10/23/2014 05:58 pm ET Updated Dec 06, 2017

Adam Smith To Xi Jinping: Wealthy Nations Need Good Laws

Caixin media/Worldcrunch

This article first appeared in Caixin and was translated into English by Worldcrunch. It is is part of a Worldcrunch series: China 2.0.

BEIJING - In his book The Wealth of Nations, Adam Smith explained that under tyrannical and monarchical rule, property rights are always at imminent risk of infringement -- and people will usually hide their wealth. In case of emergency, they can immediately transfer their holdings to another safe haven.

Though not as serious as Smith's description, China's situation is nevertheless very grim. Indeed, even though that emergency is yet to come, China's rich people are already transferring their assets abroad on a large scale. The country is experiencing the third largest emigration spree in history. As statistics show, among business owners with over 100 million RMB ($16 million) of personal assets, 27 percent have already emigrated while 47 percent are considering doing so.

The motives for the transfer and concealment of assets are twofold. Either the property comes from illegitimate sources or, even if they are legitimate, the assets can be illegally plundered due to China's unsound rule of law. There is no precise existing data as to how much wealth in total Chinese people have shifted out of the country. What is sure, though, is that it's an astronomical sum.

Roughly estimated, in the last three decades, 20 million Chinese people have emigrated, including approximately one million who we can classify as "investment immigrants." Calculating using the standard average of 800,000 RMB per person ($131,000) for an investment immigrant, it means so far over 800 billion RMB ($131 billion) of property has been moved out of China. If we add the transfers via covert channels by corrupt officials or by the super rich, this figure multiplies -- and keeps growing.

This is a serious blow to China's economy because what should have been spent and invested in China has effectively vanished.

Why do they flee?

So why are China's rich running away? Looking from a long-term perspective, private property truly still suffers from serious risk, as the stable political power structure based on the rule of law has not yet been established.

The prospects for the future are full of uncertainty. Once social conflicts intensify, the political direction may veer sharply to the extreme left. This is a threat to the respect and protection of personal property rights.

From a more medium-term perspective, the transformation of China's economic development has come with much harsher consequences than what many people had anticipated. It may reignite currency devaluation, which would lead to private wealth shrinking or even exacerbating the state's competing interests with the people. China's existing draconian laws can easily be used as the covert tool of the powerful in plundering other people's property.

The sustainable solution

Fortunately, the solution is obvious: the rule of law must be enacted as an indispensable part of sustainable economic development.

Of course, there will be people who ask, "So why, in a society with a weak rule of law like that of the past three decades, has China still achieved such a great leap forward economically?"

The answer is that, on one hand, China suddenly turned into a market economy, which unleashed an enormous burst of productivity. On the other hand, with China's weak rule of law, corruption was able to play a kind of substitute role. A businessman offers part of his profits to an official and purchases his protection.

However, this is not sustainable, and corruption is looting an even greater proportion of social wealth and adding a tremendous burden on China's economic development.

Gains from corruption are typically spent in luxurious expenses rather than in social production. Businesses related to "fine wine and meat" boomed and thus distorted the economic structure of society. Even worse, the huge sums involved in corruption are ultimately robbed from workers and thus lead to a major drop in the price of labor.

China is coming to the end of its demographic bonus so labor costs are bound to rise. If protection still depends on corrupting officials instead of relying on the rule of law, eventually the exorbitant cost of corruption will squeeze business profits and lead to languishing investment and ultimately an economic slump.

In the past two years, China has begun an unprecedented fight against corruption. However, this is just the liquidation of corruption. Unless a clear and just rule of law is established, businessmen are bound to continue paying their protection fees to the officials, and corruption will carry on.

What the law needs

Protecting and securing business development and wealth accumulation with the rule of law will depend on two important dimensions of the legal system: judicial independence and the meticulously detailed and clear stipulation of laws.

Currently, we have plenty of shabby Chinese laws that are full of holes. The more the law is rudimentary, the greater is the judicial discretion, and the higher the risk that it feeds corruption. To have a secure and efficient society and economy, it is imperative that people believe with relative certainty that the judicial outcome of a trial is linked to a binding set of laws.

China has become the world's second biggest economy in the past 30 years, but has failed to grow into a state under the rule of law. This is, of course, hard for Chinese people to accept. As China holds its 18th CCP Fourth Plenary Session this week, with the unprecedented theme of the "rule of law in China," people are waiting to see if the country's new generation of leaders can demonstrate a powerful mix of insight, sincerity and guts.

Most Stunning Hotels In China