CHINA'S ECONOMY AFTER FIFTY YEARS: RETROSPECT AND

PROSPECT

Thomas G. Rawski

University of Pittsburgh

September 1999

As the People's Republic of China celebrates its fiftieth anniversary, economists

look back on a remarkable kaleidoscope of events and policy shifts that, despite
episodes of vast suffering and waste, have brought enormous material benefits to
China's teeming masses. The economy inherited by China's new Communist
leaders in 1949 was overwhelmingly agrarian, ravaged by twelve years of warfare,
and wracked by hyperinflation. Despite the strains imposed by China's participation
in the Korean War, the new government quickly resolved difficult short-term
economic obstacles and embarked upon a long-term process of socialization and
development.

China's experience of socialist planning, which roughly coincides with the period
from 1949 until the death of Mao Zedong in 1976, left a mixed economic legacy.
Like other socialist regimes, China's new leaders poured resources into activities
and industries linked to the expansion of national power. Production of steel,
machinery, and building materials multiplied prodigiously. China succeeded in
fabricating nuclear and thermonuclear weapons. Although these advances relied
initially on technical and financial support from the Soviet Union and its East
European allies, China's success in penetrating new industries and mastering new
technologies following the withdrawal of Soviet aid demonstrated that a succession
of Five-Year Plans had propelled China to a new level of development.

In addition to steel and locomotives, socialism delivered important material

benefits to China's citizenry. Although economists are still struggling to map out
the exact dimensions of national product and other economic aggregates,
demographic figures tell a remarkable story of improved welfare. Comparison of
the census results for 1953 and 1982 shows that average life expectancy rose from
just over 40 years to nearly 70 years during less than three decades. The census
figures, especially for 1953, are hardly precise, but there can be no doubt that
Chinese socialism produced large gains in life expectancy and, furthermore, that
these gains were not confined to China's (relatively) prosperous urban minority, but
extended to the farm populace as well. Chinese socialism anticipated the World
Bank's strategy of emphasizing providing "basic needs" to entire low-income
populations as a foundation for socio-economic development.

These gains, however, came at a high cost. The "Great Leap Forward," a series of
political campaigns that disrupted normal economic life during 1958-60, triggered
an immense famine that may have claimed 30-40 million lives. Shortly after
China's economy recovered from this cruel blow, Mao Zedong unleashed a fresh
barrage of political campaigns, known as the "Cultural Revolution," which again
dislocated economic life, although less severely than the "Great Leap."

We must add to these episodes of largely self-inflicted damage the toll of stifled
incentives, productivity shortfalls, and wasted resources inherent in any system of
central planning. "Storming" or "shock work," in which enterprises race to fulfill
monthly, quarterly, or annual plans creates a peculiar (and costly) pattern of
seasonal output fluctuations that two decades of reform have failed to eradicate.
Excessive vertical integration is another hardy legacy of the plan system. Suppliers
are least reliable as important deadlines approach -- because their attention is
focused on satisfying their own plan requirements -- so firms and agencies struggle
to create captive suppliers. These efforts cumulate to vast and costly duplication of
component manufacture, repair services, even whole networks of schools and
telecommunications.

Growing awareness that economic growth among China's East Asian neighbors had
far outdistanced China's economic achievements contributed to muted but
widespread dissatisfaction with China's economic performance. The extraordinary
economic gains of Taiwan and Hong Kong, both with large populations of recent
migrants from China, were particularly galling. Many Chinese found themselves
wondering why their supposedly superior socialist system lagged far behind the
achievements of nearby Chinese populations laboring under the burdens of British
colonialism or the defeated remnants of China's prewar Kuomintang government.
As one Party official put it: "just because we are socialist does not mean we must
remain poor!" These sentiments made many Chinese highly receptive to Deng
Xiaoping's reform slogans that targeted ideological rigidities ("Black cat, white cat,
who cares as long as it catches mice?") and egalitarian preoccupations ("Let some
people get rich first").

In reviewing the astonishing outcome of the economic reforms begun during the
late 1970s, it is essential to recall their modest scope. The initial reforms included
three components. China's reform leaders allowed impoverished localities to
experiment with household farming. This innovation spread like wildfire, evidently
because most Chinese farmers welcomed the chance to escape from collective
agriculture. By the time China's leaders formally ratified the "household
responsibility system," local initiative had transformed the vast majority of Chinese
farmers into tenants who now leased plots from local collectives.

A second reform exposed China's largely autarchic economy to expanded flows of

international trade and investment. Policy initiatives were initially confined to four
"Special Economic Zones" in the southern coastal provinces of Guangdong and
Fujian. The minute scale and remote (from Beijing) location of these zones
suggests that the initial phases of China's "Open Door Policy" aroused sharp
controversy within China's policy elite.

The urban industrial sector was the third item on China's early reform agenda.
Again, the policy initiatives were small and hesitant. Industrial firms were allowed
to retain a modest share of profits as an incentive device to "enliven state assets."
Limited market allocation of industrial inputs and products was then initiated to
provide an outlet for retained profits.

The agricultural reforms were an instant success. Massive (and completely

unexpected) output increases raised farm incomes and improved the diet (and hence
the energy and productivity) of millions of farmers. Rising farm output swelled
exports and curtailed food imports, eliminating long-standing concerns over the
adequacy of foreign exchange supplies. The farm boom disgorged new supplies of
materials (grain, cotton, sugar, fruit, etc.) and revealed vast surpluses of rural labor.
Together with rising rural demand and increased access to urban markets and
expertise, these changes fueled an explosive boom in rural industry.

The trade initiatives, like the farm reforms, delivered results that dwarfed all
expectations. Initial prospects seemed limited, especially because the managers of
Chinese special zones, unlike their counterparts in Taiwan, the Philippines and
elsewhere in Asia, had little knowledge or experience of the international economy.
However the establishment of Chinese special zones coincided with growing wage
pressure on labor-intensive exports originating in Taiwan and Hong Kong. The
fortuitous combination of abundant Chinese labor with the technical knowledge,
managerial skills, and market experience of Hong Kong and Taiwanese
entrepreneurs propelled China's trade reforms with astonishing force, and
transformed China from self-imposed isolation into the developing world's largest
recipient of foreign investment. Reforming agriculture was comparatively easy - it
required only that farmers be assigned plots and freed from official directives.
What was special about the special zones was their exemption from standard
regulations. Urban reform was far more complex. Unlike the farm sector, vast
swathes of the industrial economy were creations of the plan, with no experience of
independent market operation. Furthermore, urban reform cuts to the core of
Chinese socialism, which, despite its rural background, has long focused its
attention on the development of cities and the welfare of urban residents. Since
Chinese leaders entered the reform process with no clear objectives other than
vague notions of improved economic performance, and since entrenched Party and
bureaucratic interests eliminated any possibility of sweeping reform, the
transformation of China's urban, industrial economy was of necessity a lengthy
process.

It is this process that has spawned the distinctive features of Chinese reform.
Although economists now recognize that market-oriented reform must be slow and
gradual, many initially believed that instant reform was both necessary and
feasible. As an International Monetary Fund publication famously observed:(1)

Ideally, a path of gradual reform could be laid out which would minimize economic
disturbance and lead to an early harvesting of the fruits of increased economic
efficiency. But we know of no such path..."

China's gradual reform, which delivered "the fruits of increased economic

efficiency" on a scale that eclipsed the achievements of even the most successful
bits of the former Soviet Union and its erstwhile European satellites, flummoxed
orthodox economists, who cannot comprehend China's success in extracting good
outcomes from flawed institutions and policies.

Whatever China's economic future holds, there can be no doubt that two decades of
economic reform delivered immense material gains. Every conceivable indicator of
economic well-being: income, output, exports, employment, productivity,
longevity, height, and weight, shot upward. Never before has economic growth
boosted so many humans out of dire poverty. China's recent economic gains
represent a significant event in world macroeconomic history.

The question of how these changes evolved will fascinate generations of

economists, not simply because of the scale of material gains, but because China's
reform experience permits researchers trace the expansion of market structures, the
penetration of market forces, and the impact of market culture with a depth and
precision that economic historians can rarely attain.

We see many illustrations of market forces at work. Of particular interest is the

remarkable emergence of "socialist market economy" as the reform objective of
China's government and Communist Party.

The novel spectacle of Communist leaders championing the market system is

clearly a result of intellectual shifts arising from the experience of economic
reform. The career of Chen Yun illustrates the rapidity of change. Mr. Chen, a
veteran Communist who had long specialized in economic affairs, compared
China's planned economy to a caged bird. Without suitable expansion of the cage
(of planning), the economy could not spread its wings. In the early days of reform,
this analysis made Chen Yun into a somewhat daring reform guru. By the time of
his death in 1995, Mr. Chen had become a hidebound conservative, not because his
own views had changed, but because the elite perspective on reform objectives had
moved far beyond the timid explorations of the 1970s.

The present consensus on the evolution of Chinese reform focuses on a sequence of

policy initiatives, decentralized responses, and official reactions. At the outset of
reform, China's leaders had no clear vision for China's post-reform economy. In
addition, China's planned economy was relatively decentralized, with provincial
and local leaders enjoying greater authority and control than in the Soviet Union.
As a result, central reform initiatives focused on enabling measures that broadened
the opportunities and choices available to enterprises and lower-level governments
rather than enforcing compulsory measures. Thus China did not eliminate price
controls, but gradually raised the share of sales transacted at market prices. Instead
of privatization, we find a growing range of firms issuing shares. Production
planning did not vanish, but its span of control gradually contracted.

This open-ended approach invites decentralized reactions that the center can neither
anticipate nor control. The steep decline in government's share of national product
illustrates the importance of unforeseen outcomes. Governments at all levels
become participants, sometimes even followers, as well as leaders of reform.
Reform unfolds as a process replete with interactions among governments,
enterprises, workers, and consumers rather than a sequence of events in which the
state makes decisions to which businesses and individuals react.

The heterogeneous nature of China's pre-reform system meant that the impact of
central reform initiatives was far from uniform. The uneven effect of enabling
reforms destabilized outcomes and intensified competition. Competition reduces
profits. In socialist China, government agencies and state-owned enterprises, which
controlled the bulk of capital assets, suffered mightily. Some enterprises reacted to
financial pressures by developing new products, trimming costs, and raising
productivity. Others bombarded their official sponsors with claims of "unfair
competition" and pleas for financial assistance. Supervisory agencies, themselves
short of funds due to slow growth of their own revenues from profits (or taxes on
profits) often found it easier to respond with further reform initiatives than with
cash. Thus a coal mine complaining that it lacked sufficient funds to meet its wage
bill might be allowed to raise the proportion of its output sold at (high) market
prices.

Chinese reform thus created a "virtuous cycle" that enabled myriad small reforms
to cumulate into enormous institutional change. Reform expanded competition and
created financial pressures that spurred some participants toward innovation,
resulting in further intensification of competition. Even when financial pressures
resulted in lobbying (rather than innovation), the typical response involved further
partial reform, which meant further intensification of competition, and so on.(2)
How far has this reform process pushed China in the direction of a full market
system? Here is a brief scorecard:

Product markets are now governed primarily by market forces. Major distortions
of relative prices, such as the long-standing underpricing of energy and industrial
materials, have virtually disappeared. Even in sectors dominated by state
enterprises, sales, prices, and profits respond to national and global market trends in
ways that exactly parallel observations from market systems. Thus we read that
"China's steel imports skyrocketed" because of "the plunging price of steel products
on the international market"(3) and that "diesel fuel prices have risen to their highest
level" following "the reduction in diesel fuel imports" after "prices on the
international market . . . reached their highest point" in several years.(4) Official
intervention, although still common, now attracts vociferous opposition from free-
market advocates. When government sought to curb deflation by imposing impose
minimum prices, critics argued that "the true danger"comes not from price-cutting,
but "from all forms of monopoly under the backing of administrative power singing
enticing tunes like 'safeguarding the normal market order'."(5)

Allocation of services. Gradual reform has cumulated into extensive

commercialization. Housing, education, health care, telecommunications, transport,
wholesale and retail trade, meals, entertainment, personal care, banking, finance,
insurance, law, and accounting -- all formerly the exclusive province of systems
controlled by government officials and state enterprises -- are increasingly available
through parallel networks of market-based suppliers accessible to anyone willing to
pay the going price.

Labor markets, long viewed as a lagging segment of Chinese reform, have

expanded rapidly during the late 1990s. The emergence of mass layoffs in state
enterprises, steeply rising unemployment among previously tenured urban workers,
virtually uncontrolled mass migration of rural workers seeking non-farm
employment, the rise of private business as the largest source of new formal
employment, and a large and growing differential between women's and men's
wages illustrate the penetration of market forces.(6) The depth of official
commitment to market outcomes is evident from advice offered during the spring
festival holiday season by the Minister of Labor and Social Security, who
encouraged state enterprises "afflicted with the scourge of low efficiency and
surplus employees" to "lay off redundant labourers to pull the companies out of the
quagmire."(7)

Allocation of ownership rights. Restructuring of ownership rights via merger,

divestiture, bankruptcy, or liquidation of corporate assets is a central component of
any market system that hardly existed in China's pre-reform economy. The scale of
property-rights transfers remains modest, with annual volume of perhaps RMB 1
billion in the late 1980s and RMB 10 billion during 1990-1995. Yet shareholding
corporations, which accounted for only 5.5 percent of industrial assets in 1995,
contributed 44.2 percent of the reported asset transfers in that year.(8) With the
proportion of assets held by various forms of shareholding entities rising steeply,
we may anticipate rapid major expansion in the frequency and scale of property
rights transactions.

Technology. China has achieved great strides toward commercialization of

research, development, and technology transfer. New patent and trademark systems
provide rudimentary protection to entrepreneurs. Research institutes and
universities face stringent financial pressures that compel efforts to produce
marketable products. Despite well-documented complaints about theft of
intellectual property rights, we now see that contractual transfer of specialized
equipment, proprietary technologies, blueprints, and knowhow across China's
international borders, provincial boundaries and administrative systems have
become routine features of commercial life. Success stories associated with
companies like Haier (appliances), Changhong (televisions), and Baosteel
demonstrate that Chinese firms can acquire new technology and use it to improve
product quality and enhance their domestic and international competitiveness.

Market-supporting institutions. Chinese newspapers and journals are filled with

information about the (often incomplete) development of market-supporting
institutions, which have expanded immensely over the past two decades. The legal
system illustrates this history of massive, though uneven progress. China's
legislatures, long dismissed as "rubber stamp" bodies, continue to expand their
influence and power. Legislative seats, previously regarded as devoid of influence,
are fiercely contested. Legislators regularly challenge, and occasionally reject
official reports and proposals. The courts, formerly meek recipients of government
and party instructions, display growing independence. Business periodicals inform
readers about contracts and lawsuits, evidently because managers and entrepreneurs
increasingly require such knowledge in their everyday work. Demands that
government itself submit to the "rule of law" now come to the fore, as legislators
contemplate measures that would "require government officials to meet . . . legal
standards" and People's Daily intones that "All are equal before the law. . . . No
government department or worker has the privilege to supersede the Constitution or
the law. All must follow the law. . . and accept the supervision of the people's
congresses. . . "(9)

Capital markets also appear to have progressed toward market operation. China
now boasts new exchanges for stocks and bonds. Banks, while not fully
autonomous, now treat many clients on commercial terms. The combined share of
official grants and domestic bank loans in investment finance, which might provide
a crude measure of official involvement in capital allocation, is surprisingly small -
just over one-fourth in the state sector and less than one-sixth elsewhere.(10)

With more than three-fourths of investment spending funded through retained

earnings, share offerings, bond issues, inter-enterprise transfers, individual
subscription, foreign borrowing, and direct foreign investment -- channels that
respond primarily to profit expectations, investment appears to qualify for the list
of economic categories in which market forces prevail. This impression turns out to
be mistaken. Indeed, limited reform of investment spending emerges as the chief
source of China's present economic difficulties.

Evidence that investment behavior remains largely unreformed comes from three
categories of economic statistics: seasonal fluctuations, profit rates, and capacity
utilization. Chart 1 shows quarterly GDP figures (including some projections), in
current prices, for 1995-1999. The data reveal a pattern of enormous seasonal
fluctuations. We see that the world's fastest-growing economy actually grows only
half the time -- GDP plunges during the first three months of each year and
stagnates during the third quarter. No market economy produces fluctuations of this
magnitude. United States data going back to 1875 show that quarterly GDP
fluctuations are limited to plus or minus nine percent.(11)

[insert chart 1 about here]

There is nothing mysterious about the fluctuations revealed in Chart 1. The

seasonal profile is typical of a socialist economy driven by planned investment. The
socialist calendar is punctuated with regular bouts of "storming" or "shock work" as
firms and government agencies rush to meet plan deadlines. Indeed, backward
extension of the data in Chart 1 (not shown) reveals that seasonal fluctuations
during the reform period are no different from those experienced under China's pre-
reform plan system. These matters offer few mysteries to Chinese economists:

Many basic components of a 'pure' market economy are still in their incipient stage
in China, although market-oriented reform started two decades ago. Government-
guided investment mechanisms, a State-controlled banking system and dominant
State-owned enterprises. . . still run in a framework molded primarily on the
previous planned economy.(12)

Anyone who visits China or reads Chinese publications encounters frequent

reference to capital scarcity. Elementary economics teaches that if capital (or
anything else) is scarce, profits will be high for the lucky few who gain access to
the scarce resource. But profit rates in China have fallen almost continuously for
the past two decades. The tribulations of state enterprises are all too familiar. But
we also observe steep declines in the profits of rural collective industries, where
after-tax profit rates plunged from above 20 percent of total capital during 1978-82
to less than 10 percent in nearly every year since 1987.(13) The unexpected
combination of scarce capital and falling profit rates offers added evidence of
serious defects in China's capital allocation mechanism.
Chinese investment spending may generate weak financial outcomes, but what
about product flows? Here again, we encounter unmistakable evidence of difficulty.
In 1995, the utilization rate for China's steel refining capacity, which then
amounted to 169 million annual tons, was only 56 percent.(14) Even though output
never came close to 1995 capacity, new investment pushed refining capacity to 190
million tons, nearly double the expected 1999 output of 104 million tons.(15)

This history of excessive investment recurs in sector after sector: steel, glass,
cement, chemicals, machinery, motor vehicles, fertilizer, textiles, garments, beer,
cameras, film, appliances, paper, coal, oil refining, and many others. Evidence that
industrial investment projects often fail to produce commodities as well as profits
underscores the extent of capital misallocation. The magnitude of waste --
including roughly 100 million tons of excess capacity in both steel refining and
cement manufacture(16) -- far exceeds anything that might be attributed to
individual incompetence, theft, or fraud. After two decades of market-leaning
economic reform, why does China continue to direct vast quantities of investment
funds into ill-considered projects?

Chinese analysts and external observers point to a number of institutional factors,

such as soft budget constraints and "investment hunger." There is also a long
history of negative real interest rates, which make it profitable to attempt projects
with low payoffs. But none of these factors can explain either the scale of mis-
allocation or its persistence throughout a reform process that has hardened budget
constraints, denied investment funds to growing numbers of weak firms, and, most
recently, produced steep increases in real interest rates.

The influence of government administrators over investment decisions stands out

as the most likely explanation of long-standing low returns to capital. At the macro-
level, government agencies use annual investment and credit plans to control the
size of overall investment. And at the micro-level, efforts to expand the
independent management capabilities of enterprise managers and bank executives
have failed to eliminate the key role of government offices in investment decisions.

While government agencies value profits, which remain the leading source of tax
revenue, many other motivations influence their view of investment alternatives.
China's provinces lay out development plans that specify future economic structure
in great detail. Governments at all levels attempt to direct resources into "pillar
industries" and "key projects" that often have no visible economic rationale.
Officials may support projects to create or preserve employment, to stave off
bankruptcy or closure of important client enterprises, or to advance regional or
ministerial priorities. Political motives often come into play, as when officials
ordered the rebuilding of stonework to remove designs that happened to resemble
symbols associated with the banned Falungong movement or when Beijing
welcomed "the completion of five new office projects in celebration of the
50thanniversary of the founding of the People's Republic of China" even though a
surplus of office space, with a 30.2 percent vacancy rate at the end of 1998, meant
that "they are unlikely to be sold or rented out in the short term."(17)

These matters are well understood by Chinese economists:

It is widely recognized that the root cause for the low efficiency of China's
economy lies in overly duplicated industrial structures and overflowing similar
products. . . . Behind the duplicated industrial mix is a diseased investment
decision-making mechanism. Most investment projects are funded not based on
an investors' pursuit of profit maximization, but on administrative
power [sic].(18)

Despite China's impressive economic accomplishments of the past two decades,

information about seasonal fluctuations, declining profits, and excess capacity
shows that China's reforms have not yet altered crucial features of the traditional
socialist system. China's economy is in trouble, and it is these socialist legacies,
and not the Asian financial crisis, which underlie China's current economic
difficulties.

After two decades of astonishing high-speed growth, the growth rate of China's
economy has fallen sharply. The magnitude of the fall-off in growth is obscured by
a wave of statistical falsification ignited by the government's 1998 campaign to
achieve 8 percent growth. Zhang Sai, a former head of the State Statistical Bureau,
commented that "the challenge of keeping statistics accurate was particularly
difficult" in 1998.(19) Another account, obviously referring to the 8 percent growth
target explains why:

Some of the targets that come down from the higher levels are objectively
impossible to reach. . . . The plan targets or indicators have no possibility of being
realized from the very day they are sent down. The plan indicators that are based on
the requirements sent down by the upper levels in reality are forced on the lower
level statistical figures and then returned upwards in the documents.(20)

Although no Chinese economist has openly challenged the reported growth figures
for 1998, the appearance of terms like "glut" and "depression," along with
occasional comments such as "per capita income in urban and rural areas continued
to fall in the first quarter of [1999]" indicate widespread skepticism about recent
official growth claims.(21) Pending a detailed reconstruction of recent statistics, it is
clear that the range of possibilities must include growth amounting to less than half
of official claims of 7-8 percent output gains for 1998 and 1999.
Many commentators attribute growing signs of weakness in China's economy to the
impact of the Asia's 1997 financial crash. While the 1997 crisis certainly is
responsible for halting the growth of Chinese exports and of incoming foreign
investment, labor figures show that China's capacity to create new employment,
which reached unprecedented levels during 1990/95, suffered a dramatic drop-off
in 1996.(22) Formal employment declined in 1997 and again in 1998, with more to
come as China's factories, mines, banks, railways, and government agencies
continue to place redundant workers on semi-paid furloughs (xiagang) and begin
the delicate process of cutting ties with formerly tenured staff now languishing on
extended furloughs.

The accumulated effect of wasted investment is the principal cause of the collapse
of job creation. Every economy wastes resources. The experience of Japan and
Korea illustrates the capacity of dynamic economies to sustain rapid growth despite
massive waste. Assigning valuable resources to occupations that deliver no returns
effectively partitions the economy into two components, one dynamic, the other
stagnant. As the share of the stagnant component grows, a constant overall growth
rate requires ever-faster growth from the dynamic sector. This is increasingly
difficult because a large stagnant component not only consumes resources, but
disrupts the operation of dynamic firms, for example by choking the banking
system with non-performing loans. The result is an eventual falloff in growth.

This process is now visible in China, where protracted waste of investment funds
has inflicted frightening financial pressures upon governments, who are the main
owners of capital, and upon their clients: publicly-owned state and collective
enterprises, state-owned banks, and public sector employees. These pressures take
the form of dwindling profits, slow growth of tax revenue, accumulation of bad
debt and, most recently, dismissal of millions of urban workers.

China's government, frightened by the sudden emergence of mass unemployment,

has deployed deficit spending in an effort to stimulate aggregate demand and
restore rapid growth. But Keynesian "pump-priming" cannot resolve structural
difficulties. Chinese economists recognize that the anticipated "multiplier effects"of
recent infrastructure spending have not materialized. Official media credit short-
term interventions with adding 1.5 percentage points to overall growth in
1998.(23) The costs associated with this modest gain are large. Efforts to ramp up
aggregate demand promise fresh cohorts of hastily selected and poorly
implemented investment projects. Bankers admit that, with government pressing
them to expand loans, "sometimes we were forced to act without due
diligence."(24) Predictably, the quality of bank assets and the proportion of loan
obligations fulfilled by borrowers continued to decline in 1998.(25) Worse yet, the
administrative measures that accompany short-term efforts to boost spending
obstruct long-term reform by reversing efforts to commercialize the state-owned
banks and to reduce ad hoc official interventions in the management of economic
enterprises.
Current policy concentrates investment funds in the very sectors responsible for the
overhang of excess capacity that is dragging the economy down. To escape
structural difficulties, China must reduce the resources available to the old, failed
investment mechanism. But with the economy sagging and mass unemployment on
the rise, it is not feasible to curtail spending in any major sector, however
incompetent, in the absence of fresh sources of demand. With former "growth
poles" -- rural industry, exports, joint ventures, foreign investment -- largely
dormant and with little prospect for rapid revival, what is the alternative? The
surprising answer is that private business currently offers the only feasible
opportunity for an investment boom that could rekindle China's dwindling
economic momentum.

This observation is rooted in economic reality, not ideology. Officially recognized

private businesses (excluding family farms and other sources of informal work)
have created more jobs since 1994 than the combined efforts of state, shareholding,
collective (rural and urban), and foreign-invested businesses. The policy issue is
simple. Private business is already the most dynamic sector of China's economy.
How much investment resources could private business absorb, and how much
additional employment could private entrepreneurs create if the government
initiated a sweeping assault on the obstacles that currently limit the flow of
resources into private economic ventures?

No precise answer is possible. We know, however, that formidable barriers

confront would-be entrepreneurs. Private businesses have little access to credit.
They are easy targets for predatory officials. Government agencies and state-run
banks are permeated with an anti-business culture. Even though private sector
borrowers repay 90 percent of bank loans(26) - far above the figure for state-sector
debtors - bankers eschew loans to private borrowers, evidently because defaults by
private clients are more dangerous to their careers than defaults from public sector
borrowers.(27)

Local governments, particularly, but not exclusively in the south, have begun to
pour resources and energy into the promotion of private business. Growing
attention to the potential of private business is visible at all levels -- note the
passage of a constitutional amendment recognizing the legitimacy of private
property and the contribution of private entrepreneurship to the national economy,
followed by preparations for implementing legislation.(28) But enthusiasm for such
efforts seems to decline at the higher levels of the administrative ladder. Advocates
of pro-business policies feel constrained to hide behind euphemisms. Shanghai's
inducements for private business are described as "policies to promote the
development of local small enterprises," while new legal protections hide under the
cover of "solely-invested enterprise law."(29) This is partly because no national
leader has stepped forward to champion the cause of the private sector. News that
"China will launch a nationwide campaign to clean up all the random charges and
fees imposed on foreign-invested companies" prompts an obvious query: what is
preventing China's leaders from supporting employment growth with a concerted
effort to "stop all unnecessary fees and fines" and "to administer severe punishment
to those held responsible for any unauthorized fee collection from" businesses
established and operated by Chinese entrepreneurs?(30)

CONCLUSION

Despite immense progress toward the creation of a market system, a largely

unreformed investment mechanism tilts China's whole economy toward
distinctively non-market behavior patterns, most visible in the continuation of huge
seasonal fluctuations driven by investment plans. China's economic downturn,
which appears far deeper than official statistics would indicate, is structural, not
cyclical. Its sources are domestic, not international. A long history of wasteful
investment spending is the root cause of China's present economic woes. Current
policy seems short-sighted, inconsistent, and poorly aligned with economic
realities. Without major policy shifts, the chances of rekindling high-speed growth
seem remote. Accelerated development of private business stands out among
available economic options. Promoting private business, the most dynamic sector
of China's economy, offers the unique prospect of boosting short-term demand
while advancing (rather than obstructing) long-term reform goals. Official policy
offers growing recognition and support to private business, but the legacy of anti-
business ideology dictates a cautious approach, especially in Peking. The resulting
ideological constraint on the pace of private business growth could prove very
costly to China's economy over the coming years.

After five decades that have witnessed remarkable gains, frightening setbacks, and
cataclysmic institutional shifts, China's economy faces many of the same issues that
preoccupied the new regime fifty years ago. In both 1949 and 1999, we observe
China's government wrestling with saving, investment, and changes in the price
level: inflation, under-saving, and low investment in 1949; deflation, high saving,
and excess investment in 1999. In both 1949 and 1999, we see Chinese reformers
striving to engineer massive changes in economic institutions: establishing
socialism in 1949; replacing socialism with a "socialist market economy with
Chinese characteristics" today. In 1949, China's leaders aspired to "put politics in
command." Today, China is flirting with the possibility of reversing this
arrangement.

China leads the world in economic experimentation. The past fifty years of Chinese
economic experience, which includes elements of centralized micro-management,
unregulated capitalism, and a vast array of intermediate structures, offers a treasure
trove of opportunities that economists have barely begun to exploit. There is every
reason to anticipate that the coming decades will be no less exciting, no less
surprising, and no less productive of insights into the formation, evolution, and
consequences of alternative economic structures and policies.
 NOTES*

*Names of Chinese authors appear in the Chinese fashion, with surname first, for
materials written in Chinese, and in the English fashion, with surname last, for
materials written in English.

1. International Monetary Fund et al, The Economy of the USSR: Summary and
Recommendations. Washington DC, 1990, p. 2.

2. For elaboration, see Gary H. Jefferson and Thomas G. Rawski, "How Industrial
Reform Worked in China: The Role of Innovation, Competition and Property
Rights." In Proceedings of the World Bank Annual Conference on Development
Economics 1994, pp. 129-156; and Thomas G. Rawski, "Implications of China's
Reform Experience," China Quarterly, no. 144 (December 1995), pp. 1150-1173.

3. Yan Zhang, "Steel Import Rise Causes Concern," China Daily Business
Weekly 31 May 1999, p. 2.

4. Wei Gao, "Profits Fall as Record Diesel Price Makes Mark," China Daily 25
December 1996, p. 5.

5. Jianlin Li, "Let Market Function According to Its Rules," China Daily 4 May
1999, p. 4.

6. See Thomas G. Rawski, China: Prospects for Full Employment (ILO

Employment and Training Papers, no. 47; Geneva, 1999) and Margaret Maurer-
Fazio, Thomas G. Rawski and Wei Zhang, "Inequality in The Rewards For Holding
up Half The Sky: Gender Wage Gaps in China's Urban Labor Markets, 1988-
1994," China Journal, no. 41 (1999): 55-88.

7. Zuoji Zhang, "Social Security Instrumental to SOEs Reform," China Daily 6

February 1999, p. 4.

8. '96 Zhongguo guoyou zichan nianjian [State Assets Yearbook 1996; Beijing:
Jingji kexue chubanshe, 1997], p. 76; Zhongguo tongji nianjian 1996 [China
Statistics Yearbook 1996; Beijing: Zhongguo tongji chubanshe, 1996], p. 414.

9. Yang Xu, "Supervision Law Urged by Deputies," China Daily 13 March 1999, p.
2; "Officials Urged to Follow Law," ibid. 8 July 1999, p. 4.

10. Based on 1997 data from Zhongguo tongji nianjian 1998 [China Statistics
Yearbook 1998; Beijing: Zhongguo tongji chubanshe, 1998], pp. 188-189.
11. "Taking the Business Cycle's Pulse," Economist, 28 October, pp. 89-90 (citing
Victor Zarnowitz, Business Cycles).

12. Jianlin Li, "Uneven Results Raise Questions," China Daily, 12 February 1999,
p. 4, with emphasis added.

13. Charles C. L. Kwong, "Property Rights and Performance of China's Township-

Village Enterprises," in China: Economic Growth and Transition, Macroeconomic,
Environmental and Social/Regional Dimensions, ed. Clement A. Tisdell and Joseph
C.H. Chai (Commack NY: Nova Science Press, 1997), p. 496.

14. Chen Jiagui, "China's Industry Has Entered the Crucial Period for Raising
Quality," Guangming ribao [Guangming Daily, Beijing] 2 June 1997, p. 7.

15. "Steel Output Cut to Boost Development," China Daily 23 June 1999, p. 4.

16. According to Dashan Xu, "Cement, Glass Firms to be Closed," China Daily 11
June 1999, p. 5, 1998 cement production and capacity were 536 and 700 million
tons.

17. Craig S. Smith, "In China's Religious Crackdown, An Ancient Symbol Gets the
Boot," Wall Street Journal 8 September 1999, p. B1; Dashan Xu, "Surplus to Grow
in Office Market," China Daily Business Weekly19 April1999, p. 5.

18. Jianlin Li, "Economy Good, Despite Severe Crisis and Flood," China Daily 30
December 1998, p. 4.

19. "Corruption Should Be Opposed in Statistics Too!" Keji ribao [Science and
Technology Daily], 7 March 1999. Internet translation courtesy of David Cowhig.

20. Gan Xinmin and Li Tongyin, "To Control Falsification, We Must Control its
Foundations," Zhongguo tongji [China Statistics], November 1998, p. 21.

21. See Jie Lu, "Glut of Commodities Keeps Prices Low," China Daily Business
Weekly 16 August 1999, p. 4; Qiwen Zhu, "Fiscal Policy Needs
Adjustment," China Daily 15 July 1999, p. 4; Chuandong Wang, "State to Bolster
Demand," ibid., 29 April 1999, p. 1.

22. Rawski, "China: Prospects for Full Employment."

23. "Treasury Bond Issuance Aid to Economic Growth," China Daily 1 September
1999, p. 4.

24. Kathy Wilhelm and Trish Saywell, "Mission Critical," Far Eastern Economic
Review 9 September 1999, p. 76.
25. Xie Ping, "Challenges Facing China's Financial Reform," Zhongguo gongye
jingji [China Industrial Economics] no. 4 (1999), p. 24; Kan Ren, "Central Bank
Chief Reaffirms Money Policy," China Daily 30 July 1999, p. 5.

26. According to Professor Dong Fureng, in a July 1999 lecture at the University of
Melbourne.

27. This is the apparent point of Fan Gang, "Overcoming Credit Crunch and the
Reform of the Banking System," Jingji yanjiu [Economic Research], no. 1 (1999),
p. 7, note 1.

28. Yan Meng, "Draft Law May Help Individual Enterprises," China Daily 25
August 1999, p. 5.

29. Nei Guo, "Legal Stage Improves for Small Firms," China Daily 18 September
1999, p. 2; Yi Yu, "Solely-Invested Enterprise Law Debated," ibid., 25 June 1999,
p. 1.

30. Yan Zhang, "State Acts to Abolish Random Fees on Foreign Firms," China
Daily 26 August 1999, p. 1; Dan Su, "Investing Climate Examined," ibid., 5
January 1999, p. 1; "Plan to Curb Wrongful Fees," ibid., 27 August 1999, p. 4.