Why Is China’s Economic “Triangular Structure” Impossible to Reform?
Because the system that benefits state-owned enterprises, local governments, and state-owned banks is directly tied to the Chinese Communist Party’s political power base. Any serious reform would weaken the very mechanism that sustains the regime.
1. China’s “Triangular Structure” and the Dilemma of State Capitalism
China’s economy has grown through a “triangular structure” linking state-owned enterprises (SOEs), local governments, and state-owned banks. This model relies heavily on suppressing household income and consumption, creating a system that cannot easily reform itself without undermining the Party’s authority.
1.1 How the Triangular Structure Works
China’s economy operates through a tight network of SOEs, local governments, and state-owned banks.
The term “triangular structure” is not Michael Pettis’s official phrase, but it is a useful framework for understanding the model.
Mechanics of the System
State-owned banks collect household savings at artificially low deposit rates.
They lend those funds to SOEs and local governments, often at favorable terms.
SOEs use cheap capital to expand industrial capacity and boost export competitiveness.
Local governments use cheap financing for infrastructure, industrial parks, and land development.
Land sales and industrial expansion then replenish local government revenues.
This cycle has powered China’s rapid growth for the past two decades.
Who Pays the Cost?
The real burden falls on households.
Through negative real interest rates, deposit returns often remain below inflation, eroding household purchasing power. That lost wealth is effectively transferred to the state sector:
State-owned banks
State-owned enterprises
Local governments
In short, household wealth subsidizes national industrial expansion.
Local governments also behave like corporations, using subsidies and bank financing to attract factories and hit political growth targets.
1.2 Why Reform Is So Difficult
Policies often suggested to boost Chinese consumption include:
Normalizing real interest rates
Raising wages
Appreciating the yuan
Expanding household income share
But each of these reforms weakens one pillar of the triangular structure.
If Interest Rates Rise
State banks lose their profitable spread between cheap deposits and policy lending.
If Wages Rise
Manufacturing costs increase, hurting export competitiveness.
If the Yuan Appreciates
Chinese exports become more expensive globally.
The Political Reality
This is not merely an economic model. It is the Communist Party’s governance structure.
The Party appoints and controls:
SOE executives
Local government officials
State bank leadership
That means wealth transferred from households to these institutions also strengthens Party control.
Breaking the triangular structure to help consumers would therefore resemble political self-harm.
China does not lack economic solutions. It lacks political incentives to implement them.
That is why structural imbalance has persisted for 20–30 years, and why Michael Pettis argues it could continue another 10–20 years.
2. Global Response to China: Rearming Through State Capitalism
As China exports overcapacity and unemployment pressure abroad, other countries are responding with their own state-led industrial policies.
2.1 The United States: Tariffs and Industrial Strategy
After China entered the WTO, its share of global manufacturing surged.
Meanwhile, U.S. manufacturing employment fell sharply, especially in the Rust Belt. This became known as the China Shock.
China’s suppressed domestic consumption created excess production that had to be exported overseas.
U.S. Policy Shift
The U.S. eventually responded:
Trump launched tariff wars in 2018.
Biden largely maintained tariffs.
Semiconductor export controls intensified in 2022.
The CHIPS Act and IRA poured hundreds of billions into strategic industries.
These include:
Semiconductors
Electric vehicles
Clean energy
Supply chain security
This marks a bipartisan structural shift, not a temporary policy cycle.
Some analysts call it the “Americanization of Chinese methods.”
Michael Pettis’s framework has increasingly influenced policy thinkers such as Steve Miran, who links dollar overvaluation, trade deficits, and deindustrialization to structural global imbalances.
2.2 Europe, Japan, and Korea Follow
European Union
Historically pro-free trade, the EU has shifted toward defensive industrial policy:
CBAM (carbon border tariffs)
Critical Raw Materials Act
Net-Zero Industry Act
Japan
Japan revived industrial policy:
Massive subsidies for TSMC Kumamoto
Rapidus semiconductor initiative in Hokkaido
South Korea
Korea is moving similarly through:
Semiconductor support laws
Defense and shipbuilding financing
Nuclear energy revival
Battery subsidies
Bio-healthcare promotion
At the same time, Korea is pursuing capital market reforms to reduce the “Korea Discount.”
This means encouraging household capital participation in equities rather than relying only on bank-directed corporate financing.
3. China’s Rigidity and the Fragmentation of the Global Economy
3.1 External Pressure Has Hardened China
Many expected U.S. tariffs and technology restrictions to push China toward domestic-demand reform.
Instead, the opposite occurred.
China doubled down on:
Self-reliance
Technological independence
Industrial upgrading
Supply chain localization
Why?
Because external hostility strengthens the political justification for maintaining the old model.
The Party can frame reform as weakness, while presenting state control as national security.
Thus, foreign pressure often reinforces internal rigidity.
3.2 Managed Conflict and Possible Negotiation
Despite rivalry, the U.S. and China remain deeply interdependent.
Their deficits and surpluses create conflict, but also mutual leverage.
That means confrontation often coexists with negotiation.
One useful market signal is the yuan.
If China tolerates yuan appreciation:
Household purchasing power rises
Imports become cheaper
Consumption improves
Trade imbalance partially narrows
Some analysts interpret past yuan strength as evidence of limited compromise during negotiation phases.
4. What This Means for South Korea
4.1 Korea’s Structural Transition
For decades, Korea functioned as a middle supplier within China-centered supply chains.
Its own model also resembled a smaller version of Pettis’s framework:
Household savings
Bank intermediation
Conglomerate investment
Export-led growth
Now Korea is attempting to rebalance through capital markets and household asset participation.
4.2 China’s Overcapacity Could Also Create Opportunity
If China cannot reform, overproduction may continue.
But if tariffs, subsidies, and global trade barriers block Chinese exports, then forced restructuring may occur in sectors such as:
Solar
Batteries
Steel
Chemicals
That could relieve pressure on Korean producers that were previously crushed by Chinese oversupply.
This is one reason turnaround narratives have emerged in some Korean industrial sectors.
Final Conclusion
China’s triangular structure is difficult to reform because it is not just an economic arrangement—it is the foundation of political control.
As a result, the world is entering a new era where free-trade orthodoxy is being replaced by strategic state capitalism.
What once looked like temporary trade disputes may actually be a 10–20 year structural transformation of the global economic order.
