033528000ALMA MATER STUDIORUM – UNIVERSITA’ DI BOLOGNA
SCUOLA DI ECONOMIA, MANAGEMENT E STATISTICASCHOOL OF ECONOMICS, MANAGEMENT AND STATISTICS
Corso di Laurea First cycle degree
BUSINESS AND ECONOMICS
Economic Change in China from 1800 to 2000 circa
PRESENTATA DA DEFENDED BY Eugenia Vitali
0000755337 027495500Sessione prima Graduation session first
Anno Accademico – Academic year 2017/2018
Table of contents
1. Late Qing Dynasty……………………………………………………………..…..………………4
1.1 Overview of China’s geographic differences………………………………………………..………….4
1.2 Government’s response to the 1850s turmoil…………………………………………………….5
1.3 Commercial structure ……………………………………………………………………………6
2. The years of the Republic (1912-1949) and the establishment of the Chinese Communist Party (1949)…………………………………………………………………………………………..8
2.1 Early stages of industrialization………………………………………………………………….8
2.2 Fiscal apparatus………………………………………………………………………………….9
2.3 Nationalist years (1928-1949)…………………………………………………………………….9
2.4 Maoist years (1949-1976) ………………………………………………………………………10
2.5 Case: Sichuan development …………………………………………………………………….12
2.6 After Mao ……………………………………………………………………………………….14
3. Deng Xiaoping reform era………………………………………………………………………15
3.1 Land rights………………………………………………………………………………………15
3.2 Fiscal and State Owned Enterprises ……………………………………………………………17
In modern days China represents a major player in the global economy. According to the International Monetary fund, it is the world’s largest economy measured by purchasing power parity (IMF, 2017) and the largest manufacturer exporter. It is the world’s second major importer and second largest economy measured by per capita GDP. Because such a strong presence on the global scene is new to China, the purpose of this thesis will be that to look at the changes that have shaped its economic path and brought it to where it stand today. Given that the number of changes that occurred in China during the period under examination are vast, I will concentrate primarily on the reformation of the fiscal apparatus and the shift from an agrarian based to a commerce based economy. This paper will start by delineating the economic structure under the late Qing dynasty (1800-1911) for it is during these years that the first attempts to industrialize and modernize were set in place . In particular, the increased interaction with foreign powers, the restructuring of its taxation system and commercial changes have been key factors. Subsequently my focus will shift towards the years that follow the fall of the empire until 1978, the year in which Deng Xiaoping began leading China. Key to this era are the first attempts to industrialize through the creation of infrastructure, state owned enterprises and township and village enterprises. In the years under Chairman Mao I will argue that the implemented policies were not only crucial for the later rapid development obtained under Deng Xiaoping, point which I wish to emphasize through a case study of the changes that occurred in the region of Sichuan, but that they served to foster a sense of “being Chinese” (??) that would then impact the way in which initiatives were brought on by the state and implemented by the population. I will conclude this paper by focusing on the Dengist era and the beginning of the Chinese socialist market economy.
1. Late Qing Dynasty
The imperial equilibrium that governed China until 1911 was about to change not exclusively because of the arrival of the western powers but because of internal turmoil as well. The 19th century was characterized by large scale rebellions (White Lotus, Taiping, Nian, Miao and the Boxer in particular) which shared the fact that they were mainly composed of poor peasants suffering harsh living conditions who did not feel protected by the State. In order to maintain its position, Beijing needed to invest in the maintenance of a strong military force whilst dealing with issues such as population increases (like in Manchuria), grain price inflation, increased death rates, migrations and resource competition. Moreover, its currency was based on two metals: copper and silver, and they lacked control over the latter (which was also the most valuable one) exposing the state to the risks associated with monetary fluctuations.
Signs of weakening of the Qing’s sovereignty began to appear and were enhanced by the presence of European imperialism, which exerted additional pressure along China’s’ maritime frontier through falling terms of trade. However, it is during these years that the seeds for economic modernization were planted “through the transformation of taxation patterns, resource distribution and government spending”. (Halsey, 2015, p.83). Consequently, I will dedicate this first section to the analysis of these factors which spurred China to create its financial foundations.
1.1 Overview of China’s geographic differences
I believe it is worth noting, before adventuring into deeper analysis, that China’s regional development was not uniform. This is relevant because the policies that were implemented and the governmental attention received in the different areas were not the same. Since the regions in the south and coastal areas were (and still are) the richest ones and those who were in direct contact with the western imperial powers, they were those who received major attention in the form of subsidies and incentives to foster commerce. They also constitute the states’ fiscal base both in the early years of Qing rule and after the mid century turmoil, for they were the ones who were able to recover the fastest (Halsey, 2015).
On the other hand, the northern and inner regions, who suffered from elevated levels of poverty, food shortages and commercial weakening, received little attention from the Qing and most of the efforts made were focused on short term relief rather than towards the implementation of policies that would strengthen them in the long run. (Li, 2007)
1.2 Government’s response to the 1850s turmoil
Lillian M. Li demonstrates how environmental issues and governmental mismanagement were the driving factors of the declining living standards of China at that time. As long periods of severe droughts and flooding succeeded one another agriculture was impaired leading to food shortages, crop failure and increased prices of wheat and millet (Li, 2007). This constituted a problem not only for the people living within those regions but also for two other reasons.
Firstly, because China was an agrarian economy, the main government financing tool were land taxes (even though salt taxes, native customs and other miscellaneous taxes were levied). These were comprised of two parts: a land tax that was collected in silver and the grain tax that was originally collected in kind but converted into money payment during the later stages of the empire (Wang, 1973, p.829). Consequently, the impairment of the sector meant lower income streams.
Secondly, as China was a country organized as a system by which regions could be self-sufficient on one hand and interdependent on the other, the environmental disasters coupled with large scale rebellions, havocked the circulation of wealth from those who were most successful at generating resources to the ones who were not. As an example, the system of water transport in southeast china not only encouraged commerce but served as an important component of the state’s fiscal infrastructure.
To bring relief to the northern and western regions, but also to those who were weakened by the rebellions, the state decided to enact policies directed to grain partitioning and tax remissions. Moreover, as it found its revenue to be insufficient to provide the required aid whilst at the same time maintaining a defense organ, the Government began putting pressure on its patronage system, encouraging landlords and rich merchants to make additional donations, whilst simultaneously engaging in the practice of selling public offices. Though relatively effective in the short term, it did not constitute a long run solution and it soon became apparent that it could not cover its deficit in this manner. Therefore the state began to shift its revenue collection stream from (direct) agricultural taxation to forms of (indirect) commercial taxation.
Especially during the Taiping rebellion (1850-1864), the state was in such a short supply of reserves that it began to borrow money from the western powers (a practice which was previously unfamiliar to the Qing dynasty as they relied on excess capital from previous years to fund governmental needs) who started raising considerable amounts of revenue (and with it, interests) in order to fund China’s defense organ. This forced the weakened Qing state to begin a process of increasing westernization both economically and politically. At the same time, by entering the Chinese system, foreign powers could ensure themselves that their debt would be settled and that commerce continued. By the end of the dynasty, during the Tongzhi Restoration period (1861-1875), a process of recovery, with particular emphasis on the fiscal apparatus, was set in place. Of relevance were the lijin and the Imperial Maritime Customs. The lijin was an internal tax levied predominantly to finance the military effort in order to fight the war with the Taiping and to gain some sort of control over the revenue generating process. This was a very small tax per se, but a heavy tax burden overall, that was passed on to customers (price of basic necessities grew 25%) and, as it was highly localized, its revenues went to regional offices (mainly in the south and coastal regions) almost not reaching Beijing (Pomeranz, 2012). On the other hand, the revenue extracted from the Imperial Maritime Customs, which were put into place and managed by foreigners, and, unlike the lijin, was directed to Beijing and to the repayment of foreign loans. The proliferation of commercial taxation reflected a process of fiscal, as well as political decentralization, visible throughout Chinese history in periods characterized by major rebellions or invasions (Zhou, 2009).
1.3 Commercial structure
Before the 1850 China’s commerce was performed mainly internally through regional markets regulated by brokers with only one port available for foreign trade (Canton).These markets were quite small in size usually serving about 15000 people and encompassing a maximum of 20 villages (Pomeranz, 2012). A region which saw a great burst in these markets was the Yangtze delta region and subsequently the Pearl river delta region. Here, there was more choice for the customer due to lower internal transportation costs and the fact that long distance trade, which was more expensive to conduct, resulted profitable only if done by water, a channel of transportation which abounded in those regions. Local markets had to be registered and were administered by market managers or local agents. To gain this position, especially the latter one, reputation was usually sufficient. However, as commerce grew and long distance trade began to proliferate, reputation was not enough to ensure honesty in trade. To remedy this, huiguans (??), originally developed under the Ming dynasty, were used. These were associations of people from one specific place (ex: village Y) living in another (village Z) who performed various functions including food provisions, emergency loans, investments. They also served as guarantors during commercial transactions and became a means of private enforcement. Moreover, a brokerage system was installed to ensure fair business conduct especially for large scale credit transactions. Although the Qing did not directly regulate trade they did regulate the brokers who had to obtain a license to perform their activity. However, this requirement was not strongly enforced and, even though obtaining a brokerage license was an easy and widespread practice, vast numbers of unlicensed brokers proliferated causing a weakening of the system (Shue Keller in Brandt, Ma, Rawski, 2012).
Because of the expansion of regional fiscal resources some bureaucrats began to sponsor western-style capital-intensive enterprises such as factories, shipyards and arsenals. The latter were dedicated to the production of high quality products but the overall achievement of such enterprises resulted in limited payoffs both in the short and medium run (Brandt, Ma, Rawski, 2012). Though the impetus for change was there, there was no effort to overhaul the regime’s fundamentals and agriculture was still seen as the key to social stability.
However, the agricultural sector had been severely damaged for the rebellions of the century had substantially hampered both the irrigation systems and the community structures. Though landlords, with government support, tried to re-assess themselves drawing on the labor of immigrants from the north to create new landlord organizations who would focus the bulk of their activities on matters such as the extraction of rent collection and the rebuilding of the irrigation system, the efforts did not generate significant benefits.
What I believe to be most remarkable in the 1850s is how the Qing dynasty was able to initiate the process of restructuring to face the needs of the time. Through intensive investment in the regions which were able to generate the highest returns (Yangtze in particular), the introduction of indirect taxation and the ability to enter a symbiotic relationship with the European powers, they equipped the Chinese economy with new tools with which they could enter global trade. The changes that occurred at a structural level are important not solely on a purely economic basis but on a psychological one as well in that they began to modify the way the Chinese population viewed itself. This will be a crucial aspect in the years in which the Chinese Communist Party that enhanced the sense of “being Chinese” acted indirectly on the country’s ability to implement further transformations through collaboration.
As the following section will attempt to explain, the years after the fall of the Qing empire brought new hardships (such as the 1940s hyper-inflation) and stimulated new solutions (such as the creation of a wide network of modern banks). By drawing on both the western and soviet models China tried to re-shape its country with the objective to industrialize rapidly and efficiently.
2. The years of the Republic (1912-1949) and the establishment of the Chinese Communist Party (1948)
With the establishment of the Chinese Republic after the fall of the Qing empire in 1911, Chinese modernization and industrialization gained momentum even though Beijing lacked both a strong revenue base and legitimacy. This, together with the loss of power of personnel appointment at the provincial level (due to the practice of buying office which became an increasingly popular mean to generate revenue) and fiscal decentralization, placed Beijing on “life support from foreign loans collateralized by revenues from the western-controlled bureaucracy charged with collecting customs (from IMC) and salt taxes” (Strauss,1998 and Iwai, 2004). However, this era saw the creation of Trademark laws, the increase in the number of chambers of commerce, the creation of western style corporations and a banking boom. Shanghai is a good example of this process: it saw its per capita GDP raise form 50% to 80% (Pomeranz). It is important to note that the modern banks did not replace the qianzhuang (??), private local banks, but benefited by lending money to these native banks who knew who they could safely lend money to in order to limit the risk of default. This example shows how there was a symbiosis between Chinese entrepreneurs and foreigners but it also shows how most Chinese entrepreneurs operated outside the formal sphere drawing on long standing traditions of private contracting and social networking to help resolve issues of information asymmetry and contractual disputes. Family firms and lineage based partnerships still dominated the Chinese landscape and the old patronage system remained. (Zelin, 2009)
2.1 Early stages of industrialization
After World War 1, international shipping to China was scarce because most of the goods were redirected to Europe causing a weakening of the competitive pressure from European imports which in turn spurred the expansion of domestic manufacturing. Moreover, the growth of consumer industries led to new private initiatives in sectors such as machinery, chemical and metallurgy production (Rawski, 1975). Therefore, even though foreign investors dominated the early stages of Chinese industrialization, Chinese entrepreneurs quickly caught up. As an example, the first mill set up in a “modern town” was Japanese owned, ownership then went to the British but ultimately the Chinese acquired and improved it (Pomeranz, 2012). In 1933, the boom of Chinese owned companies led to a 73% increase in of factory output (Rawski, 1989 p.74.). Consequently China’s improving economic prospects attracted trade and investment. Domestic investment grew quickly supported by infrastructure development which reduced the time required to move goods through commerce. A by-product of the new means of transportation (such as the railway) was the encouragement of coal mining which then led to, as pointed out by Rawski, falling energy costs and consequently to the “revival of native industries which had earlier languished because of the high cost of fuel” (Wright 1984, p.46). This point becomes a salient one especially if one is to take into account the research done by Kenneth Pomeranz who, by comparing England and the Yangtze delta area in China, argues that “the great divergence”, between the involution that took place both in Europe and in China in the years following the 19th Century, occurred in the former mainly because it could draw on the availability of coal resources and other raw materials brought in from the New World to spur its industrialization (Huang, 2003).
2.2 Fiscal apparatus
Key to this period are also the mutations that occurred in the money and banking sector. By recalling that the Chinese monetary system was previously composed of silver bullion, coins, copper cash and private notes (Brandt, Ma, Rawski, 2012) the transition to the use of banknotes convertible into silver (under the Chinese version of the silver standard) and a general acceptance of banknotes facilitated transactions. Moreover new types of arrangements that gave space to smaller financial institutions to trade cash and government bond for notes issued by the Bank of China and the Bank of Communication accelerated the economy wide substitution of bank notes for hard currency (Ma, 2013). As a result, by 1930, the nation-wide branch of network of Chinese modern banks extended to 500 localities and some banks began to experiment with loans to farmers as well as merchants and industrialists (Rawski 1989 p. 136,152).
With regards to financial institutions, as pointed out by Debin Ma in “Economic Growth in the Lower Yangzi Region of China in 1911-1937: A quantitative and historical analysis” the lower Yangtze delta region served as a key driver for private domestic and foreign investment. Shanghai in particular saw the growth of new financial institutions such as the stock exchange and insurance companies.
2.3 Nationalist years (1928-1949)
Even though China was able to keep its economic momentum, the years in which China was ruled by the nationalist party (Kuomintang ???) was characterized by political instability and economic stagnation and political instability. An event that characterised this era was, as an example, the 1940s hyperinflation which was mainly caused by the following reasons:
First, raising silver prices due to the fact that in 1934 the US passed the Silver Purchase act by which its treasury was instructed to buy as much silver as it could, lead to a sharp appreciation in the Chinese yuan which further expanded the amount of money required to repay its debt.
Second, in order to win the fight against the opposing communist party, the nationalists relied heavily on foreign aid. However, obtaining credit from western countries became increasingly more difficult for there was an international demand contraction due to the Great Depression (1930s).
Third, together with China’s already low per capita income, the population was induced to absorb large amounts of government debt through the purchase of bonds. This method, used heavily by the nationalist as a means of raising revenue, coupled with heavy investment made towards the development of the industrial sector and the excessive spending on the purchase of weapons from the USA, worsened wartime inflation.
The results of this were disastrous for fixed rate salary earners and caused an erosion of the support for nationalists among city dwellers. During the final year of the civil war between communist and nationalists inflation hit an annualized rate of 5,070% (Kia-Ngau, 1958).
2.4 Maoist years: 1949-1976
The economic thrust of the early 20th century left China with unevenly distributed physical and human infrastructure, administration and enterprise. Inspired by the soviet model, the China Communist Party (CCP) came to power ” with a disciplined party hierarchy to which they added a vertically integrated administrative structure that adopted a top down approach and therefore, for the first time in Chinese history penetrated to the village level” (Brandt, Ma, Rawski, 2012). This allowed the state to ensure the implementation of official directives throughout the nation without relying on the cooperation of local gentry or on other independent agents allowing for a substantial expansion of state power (Brandt, Ma, Rawski, 2012). Moreover, measures in the fiscal and monetary sector were taken to restore fiscal balance and placate the hyperinflation of the previous years.
After taking power in 1949, the first five year plan designed by the Chinese Communist Party, sought to develop and expand a self-sustaining military industrial complex which required high rates of investment directed towards the development of heavy industry rather than agriculture. The government decided to finance this effort by adopting a dual economic policy, which allocated 88% of their saving in the cities even though 84% of the population was living in the countryside. (“The First Five Year Plan”, 2015) This contributed to the creation of a huge socio-economic and cultural divide between the cities and the countryside in the long run (Rawski, 1982). It is worth noting that to create high profits for urban enterprises the government could either suppress the cost of all productive inputs, many of which came from rural areas (Lin, 2011 p.81 ) or buy the agricultural output which would then be sold at a lower price in the cities. In 1953, the state began to monopolies the purchase of grain and cotton to ensure its steady and cheap supply which then extended to other goods as well. However, rural output, which diminished also because the lowered prices curbed the peasant’s enthusiasm, could not match the demand that was being generated in the cities that were attracting more workers. This thus led to shortages in farm produce to which chairman Mao responded through the creation of economies of scale by replacing rural households in favor of collectivization of land.
Unlike in the Soviet Union, collectivization was voluntary and supported by government subsidies which, as Keating points out in her study, were given only to those who joined a cooperative thus relying on material rather than ideological incentives to spur adherence. The process of collectivization can be thought of a formalization of the mutual aid teams that came to be in the first year of the plan. These were systems by which households would cooperate voluntarily to share resources in order to enhance efficiency of production. As a matter of fact they were successful in reaching economies of scale and increasing output, an outcome which endured through the formation of primary cooperatives (Lin, 2011 p.84). The latter institutions still held voluntary participation but were larger in size and their efficiency seemed to grow relentlessly.
During the first year of the second 5 year plan (1958) the first commune opened (Lin, 2011). This new system inevitably weakened family power in favor of a new socialist aim: the greatness of China as a whole. In the same year spurred by the idea to “go forward to avoid going backwards” the Great Leap Forward took place. This was a political initiative aimed towards the development of industrial production through the intensification of labor enacted to reach the same results to that of the Soviets who were able to convert capital from agriculture towards the production of heavy industry. However the results were disastrous for China lacked the means of capital accumulation which the soviets possessed. This, together with the fact that the government, following the wrong predictions and ignoring the reality of facts, engaged in competitive target setting for grain output, inflated output figures and increased procurement targets that the communes were required to meet resulting in a massive famine which killed millions of Chinese.
2.5 Case: Sichuan development
In order to analyze the impact of the reforms conducted under Mao and to evaluate their effectiveness I will draw on two chapters (2&3) written by Chris Bramall in his book ” In praise of Maoist economic planning: Living standards and economic development in Sichuan since 1931″which analyses the situation of Sichuan in the years prior and post the Maoist reformation period.
Sichuan was a region considered rich in resources, therefore apt for agricultural production and the development of new industries such as mines and handicraft. In the 1930, with regards to agriculture, it was amongst the richest regions in the country, close to being self-sufficient on grain and became a net exporter of the good within the country reaching 13 of all interprovincial transfers by 1957 (Bramall, 1993 p.32). Because of this however, it also received less subsides from the state. Consequently, it found itself with low monetary reserves when the new policies implemented by chairman Mao focused less on the promotion of agricultural growth and more on industrialization. Because of this, people and resources were rapidly being diverted from the former sector to the latter. It is important to note, however, that Sichuan was a poor region, as measured by the average household spending on food. Engel’s curve proves that as a bigger proportion of income is spent on food the poorer one is, and by that, Sichuan ranked amongst the least wealthy regions (Bramall. 1993 p.35). Furthermore, the methods and technologies used in agriculture were not modern but rather outdated therefore it might be that the diversion of knowledgeable human labor to the industrial sector and the arrival of unskilled youth during the cultural revolution, contributed to the decline in agricultural productivity witnessed during the 5th five year plan which began in 1976. This decline then obliged Sichuan to become a net importer of grain.
With regards to the industries present in Sichuan during the 1930, it was estimated that their contribution was roughly 2% of the nation’s GDP. Therefore, when compared to the levels reached in the following years (1952-1978) a 9% growth rate in real industrial output might be a sign of good policy implementation (Bramall, 1993). More specifically since the 1950s, Sichuan was able to not only to further increase industrial output but to start creating a new industry of its own – chemical fertilizer – in which it outperformed the Chinese average output (Bramall, 1993 p.42). Overall, Sichuan transitioned from an agricultural intensive region to an industrial site.
In 1964, with the Third Front Campaign, large capital investments (40% of capital construction budget) and resource reallocation from the richer regions (coast and east) to the poorer ones (inner and west) were set in place with the objective to create heavy industrial plants, secretive weapons factories, railroads, roads, and water conservancy projects (Pomeranz, 2012). By focusing on these apparatus, surplus capital was re-invested in the same sector. One of the consequences was that Sichuan and the other regions in the third front became producer good providers rather than consumer good providers. However, the complementarity of the two sectors worked well in the general economic picture. Moreover, by recalling that consumption in Sichuan did not stagnate, there is evidence to state that a new type of knitted and decentralized economic structure was being created in a similar fashion as that that was standing during the Qing dynasty. However, it cannot be denied that the industrial sector in Sichuan lagged behind the national average and in particular, below the industrial sector formed in the eastern part of China (Bramall, 1993 p.50). This might be caused by the fact that the region did not possess a strong infrastructural base – such as roads and waterways – necessary for industrial growth. As a matter of fact, infrastructure seems to have developed almost at the same time with the building of industries (Bramall, 1993). Therefore, the presence of an unskilled workforce, poor management and technological backwardness impeded the region from performing at its maximum potential. However, during 1952-1959 (prior to the third front campaign), industrial output quadrupled and continued to grow as labor productivity grew at a rate of roughly 3% a year (Bramall, 1993 p.34). Though in the 1960 unemployment in the countryside grew and the people living there could not switch jobs nor migrate a socio political divide between the urban and rural areas began to form. Therefore, it appears that the Party was creating the right instruments to pursue its objective of improvement in living standards and industrial production and with respect to the latter, though below national average, Sichuan was not an outlier within the general trend.
On the other hand, with regards to living standards measured by looking at birth and survival rates, Sichuan did not show a positive trend during the Maoist years however the situation changed in the 1970s. Expenditure on food made up a large percentage of household income, indicating that the per capita income was quite low, but overall food consumption seems to have been declining between the Republican and 1970 probably due to the rationing of food a system that was put in place to avoid malnutrition. Even though consumption diminished, people still met their food requirements. Moreover, the fact that during the late Maoist period Sichuan’s industrial output made up 29% of Chinas’ GDP (measured in relative prices) indicated that this sector was employing more and more people who could lead a less physically intense lifestyle and therefore required less calories (Bramall, 1993). By the same token, because of the cultural revolution which forced young Chinese to work in the countryside, the number of people working in agriculture also rose and by having more people working the same amount of land, the physical activity diminished in this sector as well leading to lower calorie requirements.
2.6 After Mao
During these years, though arguably not the best performing ones, the foundations for the economic boom of the 1980s was set. After the death of Mao Zedong in 1976, Deng Xiaoping took the lead of the country as Vice Chairman of the Communist Party of China. With him the Four Modernizations – agriculture, industry, science and technology, and national defense – were put at the top of the country’s’ agenda (Ebrey, 2010). To ensure commitment to the reforms he wished to enact, which leaned towards more capitalist philosophies which Chinese did not welcome, he made sure that the party’s ability to retain its power would not be threatened as he began distancing itself from purely ideologically based practices. He referred to this model as “Socialism with Chinese Characteristics”. Perhaps aided by his political background which included being the mayor of Chongqing – one of the largest urban centers in Sichuan- during the early Maoist years, he focused on the opening and reforming China. From an economical point of view, he began to introduce a centralized management of the macro economic factors controlled by technically experienced bureaucrats and, in a more general sense, favored effectiveness over ideology. Under his lead, China, which had already built basic infrastructures during the Maoist years, began a process of de-collectivization of agriculture, the opening-up to foreign investment, permission of entrepreneurship, the creation of a private sector and the intensification of state monopolies which led to a yearly GDP growth of roughly 9.5% (Pomeranz, 2012) This astonishing result, together with the sharp decrease in households living in poverty are both the result of well-planned reforms but also of those implemented previously.
Under Mao Zedong, governmental efforts were mainly directed to the development of heavy industry with, as an example, the financing of programs such as the Third Front Campaign. However, in order to successfully create such structures large capital resources and technology were required. This constituted a problem for China, as most agrarian economies did not possess the capital surplus required for such investments and because it had to import most of the technology from foreign countries. The latter constituted a problem insofar as foreign exchange resulted expensive and the state lacked foreign reserves (Lin, 2011). Moreover, the socialist model which was implemented meant that in order to ensure that the population had access to basic necessities it needed to artificially drive the price of goods down whilst rationing the amount conceded. This led to shortages due to an excess of demand over supply. In particular on the supply side it is also worth remarking that land was beginning to be used for industrial needs and not for agriculture, limiting the amount of arable land available.
In contrast to the Maoist years, Deng Xiaoping brought about reforms directed towards the creation of what is now known as “socialism with Chinese characteristics”. He focused his attention on “picking up with the west” and shift from a planned economy (in which resources were allocated through governmental directives rather than by market competition) to a market economy. This was accomplished through two phases: The first (after 1976) focused on the de-collectivization of agriculture, opening up to foreign investment and incentivizing of entrepreneurship (although most of the industries remained State Owned Enterprises ( SOEs)). The second stage (which ended roughly in the 1990s) saw the privatization of many SOEs, the loosening of price controls and protectionism and the growth of the private sector which reached, by 2005, 70% of China’s GDP (Engardio, 2005).
3. Deng Xiaoping reform era
To avoid the economic fluctuations that accompany rapid economic liberalization, China engaged in a partial reshaping process by which the state still held a central role whilst allowing for more market oriented policies. However, according to neoclassical economic thought, an efficient market requires defined property rights and minimal transaction costs (Coase, 1937), both of which were lacking in China. To this regard, I will briefly touch upon the real estate bubble of 1992-1993 to show how, as pointed out by Yueh, the initial reforms focused mainly on SOEs, land rights and housing, and not on the instauration of a strong regulatory body.
3.1 Land rights
Key to this period is the separation of use rights from ownership rights and the idea of charging land use fees. Even though this initially did not create a real and proper land market as did for labor and crops (Rithimire, 2015), the fact that land use rights could now be transferred spurred an over-construction spree which resulted in the formation of a real estate bubble. Moreover, under the 1998 Land Law the Chinese state was declared the owner of the land, but it was deliberately vague in its wording with regards to who the state was, and thus to whom the land lease fees would accrue. This was clarified later on (late 1990s) by giving local governments exclusive ownership rights over land and therefore the ability to generate revenue directly from land leasing (Rithmire, 2015)
The decentralized control over tax revenues, which had previously helped Township Village Enterprises to gain strategic advantages, and the revenue sharing principle by which the administrative hierarchy determined the share of tax revenue to which each level of government would be entitled to (allowing them to retain revenue in excess of the quota) and the share it would send up to higher ranks, led to an attenuation in central power in terms of both its extractive ability and its capacity to direct investment and growth policies (Rithmire, 2015). Beijing had, as a matter of fact, surrendered control on the fastest growing sector of the economy whilst engaging in high patterns of spending and found its own revenue insufficient to channel investments towards the rectification of regional imbalances and unable to outmaneuver local governments (which saw a sharp increase in revenue) (Rithmire, 2015). Consequently, in the period between 1992 and 1993, China witnessed high levels of inflation driven mainly from real estate (Rithmire, 2015) to which the central government responded by contract lending for fear of oversupply and under construction.
The 1992-1993 bubble was blamed on China’s decentralized financial system, the presence of low barriers of entry in a sector that created overinvestment and the fact that land development and land supply were left to market actors which created distortions that endangered the efficiency of urban plans for infrastructure and land use (Rithmire, 2015). It is worthwhile noting that the financial and real estate sectors were new to China and neither had appropriate regulation and supervision. Moreover, there was a general lack of control over the amount of credit available to real estate firms.
In the year following the real estate bubble (1993-1994), re-centralization of fiscal revenue (which was not accompanied by a recentralization of expenditure burdens) was set in place. Big shares of spending and revenue generation remained the responsibility of local governments whilst township and village enterprises (TVEs) were privatized in mass. By 1994 with the first drafting of the urban real estate management law, the municipal government was enlisted as a landowner (Rithmire, 2015). By removing other sources of revenue from local municipalities the central government hoped to generate efficient market based land use and at the same time recentralize its extractive power over taxation.
3.2 Fiscal and State Owned Enterprises
In line with Deng Xiaopings’ efforts to develop a new form of marketed socialism, Zhu Rongji took measures to restructure China on various fronts. By pushing policies directed towards the opening up to the west, the state realized that in order to attract foreign direct investment it needed to create the right mechanisms through which it could be generated (Yueh, 2013) To this regard, the opening of Special Economic Zones were crucial for they served the aforementioned purpose without destabilizing Chinese private businesses (Huang, 2003). In this context joint ventures and mergers and acquisition agreements between private enterprises became increasingly popular.
By the late 1990s the strategy known as “grasp the large and let go of the small” was enforced with the objective of downsizing non essential SOEs and the incentivizing of managers to base salaries on performance (Schell & Delury, 2013). This was an especially important event because these firms had been the stronghold of the party in the 1920s and had never before been under pressure to minimize cost as they were seen as key institutions both in terms of their contribution to industrial output which reached 77.6% in 1978 (Yueh, 2013) and because of its role as a social safety net. By adopting such measures, oil, banking and electricity enterprises were consolidated into state monopolies (state owned 51% of stock and had, therefore, controlling interest) whereas the other enterprises such as the textile ones, were privatized or sent bankrupt through the cheap sale of their assets (Pomeranz, 2012 . These measures did not damage the Chinese industrial output at the time for it was able to compensate this maneuver by the positive turnout of the private sector. Moreover, in 1993, door were opened for selected State Owned Enterprises to list on overseas stock markets in order to use strengthen their financial base.
Simultaneously and, in particular, after the 1997 Asian Financial Crisis, measures to restructure China’s four state owned banks were promulgated for they had accumulated large amounts of dollars in bad debt due to non-performing loans generated through the practice of intensive lending to unprofitable SOEs (Walter, 2012). To tackle this issue asset-management companies were created (one for each bank) to absorb these banks’ bad loans through a restructuring of their balance sheets. This led to short-term positive results for China witnessed both an increase in trade and foreign direct investment (Pomeranz, 2012).
The economic liberalization process which began in the 1980s reached its peak with the entrance to the World Trade Organization in 2001. By this, not only was China committing itself toward the irrevocable opening up of its borders but it was able to attract, by 2010, US$100 billion through foreign direct investment (Walter, 2012, p.6).
From the previous Canton system (1757-1842), put in place to control the incoming of foreigners into China, to the “treaty ports” after 1942, to the creation of SEZ in 1978 and the subsequent entrance to WTO in 2001, China’s relationship with foreign powers has intensified and has influenced its internal structural changes. From the 1850s, through a gradual and scattered pattern of transformation, China was able to shift from an agrarian based economy to a commerce based one with the support of the whole nation through the above mentioned “Chinese identity”.
Indicators of Chinese economic performance (Purchasing Power Parity and GDP per capita) clearly shows how the changes that modeled the Chinese system have been successful in that they have enabled it to become a key trading partner in modern days. This however does not come without difficulties for China still needs to be weary of the economic fluctuations that accompany rapid growth, needs to establish a strong regulatory body and needs to deal with issues regarding climate change urgently in order to remain at the forefront of the global economy. From the analysis made in this paper by which we saw how China was able to create institutions such as modern banks, chambers of commerce, western style corporations and mutated its fiscal structure to meet the needs of the times, I believe that it will be able to adapt to today’s challenges.
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