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Lessons from Chinese state economic reform
LESSONS FROM CHINESE STATE ECONOMIC REFORM JOHND. ARAMAND WANGXIAOLI CASE WESTERN RESERVE UNIVERSITY
ABSTRACT: Between 1978 and 1989 the People’s Republic of China adopted a series of policy changes designed to reform economic decision-making and to improve efficiency by separating management from state ownership of the enterprises. Major reforms consisted of (a) decentralized decision-making and enterprise profit retention, (b) an economic responsibility system of profit quotas, contracting, and leasing, (c) collective management, (d) pmperty transfer, and (e) the stock system and private property. These changes represent a shift from a monolithic economic organization to economic agency-the allowance of greater enterprise autonomy. Chinese government policy is seen as wanting to capture the economic benefits of decentralization while retaining the ability to direct enterprise activity. This ambivalence has led to contradictions of economic policy and results. The relationship of economic and political reform is discussed in the light of the Student Democracy Movement io April-June, 1989.
Dramatic economic reform in the People’s Republic of China since 1978 has absorbed the attention and interest of much of the world. Economic change in China has been manifest through policies largely designed to separate ownership and management control. Operational decision-making has been transferred away from central govemment economic planning and administrative agencies. Lead by market-oriented agricultural policies in the early 1980’s, individual and enterprise planning and decisionmaking in industry have been considerably enhanced. As China moved to separate enterprise ownership and management control, the government faced the challenge of indirect rather than direct economic management. The expression of a range of individual and personal economic interests, encouraged by decentralization and local initiative, have encountered anticipated as well as unanticipated and undesired consequences. As centralized control was reduced, incentive policies-rules for the allocation of gains and losses among managers, workers, the enterprise, and the state-generated a mixture of positive and negative outcomes. Over time, the evolution of economic reform moved toward broader and deeper
DIreet aII correspondence to: John D. Amm; Case Western Reserve University, 597 Enterprise Bldg., Weatherhead School of Management, Cleveland, OH 44106. China Fhmomic Review, Volume 2, Number 1, 1991, pages 29-46. All rights of reproductionin any form reserved.
Copyright o 1991 by JAI Press, Inc. ISSN: 1043-951X.
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experiments with decentralized and market-based experiments. However, political changes following the student democracy movement of April-June, 1989, raise new questions about the future of Chinese economic reform. Prior to 1978, China’s centralized, state-run economy was run as a single monolithic economic organization. To separate ownership and management control was to create principal (owner)-agent (manager) relationships. A single, hierarchical organization no longer dictated and directed all economic activities. The country’s experience with economic reform is a large-scale experiment in the design of individual and group interest incentive policies. China’s policy challenge has been to achieve economic efficiency by restructuring enterprise and worker incentives toward outcome rewards. Decentralization created tens of thousands of more autonomous economic agents whose actions, it was hoped, would be consistent with national social goals and would have positive aggregate economic results. Ultimately, China’s economic reforms might have challenged the fundamental premise of state ownership of property. The quest for economic efficiency that motivated decentralization led the country closer and closer to the ultimate decentralized incentive-private property. This development contradicts the socialist premise that the economic structure should directly reflect the interests of the whole society over the immediate interests of individuals or groups. The China experiment, at least until the summer of 1989, implicitly asked whether the efficiency benefits of decentralization and greater enterprise autonomy could be obtained while maintaining allegiance to stated social objectives. The use of agency to allocate resources efficiently and foster economic growth might require departing from ideologically and politically preferable resource allocation. A brief history of Chinese economic reform is presented. Effort is made to illustrate specifically the intent and results of different public policies. This experience is analyzed in the light of agency concepts to explain some of the early Chinese experiences with economic reform. Finally, a political perspective on China’s economic reforms is presented in order to understand the past and to anticipate the future.
PRE-1978 ECONOMICPOLICY The first step toward state ownership in China was the confiscation of capital owned by officials of the Kuomingtang Government after the Chinese Communist Party gained the political power in 1949. Another step toward state ownership was transforming private industry and commerce to a socialist economy by placing emphasis on concentrated production, unified management and state control of purchasing and marketing (1953-1957). Limitations of this managerial system were evident in the late 195Os, especially due to the separation of personal material interest from work to performance. Commonizing output- the concept of the Iron Rice Bowl-led diminished worker enthusiasm, deterioration in quality, and abandonment of skilled crafts. Government efforts to overcome these weaknesses by decentralizing certain financial planning and marketing functions were undermined by political movements, such as the cultural revolution. Collective ownership enterprises that had relatively more autonomy in production and marketing were brought into the state-run enterprise system and the private
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economy was virtually abolished. The government and the enterprises were one body, and individuals’ incomes had no direct connection with their work performance. The government, representing the whole people’s common interest, was the owner as well as the manager of the enterprise, and the enterprise was the operating branch of the government. The government controlled and managed the enterprise directly by making production, marketing, and personnel decisions. The government also provided enterprise capital and raw materials and guaranteed medical insurance and pensions to employees while the enterprises turned over all the profits to the govemment and their objective was solely to fulfill state planning targets.
ECONOMIC REFORMSINCE1978 Significant change in the managerial system occurred in 1978 in the Third Plenary Session of the 11th Central Committee meeting when the Communist Party adopted a policy of invigorating the domestic economy and of opening to the outside world. This policy initiated a movement of economic reconstruction which gradually spread throughout the country. The core of the reform was to redefine the relation between the state and economic enterprises and to replace centralized management with enterprise decision-making. Initial reform replaced people’s communes in rural areas with a more decentralized and market-oriented family contract system. This reform achieved remarkable success. Subsequent reform in the industrialized urban areas has encompassed five major changes in state-enterprise relations, each step manifesting greater autonomy of enterprise decision-making and thus greater reliance by the government on general incentives by which to guide the actions of the enterprises as economic agents. Five major policies have been: (a) decentralized decision-making and enterprise profit retention, (b) the economic responsibility system (separation of ownership and management through profit quotas, contracting and leasing), (c) collective management, (d) property transfer, including the auctioning of property, and (e) the stock system and private property. Salient characteristics and economic consequences within each follows.
Decentralized Decision-Making and EnterpriseProfitRetention In October of 1978, experimentation in economic management was authorized for state enterprises. Under this program, firms carried responsibility to fulfill state goals for output, variety and quality of goods, consumption of raw and processed materials, labor productivity, cost, profit, and working capital. After fulfilling state targets, experimental enterprises were allowed to produce and market according to market demand, retain sixty percent of their depreciation allowance, and obtain working capital bank loans on a competitive basis. The firms were permitted to retain a portion of their profits for collective welfare, technical improvement, and bonuses. For example, one hundred enterprises in Sichuan province participated in a pilot program under this policy. These enterprises planned for a profit of 490 million yuan in 1979, but actually earned 640 million yuan, 150 million more than planned. 1 Of the 490 million yuan, 92 percent went to the state, six and a half percent was retained
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by the enterprises, and one and a half percent was paid to the workers and staff as bonuses. Sixty-five percent of the 150 million yuan in extra profit went to the state, 28 percent was retained by the firms and seven percent was paid to the employees as additional bonus. Based on this experiment, economic reform was further defined and expanded in 1979, enhancing the autonomy and decision-making powers of state firms. According to statistics, by the end of 1980,5777 enterprises participated in this experiment in 28 provinces, showing varying degrees of output and profit increases. Of the overall profit earned in 1980, 90 percent was turned over to the state and 10 percent (3.33 million yuan) was retained by the enterprises for developing production funds, for the collective welfare fund, and for bonuses.2 These early experiments suggested the potentially immense benefit of economic decentralization, and policy officials were encouraged to broaden the experimentation. A number of policies, grouped together under the concept of economic responsibility, were subsequently developed.
EconomicResponsibiityPolicies Profit Quotas The pilot programs of economic decentralization established a breach in the old management system. State enterprises began to transfer from being subsidiaries of governmental bureaus to being relatively independent economic entities. In other words, the government relinquished direct control, expecting that firms would be motivated to perform according to overall state objectives. In 1981 an economic responsibility system was devised under the form of profit quotas. Enterprises retained a large portion of profit after paying the government a planned quota which usually was determined on the basis of actual average profit in the most recent years. Thirty-six thousand firms, 51 percent of total state enterprises, participated in this system by 1983.3 The economic responsibility system had the advantage of decentralizing authority, responsibility and financial incentives. At the same time, however, relationships among the government treasury, central industry ministries, provincial and municipal authorities, and the enterprises were not clear. Industry ministries and local authorities could intercept profits that previously were turned over to the state treasury. Also, enterprise financial officers consistently favored regional interests. Upon decentralization, the obligations of enterprises to competing authorities were ambiguous, and the dispersion of financial power substantially reduced state revenues. In order to legally establish the financial relationship between enterprises and the state, the central government decided to adopt a program of tax reform by putting a claim on enterprise revenues through a direct tax rather than claiming profits (yishui daili). Under this system enterprises paid a 55 percent tax on total income, retaining the rest for production development, innovation, and raising employees’ salaries. In addition, the state stopped financial allocation to the firms, forcing them to turn to banks for capital and accumulate funds through enterprise profit retention. The uniformity of the tax had some undesired results, however. The same tax was
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applied to all companies regardless of their differing sizes, products and resource scarcities. National economic priorities were distorted as capital was inevitably redirected to more profitable enterprises. Thus, more profitable but less “important” industries, such as drink and tobacco, were favored over less profitable and more “important” industries, such as textiles. From the standpoint of social goals, the policy of “one cut with the same knife” had dysfunctional results. To compensate for this dysfunction, the State Council approved a second program of tax system reform in October of 1984. According to the new tax system, a regulatory business tax was levied to balance profit distribution among the enterprises of different industries and different sizes. Yet the business tax rate, usually based on a firm’s 1983 profit, might not reflect normal business results. Some firms were nearly taxed out of existence and more profitable firms were assessed higher regulatory business taxes. The state responded to these results by reducing the tax for some enterprises and exempting other firms. Currently, two-thirds of the state enterprises operate under this economic responsibility system. Profit quotas generally appeared to have the intended effect of promoting economic efficiency. The task of setting incentive rules turned out to be complicated, however. The government’s many criteria for enterprise activity (claiming profits, investing in “important” industries, differentiating tax rates) led to a complex and somewhat arbitrary incentive structure. In many respects, the profit retention incentive as so tightly stmctured that the system began to assume the appearance of the prior system of centralized control. The principal (government) showed considerable ambivalence about creating autonomous economic agents. Contracting Ownership reform was mentioned for the first time in October, 1984, in the policy, “Decision of the Central of Economic Structure.”
Committee of the Communist This policy stated,
Party of China on the Reform
one of the main reasons why the state exercised excessive and rigid control over enterprises in the past as to equate the concept of their ownership by the whole people with the concept of their direct operation by the state institutions. As Marxist theory and the practice of socialism have showed, ownership can be duly separated from the power of operation . . . the enterprises should be truly made relatively independent economic entities and should become producers of, and dealers in, commodities in our socialist society, that are independent and responsible for their own profit and loss and capable of transforming and developing themselves and act as legal persons with certain rights and duties.4
This policy initiated ways to separate enterprise management and ownership. The contract system was the first and most extensive system introduced under this policy. While the state retains ownership of the enterprise sector, it contracts with individual firms for a given level of production, for a specific amount of profit to be turned over to the state, and for technical innovation. The central government called upon the enterprises and local governments to work out specific contracts according to the conditions of different regions, departments and companies. By 1988, 80
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percent of large and mid-sized state enterprises operated under some form of the contract system.5 The main forms of the contract system are: 1. “Two guarantees and one link” (shuangbao yigua). The firm agrees to fulfill tax and profit targets for the state and to accomplish state-approved technical innovation. The firm is allowed to link employees’ salaries to the level of profits achieved. Eight large industrial enterprises in Beijing first accepted this type of contract. The fums agreed to increase profits and taxes paid to the state 4.46 percent each year for five years over 1986 profit levels and at the end of the five years to have increased fixed assets by 83 percent. Total wages were agreed to increase or decrease .75 percent for every percent that taxes and profits increased or decreased.6 In the first five months of 1987 the output value of the eight firms increased 11.5 percent and taxes and profits paid to the state increased 21 percent, far surpassing Beijing industry in general. By the end of 1987, 223 enterprises in seven industries participated in this contract system, and it was widespread in other parts of the country.7 2. Responsibility for progressive increase of profit turned over to the state (shangjiuo lirun dizeng buogun). After a product or value-added tax, the firm turns over profit based on a progressive tax schedule. Also, the firm keeps its depreciation fund. In return, the firm agrees to achieve output, variety, quality, cost, and fixedasset goals, and it receives no state funds for capital investments or technical innovation. Because the firm retains a higher portion of its initial profits, this system seeks to stimulate greater immediate efficiency improvements. The system is used only where products are badly needed, production capacity is available, technical innovation is important, energy and raw materials are plentiful, and managerial ability is present. This responsibility system has been remarkably successful with the relatively few large enterprises with which it has been implemented. For example, under this system in 1986, Capital Iron and Steel Company increased its profit 150 percent above that of 1981. The total profit this company paid to the state from 1982 to 1986 was almost equal to the sum total of the profit it earned during the 30 years before the reform. Its input-output ratio increased from 1: 1.65 to 1:3.8 .* 3. Contract for increasing profit and reducing loss (zengying jiunkui buogun). An unprofitable enterprise receiving a subsidy is assigned a loss quota under this practice. If the firm reduces its loss, it retains the difference between its actual loss and its loss quota. Also, the firm’s subsidy will not increase if the loss increases. Fourteen out of eighteen small deficit firms in Shanghai reduced their losses under this system from 15.38 million yuan to 3.89 million yuan.9 Other forms of contracting exist. Under one system (shungjiuo firunjishu buogun, chuoshou fencheng) the enterprise shares with the state any profit above an established figure that is turned over to the state. Another form taxes a base profit at a 55 percent rate and then taxes additional profit at 30 percent (qiye jingyeng zerenzhi). In a third variation, the state calls for bidders after evaluating a firm’s assets and expected market value of output. The enterprise and the state share income from the assets higher than the contracted amount. Lower income is made up from bonuses, the welfare fund, or even wages (zichun jingying zerenzhi). One difficulty with the contracting system is that the contracts lack effective binding force for the firms. Companies share profits with the state, but the state feels compelled to save the companies through subsidies, reduced taxes, or provision of
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low or no interest loans when they have losses. Between ten and twenty percent of the enterprises did not fulfill their contracts in 1987.10 This outcome would not threaten the positive side of the contracting system. It would, however, raise questions about the ability of the government to sustain the contracting system without raising enterprise taxes to prohibitive levels. A recent survey reported by the State Statistics Bureau in 1989 showed that twothirds of the contracted enterprises wish to continue their contracting management.11 There are three reasons. First, contracting management has changed the face of the enterprises. Second, the base quota of contracts are reasonable. Third, the employees’ income has increased. Another one-third of the contracted enterprises did not want to continue the contracting system. The main reason was that the economic environment was getting worse. On the one hand, the prices of production inputs were rising but product prices were not allowed to increase accordingly. On the other hand, the prices of consumer goods were increasing and the enterprises had to raise employees’ bonuses and other living subsidies. These two factors directly influenced the fulfillment of contracted targets. The survey also showed that 14.5 percent of contracted enterprises failed to fulfill the contracted targets.
Leasing (zu) In his report on Government Work to the Second Session of the Sixth National People’s Congress in May, 1984, Mr. Zhao Ziyang proposed leasing as another way to redefine the relationship between the state and enterprise. 12 Under the leasing system, the enterprises become more independent and keep a simple economic relation with the State. In June, 1984, the Shenyang Automobile Industry Company leased twelve of its small subsidiaries to individuals. Every lease-holder and two guarantors had to raise capital by obtaining a mortgage on their personal property, such as savings or household goods. Base output value and profit level were set according to the prior year’s results. The leasees were required to pay an income tax of 55 percent and a 15 percent energy, transportation and development fund tax. Of the remaining profit, 70 percent was retained by the enterprise and 30 percent was paid to the leaseholders. Table 1 shows the operating results of this group of twelve firms compared to a group of 50 small enterprises in Shenyang that were not leased. 13 The results show a dramatic increase in profitability for the leased firms, especially in light of the fact that the leasees paid Shenyang Automobile another eight to twelve percent of their base profit as rent. 14
TABLE 1 Results of Leased and Unleased Enterprises
Jan-June, A: B:
2,806 12,226.5
85
Jan-June, 1,357 8,112
A = 12 leased small enterprises B = 50 unleased small enterprises
(10,000 yuan) Achieved Profit
Output Value
84
% 107 51
Jan-June, 564 2,632
85
Jan-June, 129 1,125
84
W 336 134
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A problem with the leasing system (and the contracting system as well) is that the base profit number is determined mostly by experience, such as the latest year’s output or the average of the latest three years, which may not be good guides to a firm’s profit potential. Also, the cardinal number may be set by negotiation between the government and potential leasees or contractors who mostly come from the work units. In many cases, the lease or contract numbers are unreliable and lack discipline . In addition, lease and contract terms are generally short, usually one to three years. Forty-four percent of the contracts between large and mid-sized firms and the state were for one year in 1987.15 Long-term planning is recognizably difficult, and employees’ immediate interests dominate the responsibility system. For example, 35 percent of the profit retention of state consumer-industrial enterprises was used for bonus in 1984 and 40 percent was allocated to employees’ welfare funds. Only 20 percent was used for business development. 16 The government, again, was faced with a situation in which it felt the actions of the economic agents were unsatisfactory. In response, the state created a bonus ceiling in order to control increasing consumer demand. Four months of one’s annual salary was established as a tax-free bonus. The fifth month bonus was taxed at twenty percent, the sixth month was taxed at fifty percent, and the seventh month was taxed at one hundred percent. Incredibly, a two hundred percent tax was applied to bonuses beyond the seventh month of the regular salary.17 This attempt to adjust and readjust the incentive system did not, however, stop the rapid escalation of consumer demand.
Collective Management Mr. Zhao Ziyang also proposed to the Second Session of the Sixth National People’s Congress that small state-run enterprises could be managed as collectives (gai). The economic benefit of collective management was demonstrated in Shijiazhuang, the capital of Hebei province. Seventeen businesses achieved impressive results after changing from state-run enterprises to collective-run enterprises in 1985. This group of firms experienced an average profit increase of 39.8 percent per year between 1985 and 1987.18 Profits paid to the state increased an average of 3 1.9 percent per year and profit retention increased 25.5 percent per year. An extension of this policy was to transfer both ownership and management of the state-owned firm to a collective (zhuan). One or the other of these policies has been practiced in most small commercial enterprises. Retail establishments, restaurants, repair shops, and personal service businesses participate in this economic reform. However, collectives do not have preferential treatments from the government, such as low interest loans, tax reductions or exemptions. Also, collectives are responsible for losses, whereas state enterprises can seek subsidies. Consequently, by 1986 many firms that had transferred to a collective form of organization transferred back to being state-run enterprises. The incentive structure for collectives needed to be perceived more comprehensively and fairer in order to attain widespread acceptance.
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PropertyTransfer Although these economic reforms strengthened the efficiency of many enterprises, significant problems remained in the economy: .
Continued subjective planning and restrictive central and regional systems of resource allocation led to chronically deficient and irrationally allocated capital.
l
Many enterprises threatened to fail where the discipline of the market was introduced. About 20 percent of the state enterprises suffered long-term losses and depended on state financial subsidies.19
9 Many profitable companies, often with high technology, could not obtain needed capital, whereas a number of marginal or deficit firms were able to obtain long-term funds and subsidies which had become a major burden on the Chinese government.
In order to gain more rational resource allocation and overcome these problems, the 13th Central Committee (1987) of the Communist Party declared that some small state enterprises could be sold to other state enterprises, collective enterprises or to individuals. The Light Industry Ministry was one of the first to develop policies on property transfer. Under these policies, for example, the famous brand bicycle companies were permitted to buy enterprises that were facing bankruptcy. Also, small deficit firms were permitted to be sold by auction. Generally, there are three forms of property transfer: (1) assigning the assets, employees, and debt of a bankrupt company to a solvent firm; (2) transferring small state industrial, commercial, and personal service businesses to collectives and individuals through auction; (3) selling extra land, facilities, or equipment to companies facing shortages of these items. One city in Hebei province, Baoding, eliminated deficits of its companies within one year through various forms of property transfer, and the banks in Wuhan got back tens of millions of yuan of overdue debts under these policies .2c A metal furniture factory in Wuhan possessed 270,000 yuan fixed capital, 810,000 yuan working capital, 10,000 square meters of land and 204 employees. In 1986, this factory had a 160,000 yuan loss. In April of 1987, its neighbor, Friendship Company, bought the total property of this factory for 138,000 yuan. By the end of 1987, Friendship Company earned 430,000 yuan profit with use of the factory’s transportation, buildings and equipment.21 Auctions of state enterprises have occurred mainly in small-size commercial and personal service businesses. Social, in addition to economic, criteria have prevailed in these transactions. When Shenyang sold a grocery store to the public, one bidder offered 10,000 yuan and wanted to change the grocery store to another use. The store was finally sold to an employee for 5,000 yuan who promised to keep the same business and to serve the local residents.22 Chongqing City of Sichuan province auctioned off a 39.7 square meter restaurant according to several principles. First, the buyer had to be a collective or employee of
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the department which the restaurant belonged, and the public auction had to be competitive. Second, the buyer was not a state employee anymore after he bought the restaurant. Third, the former employees of that restaurant were given other jobs by the department in charge .z3 The city offered the restaurant for the official price of 11,000 yuan, but the highest bidder paid 17,500 yuan. These mechanisms of property transfer represented a significant step toward market-based resource allocation, although economic decision-making still was not entirely based on economic factors.
The Stock System @fen zhi) Early in 1984, a stock system that permitted private ownership of economic entities was introduced in China. In addition to dealing with the contradictions present in trying to gain enterprise autonomy within a public enterprise system, the stock system sought to address (a) the shortage of productive capital in the enterprise sector and (b) consumer demand far outstripping the supply of goods. Equity issues were conceived to be a source of capital since the state was decreasing its role as the treasurer of the enterprise system. Also, some enterprises looked to the selling and buying of stock as a means to improve their economic returns. In addition, significant individual deposits represented a potentially large increase in consumer demand and an inflation threat to the economy. In 1984, individual deposits reached 122 billion yuan, forty two percent of the total consumer sales in that year. In 1978, this percentage was only sixteen percent.24 The government hoped that the stock system would be an incentive for consumers to convert some of this purchasing power into productive capital. By the beginning of 1986, enterprises had raised ten billion yuan through issuing stock to their employees and to the public.25 In one type of stock system, the government’s share of equity is based on the value of the enterprise’s fixed capital. Other sources of capital for these firms are employees’ and other individuals’ shares and the enterprises’ retained earnings. Under this system, the enterprise is still in the hands of the state since the state holds most of the stock. Also, the amount of new capital available to the firm is lower. Another type of equity is used to facilitate horizontal integration. In this case, stockholders are other enterprises-either state firms, collectives, or private companies. The multi-institutional form of stock ownership is designed to address excessive fragmentation and inefftciency typical of Chinese industry. By 1987, there were more than 6,000 different stock companies in the whole country. Stock exchanges were established in Shanghai and Shenyang.26 However, there has been heated debate about the stock economy since it first was authorized, and by late 1989 the State Council had not issued a formal trial program. Private stock holdings may represent the ultimate extension of policies of economic agency. However, as in its other experimentation with decentralization and market-based resource allocation, China moved tentatively and often unofficially in evaluating stock ownership.
DEBATEON REFORMINGSTATEOWNERSHIP The debate about private and public ownership is stimulated by a series of contradictions in the Chinese ownership system. The reforms discussed above expect enter-
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prises to become independent economic entities that are responsible for profit and loss. Yet, remaining under state ownership, few enterprises have ability to sustain losses and the government cannot afford to confront massive bankruptcies. The financial demands of deficit companies have grown at a time when the state has less revenue due to some revenues being retained by the profitable enterprises. Table 2 indicates the growing percentage of subsidies and tax reductions relative to national revenue. 27 Economic reforms have also been hampered by central planning for natural resource allocation, business scope and price controls. Market signals often indicate different investments and decisions than those dictated by central planners, and firms are powerless to follow market forces without permission. Most of the enterprise reforms take place within a larger context of national planning and thus have limited effect. In addition, many specific policies within the economic responsibility system lack meaningful incentives for enterprise development. Internally-generated funds have not been as important a source of capital as desired, and many firms lack investment motivation. In theory, workers of state enterprises own the means of production and have a right to supervise management, to oversee the distribution of profit, and to direct the use of capital and labor. In practice, workers have a small decision-making role and have rebelled when their share of profits have been below average. A few contractors and leasees have been attacked and even killed by employees. Perceived unfairness of income distribution is one of the reasons that some workers joined the Chinese students’ demonstration between April and June of 1989. These contradictions arise from opposing ideological pulls on economic policy. They indicate interest in decentralization, but only partial commitment to it. These problems have led some people to consider changes to the public ownership system. The State Council’s Research Center for Economic Development began research on ownership reform in 1985 and generated proposals to deal with the problems inherent to the existing situation. TABLE 2 Enterprises’
(2)
Total Enterprise Losses
Government Subsidy
(3) Tax Reduced & Exempted
(4) 1(Z) + (311 + Revenue
115.32 116.77 140.87 126.38 196.86 239.92 199.93 258.93 N/A N/A N/A
60.17 67.33 50.98 64.21 52.65 103.00 68.00 121.00 N/A
6.00 28.30 45.39 49.31 45.53 55.28 46.78 74.34 N/A
5.90% 8.67 9.26 11.17 9.06 13.07 7.83 10.61 N/A 16.10 17.20
(1)
1978 1979 1980 1981 1982 1983 1984 I985 1986 1987 1988
Losses and State’s Subsidiesa
-Lfnit: 100 million yuan.
378.00 446.00
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Some economists believe that reforming the state ownership system is imperative.28 For example, Li Yining, a famous economics professor at Beijing University, suggested decreasing the degree of state ownership by increasing the shares of enterprises and individuals.29 Some proposed “enterprise ownership” in which the ownership of the assets is transfered from the state to the enterprise and the enterprise is essentially self-owned. This form of ownership would approximate a collective in which employees are the ultimate owners. This might occur through three main methods. First, the enterprise could repay the original investment to the state in installments, in which case the enterprise will gradually earn the right of property. Second, the enterprise can create new assets through retained earnings and other capital sources such as issuing stock and debt and, therefore, create a private portion of the firm. Third, where products or services are not essential to the national economy and people’s livelihood, state assets could be assigned to the enterprises without payment .3o Yu Guangyuan, the former president of the Chinese Academy
of Social Sciences, has argued that enterprise ownership should be the basic form of socialist public ownership. 31 Others thought that state ownership was the outcome of political violence and advocated individual ownership as a means of economic democracy.32 Other economists opposed replacing state ownership and asserted that state enterprises should not be privatized. 33 Greater disparities of wealth that would be unfair to many people would result from privatizing the enterprises. Individual pursuit of profit would cause problems, for instance making and selling fake goods or low-quality goods at high prices, which would directly harm consumers’ interests. The economist, Dai Yuanchen, expressed this view: We have to admit that it should be the State and government that represent the interests of the whole society while we acknowledge the interests of enterprises, local departments and regions. The reform doesn’t mean to replace overall interests of society with partial and individual interests. Speaking of the nature of ownership, state ownership should not he changed so easily.34 Advocates of this view want to keep the state ownership system and to solve problems arising during the economic reforms through changing in the organizational forms of property. In Mr. Dai’s view, the state is the “stockholder” of the enterprise, having the right to own the assets and the right to receive income from the assets. The enterprise, on the other hand, is the “property-holder” and should have the right to occupy, to use and to manage the property. The aim of alternate organizational forms of property is to give these rights back to the enterprises so that they can become independent economic bodies and be responsible for profit and loss. The leasing system is a new organizational form of property for small-size enterprises, especially commercial and service business. The stock system is a feasible form for large/ middle-size enterprises. Neither leasing nor stock, in this view, changes the fundamental status of the enterprise. State ownership is determined by the original investment of the government, Even though additional value may be created by profit retention and nongovernmental capital, the basic nature of the enterprise, state ownership, is not changed.
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Xiao Shuoji, another economist, suggests multi-public ownership through the stock system. The state controls the biggest share of stock with its total assets invested to the enterprise, and the enterprise keeps a certain part of stock as enterprise ownership through its remaining funds and other sources, and individuals may buy a share as private ownership. Every shareholder is economically equal. They share business risks and enjoy profit together.35
DISCUSSION Lessons fromChinese Economic Reform A number of lessons can be extracted from the Chinese experiment in economic change. First, decentralization has demonstrated that a number of parties have claims on the economic benefits created by successful reform. The absence of hierarchical rules for profit allocation put officials at the national treasury, central industry ministries, and regional and local governments into competition with each other. Consequently, enterprise managers experienced multiple and often conflicting loyalties to the various sources of state authority and, where they have had discretion, companies acted nonuniformly. This generated a lack of consistency and predictability on the revenue side of the economy. In agency terms, breaking the rigidity of hierarchical control raised the question of who the principal was. Which unit of government was to represent the public? Economic reforms have been hampered by conflicting objectives on the part of the government. The responsibility system was designed to gain efficiency, initiative, and flexibility. Yet, policy-makers wanted to retain the ability to judge some areas of industry more socially desirable than others. Firms were given financial responsibility, but closures and bankrupties were not freely permitted. Bonuses were allowed to build commitment and motivate productive work, but ceilings on rewards were necessary to limit consumer demand. Conflicting and ambivalent incentives often left the enterprises confused and ineffective. Enterprise pursuit of immediate economic interests made it difftcult for the government to exercise macro-economic control. It is difficult to go only part way on the road of economic agency. The economic responsibility system also conveyed an imbalanced policy conceming economic risk-reward relationships. While economic rewards of profit retention and wealth creation are available to individuals and collectives under leasing arrangements, financial risks of these individuals are substantially higher. A heavy tax structure is designed to have the government share the benefits of the success of leasees, but these individuals alone carry financial risk. The balance of reward and risk may not be sufficiently favorable relative to the alternative of minimal riskminimal reward as employees of state-run enterprises. The issue appears to be more than fine-tuning the incentive formula. The fundamental goal of the leasing systemshort-term revenue generation for the state versus long-term development of the economic structure of society-is a key issue. These comments suggest that policies separating ownership and management are, by themselves, incomplete. Policies also need to address: who is the “owner” (principal)? The aims and purposes of the owner need to be sufficiently clarified to give
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unambiguous signals about desired results. And, policies need to motivate behavior to achieve these results. Ambiguity about the nature of the enterprise (agent) has also been evident. In one sense, the state acts as principal of the whole people while the enterprise general manager is the primary agent, and the employees work for this agent. Yet, workers control the firm under socialism and, in theory, employ the general manager. In this sense, employees are also the principal. Consequently, a case can be made that the workers are both the principal and the agent in a principal-agent perspective. This confusion is manifest in disagreements over the portion of enterprise profit allocated between the state and the enterprises as well as the portion of enterprise profit allocated to employee bonuses and welfare funds versus the portion retained by the enterprise for business development. The likelihood that either general managers or workers will identify with the interests of the enterprise itself, the “entity”, is hampered by the generally short period for which contracts and leases are approved by the state. A one to three year contract tends to induce behavior that optimizes current benefits at the expense of actions that trade-off immediate gains in favor of potentially greater long-term benefits. The government’s desire to exercise tight control over the enterprise suggests a low degree of trust which may easily result in behaviors that justify the government’s initial assumption of needed control. Achieving a greater community of interests between workers and managers in defining the “agent” may depend on the state being willing to take a longer time perspective in the economic responsibility system.
A PoliticalPerspectiveon EconomicReform During eleven years of economic reform featuring the decentralization of management, the Chinese government gradually loosened micro-control of the economy. This has given enterprises vigor and has resulted in improved productivity and employee salaries. On the other hand, the ability of the government’s macro-control was weakened. The state’s mandatory plans and contracts lacked effective legal and economic discipline. Consequently, the decentralization of economic power led to the state’s financial problems and excessive fiscal deficit. Residents complained about double-digit inflation for several years’ running. State enterprises complained about the chaos of market order and the government’s failure to guarantee material supply. Private businessmen complained about the uncertainty of their political and economic status. These complaints were a reflection of people’s resistance to the fact that the government could not provide effective measures to solve the problems and contradictions arising during the economic reforms. This is also one of the important reasons why the public showed sympathy and encouragement to the April-June student movement. Political structure reform was planned as the necessary measure to solve the varied economic problems. Primier Li Peng promised in early April, 1989, that Chinese political structure reform would be carried out with the deepening of economic reform.36 It was hoped that political structure reform would clarify policies toward economic agency. However, no clear program was developed. Even in the past 11 years, reforms have been practiced by trial and error. Radical reformers represented
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by Mr. Zhao Ziyang suggested “gradually” decreasing government’s direct participation in economic activities and establishing a new economic order and relationship in which the government would take macro-economic control through laws and other economic means, such as taxation, while enterprises manage under planning guidance and market forces. The student movement between April and June caused Chinese leaders to reconsider the basic assumptions of structural reform. Did regrettable phenomena, such as corruption, inflation, rampant speculation and tax evasion, happen because of the state’s decentralization and encouragement of a private economy, or because of the lack of necessary laws or reasonable economic order? Great blame is being put on those who suggested more freedom in economic management and redefining the concept of public ownership. The problems and contradictions arising during Chinese economic reform are due to several factors. First, China has had no experience with a market economy. The feudal system lasted until the Xinhai revolution led by Sun Yen-sen in 19 11. Although this revolution brought some democracy into Chinese economic life, China was a subsistence economy in agriculture and a monopoly economy in industry. When the Communist Party took power in 1949, a planning and management system was established in which the economy developed an orderly but low rate of productivity growth. The market mechanism did not enter Chinese economic life until economic reforms began in late 1970s. Enterprises and managers who had been used to obeying the planning management system were at a loss as they suddenly had to face the market. Poor management, to a certain extent, offset the favorable conditions that decentralization brought to them. The government, the formal plenary policy-maker for the economic activities, could not quickly set up a stable and scientific managerial system after 1978 upon giving power to the enterprises. The changability of policy encouraged enterprises to pursue short-term behavior. Speculation and market mechanisms were lumped together. All the above problems caused disorder in the social economy. Another factor behind Chinese economic problems is natural resource scarcity. For the 40 years since the foundation of the present government, China has never overcome the situation of demand exceeding supply at controlled prices. Therefore, it would inevitably lead to an imbalance of development and distribution when the market mechanisms were partially used to adjust enterprise behavior. The enterprises that could benefit from economic reform asked for political structure reform to break the old system’s restraint on their potential for development, while enterprises that failed during the market competition still needed the government’s help to survive. The government of a big country with a large population and scarcity of natural resources was faced with the task of raising enterprise economic efficiency through decentralization reform while safeguarding perceived public interests by maintaining public ownership. It has been more than seventy years since the first socialist country (USSR) was set up. Today, almost every socialist country is facing economic reform in order to speed up economic development. The decentralization of managerial power is inevitably an important element of such reforms. No socialist country has made significant reform on its ownership system in the absence of political organizational reform.
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It could be a wrong impression that China’s economic reforms would have led to complete privatization of the Chinese economy. Even Mr. Zhao Ziyang, who suggested giving more freedom to the economy, stressed that state enterprises would never be privatized. 37 Private firms have been active in retail and personal service businesses since 1978, but private output value is still less than one percent of total output value of national industry. A private economy has been taken only as a necessary supplement to the national economy composed mainly of whole-people ownership, that is, state ownership. This means the limitation of the private economy and the foundation for private economic development in China are fragile. When the social environment changes, the private economy is greatly influenced. Statistics presented by China’s Administration for Industry and Commerce show that the number of private employees went down 3.61 million by June, 1989, compared with the end of 1988, because of the tightness of the money market, the lack of raw materials and fuels, over-charging on businesses and poor management.38 “Only socialism can develop China”39 is a strong signal given by the Chinese authorities, indicating that China does not intend to go far down the path of decentralization and private ownership. These are believed to have brought ideological confusion and self-centeredness that the Chinese Communist Party (CCP) does not want. Now a “moral civilization” is being advocated by the CCP in order to raise the people’s socialist consciousness. In the meantime, China knows that reforming monopoly management impacts positively on motivation and productivity in China’s “material civilization” and raises the people’s standard of living. The separation of ownership and management is an inexorable trend for economic improvement in Western as well as Eastern countries. Although the pace of economic or political structure reforms which will lead to this separation could be slowing after the student’s movement, China will find it difficult to go back to the old path of “central monopolies”. Can China be successful in realizing the separation of ownership and management within a system of state ownership? Can the government balance the “material civilization” and the “moral civilization”? We have to wait and see in hope.
Ack~hdgmeds: The authors appreciate comments and suggestions given by Theodore M. Alfred, Zhao Liming, and Dong Hong on an earlier draft of this manuscript.
NOTESANDREFERENCES 1. Wang Haibo, “Greater Power for the Enterprises,” China’s Economic Reforms, edited by Lin Wei and Arnold Chao, (Philadelphia: University of Pennsylvania Press, 1982), p. 88. 2. Yuan Shouqi, Contracting Managerial Responsibility System (Beijing: China’s Economy Publishing House, 1988), p. 13. 3. Chen Zhilong, “State Enterprises’ Contracting Management and Macro-management Standardization,” Social Science (Shanghai, July, 1987), p. 29. 4. China’s Economic Structure Reform-Decision of the CPC Central Committee (Beijing: Foreign Languages Press, 1984), p. 9. 5. Yuan Shouqi, op.cit., p. 15. 6. Ibid., p. 52.
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7. Chen Xitong, “The Key to Deepen Enterprise Reform Is to Mobilize the Socialist Enthusiasm of the Workers,” Red Flag (Beijing, No.13, 1987), p. 26. 8. Yuan Shouqi, opcit., p. 271. 9. Ibid., p. 243. 10. Zhang Yanning, “Nine Achievements of This Year’s Enterprise Contracting System,” China’s Enterprise Journal (Beijing, July 25, 1988), p. 1. 11. People’s Daily-overseas edition (August 9, 1989), p. 1. 12. Zhao Ziyang, “Report on Government Work, The Second Session of the Sixth National People’s Congress” (Beijing: Foreign Languages Press, 1984), p. 11. 13. Managerial Science Research Institute of Ministry of Engineering Industry, The Practice and Theory of Leasing Management for Socialist Industrial Enterprises (Beijing: Engineering Industry Publishing House, 1986), pp. 45-48. 14. Ibid., p. 4. 15. Shijie Jingji Daobao (World Economic Harbinger), (Shanghai, July 27, 1987), p. 2. 16. Gu Shutang and Huang Zhiliang, “Enterprise Vigor and Managerial-Mechanism under the Separation of Ownership from Operation Power,” Industrial Economic Research (Beijing, May 1987), p. 36. 17. State Council’s Regulation on Deepening Enterprise Reform and Strengthening the Vigor of Enterprise (December, 1986). 18. Yuan Shoiqi, op.cit., p. 311. 19. People’s Daily-overseas edition, (July 17, 1989), p. 1. 20. He Zhongze, “A Review of Property Transfer in the Chinese Enterprises,” Industrial Economy (Beijing: People’s University Press, July 1988), p. 80. 21. Tian Yuan, Transfer of Property in the Chinese Enterprises (Beijing: Economy Daily Publishing House, 1988), p. 184. 22. Ibid., p. 199. 23. Ibid., p. 216. 24. China’s Statistics Yearbook-1988, pp. 691, 805. 25. Wang Mengkui and Xing Junfang, On Stock System (Beijing: China’s Economy Publishing House, 1987), p. 184. 26. Xiao Shuoji, “On Stock System with Public Ownership as the Mainstay,” Economy Daily (Beijing, November 8, 1988), p. 3. 27. Zhang Bo, “The Reasons of the Enterprises Suffering Long-Term Loss,” Management World (Beijing, April 1988), p. 75; China’s Statistics Yearbook-1988, p. 747; People’s Daily-overseas edition (April 8 and July 5, 1989). 28. Wang Peiru, “Reform of State Ownership Is the Economic Basis to Reform Political Structure System,” Social Science Probe (Nanning, February, 1988), p. 19. 29. Li Yining, “China’s Ownership Reform,” New Long-March (Changchun, April, 1988), p. 8. 30. Ji Peng, “On Enterprise Ownership and the Ownership of the Enterprise as Legal Person,” Economic Research (Beijing, June, 1988), p. 31. 3 1. Yu Guangyuan, “Thinking on the Future of Enterprise Ownership,” Economic Research (Beijing, June, 1988), p. 17. 32. Wang Shenzhi, “Structure Reform and Economic Democracy,” Economics Weekly (Beijing, July 3, 1988), p. 2. 33. Jiang Yiwei, “Gradually Practising Stock System,” People’s Daily (Beijing, November 3, 1988), p. 2. 34. Dai Yuanchen, “Multiplicity of Property Power,” China’s Industrial Economic Research (Beijing, March, 1988), p. 6. 35. Xiao Shuoji, op. cit., p. 3.
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36. People’s Daily-overseas edition (Beijing, 37. Zhao Ziyang, “Report to the Third Plenary (September 26, 1988), p. 3. 38. People’s Daily-overseas edition (Beijing, 39. People’s Daily-overseas edition (Beijing,
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April 4, 1989). Session of the 13th CPC Central Committee” August 12, 1989), p. 1. July 22, 1989), p. 1.
ABSTRACT: Between 1978 and 1989 the People’s Republic of China adopted a series of policy changes designed to reform economic decision-making and to improve efficiency by separating management from state ownership of the enterprises. Major reforms consisted of (a) decentralized decision-making and enterprise profit retention, (b) an economic responsibility system of profit quotas, contracting, and leasing, (c) collective management, (d) pmperty transfer, and (e) the stock system and private property. These changes represent a shift from a monolithic economic organization to economic agency-the allowance of greater enterprise autonomy. Chinese government policy is seen as wanting to capture the economic benefits of decentralization while retaining the ability to direct enterprise activity. This ambivalence has led to contradictions of economic policy and results. The relationship of economic and political reform is discussed in the light of the Student Democracy Movement io April-June, 1989.
Dramatic economic reform in the People’s Republic of China since 1978 has absorbed the attention and interest of much of the world. Economic change in China has been manifest through policies largely designed to separate ownership and management control. Operational decision-making has been transferred away from central govemment economic planning and administrative agencies. Lead by market-oriented agricultural policies in the early 1980’s, individual and enterprise planning and decisionmaking in industry have been considerably enhanced. As China moved to separate enterprise ownership and management control, the government faced the challenge of indirect rather than direct economic management. The expression of a range of individual and personal economic interests, encouraged by decentralization and local initiative, have encountered anticipated as well as unanticipated and undesired consequences. As centralized control was reduced, incentive policies-rules for the allocation of gains and losses among managers, workers, the enterprise, and the state-generated a mixture of positive and negative outcomes. Over time, the evolution of economic reform moved toward broader and deeper
DIreet aII correspondence to: John D. Amm; Case Western Reserve University, 597 Enterprise Bldg., Weatherhead School of Management, Cleveland, OH 44106. China Fhmomic Review, Volume 2, Number 1, 1991, pages 29-46. All rights of reproductionin any form reserved.
Copyright o 1991 by JAI Press, Inc. ISSN: 1043-951X.
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experiments with decentralized and market-based experiments. However, political changes following the student democracy movement of April-June, 1989, raise new questions about the future of Chinese economic reform. Prior to 1978, China’s centralized, state-run economy was run as a single monolithic economic organization. To separate ownership and management control was to create principal (owner)-agent (manager) relationships. A single, hierarchical organization no longer dictated and directed all economic activities. The country’s experience with economic reform is a large-scale experiment in the design of individual and group interest incentive policies. China’s policy challenge has been to achieve economic efficiency by restructuring enterprise and worker incentives toward outcome rewards. Decentralization created tens of thousands of more autonomous economic agents whose actions, it was hoped, would be consistent with national social goals and would have positive aggregate economic results. Ultimately, China’s economic reforms might have challenged the fundamental premise of state ownership of property. The quest for economic efficiency that motivated decentralization led the country closer and closer to the ultimate decentralized incentive-private property. This development contradicts the socialist premise that the economic structure should directly reflect the interests of the whole society over the immediate interests of individuals or groups. The China experiment, at least until the summer of 1989, implicitly asked whether the efficiency benefits of decentralization and greater enterprise autonomy could be obtained while maintaining allegiance to stated social objectives. The use of agency to allocate resources efficiently and foster economic growth might require departing from ideologically and politically preferable resource allocation. A brief history of Chinese economic reform is presented. Effort is made to illustrate specifically the intent and results of different public policies. This experience is analyzed in the light of agency concepts to explain some of the early Chinese experiences with economic reform. Finally, a political perspective on China’s economic reforms is presented in order to understand the past and to anticipate the future.
PRE-1978 ECONOMICPOLICY The first step toward state ownership in China was the confiscation of capital owned by officials of the Kuomingtang Government after the Chinese Communist Party gained the political power in 1949. Another step toward state ownership was transforming private industry and commerce to a socialist economy by placing emphasis on concentrated production, unified management and state control of purchasing and marketing (1953-1957). Limitations of this managerial system were evident in the late 195Os, especially due to the separation of personal material interest from work to performance. Commonizing output- the concept of the Iron Rice Bowl-led diminished worker enthusiasm, deterioration in quality, and abandonment of skilled crafts. Government efforts to overcome these weaknesses by decentralizing certain financial planning and marketing functions were undermined by political movements, such as the cultural revolution. Collective ownership enterprises that had relatively more autonomy in production and marketing were brought into the state-run enterprise system and the private
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economy was virtually abolished. The government and the enterprises were one body, and individuals’ incomes had no direct connection with their work performance. The government, representing the whole people’s common interest, was the owner as well as the manager of the enterprise, and the enterprise was the operating branch of the government. The government controlled and managed the enterprise directly by making production, marketing, and personnel decisions. The government also provided enterprise capital and raw materials and guaranteed medical insurance and pensions to employees while the enterprises turned over all the profits to the govemment and their objective was solely to fulfill state planning targets.
ECONOMIC REFORMSINCE1978 Significant change in the managerial system occurred in 1978 in the Third Plenary Session of the 11th Central Committee meeting when the Communist Party adopted a policy of invigorating the domestic economy and of opening to the outside world. This policy initiated a movement of economic reconstruction which gradually spread throughout the country. The core of the reform was to redefine the relation between the state and economic enterprises and to replace centralized management with enterprise decision-making. Initial reform replaced people’s communes in rural areas with a more decentralized and market-oriented family contract system. This reform achieved remarkable success. Subsequent reform in the industrialized urban areas has encompassed five major changes in state-enterprise relations, each step manifesting greater autonomy of enterprise decision-making and thus greater reliance by the government on general incentives by which to guide the actions of the enterprises as economic agents. Five major policies have been: (a) decentralized decision-making and enterprise profit retention, (b) the economic responsibility system (separation of ownership and management through profit quotas, contracting and leasing), (c) collective management, (d) property transfer, including the auctioning of property, and (e) the stock system and private property. Salient characteristics and economic consequences within each follows.
Decentralized Decision-Making and EnterpriseProfitRetention In October of 1978, experimentation in economic management was authorized for state enterprises. Under this program, firms carried responsibility to fulfill state goals for output, variety and quality of goods, consumption of raw and processed materials, labor productivity, cost, profit, and working capital. After fulfilling state targets, experimental enterprises were allowed to produce and market according to market demand, retain sixty percent of their depreciation allowance, and obtain working capital bank loans on a competitive basis. The firms were permitted to retain a portion of their profits for collective welfare, technical improvement, and bonuses. For example, one hundred enterprises in Sichuan province participated in a pilot program under this policy. These enterprises planned for a profit of 490 million yuan in 1979, but actually earned 640 million yuan, 150 million more than planned. 1 Of the 490 million yuan, 92 percent went to the state, six and a half percent was retained
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by the enterprises, and one and a half percent was paid to the workers and staff as bonuses. Sixty-five percent of the 150 million yuan in extra profit went to the state, 28 percent was retained by the firms and seven percent was paid to the employees as additional bonus. Based on this experiment, economic reform was further defined and expanded in 1979, enhancing the autonomy and decision-making powers of state firms. According to statistics, by the end of 1980,5777 enterprises participated in this experiment in 28 provinces, showing varying degrees of output and profit increases. Of the overall profit earned in 1980, 90 percent was turned over to the state and 10 percent (3.33 million yuan) was retained by the enterprises for developing production funds, for the collective welfare fund, and for bonuses.2 These early experiments suggested the potentially immense benefit of economic decentralization, and policy officials were encouraged to broaden the experimentation. A number of policies, grouped together under the concept of economic responsibility, were subsequently developed.
EconomicResponsibiityPolicies Profit Quotas The pilot programs of economic decentralization established a breach in the old management system. State enterprises began to transfer from being subsidiaries of governmental bureaus to being relatively independent economic entities. In other words, the government relinquished direct control, expecting that firms would be motivated to perform according to overall state objectives. In 1981 an economic responsibility system was devised under the form of profit quotas. Enterprises retained a large portion of profit after paying the government a planned quota which usually was determined on the basis of actual average profit in the most recent years. Thirty-six thousand firms, 51 percent of total state enterprises, participated in this system by 1983.3 The economic responsibility system had the advantage of decentralizing authority, responsibility and financial incentives. At the same time, however, relationships among the government treasury, central industry ministries, provincial and municipal authorities, and the enterprises were not clear. Industry ministries and local authorities could intercept profits that previously were turned over to the state treasury. Also, enterprise financial officers consistently favored regional interests. Upon decentralization, the obligations of enterprises to competing authorities were ambiguous, and the dispersion of financial power substantially reduced state revenues. In order to legally establish the financial relationship between enterprises and the state, the central government decided to adopt a program of tax reform by putting a claim on enterprise revenues through a direct tax rather than claiming profits (yishui daili). Under this system enterprises paid a 55 percent tax on total income, retaining the rest for production development, innovation, and raising employees’ salaries. In addition, the state stopped financial allocation to the firms, forcing them to turn to banks for capital and accumulate funds through enterprise profit retention. The uniformity of the tax had some undesired results, however. The same tax was
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applied to all companies regardless of their differing sizes, products and resource scarcities. National economic priorities were distorted as capital was inevitably redirected to more profitable enterprises. Thus, more profitable but less “important” industries, such as drink and tobacco, were favored over less profitable and more “important” industries, such as textiles. From the standpoint of social goals, the policy of “one cut with the same knife” had dysfunctional results. To compensate for this dysfunction, the State Council approved a second program of tax system reform in October of 1984. According to the new tax system, a regulatory business tax was levied to balance profit distribution among the enterprises of different industries and different sizes. Yet the business tax rate, usually based on a firm’s 1983 profit, might not reflect normal business results. Some firms were nearly taxed out of existence and more profitable firms were assessed higher regulatory business taxes. The state responded to these results by reducing the tax for some enterprises and exempting other firms. Currently, two-thirds of the state enterprises operate under this economic responsibility system. Profit quotas generally appeared to have the intended effect of promoting economic efficiency. The task of setting incentive rules turned out to be complicated, however. The government’s many criteria for enterprise activity (claiming profits, investing in “important” industries, differentiating tax rates) led to a complex and somewhat arbitrary incentive structure. In many respects, the profit retention incentive as so tightly stmctured that the system began to assume the appearance of the prior system of centralized control. The principal (government) showed considerable ambivalence about creating autonomous economic agents. Contracting Ownership reform was mentioned for the first time in October, 1984, in the policy, “Decision of the Central of Economic Structure.”
Committee of the Communist This policy stated,
Party of China on the Reform
one of the main reasons why the state exercised excessive and rigid control over enterprises in the past as to equate the concept of their ownership by the whole people with the concept of their direct operation by the state institutions. As Marxist theory and the practice of socialism have showed, ownership can be duly separated from the power of operation . . . the enterprises should be truly made relatively independent economic entities and should become producers of, and dealers in, commodities in our socialist society, that are independent and responsible for their own profit and loss and capable of transforming and developing themselves and act as legal persons with certain rights and duties.4
This policy initiated ways to separate enterprise management and ownership. The contract system was the first and most extensive system introduced under this policy. While the state retains ownership of the enterprise sector, it contracts with individual firms for a given level of production, for a specific amount of profit to be turned over to the state, and for technical innovation. The central government called upon the enterprises and local governments to work out specific contracts according to the conditions of different regions, departments and companies. By 1988, 80
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percent of large and mid-sized state enterprises operated under some form of the contract system.5 The main forms of the contract system are: 1. “Two guarantees and one link” (shuangbao yigua). The firm agrees to fulfill tax and profit targets for the state and to accomplish state-approved technical innovation. The firm is allowed to link employees’ salaries to the level of profits achieved. Eight large industrial enterprises in Beijing first accepted this type of contract. The fums agreed to increase profits and taxes paid to the state 4.46 percent each year for five years over 1986 profit levels and at the end of the five years to have increased fixed assets by 83 percent. Total wages were agreed to increase or decrease .75 percent for every percent that taxes and profits increased or decreased.6 In the first five months of 1987 the output value of the eight firms increased 11.5 percent and taxes and profits paid to the state increased 21 percent, far surpassing Beijing industry in general. By the end of 1987, 223 enterprises in seven industries participated in this contract system, and it was widespread in other parts of the country.7 2. Responsibility for progressive increase of profit turned over to the state (shangjiuo lirun dizeng buogun). After a product or value-added tax, the firm turns over profit based on a progressive tax schedule. Also, the firm keeps its depreciation fund. In return, the firm agrees to achieve output, variety, quality, cost, and fixedasset goals, and it receives no state funds for capital investments or technical innovation. Because the firm retains a higher portion of its initial profits, this system seeks to stimulate greater immediate efficiency improvements. The system is used only where products are badly needed, production capacity is available, technical innovation is important, energy and raw materials are plentiful, and managerial ability is present. This responsibility system has been remarkably successful with the relatively few large enterprises with which it has been implemented. For example, under this system in 1986, Capital Iron and Steel Company increased its profit 150 percent above that of 1981. The total profit this company paid to the state from 1982 to 1986 was almost equal to the sum total of the profit it earned during the 30 years before the reform. Its input-output ratio increased from 1: 1.65 to 1:3.8 .* 3. Contract for increasing profit and reducing loss (zengying jiunkui buogun). An unprofitable enterprise receiving a subsidy is assigned a loss quota under this practice. If the firm reduces its loss, it retains the difference between its actual loss and its loss quota. Also, the firm’s subsidy will not increase if the loss increases. Fourteen out of eighteen small deficit firms in Shanghai reduced their losses under this system from 15.38 million yuan to 3.89 million yuan.9 Other forms of contracting exist. Under one system (shungjiuo firunjishu buogun, chuoshou fencheng) the enterprise shares with the state any profit above an established figure that is turned over to the state. Another form taxes a base profit at a 55 percent rate and then taxes additional profit at 30 percent (qiye jingyeng zerenzhi). In a third variation, the state calls for bidders after evaluating a firm’s assets and expected market value of output. The enterprise and the state share income from the assets higher than the contracted amount. Lower income is made up from bonuses, the welfare fund, or even wages (zichun jingying zerenzhi). One difficulty with the contracting system is that the contracts lack effective binding force for the firms. Companies share profits with the state, but the state feels compelled to save the companies through subsidies, reduced taxes, or provision of
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low or no interest loans when they have losses. Between ten and twenty percent of the enterprises did not fulfill their contracts in 1987.10 This outcome would not threaten the positive side of the contracting system. It would, however, raise questions about the ability of the government to sustain the contracting system without raising enterprise taxes to prohibitive levels. A recent survey reported by the State Statistics Bureau in 1989 showed that twothirds of the contracted enterprises wish to continue their contracting management.11 There are three reasons. First, contracting management has changed the face of the enterprises. Second, the base quota of contracts are reasonable. Third, the employees’ income has increased. Another one-third of the contracted enterprises did not want to continue the contracting system. The main reason was that the economic environment was getting worse. On the one hand, the prices of production inputs were rising but product prices were not allowed to increase accordingly. On the other hand, the prices of consumer goods were increasing and the enterprises had to raise employees’ bonuses and other living subsidies. These two factors directly influenced the fulfillment of contracted targets. The survey also showed that 14.5 percent of contracted enterprises failed to fulfill the contracted targets.
Leasing (zu) In his report on Government Work to the Second Session of the Sixth National People’s Congress in May, 1984, Mr. Zhao Ziyang proposed leasing as another way to redefine the relationship between the state and enterprise. 12 Under the leasing system, the enterprises become more independent and keep a simple economic relation with the State. In June, 1984, the Shenyang Automobile Industry Company leased twelve of its small subsidiaries to individuals. Every lease-holder and two guarantors had to raise capital by obtaining a mortgage on their personal property, such as savings or household goods. Base output value and profit level were set according to the prior year’s results. The leasees were required to pay an income tax of 55 percent and a 15 percent energy, transportation and development fund tax. Of the remaining profit, 70 percent was retained by the enterprise and 30 percent was paid to the leaseholders. Table 1 shows the operating results of this group of twelve firms compared to a group of 50 small enterprises in Shenyang that were not leased. 13 The results show a dramatic increase in profitability for the leased firms, especially in light of the fact that the leasees paid Shenyang Automobile another eight to twelve percent of their base profit as rent. 14
TABLE 1 Results of Leased and Unleased Enterprises
Jan-June, A: B:
2,806 12,226.5
85
Jan-June, 1,357 8,112
A = 12 leased small enterprises B = 50 unleased small enterprises
(10,000 yuan) Achieved Profit
Output Value
84
% 107 51
Jan-June, 564 2,632
85
Jan-June, 129 1,125
84
W 336 134
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A problem with the leasing system (and the contracting system as well) is that the base profit number is determined mostly by experience, such as the latest year’s output or the average of the latest three years, which may not be good guides to a firm’s profit potential. Also, the cardinal number may be set by negotiation between the government and potential leasees or contractors who mostly come from the work units. In many cases, the lease or contract numbers are unreliable and lack discipline . In addition, lease and contract terms are generally short, usually one to three years. Forty-four percent of the contracts between large and mid-sized firms and the state were for one year in 1987.15 Long-term planning is recognizably difficult, and employees’ immediate interests dominate the responsibility system. For example, 35 percent of the profit retention of state consumer-industrial enterprises was used for bonus in 1984 and 40 percent was allocated to employees’ welfare funds. Only 20 percent was used for business development. 16 The government, again, was faced with a situation in which it felt the actions of the economic agents were unsatisfactory. In response, the state created a bonus ceiling in order to control increasing consumer demand. Four months of one’s annual salary was established as a tax-free bonus. The fifth month bonus was taxed at twenty percent, the sixth month was taxed at fifty percent, and the seventh month was taxed at one hundred percent. Incredibly, a two hundred percent tax was applied to bonuses beyond the seventh month of the regular salary.17 This attempt to adjust and readjust the incentive system did not, however, stop the rapid escalation of consumer demand.
Collective Management Mr. Zhao Ziyang also proposed to the Second Session of the Sixth National People’s Congress that small state-run enterprises could be managed as collectives (gai). The economic benefit of collective management was demonstrated in Shijiazhuang, the capital of Hebei province. Seventeen businesses achieved impressive results after changing from state-run enterprises to collective-run enterprises in 1985. This group of firms experienced an average profit increase of 39.8 percent per year between 1985 and 1987.18 Profits paid to the state increased an average of 3 1.9 percent per year and profit retention increased 25.5 percent per year. An extension of this policy was to transfer both ownership and management of the state-owned firm to a collective (zhuan). One or the other of these policies has been practiced in most small commercial enterprises. Retail establishments, restaurants, repair shops, and personal service businesses participate in this economic reform. However, collectives do not have preferential treatments from the government, such as low interest loans, tax reductions or exemptions. Also, collectives are responsible for losses, whereas state enterprises can seek subsidies. Consequently, by 1986 many firms that had transferred to a collective form of organization transferred back to being state-run enterprises. The incentive structure for collectives needed to be perceived more comprehensively and fairer in order to attain widespread acceptance.
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PropertyTransfer Although these economic reforms strengthened the efficiency of many enterprises, significant problems remained in the economy: .
Continued subjective planning and restrictive central and regional systems of resource allocation led to chronically deficient and irrationally allocated capital.
l
Many enterprises threatened to fail where the discipline of the market was introduced. About 20 percent of the state enterprises suffered long-term losses and depended on state financial subsidies.19
9 Many profitable companies, often with high technology, could not obtain needed capital, whereas a number of marginal or deficit firms were able to obtain long-term funds and subsidies which had become a major burden on the Chinese government.
In order to gain more rational resource allocation and overcome these problems, the 13th Central Committee (1987) of the Communist Party declared that some small state enterprises could be sold to other state enterprises, collective enterprises or to individuals. The Light Industry Ministry was one of the first to develop policies on property transfer. Under these policies, for example, the famous brand bicycle companies were permitted to buy enterprises that were facing bankruptcy. Also, small deficit firms were permitted to be sold by auction. Generally, there are three forms of property transfer: (1) assigning the assets, employees, and debt of a bankrupt company to a solvent firm; (2) transferring small state industrial, commercial, and personal service businesses to collectives and individuals through auction; (3) selling extra land, facilities, or equipment to companies facing shortages of these items. One city in Hebei province, Baoding, eliminated deficits of its companies within one year through various forms of property transfer, and the banks in Wuhan got back tens of millions of yuan of overdue debts under these policies .2c A metal furniture factory in Wuhan possessed 270,000 yuan fixed capital, 810,000 yuan working capital, 10,000 square meters of land and 204 employees. In 1986, this factory had a 160,000 yuan loss. In April of 1987, its neighbor, Friendship Company, bought the total property of this factory for 138,000 yuan. By the end of 1987, Friendship Company earned 430,000 yuan profit with use of the factory’s transportation, buildings and equipment.21 Auctions of state enterprises have occurred mainly in small-size commercial and personal service businesses. Social, in addition to economic, criteria have prevailed in these transactions. When Shenyang sold a grocery store to the public, one bidder offered 10,000 yuan and wanted to change the grocery store to another use. The store was finally sold to an employee for 5,000 yuan who promised to keep the same business and to serve the local residents.22 Chongqing City of Sichuan province auctioned off a 39.7 square meter restaurant according to several principles. First, the buyer had to be a collective or employee of
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the department which the restaurant belonged, and the public auction had to be competitive. Second, the buyer was not a state employee anymore after he bought the restaurant. Third, the former employees of that restaurant were given other jobs by the department in charge .z3 The city offered the restaurant for the official price of 11,000 yuan, but the highest bidder paid 17,500 yuan. These mechanisms of property transfer represented a significant step toward market-based resource allocation, although economic decision-making still was not entirely based on economic factors.
The Stock System @fen zhi) Early in 1984, a stock system that permitted private ownership of economic entities was introduced in China. In addition to dealing with the contradictions present in trying to gain enterprise autonomy within a public enterprise system, the stock system sought to address (a) the shortage of productive capital in the enterprise sector and (b) consumer demand far outstripping the supply of goods. Equity issues were conceived to be a source of capital since the state was decreasing its role as the treasurer of the enterprise system. Also, some enterprises looked to the selling and buying of stock as a means to improve their economic returns. In addition, significant individual deposits represented a potentially large increase in consumer demand and an inflation threat to the economy. In 1984, individual deposits reached 122 billion yuan, forty two percent of the total consumer sales in that year. In 1978, this percentage was only sixteen percent.24 The government hoped that the stock system would be an incentive for consumers to convert some of this purchasing power into productive capital. By the beginning of 1986, enterprises had raised ten billion yuan through issuing stock to their employees and to the public.25 In one type of stock system, the government’s share of equity is based on the value of the enterprise’s fixed capital. Other sources of capital for these firms are employees’ and other individuals’ shares and the enterprises’ retained earnings. Under this system, the enterprise is still in the hands of the state since the state holds most of the stock. Also, the amount of new capital available to the firm is lower. Another type of equity is used to facilitate horizontal integration. In this case, stockholders are other enterprises-either state firms, collectives, or private companies. The multi-institutional form of stock ownership is designed to address excessive fragmentation and inefftciency typical of Chinese industry. By 1987, there were more than 6,000 different stock companies in the whole country. Stock exchanges were established in Shanghai and Shenyang.26 However, there has been heated debate about the stock economy since it first was authorized, and by late 1989 the State Council had not issued a formal trial program. Private stock holdings may represent the ultimate extension of policies of economic agency. However, as in its other experimentation with decentralization and market-based resource allocation, China moved tentatively and often unofficially in evaluating stock ownership.
DEBATEON REFORMINGSTATEOWNERSHIP The debate about private and public ownership is stimulated by a series of contradictions in the Chinese ownership system. The reforms discussed above expect enter-
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REFORM
prises to become independent economic entities that are responsible for profit and loss. Yet, remaining under state ownership, few enterprises have ability to sustain losses and the government cannot afford to confront massive bankruptcies. The financial demands of deficit companies have grown at a time when the state has less revenue due to some revenues being retained by the profitable enterprises. Table 2 indicates the growing percentage of subsidies and tax reductions relative to national revenue. 27 Economic reforms have also been hampered by central planning for natural resource allocation, business scope and price controls. Market signals often indicate different investments and decisions than those dictated by central planners, and firms are powerless to follow market forces without permission. Most of the enterprise reforms take place within a larger context of national planning and thus have limited effect. In addition, many specific policies within the economic responsibility system lack meaningful incentives for enterprise development. Internally-generated funds have not been as important a source of capital as desired, and many firms lack investment motivation. In theory, workers of state enterprises own the means of production and have a right to supervise management, to oversee the distribution of profit, and to direct the use of capital and labor. In practice, workers have a small decision-making role and have rebelled when their share of profits have been below average. A few contractors and leasees have been attacked and even killed by employees. Perceived unfairness of income distribution is one of the reasons that some workers joined the Chinese students’ demonstration between April and June of 1989. These contradictions arise from opposing ideological pulls on economic policy. They indicate interest in decentralization, but only partial commitment to it. These problems have led some people to consider changes to the public ownership system. The State Council’s Research Center for Economic Development began research on ownership reform in 1985 and generated proposals to deal with the problems inherent to the existing situation. TABLE 2 Enterprises’
(2)
Total Enterprise Losses
Government Subsidy
(3) Tax Reduced & Exempted
(4) 1(Z) + (311 + Revenue
115.32 116.77 140.87 126.38 196.86 239.92 199.93 258.93 N/A N/A N/A
60.17 67.33 50.98 64.21 52.65 103.00 68.00 121.00 N/A
6.00 28.30 45.39 49.31 45.53 55.28 46.78 74.34 N/A
5.90% 8.67 9.26 11.17 9.06 13.07 7.83 10.61 N/A 16.10 17.20
(1)
1978 1979 1980 1981 1982 1983 1984 I985 1986 1987 1988
Losses and State’s Subsidiesa
-Lfnit: 100 million yuan.
378.00 446.00
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Some economists believe that reforming the state ownership system is imperative.28 For example, Li Yining, a famous economics professor at Beijing University, suggested decreasing the degree of state ownership by increasing the shares of enterprises and individuals.29 Some proposed “enterprise ownership” in which the ownership of the assets is transfered from the state to the enterprise and the enterprise is essentially self-owned. This form of ownership would approximate a collective in which employees are the ultimate owners. This might occur through three main methods. First, the enterprise could repay the original investment to the state in installments, in which case the enterprise will gradually earn the right of property. Second, the enterprise can create new assets through retained earnings and other capital sources such as issuing stock and debt and, therefore, create a private portion of the firm. Third, where products or services are not essential to the national economy and people’s livelihood, state assets could be assigned to the enterprises without payment .3o Yu Guangyuan, the former president of the Chinese Academy
of Social Sciences, has argued that enterprise ownership should be the basic form of socialist public ownership. 31 Others thought that state ownership was the outcome of political violence and advocated individual ownership as a means of economic democracy.32 Other economists opposed replacing state ownership and asserted that state enterprises should not be privatized. 33 Greater disparities of wealth that would be unfair to many people would result from privatizing the enterprises. Individual pursuit of profit would cause problems, for instance making and selling fake goods or low-quality goods at high prices, which would directly harm consumers’ interests. The economist, Dai Yuanchen, expressed this view: We have to admit that it should be the State and government that represent the interests of the whole society while we acknowledge the interests of enterprises, local departments and regions. The reform doesn’t mean to replace overall interests of society with partial and individual interests. Speaking of the nature of ownership, state ownership should not he changed so easily.34 Advocates of this view want to keep the state ownership system and to solve problems arising during the economic reforms through changing in the organizational forms of property. In Mr. Dai’s view, the state is the “stockholder” of the enterprise, having the right to own the assets and the right to receive income from the assets. The enterprise, on the other hand, is the “property-holder” and should have the right to occupy, to use and to manage the property. The aim of alternate organizational forms of property is to give these rights back to the enterprises so that they can become independent economic bodies and be responsible for profit and loss. The leasing system is a new organizational form of property for small-size enterprises, especially commercial and service business. The stock system is a feasible form for large/ middle-size enterprises. Neither leasing nor stock, in this view, changes the fundamental status of the enterprise. State ownership is determined by the original investment of the government, Even though additional value may be created by profit retention and nongovernmental capital, the basic nature of the enterprise, state ownership, is not changed.
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Xiao Shuoji, another economist, suggests multi-public ownership through the stock system. The state controls the biggest share of stock with its total assets invested to the enterprise, and the enterprise keeps a certain part of stock as enterprise ownership through its remaining funds and other sources, and individuals may buy a share as private ownership. Every shareholder is economically equal. They share business risks and enjoy profit together.35
DISCUSSION Lessons fromChinese Economic Reform A number of lessons can be extracted from the Chinese experiment in economic change. First, decentralization has demonstrated that a number of parties have claims on the economic benefits created by successful reform. The absence of hierarchical rules for profit allocation put officials at the national treasury, central industry ministries, and regional and local governments into competition with each other. Consequently, enterprise managers experienced multiple and often conflicting loyalties to the various sources of state authority and, where they have had discretion, companies acted nonuniformly. This generated a lack of consistency and predictability on the revenue side of the economy. In agency terms, breaking the rigidity of hierarchical control raised the question of who the principal was. Which unit of government was to represent the public? Economic reforms have been hampered by conflicting objectives on the part of the government. The responsibility system was designed to gain efficiency, initiative, and flexibility. Yet, policy-makers wanted to retain the ability to judge some areas of industry more socially desirable than others. Firms were given financial responsibility, but closures and bankrupties were not freely permitted. Bonuses were allowed to build commitment and motivate productive work, but ceilings on rewards were necessary to limit consumer demand. Conflicting and ambivalent incentives often left the enterprises confused and ineffective. Enterprise pursuit of immediate economic interests made it difftcult for the government to exercise macro-economic control. It is difficult to go only part way on the road of economic agency. The economic responsibility system also conveyed an imbalanced policy conceming economic risk-reward relationships. While economic rewards of profit retention and wealth creation are available to individuals and collectives under leasing arrangements, financial risks of these individuals are substantially higher. A heavy tax structure is designed to have the government share the benefits of the success of leasees, but these individuals alone carry financial risk. The balance of reward and risk may not be sufficiently favorable relative to the alternative of minimal riskminimal reward as employees of state-run enterprises. The issue appears to be more than fine-tuning the incentive formula. The fundamental goal of the leasing systemshort-term revenue generation for the state versus long-term development of the economic structure of society-is a key issue. These comments suggest that policies separating ownership and management are, by themselves, incomplete. Policies also need to address: who is the “owner” (principal)? The aims and purposes of the owner need to be sufficiently clarified to give
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unambiguous signals about desired results. And, policies need to motivate behavior to achieve these results. Ambiguity about the nature of the enterprise (agent) has also been evident. In one sense, the state acts as principal of the whole people while the enterprise general manager is the primary agent, and the employees work for this agent. Yet, workers control the firm under socialism and, in theory, employ the general manager. In this sense, employees are also the principal. Consequently, a case can be made that the workers are both the principal and the agent in a principal-agent perspective. This confusion is manifest in disagreements over the portion of enterprise profit allocated between the state and the enterprises as well as the portion of enterprise profit allocated to employee bonuses and welfare funds versus the portion retained by the enterprise for business development. The likelihood that either general managers or workers will identify with the interests of the enterprise itself, the “entity”, is hampered by the generally short period for which contracts and leases are approved by the state. A one to three year contract tends to induce behavior that optimizes current benefits at the expense of actions that trade-off immediate gains in favor of potentially greater long-term benefits. The government’s desire to exercise tight control over the enterprise suggests a low degree of trust which may easily result in behaviors that justify the government’s initial assumption of needed control. Achieving a greater community of interests between workers and managers in defining the “agent” may depend on the state being willing to take a longer time perspective in the economic responsibility system.
A PoliticalPerspectiveon EconomicReform During eleven years of economic reform featuring the decentralization of management, the Chinese government gradually loosened micro-control of the economy. This has given enterprises vigor and has resulted in improved productivity and employee salaries. On the other hand, the ability of the government’s macro-control was weakened. The state’s mandatory plans and contracts lacked effective legal and economic discipline. Consequently, the decentralization of economic power led to the state’s financial problems and excessive fiscal deficit. Residents complained about double-digit inflation for several years’ running. State enterprises complained about the chaos of market order and the government’s failure to guarantee material supply. Private businessmen complained about the uncertainty of their political and economic status. These complaints were a reflection of people’s resistance to the fact that the government could not provide effective measures to solve the problems and contradictions arising during the economic reforms. This is also one of the important reasons why the public showed sympathy and encouragement to the April-June student movement. Political structure reform was planned as the necessary measure to solve the varied economic problems. Primier Li Peng promised in early April, 1989, that Chinese political structure reform would be carried out with the deepening of economic reform.36 It was hoped that political structure reform would clarify policies toward economic agency. However, no clear program was developed. Even in the past 11 years, reforms have been practiced by trial and error. Radical reformers represented
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by Mr. Zhao Ziyang suggested “gradually” decreasing government’s direct participation in economic activities and establishing a new economic order and relationship in which the government would take macro-economic control through laws and other economic means, such as taxation, while enterprises manage under planning guidance and market forces. The student movement between April and June caused Chinese leaders to reconsider the basic assumptions of structural reform. Did regrettable phenomena, such as corruption, inflation, rampant speculation and tax evasion, happen because of the state’s decentralization and encouragement of a private economy, or because of the lack of necessary laws or reasonable economic order? Great blame is being put on those who suggested more freedom in economic management and redefining the concept of public ownership. The problems and contradictions arising during Chinese economic reform are due to several factors. First, China has had no experience with a market economy. The feudal system lasted until the Xinhai revolution led by Sun Yen-sen in 19 11. Although this revolution brought some democracy into Chinese economic life, China was a subsistence economy in agriculture and a monopoly economy in industry. When the Communist Party took power in 1949, a planning and management system was established in which the economy developed an orderly but low rate of productivity growth. The market mechanism did not enter Chinese economic life until economic reforms began in late 1970s. Enterprises and managers who had been used to obeying the planning management system were at a loss as they suddenly had to face the market. Poor management, to a certain extent, offset the favorable conditions that decentralization brought to them. The government, the formal plenary policy-maker for the economic activities, could not quickly set up a stable and scientific managerial system after 1978 upon giving power to the enterprises. The changability of policy encouraged enterprises to pursue short-term behavior. Speculation and market mechanisms were lumped together. All the above problems caused disorder in the social economy. Another factor behind Chinese economic problems is natural resource scarcity. For the 40 years since the foundation of the present government, China has never overcome the situation of demand exceeding supply at controlled prices. Therefore, it would inevitably lead to an imbalance of development and distribution when the market mechanisms were partially used to adjust enterprise behavior. The enterprises that could benefit from economic reform asked for political structure reform to break the old system’s restraint on their potential for development, while enterprises that failed during the market competition still needed the government’s help to survive. The government of a big country with a large population and scarcity of natural resources was faced with the task of raising enterprise economic efficiency through decentralization reform while safeguarding perceived public interests by maintaining public ownership. It has been more than seventy years since the first socialist country (USSR) was set up. Today, almost every socialist country is facing economic reform in order to speed up economic development. The decentralization of managerial power is inevitably an important element of such reforms. No socialist country has made significant reform on its ownership system in the absence of political organizational reform.
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It could be a wrong impression that China’s economic reforms would have led to complete privatization of the Chinese economy. Even Mr. Zhao Ziyang, who suggested giving more freedom to the economy, stressed that state enterprises would never be privatized. 37 Private firms have been active in retail and personal service businesses since 1978, but private output value is still less than one percent of total output value of national industry. A private economy has been taken only as a necessary supplement to the national economy composed mainly of whole-people ownership, that is, state ownership. This means the limitation of the private economy and the foundation for private economic development in China are fragile. When the social environment changes, the private economy is greatly influenced. Statistics presented by China’s Administration for Industry and Commerce show that the number of private employees went down 3.61 million by June, 1989, compared with the end of 1988, because of the tightness of the money market, the lack of raw materials and fuels, over-charging on businesses and poor management.38 “Only socialism can develop China”39 is a strong signal given by the Chinese authorities, indicating that China does not intend to go far down the path of decentralization and private ownership. These are believed to have brought ideological confusion and self-centeredness that the Chinese Communist Party (CCP) does not want. Now a “moral civilization” is being advocated by the CCP in order to raise the people’s socialist consciousness. In the meantime, China knows that reforming monopoly management impacts positively on motivation and productivity in China’s “material civilization” and raises the people’s standard of living. The separation of ownership and management is an inexorable trend for economic improvement in Western as well as Eastern countries. Although the pace of economic or political structure reforms which will lead to this separation could be slowing after the student’s movement, China will find it difficult to go back to the old path of “central monopolies”. Can China be successful in realizing the separation of ownership and management within a system of state ownership? Can the government balance the “material civilization” and the “moral civilization”? We have to wait and see in hope.
Ack~hdgmeds: The authors appreciate comments and suggestions given by Theodore M. Alfred, Zhao Liming, and Dong Hong on an earlier draft of this manuscript.
NOTESANDREFERENCES 1. Wang Haibo, “Greater Power for the Enterprises,” China’s Economic Reforms, edited by Lin Wei and Arnold Chao, (Philadelphia: University of Pennsylvania Press, 1982), p. 88. 2. Yuan Shouqi, Contracting Managerial Responsibility System (Beijing: China’s Economy Publishing House, 1988), p. 13. 3. Chen Zhilong, “State Enterprises’ Contracting Management and Macro-management Standardization,” Social Science (Shanghai, July, 1987), p. 29. 4. China’s Economic Structure Reform-Decision of the CPC Central Committee (Beijing: Foreign Languages Press, 1984), p. 9. 5. Yuan Shouqi, op.cit., p. 15. 6. Ibid., p. 52.
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7. Chen Xitong, “The Key to Deepen Enterprise Reform Is to Mobilize the Socialist Enthusiasm of the Workers,” Red Flag (Beijing, No.13, 1987), p. 26. 8. Yuan Shouqi, opcit., p. 271. 9. Ibid., p. 243. 10. Zhang Yanning, “Nine Achievements of This Year’s Enterprise Contracting System,” China’s Enterprise Journal (Beijing, July 25, 1988), p. 1. 11. People’s Daily-overseas edition (August 9, 1989), p. 1. 12. Zhao Ziyang, “Report on Government Work, The Second Session of the Sixth National People’s Congress” (Beijing: Foreign Languages Press, 1984), p. 11. 13. Managerial Science Research Institute of Ministry of Engineering Industry, The Practice and Theory of Leasing Management for Socialist Industrial Enterprises (Beijing: Engineering Industry Publishing House, 1986), pp. 45-48. 14. Ibid., p. 4. 15. Shijie Jingji Daobao (World Economic Harbinger), (Shanghai, July 27, 1987), p. 2. 16. Gu Shutang and Huang Zhiliang, “Enterprise Vigor and Managerial-Mechanism under the Separation of Ownership from Operation Power,” Industrial Economic Research (Beijing, May 1987), p. 36. 17. State Council’s Regulation on Deepening Enterprise Reform and Strengthening the Vigor of Enterprise (December, 1986). 18. Yuan Shoiqi, op.cit., p. 311. 19. People’s Daily-overseas edition, (July 17, 1989), p. 1. 20. He Zhongze, “A Review of Property Transfer in the Chinese Enterprises,” Industrial Economy (Beijing: People’s University Press, July 1988), p. 80. 21. Tian Yuan, Transfer of Property in the Chinese Enterprises (Beijing: Economy Daily Publishing House, 1988), p. 184. 22. Ibid., p. 199. 23. Ibid., p. 216. 24. China’s Statistics Yearbook-1988, pp. 691, 805. 25. Wang Mengkui and Xing Junfang, On Stock System (Beijing: China’s Economy Publishing House, 1987), p. 184. 26. Xiao Shuoji, “On Stock System with Public Ownership as the Mainstay,” Economy Daily (Beijing, November 8, 1988), p. 3. 27. Zhang Bo, “The Reasons of the Enterprises Suffering Long-Term Loss,” Management World (Beijing, April 1988), p. 75; China’s Statistics Yearbook-1988, p. 747; People’s Daily-overseas edition (April 8 and July 5, 1989). 28. Wang Peiru, “Reform of State Ownership Is the Economic Basis to Reform Political Structure System,” Social Science Probe (Nanning, February, 1988), p. 19. 29. Li Yining, “China’s Ownership Reform,” New Long-March (Changchun, April, 1988), p. 8. 30. Ji Peng, “On Enterprise Ownership and the Ownership of the Enterprise as Legal Person,” Economic Research (Beijing, June, 1988), p. 31. 3 1. Yu Guangyuan, “Thinking on the Future of Enterprise Ownership,” Economic Research (Beijing, June, 1988), p. 17. 32. Wang Shenzhi, “Structure Reform and Economic Democracy,” Economics Weekly (Beijing, July 3, 1988), p. 2. 33. Jiang Yiwei, “Gradually Practising Stock System,” People’s Daily (Beijing, November 3, 1988), p. 2. 34. Dai Yuanchen, “Multiplicity of Property Power,” China’s Industrial Economic Research (Beijing, March, 1988), p. 6. 35. Xiao Shuoji, op. cit., p. 3.
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36. People’s Daily-overseas edition (Beijing, 37. Zhao Ziyang, “Report to the Third Plenary (September 26, 1988), p. 3. 38. People’s Daily-overseas edition (Beijing, 39. People’s Daily-overseas edition (Beijing,
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April 4, 1989). Session of the 13th CPC Central Committee” August 12, 1989), p. 1. July 22, 1989), p. 1.