I. The Setting
a) is very large (about the same size as Canada, 3.7 million sq miles)
b) Population is huge and growing
2009-1.3 billion (the largest population in the world and more than 1/5 of the world's population)
major policy problem
c) Much of its land is uninhabitable or costly to cultivate (only 10% of the land is suitable for cultivation)
mountains and deserts
d) Much of its resource base undeveloped, e.g., large oil reserves only starting to be exploited
e) A poor, developing country despite rapid growth (2008—$ 5,962 PC income)
f) A rich and very long heritage
China was once the most technologically advanced, most populous, and (from their point of view, anyway) the most civilized country in the world. The Chinese are a very proud people, and often very nationalistic.
Imperial China's political history is one of long periods of stable, autocratic, and socially conservative dynasties, with a dynastic cycle that leads to collapse of the state and periods of terrible chaos. The Chinese have no history of democracy and a great fear of political disorder.
Chinese economic history is full of lost chances. Many of our most important technologies (printing, paper, clocks, gunpowder, and paper money are just a few examples) were first invented in China but not really put to economic use. Chinese fleets traveled to India and Africa before the Europeans but these voyages were halted. The expansion of trade and markets was repeatedly halted by government intervention. China did not make the technological leap. While Europe was undergoing the Great Transformation, China was in a period of decline.
China did not respond to the European challenge, unlike the Japanese who modernized their economy rapidly during the Meiji Restoration. In the Twentieth Century, China began its revolutionary period.
A revolution in 1911 toppled the last Qing emperor, and led to the establishment of the Chinese republic.
Today China remains a poor country despite rapid growth (2008-GDP per capita (PPP) $5,962; India $2,972; Pakistan-$2,644; Hong Kong-43, 922)
The communist revolution in 1949 put Mao Zedong in power. At the time of the revolution China was a classic poor country with low PCI, significant population and absence of institutions for econ development.
Mao Zedong proclaims Chinese People’s Republic 1949
Mao takes leadership as chief of state
He created a strong central government and began a process of determined Soviet-style industrialization.
collectivization of land
Took the land from landlords and wealthier farmers and placed it under the peasant control in communes
nationalization of industry in preparation for national planning
Followed typical (Stalinist) planned socialist model
high priority to heavy industry, low priority to agriculture
aggregate investment 20% - 25% of national product
85% industrial investment--heavy industry
8% state investment--agriculture
by end of Mao period, industry share in national output much higher than other countries at similar level of development
First step was redistribution of land from the landlords to the peasants in preparation for collectivization.
Major farming equipment provided by village authorities
Collectivization involved organizing households into large prod teams
Led to the commune
In the 1950’s the communist government organized 800 million rural people into about 52,000 rural communes
The Rural People’s Commune
Created during the Great Leap Forward (1958-1960)—a period of massive resurgence of ideology that replaced rational decisions.
Individual households organized into production teams (100-250 people)
Production teams (7) combined to form brigades (16)
Brigades combined into a commune (thousands of households in a commune)
The communes received production targets from the state and ensured that these targets were met.
Communes were controlled by the county
County played major role in implementing the plans of the Ministry of Agriculture and Forestry
Organization of Agriculture Prior to the Reforms
Ministry of Agriculture and Forestry
Each level above the individual hhld could hold land, and other production materials under communal ownership, and each carried out a range of production activities.
Individuals assigned work for which they earned points as shares of residual income (revenue minus expenses)
This system of payments was highly arbitrary. The work demanded vary regionally, seasonally and from commune to commune. Contrary to any good incentive system, peasants had little idea in advance what they would earn.
This system resulted in problems:
little incentive to work hard
The workers were equally paid whatever efforts they contributed.
little incentive for individual initiative
Impact—large reduction of agricultural production
Nationalization of Industry
There was a gradual transition from private to socialist industry compared to the Soviet model
Slow and orderly transfer from private to state ownership
by 1956, 68% value of output by state owned enterprises (SOE) and 16% by jointly owned (state-private) enterprises
Planning mechanisms, priorities and enterprise management are the same as Soviet Union—5 year plan, the plan is the law
Problems (poor quality, shortages, inefficiency, etc.)
Chinese econ development through the 1970’s was characterized by political and econ turmoil:
Hundred Flowers Campaign (1956-7)—a relatively liberal period of open discussion of the econ and political system.
Mao unhappy with the Communist Party leadership
invites constructive criticism from intellectuals (open discussion and criticism of the system)
When the criticism came reveals deep hostility to the CCP
Great Leap Forward (1958-1960)—an econ and social plan to use Chinese population to rapidly transform China from a primarily agrarian economy dominated by peasant farmers into a modern, industrialized communist society.
Was a period of massive resurgence of ideology that replaced rationality
last vestiges of rural private property eliminated
commune system established
Agri was reorganized into massive communes of thousands of hhlds
attempt to initiate rapid growth and industrialization; this goal was often pursued in harsh way such as forcibly shifting farmers away from their land led to mass starvation in the early 1960s.
the plan did not achieve the intended results; economic disaster after years of solid growth (economy collapses and does not recover to 1958 level until 1963)
Recovery from the Great Leap
Recovery from Great Leap emphasizes
less focus on output growth and more on quality and efficiency
more balanced economic development (not only heavy industry but agri)
modernization of agriculture
Decentralization (local decisions)
In addition to organizational changes and policy shifts, the 1960’s witnessed a wide spread educational campaign. There was an effort to educate the population in the ways of Mao. This campaign laid the foundations of the Cultural revolution.
The Cultural Revolution
Mao’s struggle to retake supreme leadership culminates in the Cultural Revolution
peaks from 1966 to 1969
Include domination of ideology; revolutionary class struggle continues, involving peasants class
The Cultural revolution was an upheaval of ideas, an abandonment of much that had preceded it. Put the Mao’s ideology as state ideology, to reeducate people in Mao’s ideology
The Cultural revolution had a dramatic effect on China’s educated classes
lost generation of leadership as universities closed and students sent to the countryside, students were sent to hard industrial labor or labor in the countryside
No increase in GDP from 1965 to 1970
The End of the Stalinist Period
Mao die in Sept. 1976
Gang of Four Trial, Oct. 1976
Mao’s wife and three others on the left tried to sustain the Cultural revolution, arrested and discredited
political maneuverings end in 1978 with rise of Deng Xiaoping
By Chairman Mao's death in 1976, the Chinese economy was isolationist and stagnant and Chinese material living standards had failed to improve (though extreme poverty and starvation was reduced, and average life expectancy had increased dramatically).
Inefficient farming communes (Most Chinese lived on inefficient farming communes)
state monopoly (Industrialization had mostly affected the cities, and the state held a virtual monopoly)
Inefficient state-owned factories (Inefficient state-owned factories relied on direct state funding and produced shoddy products, and turned over all their profits to the state; State banks were created to help finance state expenditures)
Private ownership and incentive was virtually nonexistent.
reform period begins
The Era of Reform: 1978
More than two decades of stability and stellar growth
Combination of reform and transition
Dual Track Reform
Coexistence of a plan track and a market track
Eventually the planned economy with its targets/quotas and fixed prices would be dismantled but unlike in the former SU, it did not happened suddenly and did not lead to an econ collapse.
liberalization of agriculture in an effort to increase agri production, the gov’t restructured the agri
creation of township and village enterprises (TVE) or rural firms, who were allowed to compete with the state firms (collectively owned enterprises, on hard budget constraints)
spontaneous privatization of service sector
1984: dual-track applied to industry
In 1978, a village in central province (Anhui) initiated HRS. It soon gained popularity and thus official endorsement in 1981.
Xiaoping emphasized that state firms and government agencies should be led by those who have some expertise, not by those who showed proper revolutionary fervor.
Covered 98% of rural population within 3 years.
Household is a principal unit of agricultural production.
Land distributed to households as 15 year leases (after 1995, for 30 y)
Lease holders required to produce a planned allotment at planned (fixed) prices, but free to produce and market any amount beyond planned allotment.
The production decisions and profits were transferred from the commune to the household. When the HRS was introduced, the collectivization was effectively brought to an end
91% of agricultural output planned in 1978, only 5% in 1993
Semi-ownership of land caused increase in labor productivity which released labor into small-scale entrepreneurship, e.g. crafts, services
Released labor into township and village enterprises (TVE)
free to make decisions, no plan targets, to sell at mkt prices, own employment practices
Dual-Track in Industrial Ownership Structure
Old track state owned enterprises (SOE) vs new track non-SOEs
Two types of new track ownership structures
Township & Village Enterprises (TVEs) and purely private
Mostly in small and medium industries—retail, textile, restaurants
Most dynamic sector of the economy
Owned or supervised by townships or villages (not state-owned)
Can be collective enterprises, private firms, joint ventures.
TVEs formally owned &controlled by villages &local communities
in most TVEs, communities actually involved very little in operation of the enterprises, TVEs act essentially as private firms
Introduction of more competition
Small family firms were encourage to compete
State firms were encourage to compete with each other, and new types of firms were allowed to compete in formerly monopolistic sectors.
Most of the growth in China in non-state sector
SOEs persist for two main reasons
SOEs represent “commanding heights”
State ownership of heavy industry
SOEs employ 18% of the work force
in 1995 China initiated the “modern enterprise system,” which aimed to transform the SOEs into modern corporations;
Instead of privatization occurring, the form of state ownership itself was to be transformed from direct state supervision and management to state “shareholding” operated by “independent” managers backed a the state asset-management commission & supervisory committee. State-owned enterprises (SOE) were to be “corporatized”;
“corporatized” firms are SOE where the state maintains majority ownership but the management is independent.
SOE were given improved managerial incentives, allowed to keep much of their own profits for reinvestment and worker bonuses, and forced to rely on loans from state banks rather than direct government grants.
Eventually, the planned economy, with its quotas and its fixed prices, would be dismantled, but unlike in the former Soviet Union it did not happen suddenly and did not lead to an economic collapse.
Gradually abolition of planned economy
Certain places (mostly coastal) targeted for faster transition
Begins in 1980 when four southern coastal sites were designated Special Economic Zones (SEZ)--Shantou, Shenzhen, Xiamen, Zhuhai, Hainan Island added in 1988
Twenty cities subsequently approved as Economic and Technological Development Districts (ETDD)
SEZs&ETDDs exempted from most controls on foreign investment and private ownership that bring investments, foreign technology and mkt access.
Result is much faster growth, especially in non-state sector
Regional disparities a major problem
China opened to the world, tourism was allowed, students to study abroad, the special econ zones were established to bring in foreign technology, investment and mkt access.
International contacts between people
officials, tourists, students, scholars, etc.
Foreign trade and investment, especially in Special Economic Zones.
2. Sources of Growth
a) Initial conditions
in 1978, most labor (71%) agricultural
marginal productivity was very low
agricultural reforms caused large rise in productivity and encouraged formation of TVEs and private enterprises (agrofood process, light industry) from the freed-up labor
movement of low-productivity labor into higher productivity TVEs is the major source of growth
opposite of Soviet Union, Central and Eastern Europe where most labor was in SOEs which collapsed with transition
very little was planned in China at start of reform compared to Soviet Union
exports gave ready employment for freed up agricultural labor in labor intensive production in TVEs
allowed China to import modern technology
encouraged foreign direct investment which increased capital stock, access to modern technology, and efficient western management
FDI—investment by foreign investor in the form of acquiring substantial shares in domestic companies
c) High saving rate
Chinese saving rate high even by Asian standards (China--23% of disposable income, Japan: 21%, Taiwan: 18%, Germany: 13%, US: 8%)
d) Centralized control discredited
Great Leap Forward and Cultural Revolution were disasters obvious to everyone
allowed Deng Xiaoping to institute reforms without much resistance
e) China is the largest recipient of foreign investment in Asia.
Huge investment from Hong Kong, Taiwan, and overseas Chinese (labor intensive industries which were losing comparative advantage in Hong Kong and Taiwan moved to mainland China)
Large state enterprises are state owned, while agri & small-scale businesses are private
No “standardized “rule of law” in the form of civil or common law, the supreme law comes from the authority of the communist party & of top government officials, whose word is above the formal law or regulations.
China is considered mkt socialism b/c has the 2 main features: state ownership and mkt allocation
a) Corporate Governance and Property Rights
The formal property rights are weak. These property rights are guaranteed by an implicit contract with state or party authorities, who agree to exercise the property rights.
business cannot turn to legal system to enforce contracts
Chinese contracts are primarily regulated by relational contracting rather than the rule of the law.
the ultimate guarantor for property rights is the Chinese Communist party
2007 (March) new property law adopted.
The law covers the creation, transfer, and ownership of property, and is a part of the ongoing effort to gradually develop a civil code. Hu Jintao (President and Communist Party Leader, 2002) and Wen Jiabao (Prime Minister, 2003) have taken a centrist position, protecting property rights for the rising middle class and farmers, while promoting a "harmonious society" that strives to distribute wealth more equitably, to increase social expenditures on health and education, and to alleviate some of the excesses of pollution and corruption that have accompanied rapid growth.
Companies receive funding thru banks, not thru stock markets
Commercial banks are the major source of financing for Chinese companies;
as a consequence of relying on bank loans, Chinese companies operate w/ high debt burdens.
Near monopoly of state on banking till 1983.
Banking system consists of the Central bank (PBOC) and big 4 state-owned commercial banks--Bank of China, Industrial and Commercial bank of China, Agricultural Bank of China and China Construction bank.
Before 1983, People’s Bank of China (PBOC) assumed all the functions of regulation and had control of all banking business. However, in 1983, four specialized banks were established to take over the banking business from PBOC, allowing PBOC to focus on regulation and monetary policy. The big four remained as specialized banks until 1994 when three policy banks were established to take over the policy-directed lending functions—China Development bank, Export and Import bank of China, Agricultural Development bank of China.
Through the early reform period banks remained property of the state and gave loans under the direction of gov’t and party officials, giving preferences to state enterprises.
Interest rates are regulated on loan and deposit
savings channeled to inefficient capital formation in SOEs
are loans that are not being served w/ interest and principal payments and will be probably not be repaid.
Chinese banks face a major bad loan problem, bank staff is relatively inexperienced, need to reform.
Gradual reform of banking system
Establishing of various kinds of banks
In the banking business, the four state-owned commercial banks, namely, ICBC, CCB, BOC and ABC are still the biggest players though their dominance is in gradual decline. At the end of 2007, the Big Four accounted for 50% of China’s total banking assets. Another important type of banking institutions is the 13 joint-stock commercial banks, including Bank of Communications and China Merchant Bank. Currently, joint-stock commercial banks are the most dynamic in China’s banking sector. Their asset expansion is double the pace of the Big Four. By the end of 2007, their market share had increased to 18% from 14% at the end of 2003.
Development and implementation of market-oriented banking system
accounting standards for the banks.
Liberalization of interest rates. Market-based interest rate reform is intended to establish the pricing mechanism of the deposit and lending rates based on mktss and dd. The central bank would continue to adjust and guide the interest rate development, which allows the market mechanism to play a dominant role in financial resource allocation.
With Chinese membership to WTO, domestic banks must compete with foreign banks, and the foreign banks have the same rights as domestic banks.
In 1992 funds raised through sale of new stock and bonds has accounted only for b/w 2-14% of a total financing, in 2001-equity mkt finance was only 8% of total
China has allowed the private sector to grow but in core areas as state banking and other “commanding heights” industries (transportation) the state wishes to maintain control
SOEs continue to be a huge drain on economy
There is no too much evidence that restructuring of SOE has improved performance; the productivity has fallen.
incomplete ownership of land
disincentive to improve land
reduces potential productivity of land
f) Trade relations
trade relations with the US (MFN status), EU, Taiwan, and other Asian countries
g) International finance
In July of 2005 China abandoned the Yuan peg with the US$ and linked its currency to a basket of currencies.
The nation’s long-term goal is to make the full convertibility currency gradually
The Chiness currency is convertible on the current account (trade) but it is only partly convertible on capital account (FDI and portfolio)
not as immediate need as in other transitional economies
rural population to large extent self-sufficient
continued support of SOEs reduces urban unemployment
lack of political reform prevents the poor from having a voice
the state establishes a system of social insurance, social assistance and medical care
the state enterprises are suppose to pay a soc sec tax =20% of their payroll plus another 8% for health and unemployment insurance;
China is also experimenting w/ privatized soc sec accounts
The state system covers primarily employees in urban state enterprises and excludes those out of the labor force and those living in the countryside
the state system covers less than 20% of the population.
The privatized soc sec accounts are meant to cover the remainder
as SOEs privatized, unemployment will soar
rural population has much lower income and access to health care
high rate of savings and self- reliance and family support
the dramatic rise in inequality
Chinese mkt reforms have changed the income distribution dramatically, lead to increase in inequality; it is exactly what would be expected from the move to private enterprises.
Now the income distribution is similar to other relatively poor Asian countries and the US
Gini Coefficient, China 0.40, USA 0.40, India 0.38.
Human Capital Investment
Difference between rural and urban
Difference between developed and under-developed area
They are both potential source of inequality
By 1993 more than 9,000 zones had been created, leading to substantial growth of foreign investment by foreign enterprises bringing in new technology, services and increasing competitiveness.
most growth from Special Economic Zones and Development Areas
huge income differential between coastal and interior provinces (4-5 times)
j) Population policy
To control the huge population of 1.3 billion, “one child” policy (more than 2 decades old policy) restricts urban couples to only one child, while allowing rural couples to have a second child if the first one is a girl.
slowing population growth
slowing/preventing migration to cities
From central planning to indicative planning
Allowed plan and market to exist together
From indicative planning to market allocation of goods and services
Grow out of the plan” instead of ``shock therapy”
Transition and growth at the same time
In converting its planned econ to a market econ, China faced 2 principal challenges:
Replacement of administrative allocation by market allocation
Replacement of administered prices by market prices
To achieve this objective China used the dual track approach, which established autonomy and incentive.
Reforms began smoothly and econ growth accelerated
Nobody was made obviously worse and opponents were bought off (Pareto Improvement)
Interdependence between SOE & non-state sector
The dual-track system of prices introduced in the mid-1980s to facilitate the transition of China from a centrally planned to a socialist market economy has essentially been phased out, reducing to a single-track, market-based system, with the following exceptions:
(percent of output value, selected years)
Source: Price Yearbook of China (various years)
"Guide prices" are government-administered prices, but with reference to market supply and demand
Gradualism continues to guide experiments in advancing reforms
Chinese reforms differ in form and consequences from the approach taken in the CEE. China avoided the sharp contraction of output, surging inflation and elevated unemployment that characterized transition in all CEE.
Chinese growth accelerated with the reform. Employment grew. Agriculture in China was dominant, while the CEE were industrial economies.
The main point of difference is the relative pace of political and econ reform.
In CEE political occurred rapidly and ran ahead of econ reform. In China the reverse—econ reform evolved much more rapidly than political reform