Where is China headed now?

March 25, 2013: 10:08 AM ET

That question dominated the invitation-only China Development Forum.

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By David Whitford, editor at large

FORTUNE -- It wasn't Davos, quite, but it was awfully cold last weekend in Beijing, and many of the headliners attending the invitation-only China Development Forum (CDF), held among the gardens and waterways (and behind the glass-shard-topped high walls) of the Diaoyutai State Guesthouse, have also been invited to the Alps in January. CDF is where Fortune 500 CEOS mingle with Nobel Prize winners and top-level Chinese government officials—including a closing session at the Great Hall of the People with Chinese Premier Li Keqiang. Together they exchange many, many business cards, and examine the most compelling business topic of our day: Whither China?

Several speakers began their remarks by noting how many years they've been coming. Often it's double digits, and infusing the mood of the gathering was a certain weariness with talk, coupled with impatience for action.

China is still a miracle, no one doubts that. The world's second largest economy grew at 7.8% last year, according to the IMF, while the world excluding China grew 2.4%—near but not quite at the unofficial recession threshold. (Thank you, China.) But after two decades of double-digit growth that lifted five hundred million out of poverty, 2012 counts as another in a recent string of disappointments. China has yet to recover from the 2008-2009 global economic collapse (welcome to the club, China), an event which exposed vulnerabilities China must address.

Among the worrisome trends: China's overreliance on manufacturing and exports, which makes it uniquely sensitive to downturns in the global economy; its anemic service-sector economy; its inadequate social safety net, which forces Chinese workers to save more and spend less; and of course the pollution problem, the corruption problem, the stultifying bureaucracy problem, the problems associated with a financial system that doesn't come close to meeting global standards for transparency, and not least, the growing divide between rich and poor.

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"The word reform gets thrown around a lot," said Yale's Stephen Roach, here for the 14th straight year, in a session on economic reform. "It's a very important word, especially for China, given its extraordinary legacy, beginning with the reforms and opening-up of Deng Xiaoping in the late 1970s." But reforms, "must be goal-oriented," Roach continued, "they must be aggressive, and they must be focused on the specific requirements of individual economies. You cannot have reform for the sake of reform."

China's new leadership under President Xi Jinping and Premier Li seems to have a realistic sense of the challenge that lies ahead. The theme of this year's conference (which is sponsored by the Chinese government) sounds a little stilted—"to Deepen Reform and Opening-up for a Well-off Society," the last part sometimes translated on the fly, equally stilted, as "a moderately prosperous society"— but we understand. It lines up with the broad goals of China's latest five-year plan: to address inequality, both of income, and of development between the overdeveloped coast and the underdeveloped interior; to increase domestic consumption; to strengthen the social safety net; and, as Vice Premier Zhang Gaoli said through a translator in his speech on day two, to recognize "the fundamental role of the market in resource allocation so that capable companies can excel in competition and the dynamism of the market can be achieved."

That last will continue to be a challenge, given the dominance of state-owned enterprises in the Chinese economy, but that's what he's saying, and it's exactly what the many captains of Western and Asian industry in attendance wanted to hear.

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China has reached a critical stage in its growth—what economists refer to as the "middle-income transition." That's when per-capita income (which remains very low in China by developed country standards) rises, together with domestic consumer spending, and reliance on exports falls. "Most developing countries slow down and get stuck at this stage," Nobel Prize-winning economist Michael Spence of NYU told the delegates in a plenary session." Japan, Taiwan, Korea, Singapore and Hong Kong are exceptions, but it's hard. Among the reasons most fail, both of which are present to some degree already in China, are the loss of the wage advantage to other, earlier-stage developing countries; and the tendency of vested interests to control the policy agenda and block needed structural changes.

What's more, as Spence pointed out, China enters this phase of its development with at least three unique characteristics that could make the transition harder still: One, the sheer scale of its economy; two, widespread weakness in the developed world; and three, China's dominant and still growing position in the global economy. Other countries, Spence said, "could focus on domestic growth and development in general without doing a delicate balancing act" between a complex domestic agenda on the one hand and a complex global agenda on the other.

Pascal Lamy, director-general of the World Trade Organization, was among those expressing optimism. Most problems facing China and the world today, Lamy noted, are problems we know how to solve. The challenge lies with translating knowledge into action. Here, he said, China has three advantages over other countries: one, "a propensity…to consider long-term matters;" two, "a specific tolerance for authority;" and finally, the fact that in China "a significant amount of collective resources is still in the hands of the government," which gives it the leverage, potentially, to speed the pace of change.

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Speaker after speaker returned to the need to boost consumer spending inside the world's most populous country. Fiat Chairman John Elkann told the story of Henry Ford and the revolutionary $5 minimum wage, which gave U.S. autoworkers the means to buy the products of their labor and helped spark the creation of a large and vibrant middle class. Elkann was speaking at a session on China's transition from world factory to world market, where he was joined by Macy's CEO Terry Lundgren and Amway co-CEO Douglas DeVos. All have an obvious interest in speeding that transition.

But also on the panel was Zeng Ming, chief strategist for Alibaba Group, China's e-commerce juggernaut, which handles more transactions than Amazon (AMZN) and eBay (EBAY) combined. Ming knows full well how important Chinese consumers are to his company, not to mention China's larger prosperity. They're the key to sustaining the Chinese miracle.

An earlier version of this story incorrectly stated that Amway co-founder Richard DeVos spoke at the China Development Forum. It was Amway co-CEO Douglas DeVos. Fortune regrets the error.

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