The efficiency of Chinese State-owned enterprises

A recent FT article or I should say opinion piece by Minxin Pei, states that the Chinese Government is actively reasserting control of the economy. He writes:

The private sector, a victim of persistent official discrimination, is in full retreat. Critical prices, such as interest rates and land, are officially controlled and severely distorted.

 

The Bank of England until the Big Bang in the UK also controlled interest rates for loans in order to maintain financial stability, I fail to see how this is a big deal. Furthermore, whilst I share the concern over Property rights, given the bi-polar state of Chinese society and a developing functional legal system, this isn’t the sort of thing the Politburo could fix overnight. The residency system is in place for social stability reasons as much as anything else. Those who have moved to the cities have found it increasingly difficult to get by. However, name a developing country that doesn’t have this issue.

The article continues to add that China is playing with protectionism. The author is referring to recent steel tariff disputes between the US and China. The author forgets to mention that a) the Chinese response has been retaliatory and b) when it was applied it conveniently exempted other companies/countries that didn’t kick up a fuss e.g. BMW/Mercedes  production in Alabama. Strangely enough, the Japanese and the UK are not arguing to much with China over RMB. Why? It is because it is advantageous towards them. Unfortunately, the US is not selling enough of what China wants to buy. If a country is developing, it would be an act of insanity to float a currency. It hasn’t worked.

In his closing remarks the author writes

…the CCP is no ordinary ruling party. It is a sprawling political patronage system filled with self-interested individuals eager to cash in their political investments. The conversion of political power into economic privileges and profits is far easier in an economy heavily controlled by the state than in a more market-oriented one. As a result, the interests of the ruling elites are in conflict with the imperatives of market reforms. Seen from the opposite angle, this logic illuminates the systemic cause of China’s “crony compitalism” – the marriage of power and wealth is made possible only when a post-communist autocracy is in charge of a half-reformed economy.

Since reform is no more, one has to wonder why Beijing bothers to commemorate Deng’s southern tour at all.

OK. Let’s dismantle this bit by bit. Point 1, the communist party as it stands is a collection increasingly of people who are picked on the basis of ability rather than patronage. There are some legacies but most academics would agree that it is a changing creature.

Point 2, name a country in where Crony Capitalism has not occurred in the early stages of development. This does not mean that things shouldn’t change, even Chinese policymakers would agree with that.

Point 3, the author is alleging that the state-owned corporations are being pandered to by the state while the rest are being snuffed out. This is a bit more hairy. I would kindly cite this post from a World Bank Economist which states that those with a monopoly are generally profitable in line with their private sector counterparts. In addition, in a recent

Further still, a 2005 Paper by the Journal of Corporate Finance found that corporatization in Chinese SOEs improved their efficiency. However, let’s see what the money men from McKinsey say in their 2008 paper:

…a company’s ownership structure is no longer a legitimate test of its merit. Lenovo and the chemical producer China National BlueStar, a subsidiary of China National Chemical (ChemChina), for example, both have significant state shareholdings but are nonetheless valuable partners for suppliers and customers, as well as astute managers. And in China as everywhere else, private-sector ownership is no guarantee of success: D’Long International Strategic Investment, one of China’s largest private-sector conglomerates, had to be rescued from the brink of collapse in 2004, when the state intervened. (p.3)

 

McKinsey state that amongst these SOEs some are more open than others. They recomend:

Policy makers in the developed world would also do well to understand these nuances. Rather than discouraging investment by an entire class of Chinese companies, they should consider the benefits of attracting well-run, open ones. The goal should be to draw quality global investment, no matter what its geographic origin or ownership. Arbitrary legislative barriers and economic disincentives will lead only to missed opportunities as open companies seek out more welcoming locations (p.6)

So the situation is at best opaque.This echoes work by Chung and Kim on Korean SOEs which found a positive correlation between privatization pressure and the operating efficiency of SOEs. In short a state organisation can work provide you whip it like the market does. In the relatively short history of modern Chinese development this appears to be what is happening in some areas. Especially in a country which is acutely lacking a skilled workforce relative to its requirements, this aids the Chinese quite well, until suitable large alternatives from the private sector emerge (also better accounting and transparency).

We must ask in the long run, if the government will revert the ownership of these firms and hand them over to the private sector? That would depend on how one interprets the third way. The short conclusion we can gather is that reform is slowing down, but it hasn’t impacted necessarily on the efficiencies of business and, when all other socio-political considerations are taken into account, it seems to be holding up. Could things be easier? Yes, but I question whether  Minxin Pei’s ideas are as valid as he thinks.