When she was seven, Wu Ying set her heart on a pair of long-haired rabbits. She tended them devotedly, then trimmed and sold their fur. She was in business.

China's capitalist adventure wasn't much older than she was. The two flourished together. In 2006, by the time Wu was 25, she was said to be the sixth richest woman in the country.

Now 31, Wu's fortunes have changed dramatically. She is on death row, facing execution for fraud and raising money outside the banking system.

Toppled tycoons are often regarded with schadenfreude, but Wu is seen by many in China as akin to a martyr. Intellectuals and powerful business people – even staff and creditors who lost jobs and money when her empire crashed – say her offence was commonplace.

Her case has become emblematic of the difficulties of being an entrepreneur under China's system of state capitalism, and of the murky world in which much private enterprise is conducted, with businesses forced to take risks to get ahead.

Upholding her sentence this year, a court in eastern Zhejiang province said she had "brought huge losses to the nation and people with her severe crimes, and should therefore be severely punished". The supreme people's court is currently reviewing her sentence.

Others thought her prosecution and sentence caused the real damage. "Wu's death penalty is a setback for the cause of reform in China," the influential economist Zhang Weiying said. "Judging from this case, how far are we from the market economy? At least 300 years."

What some have dubbed "capitalism with Chinese characteristics" has made China the world's second-largest economy, overtaking France, Britain, Germany and Japan in the past decade. In the next 10 years, under the new Chinese leadership that takes power this autumn, itcould leapfrog the US.

But few believe its current trajectory is sustainable. Inefficiency, corruption and wild speculation on anything from property to garlic are common. The environmental and social costs of the boom are rising. Inequality has soared. China's high-octane growth has been driven by investment and exports, while domestic consumption remains weak.

"The liberalised labour market contributed to high exports, which subsidised this extremely wasteful investment by the Chinese government," said Victor Shih of Northwestern University in Chicago. "Now China's trade surplus is shrinking, and shrinking much faster than a lot of people had anticipated."

It has been hit by European and US woes, and its growing demand for food and oil must be met largely through imports. "The ability of net exports to subsidise wasteful investment will diminish – perhaps quite rapidly. That will create a big challenge for the Chinese government in the coming two to three years," said Shih. "It will take a few more years before consumption becomes the dominant factor to fuel China's growth."

Li Keqiang, who is expected to be the next premier of China, warned last week: "China has reached a crucial period in changing its economic model and [reform] cannot be delayed."

But Alistair Thornton of IHS Global Insight noted: "[Rebalancing] is all that [President] Hu Jintao and [Premier] Wen Jiabao have talked about... I'm increasingly sceptical that it's going to happen."

China's optimal growth rate will be around 7% in the coming years, he said – but without reforms it could be three or four percentage points lower, with "significant implications for employment, social stability and everything else".

Wu's fortunes rose at the same breakneck pace as the Chinese economy. She was smart, hard-working, ambitious. "I don't want to brag about my daughter and say 'she is able'. But everyone thinks so – you can ask them," her father, Wu Yongzheng, told the Guardian.

She started work in a beauty salon and then opened her own. Soon she was running a string of businesses including dry-cleaning stores and karaoke bars. Her former staff remain almost star-struck, describing her as gutsy, innovative and pioneering.

As her business grew, so did her ambitions. In 2006, she shot to national attention when she launched the Bense Group, with companies in areas ranging from wedding planning to logistics.

Her father, a semi-educated labourer, ticked off the ventures as he stalked angrily through her hometown of Dongyang, pointing at the hotels taken over by rivals; the empty builders' merchant; the 500-seat internet cafe that never opened. "I didn't realise she had such a big business: I would have opposed it," he said.

By mid-2006, Wu's investment binge seems to have left her struggling for cash despite the hundreds of millions of yuan (tens of millions of pounds) she had borrowed. She turned to new lenders, paying even higher rates. Creditors began to worry. Then, in 2007, she was arrested.

"Fundraising" from private lenders is illegal in China, but also commonplace. Banks prefer to lend to state-owned enterprises, sometimes because they are urged to do so but also because it is safer: if it runs into problems, the debt will be restructured and they will not be penalised. Official interest rates for savers are so low – negative in real terms – that lending illicitly is much more attractive than putting your money in the bank.

"Chinese companies, especially small ones, need to access funds. Banks have yet to be able to meet those companies' needs and there is a massive amount of idle private capital," Wen acknowledged when asked about Wu's case last week.

Though she was charged with fraud, there is no sign that this was a Ponzi scheme. There were real assets. Many of her creditors defend her. "This whole case is not Wu Ying's fault. She borrowed money to do business, not to spend on luxuries. If they hadn't toppled her we would have made more money," insisted one, who lost more than 15m yuan (£1.5m).

Supporters claim Wu was singled out because "she annoyed someone" and lacked connections. Some think she upset influential creditors or rivals; some that she refused to pay bribes. Her case is not about enforcing the law, they argue, but about the law being enforced selectively – and excessively – when the interests of money and power coincide.

Many see such links between wealth and power, on a grander scale, as the biggest obstacle to reforms. Others think the risks of instability posed by restructuring finance, state enterprise and the labour market are simply too threatening for leaders.

Stephen Green, chief China economist for Standard Chartered bank, suggests a major economic overhaul could nonetheless be on its way. "That something is going wrong is an ever-more common feeling. Second, the belief that a huge crisis is inevitable without serious reform appears to be gaining ground," he wrote recently. But "they have to think very strategically, keep as many people on side as possible, make sure one reform supports another – it is enormously difficult," he said.

Additional research by Han Cheng