http://online.wsj.com/public/article/SB116639648334652910-zvagH10w6U3iB6N_ujgHraaR2iw_20061224.html

BEIJING -- China's embrace of market forces in the past three decades has reshaped virtually every aspect of its people's lives. Much of the impact has been positive. Hundreds of millions have escaped dollar-a-day poverty. The average Chinese citizen is wealthier, and enjoys far more economic and political freedom, than when overhauls began in 1978.

But the transformation has also wiped out much of a cradle-to-grave safety net -- health care, education, pensions -- that ensured basic needs were met for most of the population. It has severely damaged large parts of the country's environment, and triggered a widening gap between rich and poor.

Indeed, while China's government still calls its system socialist, and still plays a big role in the economy, what has developed here sometimes resembles a sort of naked capitalism, where an unfettered pursuit of profit governs almost all facets of life, and a growing share of the population is left unprotected.

Aware that the social tensions spawned by these trends could undermine their authority, China's Communist Party leaders have put dealing with social inequities at the top of their agenda. President Hu Jintao's administration has promised a range of initiatives as part of his overarching policy goal of creating a "harmonious society." The pledges include lowering taxes on farmers, raising the minimum wage, curbing corruption and strengthening environmental safeguards.

The rest of the world has a big stake in this race, too: By casting its fortunes with the global economy, China has entwined its fate with those of governments and companies spanning the earth. The country now powers global economic growth. And it plays a more reliable role in sticky international issues, such as how to defang a nuclear North Korea. A shock to China's system, a burst of instability stemming from internal unrest, would reverberate through boardrooms and capitals the world over.

But the party consistently confronts a big, intractable obstacle to achieving its stated aim of defusing social tensions: itself.

Widespread official graft persists despite a multiyear crackdown. In the countryside, local officials frequently conspire with developers to buy land from subsistence farmers at cut rates. Some nominally public schools charge prohibitively steep tuition. State-owned companies are among the biggest polluters. Even upright local officials, knowing that promotions depend on their success in boosting local economies, often defy directives that conflict with the goal of growth at all costs.

The upshot is that a party that projects an image of monolithic unity -- at home and abroad -- is finding that one of its greatest challenges lies in bringing to heel the very officials it relies on to implement its orders.

From Shenzhen in the south to Beijing in the north, and often in defiance of Party edicts, developers with close ties to local governments are covering cities with luxury real-estate developments, even as housing prices soar to levels many urban Chinese can't afford. Meanwhile, underfunded government hospitals turn away patients who can't afford cash upfront for treatment. Government-backed automobile companies churn out the cars that are increasingly cloaking China's urban skies with smog. And state-run tobacco companies, keen for profit, peddle trillions of cigarettes a year, though smoking-related diseases and health-care costs continue to soar.

Nowhere are the challenges for China's government greater than with its deteriorating environment. The problem is nationwide. A potassium chlorate factory in the village of Xiping in the southeastern province of Fujian dumps chemicals for years in a nearby river, in defiance of court orders, destroying local crops. A factory that makes lead ingots in Gansu in the west spits out waste that afflicts some 250 children with lead poisoning. A state-owned petrochemical plant in the northeast spills benzene, making water nearby undrinkable.

"China is dangerously near a crisis point" with its environment, writes Pan Yue, the outspoken vice minister of China's State Environmental Protection Administration, in a commentary published last month. A third of China's people drink substandard water, and a third breathe badly polluted air, according to Mr. Pan. "True, China has made the kind of economic advances in three decades that required 100 years in Western countries. But China has also suffered a century's worth of environmental damage in 30 years," Mr. Pan wrote.

Yet when SEPA goes to shutter waste-spilling plants, often at the behest of nearby residents, it is regularly thwarted by local officials intent on keeping local factories cranking -- and often lining their own pockets.

In many advanced economies, social tensions find some release in democratic elections that allow the aggrieved to oust unpopular or corrupt leaders. China has so far steadfastly avoided that approach. It is instead struggling to find other ways to keep its vast bureaucracy and increasingly unruly businesses in line.

Few people think these trends pose an imminent threat to the Communist Party's hold on power. But incidents of public protest, sometimes violent, are on the rise, officials say. More immediately, there are economic costs that result from the disjunctures, and these could imperil the continued progress of China's economic reforms. No longer able to rely on state health or pension programs, many Chinese citizens are banking large chunks of their income to pay their own way. That robust savings is slowing China's shift to a domestic-consumption-led economy, and therefore is likely to keep exports high, and big Chinese trade surpluses a source of international tensions.

SEPA, the environmental agency, meanwhile, estimated in a September report that the cost to clean up pollution produced in 2004 alone would equal about 3% of China's economic output that year a hefty price tag. Mr. Pan, the vice minister, believes the number is actually much higher.

China's leaders in the past three decades have engineered one of the most remarkable economic transformations in human history. And yet today the country faces tests borne of that progress that are in some ways trickier than those it has already overcome. A nation that started out railing against capitalism now embodies many of its most extreme elements. Like other industrializing economies, it must find ways to guide national ambitions, so they don't ultimately undercut the national interest.