We document a prominent yet underappreciated feature of the post-2000 Chinese economy: a vertical structure in which key upstream industries are dominated by state-owned enterprises (SOEs), while downstream industries are largely open to private competition. We develop a general-equilibrium model to analyze how this vertical structure—interacting with industrialization, globalization, and labor abundance—has shaped the Chinese economy. The framework offers new insights into SOE profitability, structural change, resource misallocation, and economic reform. First, upstream SOEs become more profitable as downstream private firms raise their productivity and face greater external demand during industrialization and globalization, helping explain the unprecedented prosperity of SOEs between 2002 and 2007. Second, reducing upstream market power would facilitate labor reallocation from agriculture to non-agricultural sectors, raising GDP and aggregate welfare. Third, preferential credit subsidies to SOEs can improve welfare by alleviating upstream under-supply; consequently, removing these subsidies without dismantling SOE monopoly power could reduce welfare. Quantitative analyses using firm-level data support the theoretical findings. We further show that this vertical structure can arise endogenously as an equilibrium outcome.

Many emerging economies employ preferential credit policies that target selected sectors. This paper quantifies the implications of such policies for aggregate productivity and welfare. Using Chinese firm-level data from 2009–2020, we first document that sectors with higher markups receive larger credit subsidies and exhibit higher revenue-based productivity. Motivated by these facts, we develop a multi-sector quantitative model with endogenously determined markups and calibrate it to match the distribution of sales both within and across sectors. We find that preferential credit subsidies raise aggregate productivity and welfare by reallocating market shares toward high-markup sectors. These gains persist in an extended framework with endogenous firm entry.

Although the “Lucas Paradox” has sparked extensive literature on the determinants of international capital flows between developed countries and developing countries, few papers have captured substantial private capital inflows to emerging economies with good economic performance. In this paper, we develop a model where countries differ in their factor endowments and governments' development strategies. If the government in a labour-abundant country, influenced by inappropriate development ideas, employs policy interventions to favour the development of the capital-intensive sector, the economic performance will be poor and capital return will be repressed. As a result, capital outflow will occur. We test the theory using comprehensive data with a novel measure of distortions caused by development strategy. Our results show that a reduction in strategy distortions significantly increases capital inflows. In addition, the Lucas Paradox arises only when developing countries implement highly distorted development strategies, and the threshold above which GDP per capita is significantly positively correlated with capital inflows is close to the average extent of policy distortions in some faster-growing developing countries since the 1990s.

This paper proposes a theory of the dynamics of factor shares within the context of an equilibrium model of endogenous innovation, growth, and cycles. Our deterministic model rests on two assumptions: (i) production requires two complementary inputs, capital, and labor, and (ii) technical progress is labor-saving and embodied in capital goods. The model’s unique equilibrium path displays recurring growth cycles, each consisting of an adoption and innovation phase, along which factor shares fluctuate within bounds. The interaction between factor prices and opportunities for labor-saving innovations brings about both persistent growth and aggregate oscillations through which it takes place. We provide evidence that the model-implied correlations between factor shares and the other labor market variables are consistent with the data.

Demystifying the World Economic Development, co-authored by Prof. Justin Yifu Lin and Fu Caihui, from the Institute of New Structural Economics (INSE) at Peking University, has been published by Springer as part of the "Contributions to Economics" series. The book serves as a companion volume to Demystifying the Chinese Economy (2009), authored by Justin Yifu Lin.

This paper assesses whether the China – Pakistan Economic Corridor (CPEC) makes economic sense for Pakistan, the extent of its progress, and how its developmental benefits can be maximized. Using a mixed-methods approach – including primary document analysis, 30 field visits in China and Pakistan, 144 interviews, and a survey of 209 respondents – it examines the structural reasons behind the slow industrial take-off of CPEC's Special Economic Zones. Applying the Growth Identification and Facilitation Framework of New Structural Economics, the study finds that while CPEC has delivered significant gains in energy and infrastruc ture connectivity, Pakistan has yet to fully leverage its comparative advantages. China emerges as an effective lead country whose experience can support Pakistan's industrial upgrading. The paper argues that Pakistan must reorient CPEC toward sectoral prioritiza tion, targeted industrial collaboration, and better alignment with its factor endowments to achieve sustained structural transformation.