As Easy As 1, 2, 3

Only two years after Mao’s death in 1976, Deng Xiaoping’s call for a transition to a “socialist market economy” was met with widespread enthusiasm. Though everyone knew pure communism had failed, everyone also knew they couldn’t embrace the open market overnight—it had to be done slowly and deliberatively. The period from 1978 until the present day can be divided into three phases:

First Phase: 1978-1984

The first important step during this initial period was to allow the managers of the State Owned Enterprises (SOEs) increased, albeit still greatly limited, autonomy. They just had a little more say in the allocation of the SOEs profits, as well as their production targets.

I think that a brilliant innovation by the Chinese government during this time was their dual-pricing system. Here’s an example to illustrate how it basically worked. Lets say we’re running a TV factory; the Man has given us a certain production quota we must meet, and the TVs within that quota must be sold at a certain price. If we produced any TVs above and beyond that quota, however, we were free to sell them at whatever price we wished, or in other words, the market price. This sort of system allowed for a relatively smooth transition from planned prices to market-based prices.

Second Phase: 1985-1993

During this time, further independence was granted to the SOEs—the idea was to transition them into independent economic entities. Additionally, private business flourished; their comparative efficiency revealed the weakness of SOEs.

One problem during this time came as a result of the “contract responsibility system.” Under this system, managers signed 3-5 year contracts with the relevant government agencies, and simply reported to them; this was good because it further separated the actual management of the SOEs from the ownership of the government. However with such short contracts, firms tended to be overly focused on short-term goals rather than long-term.

Other big steps during this time was the expansion of shareholding companies, as well as the listing of large SOEs on the stock market, allowing them access to external sources of funding.

Third Phase: 1993-Present

During this phase, the reform goal became setting up a Modern Enterprises System, or in other words, transforming SOEs into modern corporations. This can be further explained by a series of catch phrases:

“Do some things, leave some things undone,” “Some develop and some recede,” and “Manage large enterprises while easing control over smaller ones.” As can be gathered from these slogans, the general idea was for the government to focus on the large, strategic, industries, while leaving everything else to the market—to put some numbers to it, the government is focusing on the top 1000 SOE’s which account for about 40% of total assets in the economy. For example, currently power and cell service is provided through the state, while clothes and dining are not.

From 1993 on, economic reforms were much more systematic and fundamental. They have also been extensive, including reforms in property rights, SOEs, factor markets, prices, goods distribution, social security, foreign trade, and government functions.

Privatization also commenced on a mass scale during 1995; by the following year, over half of small SOE’s had been privatized.

Result?

Over this time period, from 1978 until this minute, China has averaged a 9.8% annual growth rate. It is absolutely unreal how well these policies have worked.

Moving forward, there has been much speculation that perhaps China’s growth is about to hit a plateau. This is of course more than possible, but in my opinion my current host country has quite a bit of “easy” development left in it, for the following reason: it seems that most of their growth has come from a combination of privatizing SOE’s and liberalizing those that the government retained control over. The privatized companies have been flourishing, while the liberalized SOE’s are doing better. In spite of this however, the SOE’s performance is lackluster compared to their privatized counterparts; The Economist had an article about this recently, how SOE’s overall performance has been unimpressive at best. I think that if they stay the course, if the government stays disciplined in it’s pattern of letting control of their own economy go, then China will continue growing spectacularly for many years yet.

(Source: Professor Mao Zhongming)