combine to give them a distinct advantage over inland provinces and competitors from south-east Asia in attracting higher value-added, knowledge-intensive and high-tech investments.

The move to rid the SEZs of low-paid jobs was welcomed by Guangdong’s leadership, as it has for some time been attempting to shed these workers as part of its structural upgrade, a move which led Michael Enright, a business professor from Hong Kong University, to claim this might be the first time in history that a government is proactively seeking a break from its earlier industrial path.

“[SEZs] are at crossroads now,” says Mr Zeng. He believes that China's manufacturing sector needs to upgrade by moving up the value chain and introducing more green technologies, and the service sector needs to be strengthened to become a key driver of the future. “Financial services, logistics, distribution, business consulting, technology and R&D will all play a bigger role; the zones need to further open up their service sector to rebalance their economic structure”, he says.