The idea that China is practicing a new form of capitalism, and may even be “doing capitalism better than America,” is reaching a fever pitch in policy and business circles. Two arguments buttress the claim of “Beijing Consensus-ers.” The first is that there is a “Beijing Model” of authoritarian politics and state-led “capitalism” that is the new secret sauce for economic development. Just look at the numbers: almost double-digit economic growth for decades! Hundreds of millions pulled out of poverty! A stimulus that worked! More solar panels! Better rail systems and supercomputers​—​“that used to be us,” says President Obama.

The second is that this “Beijing Model” is a threat to the supposedly discredited Washington Consensus of free markets and liberal democracy. Time to end “free market fundamentalism,” exclaims Andy Stern, the former public-sector union boss, and adopt Chinese-style industrial policy. This year’s World Economic Forum annual meeting at Davos included an early eulogy for “Western-style” capitalism. According to these arguments, the battle between free market and state capitalism is the ideological struggle of our time.

"If Washington decides to compete with China on who can do crony capitalism better, we will lose. So too will China’s reformers." - Dan BlumenthalMost of this is sheer fantasy. For starters, there is nothing new about the “Beijing Model.” The dominance of communism in the 20th century obscures the fact that non-Communist dictatorships welcomed some facets of market economics. After abandoning communism, China did not invent a new form of “state capitalism.” Rather it is now simply a more prosperous autocracy. As were Italy and Germany in the 1930s, and Taiwan and South Korea in the 1970s and 1980s. But the fatal flaw of the Beijing Consensus view is that there is no consensus in Beijing. Entrepreneurs and free marketers are battling it out with statists inside China itself. China’s sophisticated technocrats, economists, and entrepreneurs know that state-owned enterprises and industrial policy are a drag on the Chinese economy.

The Economist reported that despite the cheap credit to favored industries, private firms may be seeing an average return on equity more than 10 percentage points higher than their state-owned brethren. According to China’s National Bureau of Statistics, Chinese companies that are not majority-owned by the state account for two-thirds of industrial output. The World Bank recently weighed in with a report, together with an influential Chinese state-run think tank, that concluded that China will not keep growing at sustainable levels unless it becomes less statist:

Besides being less profitable, state enterprises, overall, are also less dynamic than private firms. A recent study shows that between 1978 and 2007 total factor productivity growth (a measure of efficiency improvements) in the state sector was a third that of the private sector, which has proved to be the more powerful engine of growth and innovation.

That is a nice way of saying that much of China’s capital goes to unproductive and maybe even growth-repressing endeavors.

While some of these studies are hard to verify, given the state of Chinese statistics, the fact is that Chinese economists themselves argue that statism is badly misallocating capital and repressing productivity. Some American-based scholars agree. The careful work of MIT scholar Yasheng Huang demonstrates that the most liberal period in Chinese politics and economics​—​from 1978 until the 1989 crackdown​—​coincided with the greatest improvements in Chinese welfare. And that period of growth was entrepreneur-driven rather than state-led. From 1978 to 1985 Chinese people in rural areas created up to 10.5 million privately owned firms. That, Huang says, really launched the Chinese growth miracle.

If China does not level the playing field to allow its entrepreneurs to compete, it will cease to grow at the rates that have left outside observers so enamored. If China does not innovate, it may even be heading for a crisis.

A real Chinese private sector is very much in U.S. interests. While one can quibble about cause and effect and timing, a private sector protected by the rule of law and the free flow of capital and labor will eventually mean more freedom in China. That is something Washington wants. A true private sector in China, moreover, could lead to less protectionism, reduced global trade imbalances, a free-floating currency, and an open capital account​—​all the things on our economic agenda with China.

Besides jawboning, there is not much the United States can do to encourage economic reform in China, but there is one thing we can try. We can endeavor to better understand and explain our own financial crisis. Our crisis was more one of crony capitalism than of free market capitalism. Crony capitalism has been on the march in the United States for over a decade. Indeed, some Americans advocate more crony capitalism of our own (see auto bailouts, Solyndra, Goldman Sachs, Fannie and Freddie) in order to “compete” with the Beijing Consensus. Nothing would do more harm to the free marketers in China. If Washington decides to compete with China on who can do crony capitalism better, we will lose. So too will China’s reformers.

Dan Blumenthal is a resident fellow at AEI.