ReportNo. 12134-CHA China IndustrialOrganization and Efficiency

Public Disclosure Authorized CaseStudy: The Automotive Sector

December31, 1993

industryand EnergyOperations Division Chinaand Mongolia Department EastAsia and PacificRegional Office FOR OFFICIALUSE ONLY Public Disclosure Authorized Public Disclosure Authorized

MICROGRAPHICS

Report No: 12134 CN Type! SEC

Documentof theWorld Bank Public Disclosure Authorized

Thisdocument has a restricteddistribution and may be usedby recipients only in theperformance of theirofficial duties. Its contents may not otherwise be disclosedwithout World Bankauthorization CURRENCY EQUIVALENTS

Curretcy Unit = Yuan (Y)

November 30, 1990 December 30, 1993

$1.00 = Y 5.22 $1.00 = Y 5.80 Y 1.00 = $0.19 Y 1.00 = $0.17

FISCAL Y9EAR

January 1 - December 31

WEIGHTS AND MEASURS

Metric System

ABBREVIATIONSAND ACRONYMS

.f. - cost, insurance and freight MMI - Ministry of Machinery ndustry XKD - completely knocked down MNC - multinational corporation CNAIC - China National Automotive Industry MOFERT - Ministry of Foreign Economic Corporation Relations and Trade CRS - contact responsibility system MOME - Ministry of Materials and Equipment EC - European Communities NAW - Nanjig Auto Works FAW - First Auto Works NIC - newly industrialized county FYP - five-year plan OECD - Organization for Economic GATT - General Agreement on Trade and Cooperation and Development Tariffs QR - quantity restrictions GDP - gross domestic product R & D - research and development GM - General Motors (USA) SAE - Society of American Engineers GOC - Government of China SAIC - Shanghai Automotive Industry JICA - Japanese Intermational Cooperation Corporation Agency SAW - Second Auto Works JIT - just-in-time SKD - semiknocked down km - kilometers SOE - state-owned enterprise km/h - kilometersper hour SPC - State Plaming Commission MES - minimum efficient scale SVW - Shanghai-Volkswagen MFN - most-favored-nation TVE - township and village enterprise MM - Ministry of Trade and Industry (Japan) ZEV - zero emissions vehicle FOROFFICIAL USE ONLY

CONTENTS

Preface ...... v ExecutiveSummr ...... vii

1 Developmer&Aof Automotive Industry in Ckt aa ...... 1

A. Rationalefor AutomotiveSector Work ...... 1 B. Developmentof the AutomotiveIndustry in China ...... 4 First Phase: Beginningsof the Domestic Industry ...... 4 SecondPhase: ModemizationDrive ...... 5 China Natior.alAutomotive Industry Corporation ...... 5 Pilr Industry ...... 7 Large Investments ...... 7 infu-ion of Foreign Technologyand Capital ...... 8 C. Currer t IndustryTrends. 9 High Growth and ProductMix Change ...... 9 Import Substitution ...... 11 Fragmentationand Dispersion ...... 13 Dualistic Industry and EmergingLeaders ...... 13 D. Looking Ahead: DevelopmentalObjectives ...... 18

2 TrennaionaTedandDometlcDemand ...... 20

A. Trends in the World Industry ...... 20 B. DomesticDemand ...... 27 Freight Vehicles ...... 27 Passenger Vehicles ...... 28 Projectionsof DomesticDemand ...... 30 Implicationsof DomesticDemand Projections ...... 31

3 Policy Frameworkand ItsImpact on theAutomotive Industry ...... 36

A. Entry Policy ...... 36 B. Exit Policy ...... 38 C. CompetitionPolicy ...... 38 D. Foreign Trade Policy ...... 41 E. Demand Management ...... 43 F. Sector Management ...... 45 G. LocalizationPrograms ...... 49

Thisdocument has a resticteddistrton andmay be used by recpien only in the pof thr offcial duties Its contentsmay not otbwie be disclosedwitbout World Bafik __ H. Foreign Direct InvestmentPolicy ...... 50 I. Enterfise Govenance ...... 50

4 Perspectives on a Strategy for the Automotive Industry ...... 54

A. ComparativeAdvantage ...... 54 B. Mniimum Efficient Scale ...... 56 C. TechnologcaEfficiency...... 58 Phased Development ...... 59 Lesso From Experience ...... 61 D. VerticalDisntegration and Subcontracting ...... 64 E. Role of GovemmentIntervention and Competition ...... 66 F. Issues and Opportunities ...... 72

5 PolicRecommendations ...... 74

A. BaIancingProection and Competition...... 74 B. Creating ncentivest Innovate ...... 75 C. The Role of Governmentin Facilitatingthe Creation of an Efficient Industia Structe ...... 76 D. Long-TermGoals-The Developmentof Product Technology ...... 78 E. Conclusion ...... 79

ArEX

StatiCS ...... 81

BOX

1.1 Leading Players in the AutomotiveIndustry ...... 17 2.1 Tariffs on Autos in SelectedCountries ...... 23 TAnuM

1.1 Eighth Five-Year Plan Investmentin the AutomotiveSector ...... 8 1.2 ChineseAuomotivebyType, 1955-92 ...... 10 1.3 Annual ProductionTargets of the Eighth Five-Year Plan ...... 10 1.4 ProductionPlan, 1993 ...... 11 1.5 Production and Importsof Automotives, 1980-91 ...... 12 1.6 Share of Knock-DownParts in Imports ...... 13 1.7 Enterprisesin Chinese AutomotiveIndustry, 1980-90 ...... 14 1.8 Distributionof AutomotiveAssembler by ProductionCapacity ...... 14 1.9 GeographicalDiprsion of ProductionCapacity ...... 15 1.10 Passenger Car Prices ...... 17 1.11 Truck and Bus Prices (1990) .18 -'Il-

2.1 Desired Stock of VehiclesProjeed for the Year 2000 ...... 30 2.2 Annual Demand for Vehicles, 1995 and 2000 ...... 31 2.3 Output-DemandDeficit Projectionsby Type of Vehicle: Unconstined Scentio ...... 32 2.4 Increase in Highway CapacityOver the Eighth Five-Year Plan Period ... 33 2.5 Motor Veh.le EmissionPollution Contributionto Total Man-made Pollution in the Beijing Urban Area (Witiin the Third Ring Road) ..... 35

3.1 LnportTariffs . . .42 3.2 Enterprisesand Productionby SupervisingEntity, 1989.48

4. 1 Raw Matera Price Comparison . .55 4.2 Fragmentationof Productionin Trucls and Buses . .59 4.3 Stylistc Presentationof the Four Stages of the Developmentof Industry . 60

CHMTS

3.1 China: AutomotiveIndustrySupervisoryControl ...... 46 PREFACE

This report is based on the findings of three missions that viited China between Sepeiber 1990 and December 1992. The report was prepared by Jae-HakKim C(ask Manager). Peter Harrold (Lead Economist)made contributionsto the Executive Summary. Jyoti Shukla (Consultant,Economist) contributed to Chapter 2 and assisted in drftng the report. The report drawsextensively on the findingsof membersof the earlier missions: Sally Zeijlon (Economist),Harbaksh Sethi (Senior Advisor, Engieering and Steel Industries), irtcolasMathieu (SeniorEconomist), Wang Yuan (EconomicOfficer), Arnaud Domel (Economist),Jerry Saunders (Consultant),Bor-Ruey Fu (Consultant),and T. subramanian (under a UNDP-WorldBank training program). YongmiaoZhang at the Resident Mission in Beijing and Li (Local Consultant)also provided invaluable information.

The missionsreceived invaluable support from representativesof the Chinese automotiveindustry. The CNAICcountrpart team was led by Mr. Zhang Zheng, General Manag,er,Strategy PoLhcy and ComputerDvision, and includedMessrs. Yijian Zhou, Wu Dongling, Zhu Shui Yu, and others too numerousto list. Assistancewas also received from the First Auto Works, Second Auto Works, the Shanghai Automotive Industry Corporation,the BeijingJeep Company,Nanjing Motor Company, China NationalHeavy Duty Truck Corporation. The missionalso met withgovemment officials in Shanghaiand Beijing. - ',ii -

EXECUTIVESUMMARY

INMODUCnON

L. The process of economic reform and decentralizationhas raised new challenges for China in the areas of industrialstrategy and organization. While the role of the state in resource allocationand investmentplanning has been declining,the market forces are not in full play yet, with China's economy still in transition toward a market- driven one. This raises particular questionsfor the government in determiningpolicy towards particular industries, and in decidingwheni and in what ways to ease transitional difficultieshindering the developmentof such industnes. Moreover, in the current state of the reform program, there are also questionsabout what instrumentsthe government should use to effectivelyshape the future of the industry and at the same time to advance further developmentof market forces. iu. The automotiveindustry is perhaps the sector that best exemplifiesthese issues for two primary reasons. First, this industry is capital-intensivewith particularly large eccnomies of scale. We have thus observedin many countries, includingdeveloped countries, that the state has had a significantrole in developingindustry, either in its early stage of developmentor in its restructuring. Second, from the standpointof economic strategy, the automotiveindustry is importantfor its industrial,macroeconomic, and social impact. This industry has the potential for becominga leading sector through enormous backwardand forward linkages; it is inextricablylinked to national transport strategyand to the integrationof the domestic market; and it has many externalitiessuch as pollution and urban xongestion.

iii. The Chinese automotiveindustry has now become a significantcontributor to industral output, having reached 1 million units of vehicle productionin 1992. The Chinese automotiveindustry rnks twelfthin worldproduction, approaching that of Brazil. A substantialpart of this productioncame from the commercialvehicle segment, making China the world's fifth largest producer. The passenger car segisent, which contributed modestlywith about 160,000 units, however, is growing rapidly already, and has great potential for additional expansion. This level of production is the result of the rapid growth in the 1980s-18.7 percent per annum-and an accelerationin the '990s. Vehicle output has nearly doubled during the last three years. Nevertheless, given the size of China's economy and its current rate of income growth, a redoublingof the subsectoris surely expectedduring the rest of this decade.

iv. This report intends to examinethese challenges facing the governmentof China in formulatingindustrial policy and strategy, using the automotiveindustry as an example. Althoughthe report's recommendationsfocus on how to address these issuesin - viii -

the context of this particular industry, these considerationsshould equally apply to other subsectors. The studyof this subsectoris significantbecause the industry is at a relatively early stage of developmentand because of the potentiallinks to the rest of the economy. Decisionstaken today will have a lasting impact on the pattem of economicdevelopment in China over the rest of this decade, and beyond. Fiially, it is fitting because our examinationof the present strategyhas revealedserious problemsthat need to be addressed with some urgency.

v. The report first reviewsthe deveiopmentof the automotiveindustry in China in the light of world trends. It then analyzesthe issues, both technicaland policy-oriented, that impedethe industry's progresstoward internationalcompetitiveness. It then presents policy recommendationsfor the automotiveindustry in China.

DEVELOPMENrOF THE AUOMOVE INDUY IN CINA

vi. The automotiveindustry was first establishedin Chinain 1956but grew only slowly until the early 1980s. 'his level of developmentwas owing to the government's transport stratgjl that emphasizedrailroads for long-haul freight transport and the use of nonmotorizedvehicles, particularly bicycles, for short-distancepassenger traffic. In its early years, the automotiveindustry thus focusedprimarily on the productionof trucks and buses. The industry remainedtechnologically backward, as it was isolated from the rest of the world at a time when many technologicalbreakthroughs were taking place.

vii. Sincethe early 1980s,however, the characterof the automotiveindustry has changed dramaticaly, with the infusion of foreign technologyand large investmentsto modernizethe industry. Several majorjoint ventureshave been set up with intemational producers-for example, Volkswagen, Citroen, and Peugeot for the production of passengercars and Chrysler for the productionof the Jeep. Licensed productionof light trucks with Iveco and Is w technologyand of heavy trucks with technologyfrom Steyr and Cummins has also started.

viii. As a result of large investments,the industry has changed in size, product mix, and quality. Vehicleproduction increased fourfold in the last five years to reach the one million mark in 1992,already exceeding the productiontarget of the Eighth Five-Year Plan (1991-95). The product mix has changed, with the passenger car and light-truck segments showing high rates of growth. Internationalcollaboration has also radically improved the product quality of passenger cars and light trucks, although the dominant medium-sizetruck segmentis still largely reliant on the sturdy 'Jiefang" and "Dongfeng' built with 1950sSoviet technology. ix. The rapid increasein domesticproduction allowed the Chinese automotive industry to supply almost 90 percent of the market in recent years. Imported vehiclesas a percentageof domestic sales declined from a high of 44 percent in 1985 to 12 percent in 1991. The reversal in the position of imports is particularly significantfor passenger cars. Imports of 27,600 passengercars in 1992 representedonly Lopercent of domestic production, in contrast to the situationin 1985 when domestic demand was larI -ly met -ix - with imports. However, the 1993 import spree of sedan cars tipped up the import share slightlyto 20 percent in the first three quarters. x. The developmentof the industry has seen two pattems emerge in recent years. First, growth has been largelyled by the original, large producersas well as some new players graduallyemerging from the fragmentedindustrial structure, a subset of which are likely to be the industry leaders in the years to come. At the same time, the decentralizationof investmentdecisionmaking has pernitted the establishment of vast numbers of small-scaleproducers that essentiallyasse.ble kits. xi. In the small-passengervehicle segment, eight enterprises are leading the growth in the industry:1/

(a) The Big Three - First Auto Works (FAW), SecondAuto Works (SAW), and ShanghaiVolkswagen (SVW);

(b) The Little Three - TianjinDaihatsu, Beijing Jeep, and GuangzhouPeugeot; and

(c) The Mini Two - ChongqingSuzuld and GuizhouFuji.

Among the foreign partners, Volkswagenhas clearly emerged as the dominantplayer in the passenger car market. Two Volkswagencars, the Santana produced by Shanghai Volkswagenand the Audi by FAW, captured 60 percent of the domesticmarket in 1992. When the presently planned production capacity becomes operational, Volkswagen- designed cars are expected to provide 50 percent of the toal domestic passenger car productionin 1995. xii. In the light truck segment,Nanjing Iveco, SouthwestIsuzu, Beijing Isuzu, and ShenyangGoldcup are emergingas the industry leaders. The productionof medium trucks continues to be the domain of PAW and SAW and the China Heavy-DutyTruck ManufacturingGroup dominatesproduction of heavy trucks.

INTERNA¶TONALTRRNDS AND DoMlsrrc DEMAND xiii. Dunng this period when the Chinese automotive industry has been modernizing and trying to catch up with the rest of the world, the world automotive industryitmlf has been undergoingrd change. The industryhas in the past been heavily dominatedin terms of both supply and demandby three regions: North America,Japan, and Western Europe. Their combinedproduction accounted for 83 percent of the world total of 49 million units in 1990. These major markets, however,have been stagnatingin

1/ In 1992, th BigThee coliectivelycapreda maket shareof60 percent;theIitdeThree, 40 prcent; and ffieMini Two,mininmI with productimjust strting. Whenthe capacityepansion projects are finishedin 1995, the Big Mureecollectively will bhvean estimated64 percentof domesticprodoctin caacity, the UttfleMree, 28 percent;and the Mini Two, 8 percent. x

recentyears, causingthe leadingplayers to suffer from overcapacity.The consequent intense competitionmade productiontechnology the key to success and enabledthie maintenanceof profits,forcing the industry to seekglobalization of manufacturingthrough exchangeof goods,capital, and technologyfor low-ost sourcing.

xiv. The Chinesedomestic market has also changed,with a diversifiedpattemn of ownershipemerging on the demandside. Until recently, private ownershipwas discouragedin China. As a consequence,in 1985,95 percentof the vehiclefleet was ownedby the governmentor state-ownedenterprises (SOEs). In the lasc few years, however,controls over vehicle ownership have been relaxed. Withincreased incomes and morerapid growthof townshipand villageenterpises (TVEs),urban collectives (UCsl, and privatebusinesses, and with the emergenceof high-eani;ngindividuals in the most modernsectors of the economy,new consumershave beenallowed to enter the market. xv. At the sametime, thegovernment has realizedt!iat the lackof development of the highwaysector has actedas a constraintto the developmentof competitionin the domesticmarket. The current investmentstrategy of the central governmentin the transportsector placesparticular importance on the developmentof a set of integrated highwaysacross the countrydesigned to pernit a muchmore rapid and flexible movement of goodsand people.

xvi. The entry of these new categoriesof consumers,coupled with improved infrastructurefor vehicles,can be expectedto lead to a rapid expansionof the domestic marketfor vehicles,and to continuedchanges in its productmix. TwoSino-Foreign joint studiesof the Chinesemarket indicate **at domestic demand could increase to about2 nillion vehicles per year by the end of the century,2/unless constained by the government.The demandfor smallpassenger vehicles will rise fasterthan the demand for freightvehicles and couldreach 700,000 to 1,200,000units per year by the year 2000, accountingfor about three quartersof all expansion. Within the truck segment,the demandfor light trucls will far outpacethe demandfor mediumtrucks, owing to the increaseddemand for short-haul,light-freight traffic. Therefore,m examiningpolicies in the subsector,particular attention should be paid to these segmentsof the market

PROxLM FACINGTEE INDuSmY

xvii. Despitethe rapid growthof the last few years, the automotiveindustry in Chinastill facesseveral systemic and structuralproblems that mustbe resolvedbefore it can achieveinternational standards of costsand quality. Productioncosts of mostChinese automottves,especally in the passengercar segment,continue to be muchhigher than world standards. ShanghaiVolkswagen, arguably the most dynamicand efficient enterprisein the industry,reports an ex-factoryprice for the Santanaof Y 104,000or approximately$20,000 at the officialexchange rate, almosttwice comparable intenational

ZI CMina'ssomoive Inday: DewopmemSroe8y Towads2 bythe Joit Committee_of Chin andJ ane Experts,1987 and Deweopnen Staemfor the 2)wqpoiasonSe&or to 2000,A Joint Sttdy tbyCainese and Genran Expes. - xi- levels. In contrast, prices for commercialvehicles are comnparativelylow. For example, the S-tonJiefang truck is priced at $3,500 to $5,000. However, the quality, safety, and reliability standards of Chinese automotives are also far below intemnationalnorms. Several facts explain these problems. xviii. First, the Chinese automotiveindustry still has nnt escaped the historical legacy of fragmentation and the geographic dispersion of production capacity. The industrialstructure has thus not yet evolvedto supportan efficientand modern production system. For the cunrent market size of barely 1 million umitsper year, the industry is extremely fragmented, with a total of 117 enterprises that assemble complete vehicles with their own chassis. To this already large number must be added 459 enterprises (often called converters) that produce vehicles with procured chassis. In 1990, only 10 enterprises out of the 117 had production capacity over 10,000 units per year. The industry is also extremely dispersed geographically and almost every province has productionfacilities. Despite recent governmentpolicies aimed at establishinglarge-scale capacity, none of the major producers has as yet been able to produce at an economic level, and the achievementof scale productiondoes not seem to be in sight.

xix. Second, the automotiveindustry is extremely sheltered from all sources of competition-import, export, and domestic-and proteted fiom market discipline. High tariffs and quantitative restictions (QRs) make imports very difficult and limited. Moreover, internal trade barriers still remain high, as evidencedby the lage numbers of assemblyplants of uneconomicsize that continue to succeed. The Bank mission found many examples of restrictions effected rough local procurenwentpreferences and instructions,and intemal import barriers. This protection (a) allows inefficientdomestic enterpises to survive indefinitelydespite their high costs and poor quality and (b) delays rationalizationof the industry towards intemational competitiveness. It is therefore no surprise that a viable export sector has yet to emerge. Moreover, there is no policy for the removal of these barriers to competition, and curent policies seem to be entirely focused on achievingdomestic self-sufficiencyrather than internationalcompetitiveness.

xx. Third, this industrialorgnation has had the result that significantportions of the industry have not been touched by mornizaton, particularly in the parts and componentssegments, as well as the medium- and large-truckand bus segments. Even in the new joint ventures, technologicalcapability lacks depth. With a few exceptions, capabilityis still at the level of knocked-down(KD) kits assemblytechnology or, in the larger plants s7zh as ShanghaiVW, is based on relativelyold models. The technological limitationin the parts and componentssetor and upstream industies forces the industry ta continue its reliance on imported components.

xxi. Fourth, at the sectoral level, the policy regime and administaton are complicatedand inapprriate to the needs of a modern high-technologyindustry. A myriad of regulatory agencies have complex and sometimes overlapping supervisory responsibilitiesover enterpdses, restricting enterprise autonomy and flexibility. Yet, industrywide regulo functions with significant positive extenalities, such as the maintenanceof quality, sa*, and environmentalstandards, are inadequatdy performed. - xii-

In addition,the governmenthas not addrssed in any seriousway the center-lkcalconflict in this area. The governmentneeds to establishclear policies and guidelinesto prevent the furtherfragmentation of the subsectorand the creationof new, uneconomiccapacity. xxii. Fifth, a' iat enterpriselevel, the majorauto works are organizedin ways thatare m -ark conarastto whathas beenfound to be mosteffective internationally. The most efficientproducers outsource component manufacture as much as possible, and managementis organizedalong product lines, with each layer of managementsubject to resultsmeasurement. In contrast,Chinese manufactiumes are highlyvertically integrated with large productionlines. Managementis organizedalong functionallines and in a centralizedorganizational structure. When this is coupledwith a hierarchicalmanagement system,it leadsto a situationwith no clear delineationof accountability.The enterprises alsotypically lack crucial skills of strategicplanning, product development, marketing, and distribution.Quality assurance systems both within the enterprnses and at theindustry level are underdeveloped. Finally, Chineseautomotive producers do not sell direcdy to customersand lack the elaboratemarketing and distribution networls that are a vital part of comipetitionamong the intemationalplayers. As a result, Chineseproducers receive ittle feedbackfrom customers and havelitle incentiveto innovate,being furither shielded from marketpesure. Whilethis maybave been acceptable in a plannedeconomy with chronic supply shortages, it will not fit the market economy.

ssuEs A OPPoRTuNrn3s xxixm. First,the goveanment'spolicy framework for theautomotive industry needs to be reformulated,as it is not consistentwith developmentalobjectives. The cmrent sWategyseeks to achievefull domestic self-sufficiency. The government has, it believes, identifiedthe variouslevels of demandfor differentvehicles over the next 10years, and has then "assigned"different segments of the marketto differentproducers: luxurycars to Audi, mid-sizesedans to Santana,compacts to Citroen,and so forth. Joint ventures havebeen attacted to these segmentsby meansof high levelsof domesticprotection, at tariff rates wellover 100percent. Moreo"er,producers are then exhortedto maxmize local sourcingand givenfurther incentives to do so, throughtariffs and bans on imports of parts. xxiv. periencein many counties has demonstratedthat, in dts industy, a strategybased soley on Importprotection (the "i?fantindustry" theory) will neverlead to efficincyand intemadonalcompetiens. Rather,import protection incurs high social costs throughexcessive domestic prices, and createsa powerfulinterest group for the maintenanceof theprotection. Thus, the present Chinese strategy to developa competi auomotivendustry is doomedto failre unss keyelements are changed.Rather, an intenationalmarket orientation to the strategyfor the automotivesector is crucial-that is a stategy that aims for internationalcost competitivenessat the eariest dme, and the abandonmentof facilitiesthat cannotachive thislevel of competitveness. xxv. This said,it mustbe recognizedthat scale economiescannot be achieved overnight,especially in what is stl a relativelysmall market. Thus, the sudden - xiii - engagementin free foreigntrade woulddeny the opportunityfor thedomestic industry to builda base, and for the economyto benefitfrom spill-overeffects. xxvi. The way to reconcilethese two factors at this stage of the industry's developmentis to protectdomestic producers for a statedand limited period of time. The industrywould be disciplinedby increasingexposure to importcompetition over time,by meansof decliningtariff and nontariff barriers. At theend of theprocdon period,tariffs wouldhave been reduced to averagelevels (15 to 20 percent),and nontariffbarriers would havebeen eliminated entirely. xxvii. Second,and perhaps the mostdifficult issue for thegovemment, production capacityin the automotiveindustry needs to be concentratedin termsof the numberof finalproducers, and speialized in termsof componentmanuacture. It seemsimpossible to achieveeconomies of scalein the industrywithout the eliminationof great numbersof the small,inefficient prducers (although some of these could,no doubt,be convertedto componentmanufturing). This couldbe accomplishedby the followingtwo alternaive approaches:The first approachwould be the 'laissez-faire'way, thatis, simplyremoving protection,both foreign and domestic, and letting the market determine the survivors.The aternativeapproch would offer a more proactiverole for the state in restructuring existingindustry. Nevertheless,the bottom line is lear.Significant rationaon othe existingautomotive industv-; is necesary; manyof the presentassembly plants will have to disappear,and their workersfound altnative employment,if a competitiveindustry is to develop. Of course,govremment has the choice of protectingthe presentproducers forever, preventingexit, and acceptng a high-cost,domestically oriented automotive industry.It shouldonly do so, however,with the kmowledgethat this wouldbe a subsidy fromthe rest of societyto the workersin thoseplants; this is not compatiblewith China's marketeconomy apprcach or its desireto developa world-classindustry. xxviii. Third,the strategyfor the dcvelopmentof the Chineseautomotive industry shouldbe formulatedin the lightof worldtrends in theindustry. The currentinteaional trendis towardglobaliation of manufacturingand sourcing. This is particularlytrue for the componentand parts industry;in this case, Chinaneeds a larger productionvolume thanthe domesticmarlet can supportand thus access to forign market. This meansthat Chinaneeds the right incentivesand stteg for foreigndirect investment, which would bring forth synergiesbetween the domesticindustry and foreignproducers.

RBCO1mmDATONS:AN AGzriDAFOR AcTON xxix. The 1990swill presentthe Chinese automotive industry with the greatest opporuities andchallenges it has faed so far. Strategicand selecdvegovernment action will be critica in facilitafingthe transition. The governmenthas, in our view, two main functionsthat it alone can perform: First, and most importan, it mustcreate the nght sectoralpolicy framework-one that would be conducive to addring theissues desibed above. Second, it must create anappropriate supporting insftiutional framework to assist the industryto adjust to the new policies. Thesetwo functionsare no differentin this sectorthan in anyotber. The differenceis that economiesof scalemake entry muchmore - xiv - expensiveand thatpast policiesmale the problemof exitsignificantly larger an in many other subsectorsof the economy. A. Balncing Protectionand Competition xxx. Thechallenge to governmentpolicy is to findthe balance between providing the domesticindustry with just enoughprotection from importsto give it time to move down the learningcurve, while ensuringthat some import competition-andthe sure knowledgethat protectionwill declineto low levels in the future-provide domestic producerswith the incentivesto learn and internalizenew technologies,to continuously reducecosts, and to improvequality. xxxi. Therefore,the government of Chinashould announce its program,based on offeringprotection that is limitedin time and scope.j/ It is recommendedthat the customstariff at theend of theprotecdon period should not exceed20 percent. Thistariff shouldbe the onlyinstrument to implementthe tradepolicy, and all nontarifftrade bariers (QRs)should be removed,including import quotas, import licenses, and prohibitionon forein exchangepurchase. Similarly,all rightsto importvehicles free of duty shouldbe abolished. xxxii. Althoughthe protectionperiod shouldbe determinedafter internalstudy, experienceelsewhere has indicatedthat a periodof five yearsafter policyannouncement shouldbe adequate,at the end of whichonly the 15 to 20percent tariff wouldprevail. A longerperiod wouldnot necessarilyguarantee the domesticindustry's commitment to higherefficiency, as it wouldbe outsidethe typicalplanning and investmenthoizon. B. CreatingIncentives to Innovate xxxiii. Thecreation of extenal sourcesof competitionand pressuresto innovate mustalso be accompaniedby an appropriatehamework of domesticpolicy. The economic and regulatoy enviroment and the incentivesand attitudesof managersand technicians in the automotivefirms will be crucialfactors in the developmentof the industryand in the transferand applicationof moderntechnology. In thisregard, threeareas seemto be of particularimportance. xxxiv. Clearladersip In supervisoryagencies and sectoraldevelopmental strategy. A weaknessin thepresent system of sectormanagement is the multitudeof first- tier suprvisoy agenciesand the ambiguityof the relationshipbetween supvisors and supevisees at the enterpriselevel. The governmentof China needs to assign clear authorityand responsibilityto a single agency,such as CNAIC,for developingand imposingnational priorities, particularly in the areas of creationof new capacityand technologydevelopment. (niis alsoapplies to someof theothe issueswith respect to the role of government,discussed in sectionC.) This is becausein the present policy

Annowcig d pimm is imVortantso tmt existingand potitial competito knw th e ad will rpodwiththeir investmentstrateies in a com4etitiefasion. - xv - framework,and until such time as the reform programin this sector has taken hold, there could otherwisebe investmentdecisions that would be inappropriatein the medium term. Repetitionof such investmentmistakes would only create increased pressures not to go forward with the reforms, on the grounds of the loss of productionfacilities. Moreover, it is necessary to formulatea clear and detaileddevelopment stategy for the automotive sector, and to spearheadthe restructuringand adjustmentprogram. Finally, the current overlappingresponsibilities create excessive and repetitivesupervision, and an environment that stiflesenterprise management. xxxv. Domestic Competition. The governmentshould eliminateimpediments to domestic competition, for example, interprovincial trade barriers, such as local procurement preference guideines; government subsidies, such as on raw materials supplied through the Ministry of Intemal Trade; government control on prices and distribution; and limited managerialautonomy and accountability.4/ Enteprises should be allowedthe full 14 autonomiesganted in the "Regulationson the Transformationof the Operating Mechanismof SOEs." In particular, and subject to policies for the sector as a whole, decisionson productionvolume and parts sourcing should be left entirely to enterprises,as should decisionsto invvest,once the new policy frameworkis in place. The Ministry of Internal Trade should pay particular attentionto competitionin this industry, ensuing that purchasesby provincialand localgovernments and SOEsare based on quality and price, and not on tax or financialrelationships. xxxvi. Enterprise Goverance. The automotive industry poses particular challengesin the area of governance,but its size also offers opportunity. The separation of regulation, ownership,and managementshould be addressedspecifically in this sector. The role of CNAIC should increasinglybe one of regulationand provisionof infonnation, rather than as direct owner. The major enteprises in the industry should be formed as joint-stock companies. Given the need to stimulate competitionover time, government should not form a sector holding companyin the automotivearea. Rather, shares could be vested in portfolio holdingcompanies, with local govenments, and, perhaps, in banks. Given their overall and aepected profitability, these enterprises would seem to be candidatesfor listing on the domesficstock exchange. (Indeed, one company, Gold Cup, has alrady been listed on the New York Stock Exchange.) Boards of diretors should be created for all such enterprises, and for the joint ventures, the foreign partners should be given the leading role.

C. Facilitating the Creation of an Efficient Industial Structure xxxvii. It is not the view of thisreport that the governmentcan simply create the right policy frameworkand let the marketdo its work. Rather, the role of govemment should be to facilitate the pror functioningof the market, through actions to asit economicagents to react to new marketsignals. Moeover, the marketin China is as yet

M Forconcrets examples, se themain report, chapter 3. - xvi -

underdeveloped,and may fail in the absence of governmentaction. There are six areas of governmentintervention that we would considerappropriate and helpful.

xxxviii. Inefficient enterprises producing with obsolete technology and at an uneconomic scale should leave the Industry. Becausethe marketis extremely crowded and fragmented,small-scale inefficient producers should be forced to exit. There is simply not room for 117 full producersand 459 assemblers. As noted earlier, we can foreseetwo alternative approaches to this process of rationaliation. Under the first, laissez-faire approach, the governmentwould developminimum quality and safety codes for vehicles. Seriousenforcement of the codes, in conjunctionwith removal of import protection, would drive unsafe and poorquality vehicles and their producersout of the market. A related, but more proactive approach, would be to set up minimum standards for production facilities(ncluding size) and technologyresources, administered in the form of production licenses. Producers with hopelessly inefficient production facilities, or an excessively backward technologylevel, would be made to exit entirely from the sector. Producers with salvageablefacilities and technologycould be allowedto merge with larger and more efficientproducers.

xxxix. A more direct approach to this would be for the governmentof China to establisha task force to draw up a set of criteria wVthwhich to review all current facilities. They would then be clasified into those that will survive, those that may be salvageable, and those that must be closed down. This would also require the provisionof funding to assist exit-including maintenance of welfare coverage and transition financing-and diagnostic assistance to salvageableenterprises. Foreign technical assistance could be sought in this restrucwing diagnosticfunction. xl. While the first strategy is more suited to the market economy, it must be recognizedthat the Chinese market is as yet far from developed. In particular, there is a danger that if all the smallproducers are permittedto continueto exist, the interest groups associatedwith these facilities-notably local governments-may seek to undermine the basic policy of developingcompetition, the basis for developinga sound industry in the future. xli. The Government should not encourage new entry to passenger and light- truck segments at subeconomic size, In the long run, competitionwould be the key determinant in aping future industry concentration; however, until competition has developedthrough the removalof trade barriers, the governmentshould prohibit new entry at a capacity level belew 100,000 units per year. Indeed, there is a case for the governmentto prohibit entry at all. However, it would not be appropriateto discourage a new, genuine joint venture that was based on clear knowledge of the future policy frameworkfor the sector, indeed, this could speed up the transformatior.of the existing joint venures into competitiveproduction. xii. For other seegments,entry by joint ventures should be encouraged as these segments have long been neglected In foreign Investment. This applies especially to medium and heavy tucks, which are heavily concentratedin two producers in China. - xvii -

The total investmentin bus and heavy-trucksegments represents only 2.5 percent of the total during the Eighth Five-YearPlan. These segmentsare also the mostbackward in the automotivesector and thus could benefit from the infusion of advancedtechnology from foreign sources. For the component and parts segment, entry by foreign component producers should be also encouragedas the segmentneeds foreign technologyand heavy investmentbecause of its high capital intensity. However, most of the joint ventures to date have emphasizedpartnership between the domestic and foreign partner, with the domestic partner clearly regarded as the senior. There is a good case for encouraging some wholly owned foreign entrants, or joint ventures in which the foreign partner is senior. Thesearrangements would aBowfor the developmentof factoriesthat will regard China as a productionbase, and the domesticmarket as just one part of the market for the output of the enterprise. xliii. The developmentof the component sector should be a priority. Selective developmentof the componentssector is suggestedat this stage. The governmentshould create a leadinggroup to prioritize major componentsthat can be realisticallytargeted for localization. This must be based on an awareness that economies of scale for the productionof some componentsare very high and that the inabilityof upstream industries may constrain the effective localiztion of some other components. The existingforeign partners should be invited to participate in such a task force and to provide guidance to Chinese policymakersin internationalexperience. Once the priority list was determined, it could form the basis for a targeted search for foreip partners in such industries, together with the search for parners in the areas noted in the previous paragraph. However, special incentivesystems should not be adoptedfor such subsectors. xdiv. The development of subcontracting networks should be a priority. The most importantchange in process technologyin recent years has been the abandonmentof verticallyintegrated production technology and the developmentof geographicaly close, but organizationallyseparate, subcontracting. This is best characterized by Toyota's technology. It is recommendedthat the Chinese governmentseek assistance from those familiarwith the developmentof this approachto createa frameworkfor its development in China. In particular,this should be possiblylinked to the closingdown of many of the existing subeconomicassembly plants, for some of this expertise could be convertedinto subcontracting. This could be facilitatedthrough financial, informational,and managerial assistance in meeting the standardsrequired of modern componentssuppliers. In Japan, vehicle assemblersprovided this type of assistanceto componentssuppliers to help them overcomeinitial productionproblems. In China, given the managerialweaknesses of the assemblers themselves, state-sponsoredresearch and consultingagencies may be more approprate, with suitable foreign advice. The development of product and quality standards by an industrywideagency would also be particularly useful at this stage, becauseit will help smallentrepneurs understandthe qualitystandards expected of them. The designationof an agency to lead the developmentof the parts and componentssec.or is recommended, but it is observed that this seems to be an appr3piate function for CNAIC. - xviii -

xlv. Enterprise Management. At the enterpriselevel, organizationaland managementsystems must be realignedto encourageefficiency and innovation, given their verticalintegration and lackof accountability.The levelof vertcal integrationshould be reduceddrastically and exceptfor the manuf.ctureof somekey components,all partsand componentsshould be subcontracted.Organizationally, they shouldbe reorganizedalong product divisions and each division should be an independentaccounting entity. Managenally,the managementsystems should be decentrazed, with transparent performanceevaluation systems and closelinks between parformance and pay. The auto worksalso need to developnew skills in strategicplanning, marketing, and distribution. A lot of trainingwill be requiredboth for workersand for managersin acquiringthese new skills. New systemsof productionmanagement such as contemporarybest-practice managementmethods of just-in-time inventory management and total quality control should be studiedand adopted.

xlvi. To identifysuch problems is straightforward,but implementation and reform designis moredifficult. In particular,the questionarises as to whoshould spearhead these technicaland organizationalreforms. It is suggestedthat CNAICshould seek technical assistanceto financedetailed restructuring studies to be carried out by this organization withthe help of foreignand localconsultants, for the twoor three largestenterprises (such as FAW, SAW,Nanjing). This shouldbe doneonce a newpolicy framework has been designedand adopted. This shouldbe regardedas assistanceto theindustry in formulating a plan to adapt to the new policyframework, but it wouldbe for the enterpriseand its boardof directors,not for CNAIC,to decideon fuure stepsfor theenterpise, and for the managementof theenterprise to implementany such plan. This shouldthus be seenas an exercisein the separationof govemment,ownership, and management. D. Long-TermGoals-The Developmentof Product Technology xlvii. The ultimate transition to an intemationalplayer in a competitive environmentwill dependin large part on the successon developinginherent product technologycapability. This underscoresthe importanceof effectivegovernment policies in facilitatingthe development of domesticresearch and development capability and human resources.They will ensure resilient and adaptable domestic industry under the continually changinginternatonal market.

CONCusON xlviii. Theautomotive industry exemplifies all theindustrial policy questions facing the govemmentof Chinatoday: how fastand to whatlevel to liberalizeimports; how to makeinefficient and uneconomicenterpnses viable; what to do with displacedworkers; howto balancestate intervention with marketforces during China's transition toward the marketeconomy; and how far to let managementgo whena market-orientedcorporate govenancesystem is yet to emerge;and howto guidethe industrydevelopment without resortingto the instrumentsused in the plannedeconomy. This studyhas attemptedto providea rangeof suggestionsto answerthese questions, while recognizing that Chinais still in its transitiontowards a marketeconomy and that in somecases further study has to be recommended.The short- to medium-termanswers to the challengesfacing the Chineseautomotive industry may change over time with changingmacroeconomic - Xix - envirment and deepning marketreform. However,it cannotbe too muchemphasized that m the long run the Chineseautomotive sector will have a mostefficien, industrial oganization when its development,dictated by intenaonal compedtionand state parttcipationin the sector, is eventuallyreplaced by entreeurial ownership. 1. DEVELOPMENT OF AUTOMOTIVE INDUSTRY IN CHINA

A. RATIONALEFOR AuroMoTm SECrOR WoRC 1.1 The Chineseautomotive industry has nowbecome a s;gnificantcontributor to industrialoutput, having reached 1 millionunits of vehicleproduction in 1992. This outputranks the Chinese automotive industry twelfth in worldproduction, approaching that of Brazil. A substantialpart of this productioncame from the commercil vehicle segment,of whichChina is the world'sfifth largest producer. The passenger-carsegment contributedmodesdy with about160,000 units; this segmentis growingmost rapidly and has the greatestpotential for additionalexpansion. This levelof productionis the result of therapid growth in the 1980s-18.7percent per year-and an accelerationin the 1990s. Vehicleoutput has nearlydoubled during the last three years. Nevertheless,given the size of China'seconomy and currentincome growth rates, a redoublingof the subsectoris confidentlyexpected during the rest of thisdecade. 1.2 The process of economicreform and decentralizationhas raised new challengesfor Chinain the areas of industrialstrategy and organization.While the role of the statein resourceallocation and investnent planning has beendeclining, the market forcesare not in full playyet, with China'seconomy still in transitioitowards a market- drivenone. This raises particularquestions for the governmentin deternimngpolicy towardparticular industies, and in decidingwhen and in whatways to ease transitional difficultieshindering the developmentof such industries. Moreover,in the cufrentstate of the reformprogram, there are also questionsabout what instruments the govemment shoulduse to effectivelyshape the futureof the industryand at the sametime to advance furtherdevelopment of marketforces.

1.3 Theautomotive sector best exemplifies these issues for twoprimary reasons. First,this industry is capital-intensivewith particularly large economies of scale. We have thus observedin manycountries, including developed countries, that the state bas had a significantrole in developingindustry, either in its early stage of developmentor in restructuing. Second,from the standpointof economicstategy, the automotiveindustry is importantfor its industrial,macroeconomic, and socialimpact This industryhas the potentialfor becominga leadingsector thrDugh enormous backward and forwardlinkges; it is inextricablylinked to nationaltransport strategy and the integrationof the domestic market;and, it has manyexternalities such as pollutionand urbancongestion. 1.4 With the backwardlinkages, the Chineseautomotive industry could act as an engine of growth for the related industies that supply it with raw matials, intermdiat goods, and machinery. For example,the automotiveindustry consumed 2.6 nmlliontons of ste and iron in 1990,about 4.5 percentof China'snational output -2 -

Experiencein the United States and more reently in Brazil, however, indicates that the automotiveindustry has far greater impact on the growth and transformationof related industries. In the UnitedStates, 22 percent of primary iron and steel, 9 percent of rubber and plastic, 16 percent of electrical machinery, 17 percent of fabricated metal, and 6 percent of nonferrous metal were supplied to the automotive industry as first-tier intermediategoods or raw materials. In Brazil, where the automotiveindustry constitutes only 6 percent of manufacturingproduction and 3 percent of industrial employment,it absorbs 76 percent of aluminumalloys producedin the country, 43 percent of zinc alloys, 36 percekotof cast iron, and 18 percent of uncoatedflat-rolled iron and steel products.j/ Evidencefrom the United States, for example,suggests that related industriesbenefit from the developmentof the automotiveindustry with every $1 of value-addedin the automotive industry generatingan additional$0.65 in value added in backwardIinkages.2/ 1/

1.5 Forward linkagesof the automotiveindustry are estimatedto be evengreater with $1 in the United States generating$7.63 in value of output and 3.5 jobs in forward industries.4/ This is created in dealerships,repair facilities,and gas stations, as well as in the financial intermedianes and insurance companies that broaden the market by providing financingand risk sharing. Therefore, the automotiveindustry has proven to be an effectivevehicle for industialization in many countries, and GOC needs to make a concertedeffort to maximze the potentialbenefit the industry could offer to the economy.

1.6 The automotive industry also has a linkge to China's transport strategy becauseroad tLansportis becomingmore efficientin handlinggoods for short to medium distancesrelative to other modesof transportation. Even thoughthere is concernregarding road capacityin China,5/ road transporthas been increasinglyused in recent years to the extent that in 1988 this mode of transportcanied 75 percent of goodsin total tonnagesand 19 percent in total ton-kilometers,increasing its share over the years from 70 percent and 9 percent in 1980, respectively. In this context, an important element of the strategy toward national market integration is that of ensuring an adequate supply of types of vehiclesthat are consistentwith the transportstrategy, thereby removinga major physical constraintto internal trade.

I/ Karmokolias,Yannis, Aomove Indony, Tend and Prope for Iwsnet in Devlping Coun*e, IFC DiscussionPaper No. 7, 1990. 2/ The definitionof the term amotive industry3 is at thethree-digit level d includesfnal asembly and bodyconsruction, major auto components and parts, and heavy trcks andbuses.

3/ U.S. -China AutomodveIndwsry CooperationProject: Fia Repo, Univesi of Michigan,1989.

41 US. -China AutomotiveIdwty Coopern oect: FndalRpon, Universityof Mchigan, 1989; Shaid Yusuf, Chi Indwll R]_euruMg: A Tal of Three Cida, The Wodd Bank, 1993.

I/ Totalroad mileagesin Chinais lightly above 1 millionkilomete in 1992. Chine road mileages per capits is only 0.91 mder per person and ane of the lowest in the vwrd-the compartive fige for the United States is 26.1 meters; Frnce, 14.6 meters; India, 2.2 meters. See China's Road Sratgy In Yer 2aao, by the Sino- n Joint Study Team, 1990 - 3 -

1.7 The developmentof the automotiveindustry and the resultingincrease in the use of automotivevehicles in urban areas yield negativeexternalities that cannotbe ignored in the develLpmentalstrategy of the nation: pollution and urban traffic congestion. Automotive-relatedair pollution in Chinese urban areas is already serious; for example, exhaust gas produces 39 percent of total carbon monoxideemissions, 46 percent of total nitrogen oxide emissions, and 75 percent of total hydrocarbon emissions in Beijing.6I These levels of pollution compare with OECD countries respectively at 66 percent, 47 percent. and 39 percent enjoying a significantlyhigher level of motorization.2/ This problem w continueto worsen as the number of automotivefleets continue to grow and the current practiceof usinghigh-lead gasoline and dieseloil for automotivefuel continues. Governmentactions on automotive-relatedpollution are obviouslyneeded to stop firther degradationof air.

1.8 Traffic congestionis already becoming a major problem in large Chinese cities with inner-citytaffic rarely exceeding 15 kilometersper hour (kn/h) and slowing down to 8 km/h in peak hours. In some cities, bicycle speeds are often observed to be higher than other automotivemodes, especially public transport.1/ The experience of many cities in the rapidlygrowing economies of Asia indicatesthat traffic congesdoncould become even worse, with increasedlevels of motorizationand associatedeconomic costs already amounting to as much as 1 percent of gross national product (GNP).2/ This datum suggeststhat GOC should identifythe desirable level of automobilityand possibly constrain the growth of the automotivefleet in line with urban developmentstategy.

1.9 This report intends to examinethese challengesfacing GOC in formulating industial policy and strategyby using the automotiveindustry as an example. Although the report's recommendationsfocus on how to address these issues in the context of this particular industry, these considerationsshould be equally applicableto other subsectors. This seems an appropriatesubsector to study because the industry is at a relatively early stage of developmentand because of the potential links to the rest of the economy. Decisionstaken today will have a lasting impact on the pattern of economicdevelopment in China over the rest of this decade, and beyond. Finally, it is fittng because examinationof the current strategyhas revealedsenous problemsthat need to be addressed with some urgency.

£I Ma Ra et al., Vd ei EmissionPoluant Controland Tedical Measww in haina,Te Hhway ResearwchInsfiite Ministy of Comation, PRC, 1990.

2/ Asif Faiz, KumatesSinba, Michal Walsh, and Amiy Varma, Auomote Air Poudtion, The Wodd BankWorking Papr, 1990.

I/ Urban hanspor inAusl. An OperationalStaegy for the 1990s,The WorldBank Yellow Cover Dra.

9/ Op.cit., p. 21. In Bangkok,for example,traffic often oomre to a compltestanstl. Peakhour traffic speeds im centralBan*ok aved 2 kilometers per hour in 1990 before mpro to 9 kilometersper hour in 1993. - 4 -

B. DEVEOPMENrOF THE AUTOMOTIVEINDUSIRY IN CHNA

1.10 The developmentof the Chinese automotiveindustry can be broken down into two phases that are distinctlycontrasted with respect to prevailingeconomic rationale, sector objectives, te^'hnologydevelopment, product emphasis,and growth rate. The first phase-from 1950 t, 1980-established the foundationof the industry. The prevailing economic rationale was self-sufficiency,and the industry mainly relied on indigenous technology,except for the initial Sovietinfusion in the early 1950son truck manufacturing. In this phase, growth was slow and the industry mostlyproduced trucks that were used to supplement railroad transport. The second phase-since 1980-has marked the modernizationof the industry under the umbrellaof the open-door policy and economic reform. The Chinese automotiveindustry launched policy initiativesto foster industry developmentand actively recruited foreign technology and capital, which resulted in impressivegrowth and foundedthe modem passengercar industry. The followingsections outlineGOC's strategytoward the adtomotiveindustry in both phases and trace the growth and developmentof the industry.

First Phase: Beinnin of the Domestic Industry

1.11 The Chinese automotiveindustry was first establishedin 1953, when GOC broke ground for the First Auto Works (PAW) in Changchun,Jin Province. FAW was designed to produce 30,000 five-ton trucks annually and comprised several plants to produce parts for a single truck design. Technology, equipment, and training were acquired from the SovietUnion, and the first -Riefang' trucks rolled off the assemblyline in 1956.1W/ The successful launching of FAW gave government planners the confidenceto expand shortly afterwards into other segmentsof the industry. As part of the "GreatLeap Forward," initiatedin 1958, GOC diversifiedthe automotiveindustry into the production of light trucks (at Nanjing), heavy trucks (Jinan), and passenger cars (Changchunand Shanghai). Later, in the early 1960s, GOC further expanded the sector by beginningto producebuses on the "Jiefang' truck chassis in plants scatteredaround the country.

1.12 In 1965, another large project for the Second Auto Works (SAW) was initiated at Shiyan, Hubei Province, initially for the production of medium-sizetrucks. The decision on this remote location was primarily dominatedby military and political considerationto shelter the heavy industry from possible foreignintrusion and to develop inland and coastalareas equitably. Owingto the then souring relationshipwith the former Soviet Union, GOC set out to construct this project solely with indigenous technical capability. As a result, GOC soon had to struggle with technical difficultiesand limited resources;consequently, SAW could begin to produce vehiclesonly a decadelater. It was only in 1980 that SAW reached full capacityproduction of the "Dongfeng"truck, which helped the industrybreak a new productionrecord of 200,000 units per year.

IQ/ Ibe Chinesetechnology level ws well belowconteporay worldstandards as the Soviettechnology importd in 1953was itslf a dedvativeof the America truckdesipns of the 1920s. - 5 -

1.13 During this phase, the automotiveindustry predominantly produced trucks. Passengercars (sedans only) manufacturedwith domestic technologycomprised less than 1 percent of total vehicle production. This was in line with the automotive indu'try's developmentobjective of supportingthe transport strategyby providing a vehicle fleet to share cargo demand with the railroad transport system.

1.14 Absentwas any sectoralpolicy to deliberatelyexploit economies of scale and locationaladvantages, which resultedin the dispersionof capacityacross the nation. The spatial dispersionof subscaleplants went to such an extreme that by 1979, for example, 405 establishments (n every province but one) were producing engines for the market,U/ the size of which would be hardly enough for one efficient plant. The spatial dispersionof capacityacross the countryalso impededthe diffusionof technological knowledgeand contributedto the backwardnessof the Chinese automotiveindustry. This dispersion and fragmentation of capacity was due in large part to: the tendency of provincialand I-:A governmentsto establishtheir own industrialbases; the reluctanceto transfer resources at the arbitrary prices posted by the central authorities;and conflicting objectivesamong central and local governments. The lack of proper and timely sector policy left an indelible imprint on the Chinese automotiveindustry. The industry today has yet to go through the ordeal of restructunng before shedding its past legacy and attainingan efficient scale of production.

Second Phase: Modernization Drive

1.15 Since 1980,the secondphase of the Chineseautomotive industry experienced significantchanges that lead to the modernizationof the industry, which were spurred by economicreform and reinforced by a proactive sector policy. GOC's intentionto make the automotiveindustry a "pillar industry" was made public and repeatedly confirmed: The China National AutomotiveIndustry Corporation(CNAIC) was created to raise the effectiveness of industrial organization; large investment projects were initiated and implemented;and foreign collaborationin technologyand capital was actively sought. As a result of policy changes, the industry showed rapid growth, breaking new records in vehicle production, expanding its product lines into newly found market niches, and reaching the 1 million mark in 1992. The outlook for the automobileindustry remains promising.

China National Automotive Industry Corporation

1.16 For the Chineseautomotive industry, the establishmentof the ChinaNational AutomotiveIndustry Corporation (CNAIC) in 1982 marks one of the most visible and significant organizational changes. CNAIC was established to address the compartmentalizationof the planning bureaucracies (central ministries, provincial governments, and municipalities)by providing industrial focus to the planning system. nitially, CNAIC had eight subsidiarycompanies defined along product or functionallines

.I/ ThomasP. Lyons, SpatialAspeVs of Developmentin China: he MotorVehicle industy, 1956-5,' mern4atonalRegional Science Reiew, Vol. 11, No. 1, 1987. - 6 - rather than traditionalplanning bureaucracy boundaries. Five companieswere each concernedprimarily with productionof finishedvehicles with one or more of the major plantsas its core. For example,the Jiefang Company, which based the main plant in Jilin, was to specializein "Jiefang"series mediumtrucks and in conversionsthat used the liefangchassis. Three companies specalized in partsproduction, marketing services, and foreigntrade. The CNAICsystem grew rapidly. At its heydayof power in 1983,291 enterpises under 10 ministriesand 27 of 29 provincesparticipated in the system;the enterprsescontributed to about80 percentof the industry'stotal grossoutput. 1.17 Despitethe preeminentposition of CNAICin theindustry, the allocationof decisionmalingauthonty among CNAIC, its subsidiarycompanies, and the established ministerialand provincialbureaucracies was not made clear. Officially,CNAIC was supposedto becomean independenteconomic entity under the "guidance'of a centralized plan. CNAICwas not intendedto be a stateadministrative organ mandatorilysubject to andinvolved with theplanning and resource allocation system, which is a sourceof power in the plannedeconomy.l2/ In reality, however,CNAIC seems to have replacedthe cental administrativebureau that hadoversight authority over the automotiveindustry by gettinginvolved with planningand overseeing the implementationplanning efforts of the StatePlar.niing Commission (SPC) in someenterprises. Yet, CNAICdid not gaineffective controlover aU participatingcompaimes because its plan sometimesconflicted with the interestsof thoseprovincial governments that retained nominal ownership of theproduction plantsthemselves and wereresponsible for physicallyproviding resources that wereoften in shortsupply. CNAICremained influential, however, through its easy accessto SPC. CNAICalso continuedthe effortto centralizethe decisionmakingprocess, especially for the medium-to long-termpanning of the industry,by tightlymonitoring the investment projectsinifiated by provincialgovernments.

1.18 Counterto thiscentraliation effort was thetrend of economicreform toward the devolutionof central authorityto provincialgovernments and enterprises,and eventualyto the market,resulting in the waningof CNAICcontrol over the industry. In 1987,CNAIC was disbanded and reformedto actas a federationof nationwideautomotive enterpises,becoming far less powerfil untilregaining in 1989some of its authorityand controlover investmentdecisions. Sincethen, CNAICremains active in its facilitative role by renderingsupport servicesto the enterprises,by coordinatingresearch and development(R & D) and technologytransfer among enterprises, and by carryingout limitedadministrative functions on the issuesdelegated from the State Council. It also maintainsa supervisoryrole at theTechnology Institute and Research and QualityCenters and reains majorownership of the Auto Parts and AccessoryCorporation, the Nanjing Motor Corporaion,and the AutomotiveIndustry Imports and ExportCompany. Even thoughthe authontyof CNAICwaxed and wanedin tandemwith GOC's approachto sectormanagement (centralization, decentralization, and recentraliation), CNAIC remains influentialin the industryin its advisoryrole to SPCand continuesto be usefulto GOC as the only organizationfully focusedon the automotiveindustry.

12! Zgguo Jixe, 1988. -7-

Pillar Industry

1.19 In recognitionof the potential role of the automotiveindustry in fostering economicintegration and growth, GOCaccorded -pillar industry- status to the automotive sector in the outline of the Seventh Five-Year Plan (FYP, 1986-90).j/ This status provided a strong stimulusfor the developmentof the domestic industry, entitling it to financialbenefits such as soft loans, a preferential tax regime (e.g., the abolitionof the special consumptiontax), easy access to foreign exchangeand simplifiedadministrative procedures for several activities (e.g., obtaining constructionpermits, hiring or firing workers, foreign travel of employees, and increasedshare of R&D activities undertaken by state-controlledinstitutes). Whether the governmentpolicy of preferential treatment was effective in attaining the developmentobjectives needs to be discussed; however, promulgatingthe pillar status itself instilled confidenceinto the industry and investment projects.

Lare Investments

1.20 During the Seventh and Eighth FYP (1991-95)periods, large investments have been initiated and implementedfor the automotive industry. The Seventh FYP alocated Y 11.7 billion to the CNAIC system.l4/ An additional $460 million of foreign capital was utilized in the industry,l5/ 60 percent of which was derived from mixed loans from foreign governmentsand the balance from foreign direct investment.

1.21 The SeventhFYP initiatedinvestment projects for the productionof knock- down (KD) assemblyof foreign-designedcars, and marked the begiing of the modern Chinese passenger car industry at Shanghai-Volkswagen(SVW), Tianjin-Daihatsu,and Beijing-Jeep.16/ In parallel with new passenger car projects, the Seventh FYP continued to support the truck segment with seven projects designed to develop the production capacity and to upgrade the technology of heavy and light trucks. The implementationof most of the truck projects, however, was delayed, and these were carried .er to the Eighth FYP.

13/ Electronics,machine tool, and cement industies are other industr desgnated for the pillar-industry stats.

14/ The CNAIC system does not includeautomotive investments by the Ministry of Aerospaceand the Ministy of OrdnamceIndustry, which ae planed sepately.

15/ This amount doesnot includethe FAW-VWor SAW-Citroenjoint ventures,for which contractswere signed in the final monthsof the SeventhFYP period. Note also that direct foreign investmentis not includedin the total investmentmade duringthe SeventhFYP as recordedin China,because the foreig funds were used to import eqipment and mateals and tbus are not contsued as competig for domestic resourceallocaions.

16/ Beijing-Jeepp-oduces a multpurpose vehicle, which i8 used both for passengerand as a light cargo vehicle. It is also used as a militaryvehicle in China. - 8 -

1.22 The EighthFYP quadrupled the total allocated investment in theautomotive sectorto Y 46 billion,and reinforced the emphasis on thepassenger car segmentwith two thirdsof the plannedinvestment in theEighth FYP allocated to that segment.Two major projects for passenger-carproduction-Volkcwagen-FAW and Citroen-SAW-started productionduring the early years of the Eighth FYP. In addition,the Eighth FYP highlightedthe light-trucksegment and also began to recognizethe importanceof upstream segments-bothparts and components-andrelated industry-as prerequisitesfor raising the local content. This was accomplishedby settingaside a significantshare of the investment.Table 1.1 providesa detailedbreakdown of the EighthFYP investmentsin the automotivesector. Table 1.1: EIG FIVE-YEARPLAN INVESrM IN THEAuTooTIv SEcrOR

Y billion

Carryoverfrom SeventhFYP 4.40 PaseenaerCar Proiects Cars 13.90 Parts and components 10.60 Tianjinengine 1.60 Formingcomplete set 2.50 Minicarprojects 1.64 Subtotal 30.24 Heavy-dutytruck 0.28 Light-dutytruck 6.45 Bus 0.86 Die and mold 1.60 R & D and training 0.88 Other 1.50

Total 46.00

Infusionof ForeignTechnology and Capital 1.23 Anothermajor force shapingthe developmentof the Chineseautomotive industryduring the last decade has beenGOC's active recruitment of foreigncollaboration. Foreigncollaboration has broughtabout capital, technology, and managementpractices that havebecome the drivingforce behindthe modernizationof the industry. By the end of 1990, the Chineseautomotive industry had receivedabout $460 million of foreign investment;even lager investment-$6.85billion-is anticipatedin theEighth FYP. In theearlier years of the industry'sdevelopment, the prevalentform of foreigncollaboration was that of acquiringonly hard technologythrough license agreements. Facinga large need for investmentcapital, however,the govemmentin recent years encouragedthe - 9 -

bundlingof capitalwith technology and managementpartcipation-in theform of thejoint venture-as an inducementto foreigninvestors. As a result, mostof the majorpassenger- car assemblyprojects have been joint-venture agreements.

1.24 Amongthe most prominent early foreign collaboations are thejoint-venture projectsfor passengercars: Shanghai-Volkswagen,Guangzhou-Peugeot, Beijing-Jeep, Tianjin-Daihatsu.In the past two years, this list has expandedto include FAW- Volkswagenfor Golfand Jetta-modelpassenger cars; SAW-Citroenfor passengercars; severalventures for the productionof light truckswith Isuzu, Iveco and Toyota;and technologytransfer agreements with Cumminsand Steyr. Collaborationagreements have alsobeen concluded recently for theproduction of minicarsbetween Chongqing and Suzuld and betweenGuizhou and Fuji. Most of the technologytransfer agreements have been concludedwith Europeanfirms. Americanfirms have only a marginalpresence in the assemblyindustry. Japanesefinns alsoremained relatively passive in spiteof theiractive role in the world automotiveindustry, but recentlyinitiated two majorjoint-venture agreementsfor the manufactureof minicars.

1.25 There is also considerable,if not enough, foreign participationin the automotivecomponents sector. Table4.4 in the Annexgives a list of someof the key projectswith foreigncoabation in the componentssector.

C. CURRENTINDUSMY TREND

High Growth and Product Mix Change

1.26 In the last decadeand especialysince the SeventhFYP, the automotive sectorin China has made significantstrides by achievinghigh growthof the industry, substitutingimports, establishingdomestic bases for the passengercar industry and diversifyinginto light trucks.

1.27 Sincethe early 1980s,the annual output of vehicleshas increasedmore than four times, rising from 222,300in 1980 to touch the 1 millionmark in 1992(Tble 1.2)./ This rapid increasein productionis attributableto new projectsand better performancefrom existing projects on the sWpplyside and the rapidgrowth in the Chinese economyon the demand side, especally in the light industry, townshipand village enterprise(rVE), and collecdvessectors. The 1992total productionof the Chinese automodveindustry is equivalentto the total automotiveproduction in Bzil (960,115 units) and Mexico(989,373 units) in 1991 and the Republicof Korea (1,083,655)in 1988,J1 even thoughpassenger car productionin theseeconomies is muchhigher than in China: 745,274units in Brazilin 1991;720,384 in Mexicoin 1991;and 872,074in Koea in 1988. The 1992total production outperformed the targetproducdon of 900,000

17/ Theoutput in 1993passed 1,200,000 units.

18/ WorldMotor Vdicle Data, 1990 edition, by MotorVebicle M Associatianof X United Stes, Inc. - 10-

Table 1.2: CmEnnE AuroMonVzE tO)UCIoN, BYTPME, 19&5-92

Year Total Truck Passenger Car

1955 (61.0) (61.0) 1960 22.5 17.1 (98.0) 1965 40.5 26.5 (133.0) 1970 87.1 47.1 (196.0) 1975 139.8 77.6 1.8 1980 222.2 135.5 5.4 1985 443.4 236.9 5.2 1986 372.8 218.9 10.8 1987 472.5 299.4 17.9 1988 647.0 364.0 36.8 1989 586.9 342.9 35.5 1990 509.2 269.1 42.4 1991 709.0 370.0 80.0 1992 1,061.7 590.4 160.0

Noe Uni is 1,000 units of autmwtv except fo the dota in die which aumin absolute _mbs TIe diffeencebeteew pductionfigures and th total of tucs and passengercars for chasss, Cos-oty tucks, specil vedcles and buses.

Source For 1955-90,CNAIC Chi Auto Yewobo*(1991); for 1991, from local oonsultant for 1992, 7ZwAi=uo Qiche Dao (January 29, 1993).

units in the Eigth FYPi(Table 1.3). Raising the share of passenger cars to one third of the total by producig 300,000 units is yet to be achieved, however.

Table 1.3: ANNUALPRoDUCnION TARGEIS OF 1oD EiGHT FfiVE-YEARPLAN

Total Automobile Production 900.000

Cars 300.000 High-levelcar (2.5-4 liters) 20,000 Medium-levelcar (1.6-2.5liters) 155,000 Poapularcar (1-1.6 liters) 75,000 Minicar (

Trucks 600.000 Heavy truck 31,000 Medium truck 201,000 Light truck 303,000 Minitruck 65,000

Sourr CNAIC. - 11 -

1.28 Anothersignificant development in the industryhas been its shiftaway from an almost complete emphasis on the productionof trucks, buses, and specialvehicles to a greater focus on smallpassenger-vehicles, especially passenger cars and light trucks. In 1985, less than 1 percentof total automotiveproduction was passengercars. By 1992, the production of passenger cars was 16 prcent of total automotiveproduction.j9 Even this dramatic increase in the production of passenger cars, however, could not keep up with growing demand, and market premiumsfor passengercars persist. The production of light trucks has also increasedfrom one third of total truck productionin 1981to more than half in 1992. This trend is also reflectedin the 1993production, in which more than 700,000 units of light trucks and passengercars are plannedfor productionby enterprises (Table 1.4).

Table 1.4: PRODUCIIONPLAN, 1993 ('000 units)

Type 1993Production Plan 1993 SPC Plan

Heavytruck 34.8 28.0 Mediumtruck 259.1 221.9 Lighttruck 320.0 207.6 Minitruck 120.0 60.0 Large& mediumbus 35.8 28.0 Smallbus 122.6 107.4 Passengercar 293.5 250.0

Note. The 1993Production Plan is the sum of the plans reported by the enterprises,totaling to 1,185,800 units.The 1993SPC pla tots900,000 units. The numbers are on a preiminarybasis, and the differenceis to be reconciledover the reiterativeplanring process. Source:7ioungguo Qidce Bo, January29, 1993. i,mport Subs ton

1.29 The rapid increasein domesticproduction allowed the industryto substitute the imports with almost 90 percent of the domestic market being served by producers in China. Imports of completevehicles and knock-downparts as a percentageof domestic sales continuouslydeclined from a high 44 percent to about 12 percent in recent years (rable 1.5). In addition, the Chinese producers continued to replace complete vehicle imports with knock-downparts imports, further accelerating import substitution. The importedknock-down parts were to be assembledin Chinawith domesticallysources parts, and thus rising knock-down parts imports were often matched with rising domestic production of complete vehicles. For example, in the sedan car segment, the domestic

WI Cop"redwithSlpwt mhdia,89pacentin Yuavi473pcent inBrl,65pecent inJapan and63 peren in te UnitedStts. - 12 - productionincreased its volume in tandemwith the increase in imports since two thirds of imports were knock-downparts. As a result, in 1992 despitethe large increasein imports, the share of imported cars representedonly 15 percent with 27,645 sets. However, the 1993 import spree of sedan cars tipped off the import share slightlyto 20 percent in the first three quarters (Cable 1.6).

Table 1.5: PRODCTIoN ANDINMRIrs oF AUTOMOTrES, 1980-91 ('000 units)

Domestic Year Market Imports Share of imports (X)

1980 273.3 51.1 18.6 1982 212.2 16.1 7.6 1984 402.6 88.7 22.0 1985 797.4 354.0 44.4 1986 521.6 150.1 28.8 1987 561.4 89.0 15.9 1988 741.7 94.7 12.8 1989 671.5 84.6 12.6 1990 572.8 63.6 11.1 1991 806.8 98.0 12.1 1992 1,271.9 210.2 16.6

Note: Import figures include knock-downparts as well as completelyassembled vehicles. Thus, the marketsize is oveetimatd by doublecountng of vehiclesdomestically assembled with knock- downparts. However,data are reasonablyaccurate for all practicalpurposes.

Source For 1980-90,China Auto Yearbook(1991); for 1991-92,CNAIC.

1.30 Another achievement for the automotive sector was an impressve performancein the exportof automotivecomponents, which grew 32 percentbetween 1985 and 1988. This is one of the highest growth rates recorded among developing-country suppliers,surpassed only by Thailand. Chineseautomotive component exports, however, have largely been in the low value-lowtechnology spectrum. Of the Chinese automotive exports to the United States in 1989, for example, 26 percent were radio-tape player combinations,and the other leading categorieswere fasteners (11 percent); jacks, hoists and winches (9 percent); roller bearings (9 percent);and mirrors (6 percent).20t

2&I Bowrng, nia,the U.S. Automotive ftemret.: Opportunies and Contrasfor Developing Counhy Supplr, Industryand Enry Deptment Woding Pe, hdustry Senes Pap No. 39, 1990. - 13 -

Table 1.6: SHAmEOF KNOCK-DowN PARIS iN ImpoRTS

Vehicle As KD As complete (b)/(a) imports parts vehicles (X) (a) (b) (c)

For All Vehicle TyDes, 1988-92

1988 94,696 26,907 67,789 28 1989 84,575 31,043 53,532 37 1990 63,687 24,176 39,541 38 1992 210,206 128,690 81,516 62

For Passenger Car Sedans. 1988-93

1988 57,433 24,127 33,306 42 1989 45,000 20,560 24,440 46 1990 34,067 18,136 15,927 53 1992 115,759 88,114 27,645 76 1993 117,670 74,384 43,286 63

Fragentation and Dipersion

1.31 In today's Chinese automotive industry, fragmentationand geograhical dispersion of production capacity, the leg,acyof the first phase of the development, continue to persist. For the current market size of barely 1 mitlion units per year, the Chineseautomotive industry is extremelyfragmented. A total of 117 enterprisesassemble completevehicles with their own chassis, with an additional459 independentassemblers (often called converters) producing vehicles with procured chassis. In 1990, only 10 enterprisesout of 117 had a productioncapacity of over 10,000 unitsper year (Tables 1.7 and 1.8).

1.32 The Chineseautomotive industry is also extremelydispersed geographically; every province except for Ningxia and Tibet has automotiveproduction capacity C(able 1.9). The proliferationof productionsites, however, reduced the production capacityof individualprovinces to such a small scale that the yearly provincial output is less than 10,000 units for all provinces except for (a) the three largest municipalities(Shanghai, 3eijing, and Tianjin) and (b) the provinces where the two largest truck producers are located (FAW in Jilin and SAW in Hubei). Moreover, this small provincial production capacity is further fragmentedat the provincial level, further reducingproductivity.

Dualistic Industry and Emerging Leaders

1.33 Evolvingfrom the fragmentedand dispersedindustry is the developmentof a dualistic structure in which the industry shows a bimodal distibution in the size of - 14 -

Table 1.7: ENEPRI IN CEMNsE AUTOMOIV I SRY, 1980-90

1980 1985 1989 1990

Number of Enterprises 2.357 2.857 2.596 2.596 Vehicle producer 56 114 117 117 Converter 192 319 464 459 Engine producer la 64 Parts and components 2,109 2,429 1,948 1,958

Number of Emplovees /b 719 1.363 1.570 1.565

La Engmeproducers ar countedi compont and paentpriss for yeas oter than 1990. /b Unit is 1,000 persons.

Table 1.8: D MON OF AuTOMOTiE ASSEmBLR BY PtODUCerON CAPACIlY

Annual Production Capacity (units) Number of Plants

Under 100 21 100- 500 29 500 - 1,000 20 1,000 - 2,000 33 2,000 - 5,000 13 5,000 - 10,000 8 10,000 - 20,000 5 20,000 - 50,000 3 Over 50,000 2

Noter. Geographicaflydistn plants in the sam entepris are counted searately. Total of plants in the above table is 134, which is larger tban the number of enepie, 117.

Source:i Auto Yearbook,p. 115. productioncapacity; in the degreeof exposureto foreig collaborationin technologyand capital;and the profitabilityof productlines. Despitethe fragmentationand dispersion of theChinese automotive indusay, it showsa bimodaldistribution in size as a few producers operateat a muchlarger scale than the others. As a result,the industryhas relativelyhigh concentrationratios for individualsegments. The twoleading plants in the medium-truck segment,for example,captured as high as 80 percentof the productionin 1987with their combinedoutput in that year of 112,200units, comparedwith a total nationaloutput of 139,800units. In thebus segmentand the beavy-trucksegment, hre was no ignificant - 15 -

Table 1.9: GEOGRAPHCALDISRON OF PRODUCTONCAPACrrY

Total produc- tion (units) Provinces (numberof plants in the province)

Over 50,000 Jilin (5), Hubei (6) 20,000 - 50,000 Beijing (9) 10,000 - 20,000 Shanghai (5), Tianjin (5), Liaoning (8), Sichuan (16) 5,000 - 10,000 Guangdong (4), Guangxi (3), Shandong (6), Jiangxi (4) 2,000- 5,000 Heilongjiang (5), Jiangsu (10), Zhejiang (4), Guizhou (3) 1,000 - 2,000 Yunnan (6), Shanxi (3), Xinjiang (1), Anhui (3), Henan (4), Hunan (9) Soo - 1,000 Qinghai (1) 100 - 500 Gansu (1), Shanxi (3), Fujian (3) Below 100 Inner Mongolia (1)

Source. China Auto Yearbook(1991). concentradon. In the passenger-carsegment, Shanghai Santana captred 40 percent of the market in 1992 by producing 65,000 units, compared with the total national output of 160,000; Santanaand other Volkswagen-designedcars (Audi and Jetta producedin PAW) captured nearly 60 percent of the market.21/ The concentrationin the passenger-car segmentis yet to be seen becauseenterprises are now in the middleof capacityexpansion, however,even thoughtwo Volkswagenjoint ventures(PAW-VW, and ShanghaiSantana) are likely to remain influential.

1.34 In the last decade, the dualisticstructure of the automotiveindustry in China has been further accentuatedby foreigntechnology and capital infusionbecevse the benefits of foreign collaborationusually went preferentialy to large enterprises or enteaprisesin the passenger-carand light-truck segments. As a result, today two contrasting segments of the industryexist: one is a fast-growingand very profitablesegment, notablypassenger cars and light trucks to some degree; the other is stagnantand less profitable segment, notably buses and, to some degree, medium trucks. Enterpises in the high-growth segment of the industry embody high levels of foreign technology infusion and foreign collaboration,a large proportionof importedcomponents, high-uality standards,and well- paid and motivatedpersonnel. The relativelystagnant segment comprises predominantly the numerous, unprofitableplants for truck and bus production; they typically embody 100 percent local content, obsoletetechnology, poor-uality standards,and a poorly paid and unmotivatedwork force. Often the latter segmentalso functionsat uneconomicscales

U/ Source: Private communicaDonwith CNAIC. n 1992,the out of pass0e ca was 65,000 units by Shanai Santsna; 30,000 by FAW (Audi and Jeta); 3s,000 by Chande by Tinin-Daihaa; 15,000 Pegeot by Guangthou Peugeot; 15000 by Bejing Jeep; 3,000 by Citrodendsigd cas by SAW. - 16-

of production with very high costs. Such contrasts sometimes exist within the same enterprise, with a motivatedand well-aidlabor force working in the joint-venturesection of the enterpriseand the rest trailing far behind in automation,motivation, compensation, and often product quality.

1.35 Emerging are the prospective industry leaders who were strategically positioned to receive benefits during the modernizationdrive and are likely to play importantroles in the future developmentof the industry. In the passenger car segment, eight enterprisesare leading the growth in the industry:

* The Big Three-First Auto Works (FAW), SecondAuto Works (SAW), and ShanghaiSantana

* The Little Three-Tianjin Daihatsu,Beijing Jeep, and GuangzhouPeugeot

* The Mini Two-Chongqing Suzukiand Guizhou Fuji.

In the light-trucksegment, Nanjing Iveco, SouthwestIsuzu, Beijing Isuzu, and Shenyang Goldeup Toyota are emerging as the industry leaders. The Heavy-Duty Truck ManufacturingGroup dominates production for heavy truck, (Box 1.1). The dualistic nature of the industry is likely to have significantimplications for the restructuringof the industry in the coming years as leadingenterprises in the high-growthsegment are better positionedto achieve internationallycompetitive standards than enterprises in the other segmentwho will continue to fall even further behind.

1.36 The dualisticnature of the industryis also observed in the pricing structure of products as prices for passenger cars are at two to three times the internationallevel, while that for trucks are well below the international level. Shanghai Santana, for example, the best-sellingcar in China today, is priced at Y 173,820, which is equivalent to $20,500 at the swap exchange rate or to $30,500 at the official exchange rate C(able 1.10). The Santana is a 1970s model, and no comparable model exists in the developedcountries. The price of the Santanais believedto be very high for a car with an engine size of 1.6 liters and no significantelectronic component. In contrast, the truck price is about $6,500 at the officialexchange rate for a 5-ton truck, which is far lower than the internationallevel, despite the low product quality (Table 1.11).

1.37 An interesting feature of the sales price for passenger cars is the foreign exchangecomponent. Due to tight foreignexchange controls, enterprises have difficulties in acquiringthe foreignexchange that is needed for the import of parts and raw materials, especially in the early years of operation. As part of measures approved by the State Council, however, subject to the approval of the Foreign Exchange Commission,joint- venture products that are import substitutescan be sold pardy or completely in foreign exchange. The sale prce of the vehicle then becomes negotiable: the higher the proportion of foreign exchange, the lower the selling price. - 17-

I" 1.1: ZADINGPLAYERS IN TiE Auioonvz INmxsmY

SmaUPase Vehicles Fiist Auto Wodks Volkagn-Gof/Jefte 150,000 SecondAuto Wor Citrom 150,000 Shnghai Santa Volkswaen, 150,000 Beijing-Jeep Chrysler 100,000 Tiamjin,Charade Dailiatsu 80,000 Guangzhou-Peugeot Peugeot 15,000 Choagqing Suizr1 30,000 Guiuhou Fuji 30,000

Lieht Trucks Nanjing Iveco 60,000 SouthwestIsum Isz 60,000 FAW Toyota 60,000 ShenyangGoldcup Toyota/GM 60,000 Beiji.azu Isum 40,000 Trnjin na. 20,000 Hatbin na. 10,000 Guangzhou na. 10,000

MediumTrucks FAW na. 100,000 SAW na. 140,000

Hxeavy!mi Heavy Duty Auto Mfg. Goup Steyr 20,000

Table 1.10: PAssE?GERCAR PRIcEs (Yuan)

Item ShanaghAi Beijing Guangheou Audi Tianjin Jetta

Ex-factory 61,200 55,558 63,659 94,000 42,200 120,900 price and $9,100 and $10,600 and $11,034 and $17,000 and *3,500 and $9,874 Sales price 127,450 131,606 143,316 215,934 69,107 131,236 Sales price and taxes included 173,8201a 164,646 187,716 265,284 78,073 160,536

La At the officildforeig exchangerate, this is equivaenmtto $30,500. At the swap rae of Januay 1993, this is coneredto $20,500. - 18 -

Table 1.11: TiucK ArD Bus Piucus (1990) (Yuan)

Type Ex-factory Market

Mini truck 319000 37,000 Daihatsu Van (TJ11O)

LiahtTruck 23,600 27,600 Yejin (NJ1041M) Medium Truck Jiefang (CA101) 29,800 34,400/a Dongfeng (EQF 140-1) 31,400 42,100 Heavy Truck Ruanghe (JN162) 92,500 99,000 Bus Beijing (BJ632A, 16 seats) 32,500 41,000 Huanghai (DD6800, 61 seats) 92,400 96,800

/a Thisis converted to $6,300 equivalet at the official exchangerate. The spreadbetween the official andsw rateswas smaller(about 10 percet) in December1990 tan in Januy 1993. Source: CNAIC.

D. LOOKNGAIEAD: DEVELOPMENTALOBJECrIV

1.38 As the future unfolds, there is great expectationand optimism with significantchallenge from outsideand within the industry. In 1993, the market for automobilesin Chinais buoyantand the moodin the industryis optimistic.The continued highgrowth of the economy,and the light-industrysector in particular,is expectedto lead to a boom in the demandfor cars and smallvehicle segment of the automobilemarket. On October12, 1992,the 14thParty Congressreinforced the optimismin the automotive industryby reiteratingits statusas one of the "pillar"industries. Encouragedby the high rates of growthin the last few years,investment and capacityin the industryis expanding at a rapidpace.

1.39 The 1990swill, however,present the automotiveindustry not just with opportunities,but also with the greatestchallenges to date. WithChina's immiilent entry into the GeneralAgreement on Tradeand Tariffs(GA[TI) and loweringof importtariffs, thepresent seller's marketis likelyto facemore discerningand demandingconsumers as theyare increasinglyexposed to high-quality,low-priced imports. Theindustry, however, is not yet readyfor competitionwith the sophisticatedinternational players owing to its antiquated,fragmented, and dispersed capacity and the inefficient industry oganizadon and - 19 - enterprise management. It will require a herculean effort on the part of the industry to defend the domestic marketand to possibly achieveinternational competitiveness in order to export in the long run.

1.40 In this context, GOC's developmentalobjectives and strategies for the automotiveindustry need to be reviewei for their congruencyand consistency. Despite GOC's repeatedconfirmation of its intentionto developthe automotiveindustry as a pillar industry, surprisingly few official documents containing developmentalobjectives and strategy and a coherent policy frameworkwere issued.22/ However, the recent industry developmentand availableofficial documentsindicate that GOC perceives the automotive industry as an industry of the future with the potential(a) to become an engine for growth and industrializationthrough its forwardand backwardlinkages and (b) to supplyvehicles at internationaly competitiveprices.

1.41 There is natural tensionbetween these two objectivesbecause developing a domesticindustry calls for some protectionfrom import competition,while the availability of vehicles at internationallycompetitive prices is only possible with no import barriers. Experiencein many countriesand to a certaindegree also in China suggeststhat protection based on the infant industry theory fails to breed efficiencyand competitiveness;instead, protection incurs social costs with high domestic prices and poor export performance. Liewise, althoughfree foreign trade may maxmize the consumersurplus, but free trade may lead to a trade deficit and deny an opportumityfor domesticproducer. This conflict implies that GOC should pursue an intertemporalpolicy tade-off by preparing the domesticindustry during the protectionperiod for eventualcompetition with international players in the domesticmarket in the mediumterm and in the internationalmarket in the long term.

1.42 This objective of tWuningaround the small, inefficientand technologically obsolescent domestic industry to be on a par with the large-scale, efficient, and technologicallysophisticated international players in a short period of time is difficult to achieve without an effective governmentpolicy. The effectivenessof the current policy frameworkto achieve these developmentalobjectives is discussedin Chapter 3, after the internationaltrend of the industry and the domesticmarket prospectshave been reviewed in Chapter2. Chapter4 deals with the issuesto considerin formulatingthe developmental strategiesand Chapter 5 with recommendations.

W Impkntation Method of Ste Industo Policyfor Atonwbilk Industy, a 17-paw memoandum preparedand distibuted by CNAICon October 10, 1990, is the one thatis closest to an official document.However, there is littleevidence on whether it hasbeen approved by theState Council or generallyaccepted in the industry.Anohr docmentmost frequently quoted on the developmental sltregy is the repoxtby thejoint Sino-Japanexperts' study. -20 -

2. INTERNATIONALTREND AND DOMESTICDEMAND

2.1 Theworld automotive industry is heavilydominated by three regions,North America,Japan, and WesternEurope. Out of a total productionof 49 millionunits in 1990,Western European countries produced 15.5 million units; Japan, 13.5 million;and North America, 11.7 million units. The world automotiveindustry is also heavily influencedby about 10 leadingplayers whose combined market share reached 70 percent in 1989with the US manufacers maintainingthe strongfirst and secondspots.I/ 2.2 Demandalso has been concentrated in theabove three regions: as the above market becomesstnant, however,the leadingplayers suffer from overcapacityand intenseglobal competition. This increasedcompetition shapes the industrytrend toward globaizationof manufacturingthrough the exchangeof goods,capital, and technology. Productiontechnology has risen as an importantcompetitive edge, and continued technologychanges in productdesign and pollution-freevehicles such as electriccars are shapingthe futureindustry. 2.3 Therehave been two Sino-foreign joint studieson theprojection of domestic demandfor automotiveproducts in China. The assumptionsof thesestudiaes vary, but the studiesyield a range of marketprojections that indicatesa domesticmarket of 1-1.5 millionunits by 1995and 1.6-2.3million units by 2000.

A. TIS IN TE WORD INUSTRY

2.4 OvercapacityIn the Global Mrket. Global demandfor automotive products,which has been growingsteadily snce WorldWar II, is becomingsaturated in the developedcountie, with growth in registrationof new passengercars acualy negativein 1990 and in 1991 in the prime marketsof the United States, Japan, and Europe.2/ With the exceptionof southernEurope, demand in mostOECD counties in the comingyears will consist primarilyof vehiclereplacement. The levelingoff of automotivedemand has led to overcapacityin the globalindustry. Overcaacityhas been estimatedto reach9 millionunits in the early 1990s,of whichmore thanhalf will be in

I/ Fac andFigww '91by the Mot VehicleManfacturets Asocia of the UntedSt. Whe overseassubsidia plan ar included,in 1989Gener Motosproduced 7.6 millianu andFord 6 millio uts. Thecombined share was 28 percent Thid andfourth large producerswer the Japaes Toyotaand N-isa, with 4.3 millionunits and 3 millionunits respectively. Volkswagn rankedfifth by producing2.9 milionunits.

ZI McArdle,JIm, WorldCar Fonem.: DheOalookJbr Sala, Produion and Viddes in Useto 1996, EconomistIngc Unit,Speca Report 2112, 1991. - 21 -

North America.3/ The slowingdown of the developedcountry markets is also reflected in tough financialtimes for most of the leadingmanufacturers in the world industry. The combinedlosses of General Motors (GM), Ford, and Chrysler reached an amazing $7.3 billion in 1991. Toyota's worldwidepretax profits for the year endingJune 30, 1992fell by 40 percent comparedwith the previousyear. Nissan expectedto have a big loss in the first half of 1992and for the first time failed to pay dividends-_/

2.5 Growth In the Developing Countries. With saturation in developed markets, furthergrowth in the world automotivemarket is likely to come from developng countries. Vehicledemand in developingcountries is expectedto grow 220 percent during 1988-2000. Nevertheless,the total number of vehicles to be sold in developingcountries in the year 2000, estimatedto be 16 million units, is still likely to be one third of that in OECD countries. Amongthese countries, the Asiannewly industrialcountries (NICs)are a primary source of demand as well as eastern Europe, Russia, South America, and counties such as China, Lidia, and Indonesia, which have large populationsbut as yet limited purchasing power.S/ Given these dynamics, most of the leading manuf rs have been looking toward developingcountries for the expansionof their operations. A joint venture with a domestic company is a typical instrument. The nature of the relationships between developed country manufacturersof technology and developing country buyers is likely to be ftrer influencedby some key developmentsin automotive productiontechnology.

2.6 Globalization of Car Manufachting. One charactistc of the world automotive industry in the 1980s has been its increasing globaliztion, with large movementsof goods, capital, and technologyacross interatonal borders. Interational trade increasedthrough the 1980swith global automobileexports increasingat 4 percent per annum to a total of 13.6 million units in 1988.6/ The 1980s also marked the virtual dominanceof the Japanese automotiveindustry, with one third of total world exworts comingfrom Japan (4.4 million). Another significantdevelopment in the globalizion of the industry has been the growth in capital interlinkages among major automotive prodacers. Though capital and technologyflows from developedto developingcountries existed before, this period marked an increasingtrend toward the internationalizon of domestic industr in developedcountries as well.

2.7 This trend began in the early 1980s because of trade frictions owing to Japan's increasingexports to the United Statesand the ensuingimpact on the US domestic automotiveindustry. To addressthese concerns,Japanese producers established producdon

21 Bowing, Antoaia,De U.S.A odmdeAai*e:OpponiiuWudCoaanusforDevlping Cowwy Supplier, ustry andEner Dprtmn WorkmngPae, h WorldBank, 1990.

41 -Endles Econmni, TheEnmit, Octobar17,1992, p.4. fI Karmokohias,Yanis, Awaomoih Indwoy, 1Mxes and Prospec for Imwnne In Developing CouWris, Intme nd Finne Cporpason,Discusdon Pqa 7, 1990.

O1 Op. it - 22 - facilitiesbased in the UnitedStates in collaborationwith American manufacturers. Such joint-venturecollaborations proved to be of muta benefit;on the one hand, the Japanese producerswere able to increasetheir marketshare in the Americanmarket and learn the marketingand distributionchannels of a foreignmarket while avoiding political barriers. On the other, the Americancompanies benefited from access to the new Japanese managementtechniques and productiontechnologies. By 1992, the annual output of Japanesetransplants in Americareached 2 millionunits in an annualUS marketof 13 million. Japanesetransplants are now also beingestablished in Europe, with a Honda engineplant in southernEngland and Toyotaengine and assemblyplants in the United Kingdom. 2.8 The Japanesetransplants have marked a newera of symbiosisbetween the major world players. As intemationalcompetition has grown, so have the interlinks amongthe leadingmanufacturers as a meansof reducingcosts, pooling risks, andgaining access to new regtionalmarkets. The strongestlinks exist betweenJapanese and US automakers.Ford, for exanple,holds a 25 percentequity stake in Mazdaof Japan,while in the UnitedStates, Mazda operates an assemblyplant that producescars under boththe Ford and Mazdabrands. Chryslerand Mitsubishihave a joint venture,Diamond Star, whichalso produces cars for both salesnetworks. Sincethe early 1980s,GM andToyota, respectivelythe largestUS andJapanese vehicle makers, run a joint venturein Fremont, California-NewUnited Motor Manufacturing-that produces Toyota-designed cars for the two companies'US salesnetwork. BothUS and Japaneseproducers also are increasing collabrationsin Europe;in 1989,GM purchased a 50 percentstake in Saab,the Swedish auto and spacegroup, whileVolvo and Mitsubishinegotiated a joint venturein Europe. Such collaborationsalso are taking place in developingcountres, with Ford and Volkswagenjoining hands in SouthAmerica to formAutolatina.

2.9 IncreasedTrade in Components.Another trend by the leadingautomotive producersis decreasingvertical intgation andincreasing outsourcing of components,thus leadingto increasedtrade in components.Automotive component exports increased in the 1980sby 4 percent per annumto reach $57 billion in 1988. Developingcountries accountedfor only $3.7 billion of these exportsin 1988,largely in low-value,labor- intensivecomponents, but the ratesof growthof theirexports have been very high. Sixty- one percentof these exportswere for the US market,2/imports to whichincreased from $14.4 bilion in 1986to $24.7billion in 1990(excluding Canada). Japaneseproducers, whichhave traditionally depended on theirown component suppLiers, are alsofor the first time lng up with intemationalcomponent producers. In 1990,Nissan announced it would purchase parts from the US manuf AssociatedFuel Pump Systems Corporation-ajoint ventureof Nippondensu(a Toyotaaffiliate) and RobertBosch of Germany. Nissanalso announcedits intentionsto purchasea high volumeof cylinder blocks from GM, signalinga greer import content in the traditionallydomestic componentsindustry.

I/ For da, we Bowug andKarmokolias, op. ct - 23 -

2.10 Reduced Foreign TradeProtection in Industralng Countries. The highlevels of domesticmarket protection and localcontent requirements that characterized policy amongindustrializing counties for the automotiveindustry have been reduced. Amonglatecomers to the automotiveindustry, only Korea, Argentina,and Brazilhad achieveddomestic content greater than 90 percentin 1988. Mexico,India, Thailand, and Taiwan(China) have achievedlocal content levels of 50 to 65 percent. In realizingthat protectionoften erodes the competitiveness of theirindustries, most of theseeconomies are now loweringtheir local contentrequirements and reducingtariffs on automotiveand componentimports to encouragecompetition in their markets. Mexiconow requires only 36 percent local content,and Taiwan(China) imposes a 50 percent domesticcontent requirement.8/Argentina, faced with a domesticindustry that was decliningrapidly in the wakeof high domestic-contentrequirements is reducinglocal contentrequirements. For passengercars and lightvehicles, the alloweduse of importedparts will doubleup to 1994,and for commercialvehicles, it has alreadybeen increased2.3 times. Brazilhas also announceda scheduleof significantlyreduced import tariffs on partsand components (Box2.1).

Box 2.1: TAm ONAuros iN SELEcrE COUNTIES ikk cm Truck Om UnitedStates 1992 2.5% 25% 3% Brzil 1991 60% 60% 55% 30% 1992 50% 50% 45% 25% 1993 40% 40% 35% 20% 1994 35% 35% 30% 20% Mexico mid-1980s no imports 50-100% 1991 15% Taiwan(China) 1985 65% 1991 30%

Korea 1990 20% 20% 13% 1992 15% 15% 9% 1993 10% 10% 8%

Turkey mid-1980s 100% 1991 39%

1/ Awtoo Indury3Sd, BoozAsm & Hamiton,Ibc., Am 1992. - 24 -

2.11 The Rise of ProductionTechnology as a CompetitiveEdge. Production technologyinnovations made by Japaneseproducers in what has come to be knownas "leanproduction" are settingindustry norms across the globe.2/ A key aspect of the adoptionof the lean productionsystem has been radical changesin the relationships betweenvehicle assemblers and their components suppliers. These changing relationships are reflectedin an increasein the outsourcingof componentsfrom a small group of primary suppliers,who also take increasedresponsibility for maintenanceof quality standards,and for reliability forjust-in-time delivery schedules and who participate actively in productdevelopment. The advantagesof this systemhave been logistcalefficiency, economiesof scale,and specializationof R & D of componentprodu,ts. 2.12 The adoption of lean production systems has implied that vehicle manufacturs havedrastically reduced the levelof verticalintegration. In Japan,as much as 70 percentof the valueof a completedcar comesfrom outsidecomponent suppliers. Learningfrom the successof Japan,vehicle manufacurers in theUnited States and Europe also haveincreased the outsourcing of theircomponents and nowsource about 50 percent of the valueof the car fromcomponent suppliers.I1/ 2.13 Althoughthe percentage of outsourcedproduction is increasing,the number of primarycomponent suppliers to assemblersis decreasing.Ford North America,for example,trimmed its primarycomponent suppliers from 20,000 in 1985to 6,000in 1989. Ford Europesimilarly reduced its primarysuppliers by 64 percentin the same period, from 2,500 in 1985 to 900 in 1989. This reductionhas been accomplishedby single sourcingof parts from suppliersand by primarysuppliers taling responsibilityfor the productionof largermodular units or subassemblies.U/ 2.14 Althoughthe numberof first-tiersuppliers has been reduced,they in turn deal with a large number of second-tiersuppliers. For example, one Japanese manufactr directlyprocured engine parts from only 25 pimary sppliers, but the latter dealt with 912 subcontractors,who, in turn, procuredfrom 4,960 third-tiersuppliers. Followingthe reductionin thenumber of primarysuppLers, stable, long-term relationships betweencomponent suppliers and assemblershave developed, whereby the suppliersare activelyresponsible for qualitycontrol and activelyparticipate in productdevelopment. TwoJapanese component suppliers devote between 4 and 6 percentof their salestoward

2/ Formore information on ieanprodcwtion syslems, so Womack,James P., DanielT. Jon, and DaielT. Roos,The Machw Tha Chnged the World, New Yor Macilan Pubishtng,1990.

IQ/ Endle Road, TheEonmLu, op. cit. a/ Ka ekolia,op. cit - 25 -

R & D.12/ GM expects its first-tier suppliers to devote 1 percent of their sales revenue to R & D, failing which the relationshipcan be terminated.13/

2.15 With emphasison economiesof scale and on the need for the component manufacturers to undertake R & D and product development, large component manufacturingfirms that operate globally have emerged with greater prominencein the world industry. Large internationalcomponent manufacturers with large productionscales that reduce per unit productioncosts as well as R & D costs are beginningto dominatethe global automotiveindustry in ways similarto the leadingvehicle assemblers-for example, Germany's Robert Boschand France's Valeo in electronics, America's TRW in steering, and Britain's GKN in bearings. One industry analyst has suggestedthat by the end of the decade the componentsbusiness will be dominatedby 50 specialtycompanies, supported by a network of second-tierand third-tier producers.14/ Given the premium on stable, long-term relationships in lean production systems, in many cases, these component manufacturers are following the movements of interational capital in the assembly industry. FollowingJapanese assemblytransplants into the United States were Japanese componentmanufacturers; by 1988, 142Japanese majority-owned and affiliatedautomotive parts suppliers had set up facilities in the United States.

2.16 Japanesemanufacturers are now developinga new generationof production technologywith flexible assemblylines that aRow for the production of vanous models with no retooling. Such a flexible assemblyline will allow for a completelycustomized automotiveproduct to be produced on the same assemblyline. It would be able to build not just different models of the same car on the assembly line but also different cars-a move back from the mass production concept back to that of custom engineering with production rns of one. A completelydifferent vehicle can be made each time with the cost comparable to that of a mass producer. The increased robofizationand flexible automation, the procurementof subassemblysystems rather than individualcomponents, and the increaseduse of plastics aU contributeto this new productiontechnology, which would have immense impacts on the developmentof future global competition in the automotiveindustry.

2.17 Continued Changes in Industial Technology. In the coning years, significantchanges are heralded in the nature of product and production technology. A major change that is emerging is in flexible production technology; this change is redefining the concept of large production runs and will allow manufacturers more flexibilityin custom designingautomotive products. There are also changes in existing product technologieswith the increasinguse of electronicsand plastics. As a response to

JI Kurt Hoffman,and Raphael Kaplini, Driing Force: h Gobal RndwIng of Technology, Labourand Invwanem in theAwomobike Conem Indwny, Bolder: WehaviewProw, 1988. 1I/ Karmokolas,op cit.

14/ As quod in owg, op. cit. p. 23. - 26 - growing environmental concerns, more revolutionary changes may come from the developmentof totally new technologiessuch as the electric car.

2.18 Electroics. Althoughestimates vary, the consensusis that 20 percent of the value of the car of the future will be represented by electronics, with computers facilitating the entire driving process from the pistons to the wheels.lJ/ GM has estimated that the averagevalue of electronicsin a typical car will rise from abouit$500 in 1988 to more than $1,200 in 1995. Today's typical car in the West embodies 25 electronicallycontrolled subsystems, and more than 300 are anticipatedby 1997.1W

2.19 Plastics and Aluminum. Replacing sheet steel in some of the new car models is plastics and aluminum. The new GM Lumina, for example, has plastic body panels bonded to the metal frame. The percentageof steel in an average Germa car is expected to drop to 60 percent in the year 2000 from 72 percent in 1989, whereas aluminumand plastic are expectedto increase from 3 to 8 percent and 7 to 17 percent, respectively.

2.20 Change in Product. Another set of initiatives in the car industry are coning from the need to developaltemative products to meet the growing concernabout environmentalpollution. In September1990, the CaliforniaAir ResourcesBoard adopted tough new rules to reduce air pollution above Los Angeles, requiring that by 1998 2 percent of the cars sold by each manufacuer in the state be zero emissionsvehicles (ZEVs). This proportionis to increaseto 10 percent in 2003. Given presenttechnologies, this quest for ZEVs has promptedgreater efforts towardthe developmentof electic cars. All the world's large car makers are developingelectric cars. Initiativesto encouragethe developmentof electric cars are also taking root in other counties. In France, the state- owned utilityhas signed an accord with Renaultand Peugeotto equip 10 French cities with electic cars and battery rechargng stations. In Japan, the Ministry of Trade and Industry (MMTI)too has set a goal of seeing 200,000 electric cars on the road by the end of the decade, with half of those being producedin Japan.

2.21 Inteo Alliances in Technology Developmt. One consequence of the increasedcompetition in the automotivemarket has been the increasingrealization for the need to benefit from economies of scale and for risk pooling in product development. GM spent $3 billion for the design, development,and tooling of the Saturn car.l-/ With the increasing cost of product development, one movement in the automotve industry has been in global cooperationin the developmentof technology. Mazda has been talking to Ford aboZtjointly manufacturingcars in Europe. Ford and Nissan are to build a sports utility vehicle together. Recently, the Big Three in the US market have announcedplans to collaborateon the developmentof the electric car.

15/ As quWotdin Kamaakolss,op. cit

J1I As quod in Bowring,op. cit.

171 'Endls Rod' Sk FEonm, op. i - 27 -

B. DONEMCDEMAND

Freight Vehicles

2.22 Built on the rationale of fulfillingnational freight needs, truck production has been at the core of the automotive market in China. Trucks have consistently comprisedmore than half of the automotivemarket in China, with the primary source of demandcomning from governmentinstitutions. In the comingyears, the market for trucks will continue to grow, with increases in demand for trucks coming from three sources: (1) the increase in freight traffic with economic growth, (2) diversion of some freight presently carried by railways to roads, and (3) a growing replacement demand for an increasinglydilapidated and obsoletefleet of trucks.

2.23 Level of Demand. Cross-countryexperience has shown that with the growth in economic activity, the demand for freight camed by road transport nses concomitantly. A recent study of cross-countryexperiences has found that for every 1 percent increase in GDP, the demand for road freight is liklMyto increase by at least 1.25 percent.l8/ In China, this trend is likely to be reinforced by the trend toward the diversionof some freight from railwaysto roads becausethe percentageof freight moved by rail in China is already high.12/ The rapid growth of containerizationwill also lead to an increase in the demandfor road freight services,owing to its caacity for quick and inexpensiveintermodal freight loadingand unloadingcapJbility and its ability to integrate road freight networkswith rail and ship freight networks.2

2.24 These trends are alreadybecoming apparent in China. Whileoverall freight traffic grew at an annualrate of 7.6 percent over 1980-90,the growth rate in freight road taffic was almost double at 15.5 percent over the same period, outpacingthe 6 percent growth in rail freight during the same period.21/

2.25 The increase in demandfor trucks due to rising demandfor freight is likely to be reinforced by pressures to modernize and upgrade the quality of a truck fleet of obsolete design and safety standards. In 1988, one sixth of the fleet was more than

IF8 Er Bennatan,Juie Fraser,and LouisS. Thompson,liWat Denn Dsnad for FM&igh lDwpo?, ThoWorld Bank, Policy Rearch Workig Pae 998, 19. Te reportconcludes ta fordeveloping countries, the demand elasticity for road fteight is liDkyto bve a lowerboumd of 1.25.

12/ In 1989,railways acowuntd 41.6 pent of freighttraffic in Chinacopoared with 13.5percent of freighttraffic cared by highways.Most of he remang freighttaffic is caried by waterways.

2Q/ Such itrmda contaneizedfnight transportcapability, however, reqWues smitactor-tai. China as yet has a veiy limitedcapacity to producetbtor-triles.

?lI China CowanyEcamk Manonun, Rqfon and the Roe of te Pan in the 19%, Report No. 10199-CHLA. - 28 -

10 years old,22/ and an almost equal proportion of the fleet was classified as "not in good working condition."22/

2.26 DemandStructure. The structuralchange in the marketfor trucks is likely to come from the compositionof the truck fleet. Currently, China's truck fleet is dominatedby mediumtrucks with the ratio of mediumto light trucks being 3:1, compared to 1:3 in the United States.24/ The predominanceof medium trucks in the fleet is due, in large part, to the large productioncapacities installed in FAW and SAW. Half of the annualoutput of trucks in Chinais comprisedof mediumtrucks, a much higher proportion than virtually any automotiveindustry in the world.

2.27 Over time, the demand structureis lilely to favor a change in the product mix of the industry away from medium toward light trucks. Currently, medium trucks often perform tasks that could havebeen performedmore efficientlyby light trucks. Given the current patterns of growth in the Chineseeconomy, with its strengthsin light industry, TVEs, and urban collectives,the demandfor short haul for small fteight loads is likely to grow. Light trucks are ideally suited for this type of freight loads, are versatile in their ablity to carry a small passenger load, and are also cheaper and more fuel efficien than mediumtrucks. Furtier, the same basic model can be modified slightly, for example a flat-bed or a box-van, to serve a variety of users. Given all these factors, the market demand for light trucks is likely to grow.

2.28 The marketfor heavy trucks is expectedto continue to exist because of its uses in mines, oil fields, metallurgicalindustries, capital constuction, and long-distance transport. This growth rate is projected, however,to be less than the total growth in the truck fleet; thus, the proportion of heavy trucks in the total truck fleet is expectedto fall marginally. Basedon the factors enumeratedabove, the compositionof the total truck fleet is likely to change from 1:7.4:2.4 for light, medium and heavy trucks in 1987 to 1:3.5:5.5.2$/

Passenger Vehicles

2.29 Passengertraffic is also likely to increaseboth for intercityand intracityuse. Experience from other developing countnes has shown that demand for all vehicles, particularly passengervehicles, has acceleratedwhen income and urban populationhave grown rapidly. The increase in passengertraffic will translateinto increaseddemand for

2/ Ame Hope, China'sMotor Indusny:Ruk wad Oppoities to 2000, Specia Repot #2008, EconoistIntgence Unit,London, 1989.

22/ S& tical Yeabook of Chna, 1991. Of the trucs under the China HighwayTransportaton Corporaion, 81.6 percentwere classifiedas *goodwoving condition.'

?AI U.S.-Cln Momolve Indway CooperaionProject: FinalReport, Univety of Michigan,1989.

2S/ op. cit. - 29 -

large passenger vehicles (for example, buses) and for small passenger vehicles (for example, passengercars and minivans).

2.30 Buses. Increaseddemand for bus services will comeboth from highwayuse and urban intracity use. The mobilityof the Chinesepeople is among the lowest in the world. In 1990, the average intercitytravel in China was about 550 kilometersper person comparedwith 4,570 kilometersfor the former Soviet Union, 23,580 kilometersfor the United States, and 10,560 kilometers for Germany.26/ Low mobility is, in part, a result of saturatedpasenger transportcapacity. In 1989, express passengertrains carried about 30 percent more traffic than seats available. While some of this traffic will be carriedby the railway system, road transportwill increasinglycarry a greater share of the traffic becauseof its greater flexibility.

2.31 With the growing sprawl of cities, demandfor bus services is also likely to increase in China's urban zones. Buses are currently relativelyunderutilized in China's urban zones, accountingfor only 15 p-rcent of the daily vehicle kilometers.27/ For example, only 24 percent of all trips ir Shanghaiare by public transport, which includes both buses and ferries. Pedestriantri- s account for 42 prcent of the total, and bicycles for 32 percent. In Bangkok, Tha and, in the mid-1980s, more than two thirds of motorized passenger trips were made by bus or minibus.2a/ Bicycle use, which has been the preferred mode of transportin China's urban centers, may be nearing a satration point in some of the larger cities becausethey cause congestion,accidents, delays to other road users and are inefficientusers of road space relative to full buses. Becausebuses in some cities in Chinaare already operatingover full capacityin urban areas, there is a clear demandfor increasingthe use of buses.

2.32 Cars. The most novel changes in the market for automotiveproducts are likely to come from the passengercar segment. The market for passengercars in China is small by international standards, owing in part to the limited purchasing power of Chinese households, but chiefly to the deliberate governmentpolicies that discouraged ownershipof passengervehicles. In the last two or three years, the apparent demandfor passenger cars has increased substantialy with unprecedented,high growth rates that probably onginated from the existence of suppresseddemand. Though this growth is unlikelyto be sustainedonce the suppresseddemand has been met, the present patterns of growth in the Chinese economy suggest that the market for passenger cars is likey to continue to grow. New types of purchasers such as town and village enterprises, urban collectives, and taxi and tour operators, and to a smaller extent, private householdswill continue to enter the market.

MI A S&udyof dte Sovit Economy,IMF/Wodd BanrOECDlEBRD, Vol. 3, 1991. As cited in China. CowuvyEconomic Memorandum, Reform and theRok of the Planin the 1990s,Report No. 10199- CHA,June 19, 1992.

27/ John Hamburg, *UrbanTransortation, ChinaBusiness Review, MarchlApril1989.

28/ AlanArmstrong-Wright andSebasien Thiriez, Bus Services:Reducing Costs, Raising Standards," WooddBank Technical Paper 66 (Washington,DC: WorldBank, 1987), p. 87. - 30 -

Projections of Domestic Demand

2.33 Projectionsof annual demand for vehicles in China are difficult to make because of the significant structural changes that are taking place in the patterns of domesticdemand. Nevertheless,in the past few years, two comprehensiveprojections of demand have been madeby a Joint Committeeof Chinese and Japanese Experts and by a Joint Committeeof Chinese and German experts.22/ In the Sino-Japanesestudy, the demand for trucks and buses is projected on the basis of growti rates of highway passengersand cargo, and the demandfor cars and minivans is projected on the basis of householdsample surveys. The Sino-Germanstudy makesprojections on the basis of five methods-including regression estimates, projections of traffic volumes and elasticity coefficients-all of which convergeto yield a range of demandestimates. The assumptions of these studies vary, but yield a range of market projections that are instructive (rables 2.1 and 2.2).

Table 2.1: DESIMEDSTOCK OF VEHICLESPROJECTED FOR TEMYEAR 2000 (in millions, except for buses)

Adjusted Estimates on the Sino-JapaneseStudy Sino-GermanstudyLa

Total CarRO Vehicles 8.2-8.9 9.0-9.5 Heavy 0.9-0*95 Medium 3.15-3.3 Light 4.95-5.25

Buses 900.000 600.000-700.000

Small Passeuger Vehicles 5.4-6.7 4.2-4.9 Cars 3.8-4.6 2.9-3.4 Vans 1.6-2.1 1.3-1.5

Total Vehileg. 14.5-16.5 13.8-15.1

La Theestma of dosied stockand annual demand for small passenger vehicles in the Smb-Geman studyhave been adjused toreflect a product mix of 70 percentpasse casand 30 perent minivans inthe smanU passenger vehicles segment. he implicitproduct mix in theoriginal Sino-Ge3rmn documentwas50 perenpassege cars and 50 perce mnivans. Te nowassumption reflects suvey results of consumerpreference in theSino-Jpanese study and is coser to the cdhning stcure of the Chinsemarket today.

21 See CTna's AutomotiveIndhy: DewcpnenStregy Towadi 2000, Joit Committeeof Chines and Japne Experts,1987 and DeveopmentSrtoy for sde Dhwwpoaldon Seor to2XO, Joit Study by Chinse and Gfman Experts, 1990. - 31 -

Table 2.2: AWUAL DEALND FOR VEHaCLRS, 1995 AND 2000 ('000)

Adiusted estimates Sino-JaUsneseStudy /a Sino-GermanStudy 1995 2000 1995 2000

Total Cargo Vehicles 670-770 900-1.000 720-870 970-1.130 Heavy 60-70 75-90 65-80 80-100 Medium 100-140 130-190 105-160 140-210 Light 510-560 690-730 550-630 740-820

Buses 30 120 40-60

Small PassengerVehicles 550-750 980-1.280 420-460 775-880 Cars 400-500 700-900 290-320 540-620 Vans 150-250 280-380 130-240 235-260

Total 1.250-1.550 2.000-2.400 1.170-1.360 1.785-2.070

/a Thebeakdown by ight,mediun, and heavy tuks usesthe proportons ofthe Sio-German study as no such breakdownis providedin this sudy.

2.34 Accordingto theseprojections, fte total vehiclefleet is expectedto grow at an annualavege rate of between10 percentto 12 percentover 1990-2000.Market growthis likely to be led by the passengercar segment,growing annually at a rate of between13 percentto 14 percent;if the truck fleet is expectedto grow between7 to 8 percent. Annualdemand for vehiclesis lily to reachthe 2 millionmark by the year 2000, with estinatesof smallpassenger vehicles ranging from 650,000to 1.3 million. The estimatesfor smallpassenger vehicles include passenger cars and minivans. Implicationsof DomesticDemand Projections 2.35 Balancewith Projected Capacity. If projectimplementation remains on schedule,by the end of the EighthFYP, overallproduction cpacity for truckswill meet demand(rable 2.3). The productmix will contain,however, a muchhigher percentage of mediumtrucks and a smallerpercentage of light trucksthan consumers would prefer. By the year 2000, additionalcapacity in the light-trucksegment will be requiredand overcapacityin mediumtrucks will persist. However, technologicalmodernizaton investmentin the medium-trucksegment will be required. 2.36 In the passengervehicle segment, overcapacity in thepassenger car segment is projectedin theshort to mediumterm. If theChongqing and Guizhoujoint venturesare - 32 -

Table2.3: OurPUr-DA&NDDEFIICr PROJECTIONS BY TYPE OF VERnCLE: UNCONSTIURAEDSCENARIO ('000)

Range of DemandEstimates ProjectedCapacity 1995 2000 8th PYP

Trucks 670-870 900-1.100 875 Heavy 60-80 75-100 50 Medium 100-160 130-210 240 Light 510-630 690-820 585 Medium& LaraeBuses 30 40-120 30 SmallPassenrer Vehicles 420-750 775-1.280 820 Cars 300-525 550-900 700 Minivans 120-225 225-380 120La

/a Lightbus production in1992 ist asproxy for capacity inthe Eighth FYP pwiod. The definition of lightbuS needsto be confirmed. planning Capacities greater than the capacity planned in the Eighth FYP,I overcapacitymay persist in the long term as well. At the same time, many segmentsof the passenger vehicle market have not received adequate repesentaton in production planning.

2.37 Infrastucture Implications. A major issue associatedwith rapid growth in vehiclar traffic is the extent to which present programsof infatcture development will be able to bear this increasewithout undue congestion. Road trffic in China is very unevenly distributed within its network of 880,000 kIlometers of paved highways,31/ and most of the traffic is concentratedin the eastern provinces, which cover only about 15 percent of the total road network. It is beyond the scope of this report to analyze in detail the infrastructuralimplications; however, existingdata indicatethat the increase in overall road capacityis likely to be in the same range as the growth in the vehicle fleet if the road projects in the Eighth FYP are carried out. Nevertheless,localized botdenecks are likdy to emerge in some areas, and proadve policiesof infuc development and traffic managementwill need to be put in place.

3Q/ The apacity for Chongqg and Gui&iouin the Eighth FYP is 30,000units each Accordingto the industryexpens, a discussin is going on with Iunzu for the possibleeanon of this apacity to 300,000 units annally.

2l Shlcat Yerbook, 19,°1. - 33 -

2.38 Total road length (pavedand unpaved)is plannedto be increasedfrom 1 millionlklometers to 1.1 millionkilometers over the next 10 years. About 2,000 kldometersof expresswayand 67,000kIlometers of class 1 and 2 roadsare going to be addedto the network,primarily in the mostcongested areas in the easternportion of the country(Table 2.4). Assumingthat these 67,000ldlometers are equallydivided between class 1 and 2 roads and are upgradesof class 3 and 4 highways,the vehiclecarrying capacityof the road networkis likelyto increaseby 11 percentper annumover the next decade. This increasewill broadlymatch the increasein the vehiclefleet of between 10 and 12 percentover the nextdecade.

Table 2.4: INCREASEIN EHIGHwAY CAPACrrY OVER THE EIGHnTFWVEYEAR PLAN PEUOD La

,/b 1989IC 1989/d1 EighthFYP EighthFYP Class Capacity Length Capacity Lengthle CapacityId

EXpress 25 271 7 2,271 57 Class 1 10 2,784 28 36,284 363 Class2 5 37,400 187 70,900 355 Class3 2 164,300 329 130,800 329 Class 4 0.2 511,100 102 477,600 - Unclassified 0.2 298,400 60 298,400 60

Total 1.014.255 712 1.016.255 1.265

La Thedesgned capcity i based on tehicaspecifications. EachcIss of road is deigned to sutain a mmm numberof vehicles perday, regtsteed atone locaton. le deigedcapacty isas folows: Expresway,25,000; Clas highways,10,000; Clss 2,5,000; Cls 3,2,000; andChss 4, 200. L Capacityinthousands of veicles per day. /c Lengthof road "stem inklometers atthe begirning oft 8FYP. M4 Capacityin mniis of daly vehicle-kiomees. X. Lengthof roadqstem in kiomets at the endof the EighthFYP.

2.39 The carrying capacity of the existing highway network can be increased through some complementarymeasures. The governmentis already undertaling plans to improve the traffic capacityof eisting roads by upgradingroads, constructingside roads for traditionaltraffic and thus reservingthe main road for motorvehicles, enlargingaccess roads to cities, and constructingroads to bypasslarge cities. These measureswill increase the vehiclecarrying capacity of the highwayswithout a changein the length of the highway sys;em.

2.40 Despite this overall increase in highway capacity, unequal regional concentrationof traffic flows will imply that loclid infrastructuralbottlenecks are likely to emerge. Accordingto a survey madeby the Ministryof Transportand Communications in 1988, the traffic level on a sample of 110,000 kIlometers of main highways was - 34 - estimatedat 85 billion vehicle-kilometes, well above the designedcapacity of 73 billion vehicle-kilometers. In some coastal areas, the observed road traffic was as high as six times the designed capacity. However, the draft final report of the Yangtze Economic Zone Transport Study covering the industrialand economicheartland of China indicates that the problem of overcongestionis not an issue in that area.32/ More studies focused at the regional level will be needed to identify the potential sources of interurban, infrastructuralbottlenecks from growth in the vehicle fleet.

2.41 Apart from infrastructural constraints in the highway network, traffic congestionproblems are also likely to intensifyin urban centers. The experienceof many cities in the rapidly growing economies of Asia is instructive as unplanned and unconstrainedgrowth of automobilesis leadingto majorproblems of congestion. Not only does such congestionpromote greater fuel consumptionand a resulting increase in air pollution, but the severe increase in transit times can have a substantial impact on economicproductivity. A recent studyby the JapaneseInternational Cooperation Agency concludedthat Bangkokloses about one third of its potentialgross city-product,owing to congestion-inducedtravel delays, and that this could rise to 60 percent if no action is taken.3/ The urban traffic in China is especally complicatedowing to the prevalence of nonmotorizedvehicles because they reduce traffic speeds. In large cities such as Shanghaiand Tianjin, urban congestionis already becominga major problem. Data from Anshan,Fushun, Shenyang,and Tianjinsuggest that in most citiesbicycle speeds are often higher than speeds by other modes-especally public transport.M/ The incidence of traffic fatalities in Shanghaiis 10 times that of Tokyo, owing to the high proportion of pedestriansand cyclists in the traffic network and delaysin providingfirst aid to accident victims. Now, as China itself is moving closer to the consumption patterns of its neighbors, some preventivemeasures should be tak to ensure that urban motor vehicle use in China does not lead to the type of congestionproblems that are emergingin other countries.

2.42 Environmental lIplications. The increase in the vehicle fleet will also have a significantenvironmental impact, especiallyin urban areas. Chinese cities already have some of the highest total suspendedparticulate and sulfur dioxide readings in the world.35/ Even though much of this pollution can be traced to the use of coal as an energy source, diesel fuel burned by trucks and buses also results in high levels of pollutants and toxic emissions. During peak traffic periods, the share of air pollution

32/ Volumeto Capacity(V/C) ratios (a commn measureof congestionwhereby a V/Cof 1.0 or above indicatessgficant congestion)confirm the generl lowlevel of congesionmdi the a networcm 1990, with only 17 percet of link having V/C ratos gter tan 0.7 and 4 peret of the linksover a ratioof 1.0. All class 1 roads and 76 percentof Class2 bighways have V/C ratiowsof 0.5 or less.'

221 Urban Danpon in Asia An Opef at Strat4giesforthe 1990s, WorldBak YellowCover draft, 1993.

31/ Oe. atp, p. IS. 351 Cha EAWrownm Stmuf Paper, 1993, p. 16. - 35 - emittingfrom motor vehiclesat major city crossroadscan be as high as 80 percent. Considerfor example,the followingresults (Table 2.5) emergingfrom a surveyof the Beijingurban area (withinthe third ring road) that was conductedby the Highway ResearchInstitute. Moreover, pollution from automobile exhaust is growingas thenunber of motorvehicles has considerablyincreased in the past 10 yearsin urban areas.

Table 2.5: MoTORVEHICLE EMION POLUMONCONTRUION TO TOTALMAN-MADE PoLWIoN IN THEBEWG URBANAEA (WTN NE TRD RING ROAD) (Percentage)

Pollutant Winter time Summer time Annual Average

co 26.1 58.5 39.1 N0 38.0 55.3 46.2 HC 62.7 85.7 74.8

Source: ehickeFinsion Pollutw Controland TedcnicalMeasures in COina,Ma Hua, Li Guoxiangand ShuMigxim, The HighwayResearch Istitute, Ministryof Commumications,PRC, August1990.

2.43 Experiencefrom other rapidly motorizingAsian countries also offers evidencethat a rapidand large increase in urbanconcentration of vehiclesposes significant hazardto the urban environmentand potentialhealth risks to the population.The most commonadverse health effects of vehiclepollution takes the form of an increasedincidence of respiratoryillnesses such as asthmaand bromLchitis. Other adverse health effects include lung cancer, which can be caused by certain air pollutantsthat are known to be carcinogenic,such as those emittedfrow. diesel vehicles. No data on the costs of the health effects of vehicle pollutionare availablefor Asia, but the Amercan Lung Associationconcluded that "nationalhealth costs worth between $4.43 billion and $93.49 billionwere due to automotiveand truckexhaust pollution and couldbe avoided.-/ 2.44 Vehiclesin Chinaoften pollute at a level 10 timeshigher than comparable vehiclesin Westerncountries. This differenceis due to manufacturnginefficienc.-s of somevehicle parts (carburetors), lack of exhaust-gasfiltering devices (catalytic converters), the use of leadedgas, older vehicleage, motordefects, and poor maintenance.Strong actionon this endis obviouslyneeded to ensurethat cleanertechnologies are usedin the productdesign of vehiclesand that emissioncodes on a par with internationalstandards are establishedand maintained.

2fi As9 quoted by Urban InAsia. An OperationalSraNgfor fhow the 1990s, Wodd Bankdrat July 1991. - 36-

3. POLICY ITS IMACT ON THE AUTOMOTIVEIDUSTRY

3.1 This chapter reviews the effectivenessof GOC's current policy framework that is designedto achieve sectoral objectivesin the internationaland domestic market. This chapter assesseswhether there is a welldefined policy frameworkthat is understood and broadly supportedby central and localgovernments, sector managementagencies, and enterpises. It also analyzeswhether the policy frameworkis consistentamong its policy elementsor goals. Policy distortionsas well as feasibilityare also addressed.

A. ENmY Poucy

3.2 Entry into the automotiveindustry has beendirectly controlledby the central governmentwith the state investmentsystem, althoughthe center's power in investment decisionshas been in decline in the reform era. GOC's role in controllingentry goes far beyond the regulatory functionthat would be normally expectedin a market economy,by which the entry is passively screened through merger investigationsor prodiuctionand product licenses. Actually, GOC exerts direct and extensivecontrol. This control has been possible and necessaryas the centra governmentcontrols the supply of materialand financial resources that any new entrant would need to turn its entry decision into a physicalreality. In contrastwith a marketeconomy, the Chineseenterprises have limited autonomy in makdnginvestment decisions as their access to factors such as land, water, electricity, rail transport, and bank finance is limited, even though the ongoing economy reform is beginningto give enterpnses more flexibilitythan before.

3.3 The state investmentsystem addresses two different types of investment: (1) capital constructionthat emphasizesthe creationof new enterprisesor major expansion of existingenterprises (investmentfor entry) and (2) technicalupdating or transformation that is intendedfor the modificationof existingfacilities. Historically,capital construction projects were more tightly controlled by the central government than technical transformationprojects, as indicated by the lower 'free limit' for capital construction projects.1/ In 1990, for example, the free limit for capital constructioninvestnents was Y 10 million while that for technology transformation.was Y 30 million.2/ This difference may have been related to capital constructionbeing financed by the budget,

I/ Free limit is the ceiling on tie total amount of investmentbelow which the provincia and local gove_nmntsare not requiredto obtain the approvalfrom the centml auhorities(usually SPC). For detailed discussionon hina'sindustrial policy, see hnde4jitSingh, ChLna Indusria Polies for an Eoonomyin Traiion, ThmWorld Bank Discussion Paper 143, 1992.

V This was Y 50 millionuntil Jamnuy 1990. - 37 - while technologytransformation by the depreciationfund. This distinction,however, has becomeless clear-cutin recent years becausebudgetary funds are channeledthrough banks and technologytransformation investments are funded to a large extent by bank loans.

3.4 The policy instrumentof the state investmentsystem has not been entirely successfulat achieving the objective of imposing national priorities on entry decisions. Even though the tight control and approval limit on capitalizationinvestments could be interpreted as prudent entry policy designed to impose national priorities on major investments,it backfiredas tight control and low free limits led to the miniatuization of investment. Provincial and local governmentsbroke up large investmentprojects into smaller ones to evade administrativecontrol and invested in suboptimal capacity. To prevent this circumvention,especially during the stabilizationperiod, the State Council declaredthat all investmentin restrictedsectors, the automotiveindustry being the first on the list,2/ is subject to central governmentapprova!, regardless of the sources and scale of the project.

3.5 The effectivenessof the state investmentsystem would be further eroded with the progress of economic reform. The key element of economic reform is the decentralizationof financial resources and economic decisionmalangpower from the central governmentto lower levels of government. The availabilityof raw materialsand credits and the subsidiesgenerated from paying below-marketstate prices have been the key source of influencewith which the central governmentaligned the provincialand local investmentpriorities with the nationalones. Economicreform has made materialresources readily available at market prices, whlie the spread between market and stae prices has been narrowingthrough price reform, decreasingthe reliance on the central government. Furthermore, financial resources have been increasingly shifted from the central government to enterprises (and provincial governmentswho supervise them) through increasedretention (percentage of profit retentionby enterprisesincreased from 18 percent in 1981 to 68 percent in 1988, see Table 5.1 in the Annex), which increases the role of provincial governmnentsin investmentdecisions.

3.6 The increasingrole of provincialgovernments on entry decisionsneeds to be checked, however,as provincialgovernments have shown their inclinationto erect entry barriers that have no economicrationale. In an attempt to protect the provincialtax base, the provincial industrial bureaus tend to block these new out-of-provinceentrants that would threaten the profitability of existing enterprises regardless of their economic

I/ 0Oudineof China's IndustrialPolicies, The State Councilof China, People'sDaly, Beijing, Fehruay 14, 1989. To cool off the economyand rectifythe shuctr imbalacesbetwen sectors, it listed -rioritysectors and *restictedsectors for which the productionwill be encouragedon a prioity basis and strictlycontrolled. For resticed sectors,capital construction was susended or stictly controlled.The automotiveindustry was listedfirst i te restrictedsector. CNAICwould cary out the approvalfunction on behalfof SPC. The onlycase whe localgovernment approval wouldbe permittedis for directforeign investments below $5 million,the outputof whichis inteded solelyfor exporl Thiswas due to othermeasures intended to attractforeign investment and encouae exportstough s8mlifiedapprval proceduresat the locallevel. For moe discussion,see Chuna. InduWs Poldes for an Ecnomyin Transition,The WorldBank Disusio Paperby L Siugh. - 38 - efficiency. Thus, in formulatinga national developmentalstrategy, an entry policy that will superimposenational priorities over local ones needs to be devised.

B. ExIr POIuCY

3.7 Chinese enterprises in general have high exit barriers as there are high immobilities in labor and transfer of capital and assets. These immobilities force unprofitableenterprises to continueunhealthy operation by continuouslydraining resources that otherwise would have been economicallyused. The unemploymentresulting from exits is one reason why the provincial and local governmentssteadfastly support the enterprisesunder their supervisionor in their territories. The constrainton labor mobility will be partaly alleviatedthrough the labor contract system and by plans to transfer the welfare system to local and provincialgovernments. With time, l4bor mobilitywill also be enhancedwith housingreform and labor retraining. In the maentime,however, more can be done to remove barriers to capital mobility by creating a legal and regulatory frameworkon bankruptcyprocedures and asset transfers.

3.8 In the Chinese automotive industry, in particular, declining industry profitabilityand a rising need for restructuringcreates a pressing need for an active exit policy. The long-termaverage industry profitabilityhas continuallydeclined in the past from 16 percent return on sale in 1981 to 5 percent in 1990 (see Table 5.1 in the Annex). Moreover, there appear marginalplayers whose profitabilityis eroded much more than others during economic downturns due to their disadvantagesin size, technology,and industrialbases. For example, small-sizeentepises showeda profit of only 2.9 percent in 1990 comparedwith 7 percentfor large-or medium-sizeenterprises; converters yielded a profit of only 2.4 percent compared with 5 to 6 percent for producers of vehicles, engines, or parts. Also, the fragmentedstructure of the automotiveindustry leaves most producerswith economicallyefficient production scales, the problemof which needs to be resolved to attain internationalcompetitiveness.

C. CoIrEmMON POLICY

3.9 The central and local govermnentsshould expose enterprises to competition by revisingtheir anticompetitivepolicy and practices. The Chineseautomotive enterprises are excessivelysheltered from aU sources of competition-import, export, and domestic. Protection from imports for a limited time and scope could be justified as part of the industrializationstrategy and export competitionis too premature for the infant Chinese industry; however, more definitelyneeds to be done to enhancedomestic competition.

3.10 Domestic competitionis distorted owing to interprovincialtrade barriers, govemmentsubsidies, government control on price and distribution,and limitedmanagerial autonomyand accountability. The interprovincialtrade could be substantiallyfacilitated if economicand structuralimpediments such as institutionalconstraints (for example, the lack of an interbanksetdement system) or physical constraints(tsport botdenecks)are resolved. Integration of the national market would not be possible, however, without addressingthe practices along administrave boundaries. There are widespreadpractices - 39 - on the sideof provincialand localgovernments to preferentialypurchase locally produced goodsor levy penaltieson vehiclesproduced outside of their territories. For example, duringthe periodof austerityor lowdemand for automotiveproducts, say, as recentlyas in 1990,provincial and municipalgovernments issued circulars in whichit wasannounced that automotivedealers within their areas would be forbiddenfrom dealing with "similar" productsfrom outside provinces and municipalities;4/otherwise, different fees wouldbe chargedon the vehiclespurchased from the outside.l/ In somecases, this discrimination against similar products sourced from outside went to such extremes that local transportationmanagement would refuse to issue license plates and gasoline supply authoritieswould refuse to grant fuel quotas.f/ Recognizingthat internalbarriers had revived during the economicdownturn, the central governmentwarned provincial govemnmentsto take actions against trade barriers;7/ nevertheless,barriers along administrativeboundaries stil exist. 3.11 Governmentsubsidies to loss-makingenterprises or vehiclebuyers are also cistortng domesticcompetition. The heavy-handedrestriction by provincialand local governmentson the purchaseof outsidevehicles is often paired with the guaranteethat pricesof locallyproduced vehicles wil be lower than similarproducts sourced from the outside. This low-priceguarantee is usuallybacked up by coveringthe price differential with either adjustmentof taxes or low transferprices of factors, whichin turn causes anotherdistortion in the factor market. Buyersare also givensubsidies in the form of exemptionfrom fees,tax breakssuch as deductionsfor the paymentof automotiveloans frombefore-tax profit, and financial incentives such as the use of the depreciationfund for automotivepurchases.B/ 3.12 Subsidiesfor inputsare the result of distortionin the state-runmateral allocationsystem, leading to misallocationof resources. The materialallocation is tied with the mandatoryproduction plan. For example,steel, a key raw material,is subject to differentprice regimes: (a) state price, whichis fixed by the central government;2/

4/ Similar product meamsproducts that have the same performce charactrstics as and thus could be substitutedwith the productsproduced withinthe area.

5/ The purchasefee is 5 pernt for locally producedvehicles and that for vehiclesfrom outside of the area is 15 percet. Besides, gasolineallocation is guarted only for the locally producedvebicles.

6/ Curalar on grantingpreferlo pol aafor the local brandwuhicle, DocumentNo. 1990-004,jointly preparedby ProvincialPlanning Commission, Provincial Matials Bureau,Provincial Security Bureau and ProvincialPetroleum Corporation in an Inner province. Circularon issues concerningpurchases of locaUyproduced vhildes, MunicipalPlanning CommissionDocument, 1990, by a Northeastern mnmicipality.

I/ "Beijing launches new offensive agamst regional trade protection," lhe Hongkong Sandard, November24, 1990.

I/ Ibid.

2/ The cetral govem means a consensusbetween CNAIC, SPC, and the National Price Bureau. - 40 -

(b) domestic market price; and (c) import price. Raw materials purchasedat state prices are used to produce that pcrtion of vehicles to be sold at state prices to designated governmentsales agencies. However,it is hard to stop subsidizationof inputs for products sold at marketprices. especially in periods of economicdownturn. The reverse has also happened. In periods of expansion and high demand, insufficient inputs from the mandatoryallocation system have been available,and profit from mandatorysales has been sharply reduced when inputs purchased at market prices had to be substitutedto reach output targets. When the profit from easy accessto state-pricedmatials can overshadow the profits from the efficiencygains, enterpriseshave less incentivefor fair and transparent competition.

3.13 Market distortionsalso exist in the area of pricing and distributionas price is set by the Price Bureau and the distributionof automotiveproducts is directlycontrolled by the central government. Distortiondue to dual pricing between state-planprices and market prices also exists in the automotiveindustry;Il/ but the distortion is expected to become less significant with the progress of price reform and a decreasing share of mandatoryproduction quotas. However, price fixng by the central governmentshould be avoided(other than vigilance againstmonopoly or cartel pricing tactics). This practice is anticompetitiveand unfairly restrains efficient enteprises from transfering producer surplus to consumersbecause price cuts will be absorbed in the distributionchannel in the current system.

3.14 The current policy of separting distribution and sales functions, both effective tools of competition,from producers underminesthe long-termpotential of the automotiveenteprises. The distributionof passengercars, for example, is carried out by 210 authorized organizations,1 all of which belong to either the Ministry of Materials and Equipment (MOME)system or the CNAIC system. The producers are requireu to turn in most of their output to the state-controlleddistribution organizationsand are allowedto sell only few of their products; for instance, ShanghaiSantana and BeijingJeep directly sold only 5 percent of their products in 1991. There are many more organizations for truck sales; in this segment, enterprisesalso do not have control over the instruments to competein the national market.

3.15 As a result of the separation between production and distribution, the producersof automotiveproducts have limited contact with consumersand usvrs of their products,contributing to a large extent to the lack of consumerorientation among the auto manufcturers. No feedback loop exists for consumersto be able to provide input to the manufacturer. The existenceof a seller's marketand generallack of customer orientation have also impliedthat after-salesservice networks are neitherextensive nor well integrated with the distnbution networks. ShanghaiSantana has only six after-sales service outlets

10/ Theprice differet betweeathe ste price andthe maret price is, for example,in 1987,about 30 percentfor Jiefang truck with the statepnce of Y 29,800and the marketprice of Y 39,004.

II/ Thenumber of authorid organiationsincreased from 81 to 210 o Jalauay13, 1993. Thiswas the fourthme that such authoriion for automotivedealeships has been made. Lasttime it wasin 1990. - 41 - in Shanghaiand 88 authorizedservice stations across China (to which Shanghai-Santana provides parts, training, and management).

3.16 In the future, the lack of experiencein sales, distribution,and marketingis likely to emerge as a severe handicap for the domestic industry in competingwith more sophisticatedinternational competition.

3.17 Limitedautonomy and accountabilityof the enterprisemanagement reduces the role of enterprises as key agents in the competition. Even though the Contract ResponsibilitySystem (CRS) has made significant strides toward the autonomy and accountability of enterprise management, the system is still not able to separate the multiplefunctions of ownership,regulation, and managementof the supervisoryagencies. As a result, there is no clear separationof decisionmakingauthoriy betweenthe enterprise management and the agencies that have an ownership interest in or supervisory or regulatory responsibility over the enterprise. These agencies duplicate management decisions,which makes it difficultto imposeaccountability and economicdiscipline on the enterprisemanagement.

3.18 The intensityof competitionand budgetaryconstraints are necessarybut not sufficient conditions for economic discipline. In this regard, the interests of decisionmakersneed to be aligned with the charered goal of the enterprises through accountabilityand incentives.

D. FoRE[GNTRADE PoLIcY

3.19 Protectionfrom intemationalcompetition is providedthrough import tariffs and importlicenses adminisd by the Ministryof Foreign EconomicRelations and Trade (MOFERT)with the objectivesto protectthe domesticmarket, raise domesticvalue-added, and mnmize the trade deficit. Table 3.1 presents the tariffs for the import of completed vehicles. The taiffs are large-as high as 270 percent-for the import of passengercars from countries not under the Most Favored Nation (MFN) trade agreements.

3.20 To protect the domestic market, import tarff rates on vehicles have raised the c.i.f. import price to a level comparableto the domestic ex-factoryprice, and import quotas have been establishedto ensure that the vehiclesproduced in China are sold first. Despite these high tariffs and nontariffbarriers, many imported passengercars are seen on the streets of China's major cities, indicatingconsumer preference for imported cars and apparent smugglingduring certain years in the past. However, with the growth of domestic industry, imports have declinedfast, and import competitionin the automotive sector remains weak.

3.21 Import protection for completedvehicles is supplementedby policies to promote domestic value-added in manufacturing,both for the preservation of foreign exchangeand, more importantly, for the developmentof local manufacturingcapability. High customs tariffs of 150 percent on imports of completelyknocked down (CKD)kits - 42 -

Table 3.1: IMpoRT TARIFS (Percent)

Category Most Favored Nations Others

Cars Less than 2 liters 180 230 Greater than 2 liters 220 270 Diesel Trucks Less than 5 tons 60 80 Greater than 5 tons 50 70 Gasoline trucks Less than 1.5 tons 50 70 < 1.8 tons < 5 tons 60 80 Greater than 5 tons 50 70 Buses More than 36 passengers 70 90 10 < passengers < 30 180 230 Road trailer 50 70 Automatic loader 40 50 Truck chassis 40 60 Bus chassis (>30 passengers) 50 70

Source: CNAIC. are levied as a policy instrument designed to encourage localization.12/ The level of tariffs on imported componentsis reduced as an enterprise achieves higher localization rates. With a localizationcontent of 40 percent, the tariff level is reduced to 80 to 100 percent. Localization programs are also encouraged by simplified administrative procedureswhen an enterpriseachieves a thresholdlevel of domesticcontent. Enterprises with a 40 percent localizationcontent can import CKD parts without license and, with a 60 percent localization content, enterprises are not subject to production quotas from SPC.13/

3.22 Anotherincentive for raisingdomestic value-added comes from the restricted availabilityof foreign exchange. Joint venturesare required to balance expendituresfor imported parts and componentswith foreign exchangeearnings. Raising local content is

12/ Localizationmeasures the degree of locally made contentin a car.Ihe localizationrate is measured as the ratiobetween the value of locally made componentsat imported CKDbase-year prices to the value of the car at the same base-yearprice. Thus, it is a quantityindex weightedwith base-year prices,in which the base year is the year during which the vehicle was completelyassembled with i-poRd parts.

13/ An automotivecomponent is consideredlocally producedif less than 40 percentof its componentsare imported. Thus, a car with 60 percentlocalization could in theory have as little as 36 percent local content - 43 - a solutionto this limitedaccess to foreignexchange. However,during early years of operation,enterprses find it very difficultto matchexport earnings to foreignexchange expendituresfor raw materialsand intermediate goods. As a result,automotive enterprises are sometimesallowed to undertakemeasures such as sellingvebicles partly or completely in foreignexchange, or perhapsrequesting government foreign exchange quotas.4JA 3.23 The importtariff and nontariffbarriers may createa bias againstexports becausedomestic producers find it easierto sellat highprices on the domesticmarket than at low prices on the foreignmarkets. In an attemptto offset this bias and to promote exports, the governmenthas establisheda numberof favorablemeasures: financing facilities,bonded warehouses, direct exporting privileges, and the right to retain foreign exchange.Although these measures are helpful,price andproduct quality remain in most segmentsas majorobstacles to export. 3.24 While there is some reason to protect an industry at the outset, any prolongationof protectioncan be detrimentalto the competitivenessof the sector.15/ In the caseof China,the establishmentof a programto eventuallydismantle trade barriers wouldbe necessaryif Chinareenters the GAIT agreement.Thus, a newtrade policy that exposesdomestic industry to the threatof importsneeds to be designed.

E. DEMANDMANAGEMENT

3.25 Demandfor automotiveproducts in Chinahas beengreatly affected by the governmentpolicy instruments and practices such as administrativeprocedures, taxation, governmentpurchases, and financing. In the past, overall demandcontrol was done throughthe allocation of productiontargets together with restictions on importsand limits on domesticconsumption to the plannedavailability of vehicles. In addition,GOC has exerciseddirect control over theallocadaon of the availablevehicles through administratve

14/ Article75, Regulationsfor the mklmntation of the Law of the PRC on Sino-ForeignEqu4y Joint VentureEnt7ses; Aticle 20, Law of the PRC on SinowForeignCooperauive Enterprises, as qwoted in Shizong,Dong, Danian Zhangand MiltoR. Larson, Tradeand InvestmentOpponwrities in China The Current Commerca and Legal Framewoit The State Councilallows joint ventwes in China additionalmesu to acquire foeign exchange. These are: a. Existingjoint venturesare allowed to reinvest their local currecy profits into other venturesthat are strictly export oriented. b. New joint ventouescan ake the form of severalenterprses, some of which will concentat their sales on the domesticmarket while others of which will be export onented. c. Subjectto the approvalof the Foreig ExchangeCommission, joint-venur productsthat are import substitutescan be soldpartly or completelyin foreignexchange. d. Also, subjectto administrativeapproval, joint venturesin deficitof foreignexchange can sell their Renminbito other joint ventues that tend to be in surplus (touris industies). e. During its initial years, a joint venure in a priority industrysuch as the automotiveindustry can also receive govenment foreign exchangequotas.

15/ On the issue of infant industry and import competition,see 0. Havrylyshyn, 'Trade Policy and Prductivity Gains in DevelopingCountries: A Surveyof the LUtemture,'The WorldBank Research Observa, 5(1), Janr 1990. - 44 - proceduressuch as budget allocationsfor social purchase,1§/as well as by requirements for vehicle purchase permits and registration. These administrativeprocedures have the effect of rationing automotiveproducts that are in short supply. Additionally,high taxes, comprisingbetween one quarter to one third of the final sale price of a car, are levied on top of an already high price-level. For example, a purchaser of Shanghai Santana is required to pay, in addition to the retail price of Y 127,400, taxes totaling Y 46,370 that comprisethe following: the purchasefee of Y 7,920; the social fee of Y 23,000 that goes into the fund for road construction,environmental protection, and other servces related to cars; the special consumptiontax of Y 15,000;and the capital fee of Y 450 charged to enterprises buying cars with working capital. These high taxes further discourage the ownershipof automotiveproducts by buyers who are much more pri^e sensitivethan those who are paying out of the government-allocatedbudget.

3.26 Contrastedwith the measuresrestraining demand, GOC tried to stimulate slow market during austerity measures. Under the "rescue purchasing plan,"l7/ the State Councilapproved the People's Bank of China to provide Y 350 millionin 1989 and Y 1 billion in 1990 in loans to MOME. These loans were intended to buy about 10,000 units that have been stockpiledas inventory in automotivejoint-venture companies. The purchase vehicles were sold to govemment departmentsthat 'urgently" needed them. However, this rescue plan was a stopgapmeasure, and the governmentadjusted down the purchase volume as the situation improvedwith enterprises.

3.27 In recent years, because an increasing share of demand comes from the private sector, the demandlevel has gone up and the demandpattern has begun to shift. This is due to the rapid growth in the purchasingpower of TVEs and the private sector and to GOC's measure to allow private individualsand enterprises to purchase automotive vehicles withoutpermits. As a result, the share of governmentpurchase decreased. For example,in 1992 privatepurchasers accounting for 20 percentof the domesticmarket and central governmentpurchases had fallen dramaticallyto only 16 percent of the planned production.11/ The remainder of the market being made up of other social purchasers such as other government agencies, stte-owned enterprises, schools, factories, and hospitals. In the coming years, however,the domesticmarket will increasinglybe led by nongovernmentconsumers.

3.28 The increasing share of prvate ownershipindicates that China has to face the problemsassociated with motorization,and demandmanagement policy needs to reflect changing societal needs. Internationalexperience shows that typicallyan economy, in the course of its development,goes through several structual- changes in the demand for

16/ Govement agenciesand SOEs ae requiredto havea budgetfor thepurchase of automotive,which is usuallyallocated by the Ministryof Finane. In addition, they are required to have permits for ownership.

17/ COinaDafy, March20, 1990.

I/ Cenal government purchasesrefer to purchases made throughthe Ministry of Materals and Equipmet and CNAIC. - 45 - transportservices toward increased private ownership of transportvehicles. The rate of automotivediffusion first speedsup whenper capitaincomes reach the $500 markj1I Anotherbenchmark for a structuralchange in automobileownership comes at the pointof economicdevelopment at whichautomobile ownership reaches 50 to 100cars per 1,000 people, "when its economicefficiency destroys alternativemeans of transport like railways" and the automobilebecomes a necessity.2Q/ The increased level of motorizationcreates negative externalities such as pollutionand congestion,and demand managementpolicy needs to addressways te controlproblems associated with them.

F. SECrORMANAGEMENT 3.29 Administrationof the automotivesector in China is very complexwith loost!1ydefined supervisory responsibility among CNAIC, provincial governments, cental governmentministries, and the automotiveenterprise Group Corporations, all of which directlyreport to SPC (Chart3.1). Theprovincial automotive group corporations play the second-tieradministration for part of theindustry, while municipal or countygovernments also get involvedin second-or third-tieradministration for small enterprises. The involvementof manyadministrative agencies with diversesectoral responsibilities often leadsto multiplesupervision and a tendencyto overlookthe strategicsector focus. 3.30 CNAICis the only organizationat the nationallevel that is fullydedicated to the automotiveindustry and remainsa focal pointin the sectoraladministration, even though CNAIC's power has waxed and waned in tandem with centralizationand decentralizationof economicdecisionmaking processes. CNAICstill has a strongsay in nationalregulatory decisions affecting the sector, is activein sectoratplanning, oversees theimplementation of SPCschemes in someenterprises, and coordinates planning for some segmentsof the industry(see Chapter 1). Threeautomotive firms (SAW,PAW, and the China NationalHeavy Truck Corporation)that are under direct SPC control are, in practice,supervised through CNAIC, because plans for these firmsare communicatedto and fromSPC by CNAIC. Moreover,CNAIC is the maininvestor in theNanjing Motor Corporationand the Autopartsand AccessoryCorporation. Furthermore,CNAIC has establishedthree researchand trainingfacilities (in Tianjin,Chongqing, and Wuhan)and a wcAklytrade publication.

3.31 Beyondthese fairly clear roles, however,CNAIC could manageto exert limitedinfluences over other sectoragencies. For instance,Beijing Jeep, the Shanghai AutomotiveIndustry Corporation, and GuangzhouAutomotive Manufactunng, which are undermunicipal government authority, must seek CNAICapproval of their plansbefore submittingthem to the State Council. Two corporations-forsales and serviceand for materals and supplies-report to both CNAIC and other govemmentalinstitutions concernedwith the allocationof materialsand goods.

12/ Ueno,Hiroya and Hiuomichi Muto, Me AutomobileIndustry inJapan,' in Kwzuo Sato (ed.), Industny ad Businessin Japan,1980. 2/ 'Ihe Fuhueof te MotorCar," Energy Ecnoit, Januay1992. Chart 3.1: CHNA: AUTOMOrIVE Y SECTORSuPEvisoRY CONTROL

state pLxq '.s

zd oti e Sol ad llat4 otkwe5~~~~~~~linitry of = nitry of Kinax ludnotrio Authoriti e Corportio (FUIl) Corportion (BAM Coqirt1n Corporatio (C3AlCX Vdustry Aeroapac. Ar_aet fl

Tianjin~china Urban ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ AiaigM teral and Accessory indImport and mpanyreeab Industryal. orpoaiur,oa

I -I~~~~~~~nutrat and IInstitute, Indst Invemn ainlAt

i tjX I 111 Bdba~Suply I Corporato Zot Qality an Seric 1. ICotL ~ ~NtSd ~ chima~urbantrrie ~ | oroatoCh tz I Chiu Autol AutooiNrnbaCompany Tcnlw{{{0CiBacheSaeCenterI Corporation

lotIv tr1 Autt try | ~~~~~~~~~~~57eutoaotive Natiowde Iltei Satiode -11. Cot | e~~~~~~~~~~~~nterprl rch a rc Outl Sta$ sae a- Adteional Outletsl Plztag

component)~ ~~~ ~ J Planta =Inf~~~~ompany tnre ICot I I~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~Bti

Autzowtiv-IC"os

c_t) | | ~~~~~~~P=c. LiiketAddttl 2t Astebttwe rite - 47 -

3.32 At the central governmentlevel, at least eight ministriesare involved with automotiveproduction with the Ministryof MachineryIndustry (MMI) and have the lion's share of sector production (see Table 1.2 in the Annex). A total of 1,427 enterprises (about half of the number of enterprises in the automotive industry) belong under the jurisdictionof MMlI,produce 75 percentof the industryoutput value, and employ 1 million people. Other ministriesthat have jurisdictionover automotiveproduction plants include those who have transportationor constructionresponsibilities and may have genuineneeds for specialvehicle producing capacity (for example,the Ministryof Communication,which is responsiblefor transportation,and the Departmentof City Construction). The reason for the involvementof ministries other than MMI could be owing to the fact that they diverted part of the production capacity that was initially built for other purposes to produce automotiveand components. For enterprisesother than those directly under the control of ministries,in practice, the supervisionis carried out by provincialgovernments, CNAIC, and Group Corporations.

3.33 There are nine Group Corporationsin the Chineseautomotive industry, four at the central level and five at the provincial level.21/ Their aggregate contributionto the industryis half that of the total industryoutput. Their formal industrialorganizational structure, however,is difficultto discernas differentarms of the governmentmake various claims on these corporations. The initial motive for creating such a group through horizontal linkages was to guarantee input supply, thus reacting to the reduction of mandatoryplanning that had previouslyassured a producerof the input necessaryto make plannedoutput. A group is usuallycomprised of a core enterprise(for example,FAW for Jiefang Group), 'close-link' enterprisesthat receive from the core enterprise either the chassis for their bus or truck production (or sometimes even fund for technology renovation), and 'loose-link' enterprises that are contractuallyrelated with the core by supplyingcomponents and parts. There are altogether206 close-linkenterprises associated with the core enterprises.

3.34 The relationshipbetween the core enterpriseand the close-linkenterprises are not as close as the one observedin Japan or Korea becausethe ownershipstructure and the supervisorylinks are ambiguouslydefined. For example,SAW, the core of Dongfeng Group, includes into its own plan the productionplans of the five close-linkenterprises, which are located in five different provinces and make engines and vehicles. SAW also controls their investmentdecisions and financialplanning. It is the provincial and local governmentsto which the linked enterprisesare responsiblefor their performance under the contract responsibility system and owing to financial and tax obligations. This ambiguity in the governance of enterprises is because core and linked enterprises are legallyindependent entities, while provincialgovernments remain influential over resource

I/ They areJiefag AutomotiveGroup Corporation with FAW as the core plant, Dongfng (sometms caled Aeolus) AutomotiveGroup Corporation with SAW as the core plant, ChinaNational Heavy Tnzck Corporaion with the core factry at Jinan, and China AutoParts and Accesoiy Corption, at the central level. At the provinciallevel, they are NanjingAutomotive Industry Corporation, Beijing Autonotivelidustry Corporation,Shanghai Automotive Industry Corporation, and TiazijinAutomotive Idstry Corporation. - 48 - allocation. This ambiguity restricts the effectivenessof the Group Corpo ation as an industrialorganization.

3.35 The share of control of each supemrisionagencies varies with industry segments: the CNAIC system (includingcentral-level corporations), local governments (includingprovincial corporations and governments),and ministries. In 1989, out of 166 enterprises, 19 were under the supervisionof CNAIC; 133 were supervisedby different local governmentbureaus; and the remaining 14 enterprises were controlled by other ministries (Table 3.2). The share of production, however, under the control of each supervisingagency varies with the industry segment. For example, the CNAIC system remains strong by controlling up to 90 percent of the total national production in the traditionalmainstay of the industry-heavy and mediumtruck segments-while provincial governmentsadvanced rapidly in newly opened marketssuch as minitrucksand passenger cars. For highly fragmented bus and special vehicle segments, provincial and local governmentscontrol almost the entire market.

Table 3.2: E NuE AM IPRODucroNBY Su mERVNGENmTY, 1989

Total no. ministries Automobile of enter- CNAI Local /a Aerosuace Ordnance Machinery Category prises No. S No. 2 No. 2 No. 2 No. 2

Trucks 64 1i 56 43 37 6 4 3 3 1 * Heavy 18 6 84 9 15 - - 2 0.5 1 0.5 Medium 12 3 90 9 10 ------Light 26 2 21 20 74 4 5 - - - _ Mini 8 - - 5 57 2 18 1 25 - - Buses 19 4 * 11 85 2 5 2 10 - - cars& Jeeps 9 2 6 7 94 - - Special Vehicles 74 2 3 72 97 ------

Total 166 19 44 133 51 8 3 _ 2 1 *

* Negligible.

/a The entepnssesunder Local Authontiesare under a numberof local administve departmentssuch as Machinery Industry Bureau, TransportationBureau, Urban Construction Bureau, Agncultural MachineryIndustry Bureau, AgriculturalMachinery Products Bureau, AutomobileIndustry Bureau, etc.

3.36 As a result of the presenceof multiplesupervision agencies, the enterprise managementhas tr deal with several agenciesin its conductof the businessand could face conflictingsignals. With the limited exceptionof central corporations,enterprises report to local financebureaus under the contract responsibilitysystem to pay tax obligations,to obtain credit, and to negotiateprofit allocation. Enterprises also have to assure support for materials from central governmentagencies under the central allocation system. In addition, for investment,enterprises have to obtain approvalfor the plan from a countyor a provincial planning commissionfrom CNAIC and Group Corporations for parts and components to be supplied to the core assembly enterprise outside the province. - 49 -

Enterprises must also seek financingfrom local finance bureaus and corporations. This administrativecomplexity breeds the incongruenceof goals among supervisingagencies and the inefficiencyof enterprisemanagement.

G. LOCAmzATxONPROGRAMS

3.37 Concem over the scarcity of foreign exchange, as well as a desire to substitute local production for imports, has led to local content rules being applied to assemblersand majorcomponent producers. They are linked to productionquotas for joint venures so that higher domestic content is required before higher output is authonzed. For some firms, this has meant lowering qualitystandards to fulfill local content targets; for others, it has meant putting up with a lower output quota, which has kept the unit cost of their vehicles high, by preventing full use of capacity.

3.38 To help enterprisesreach high shares of local content, the governmentalso protects domesticproducers from overseascompetition and ensures the supply of inputs. First, import of the vehicle to be localized is forbidden. Second, the entire production structure(vehicle assembly and componentproduction) is under governmentguarantees and controls. The government guarantees the availabilityof domestic raw materials, and providesforeign exchangequotas for the raw materialsand parts permittedto be purchased abroad. Enterprisesreceive some raw materialsat subsidizedprices and some local bank financingat subsidizedrates.

3.39 In the case of ShanghaiSantana, the localizationprocess went slowly in the early years of operations, but has acceleratedlately. In 1985, all parts were imported. The local content ratio was raised to 31 percent in 1989 and 53 percent in 1990,at the mass-productionlevel. This impliesmanufacturing an acceptableprototype and then mass producing it according to the same quality standards.22/ Currently, the local content is 70 percent.

3.40 At a low production-volume,the unit cost of localized parts is high by internationalstandards owing to inefficientproducdon scale. Thus, increasinglocal content initially increases the cost of assembledvehicles. Only after the vehicle assembly lines reach large scales of productionand requre large suppliesof parts, does the unit cost of parts go down substantially. In this regard, the success of the loclization program depends in large part on the success of restructuringassembly industry on an efficient scale.

WVBefore a filly localy madeproduct is ma produced,the samplehas to be ceitfied as meting the required techiad standards. When tie sample has been accepted, the product is eatered n the calculationof the localizationrate at the saVple level. Whenthe product is then mass prodced, it is entered in the localizationrate at the mass-productionlevel. Becauseof the delay to move a product from prototypeto ms production,the localizationrates at the samplelevel are typicallyhigher tha the rates at the mass-producionlevel. For example,in the case of the Santanacar, the loclition rate was 70 percent in 1990 at the samplelevel, comparedwith 53 percentat the ma roducon level. - 50 -

H. FOREIGNDIRCr INVESTMENTPOUCY

3.41 For external financing and transfer of production and management technology,policy measures were establisheea to recruit multnadonal corporations (MNCs;, especlly in the passengercar segment. The objectiveof external financingand managementsharing has been achievedas all joint venturesare 'equated'-that is, the foreigninvestor has to bring at least 25 percentof the total capital, and managerial responsibilitiesae sharedin proportionto the capital. To encouragesuch participation of foregn enterprises,the followingincentives were provided: (a) tax holidaysfor three years and reducedincome tax for an additionaltwo years and (b) tariff reductionon importedparts. 3.42 In return for these incentives,joint ventures were required to meet localizationtargets and to balanceforeign exchange expenditure with foreignexchange eaniungs. Even thoughlocalization delayed full-scale production and hamperedcost minimization,on the side of thejoint venture, it progressedat a fastpace (seeTable 4.5 in the Annex)and reached70 percentfor ShanghaiSantana in 1992. The societalcosts for the locazatin and the recruitmentof foreigninvestors were high becausejoint venmreswere protectedfrom importof completevehicles through foreign trade policy, givenreserved market segments through entry policy,allowed for monopolisticpricing throughpricing policy, supported with guaranteedpurchases from the governmentduring the period of austerity and slow sales. These measuresessentially have ensured profitabilityregardless of performanceand, moreover,sheltered recipients from economic discipline.The blindcontinuation of the policycan leadto MNCs' rent-seekingbehavior andcan betraythe initialobjective of raisingindustrial efficiency and competitiveness with the helpof MNCs.

L ENTERPISE GOVERNANCE

3.43 As economicreform progresses, the current Contract Responsibility System (CRS) becomesless effectiveas the enterprisegovernance system. The enterprise governancesystem needs to increasethe autonomyand the accountabilityof enterprise managementso that inefficienciesimbedded in Chineseenterprises can be addressed. 3.44 The CRSis an agreementin regardto performanceand incentivesbetween automotiveenterprises and the government.If the enterpriseswere to meetthe financial performancetarget specified in the contract,then a preagreed-uponshare of profitscould be retainedafter submittinga fixedpercentage of profitas tax to the government.This systemwas regardedas progressfrom the old systembecause it completelyseparated the - 51 -

fiscal contribution from profit retention.23/ It was designed to promote growth and improae the economic performance of enterprises by holding them responsible for productioncapacity, investments,and technologydevelopment as well. The Ministry of Financeand SPC are the counterpartsfor the agreementbecause the former is responsible for taxation and profit elements of the contract and the latter for operational aspects. Despite the limited success of the CRS system, it has failed to address the accountability of enterprise managementbecause it is not neutral to enterprisesand levies different tax rates from contract to contract.

3.45 Despiteprogress made through the CRS, Chineseautomotive enterprises still have many inefficienciesas the operation of two leading enterprises, FAW and SAW, reveals in the area of (a) organizationalstructure, (b) managementsystem, (c) culture, (d) skills, and (e) incentives.

3.46 (a) OrganizationalStructure. The organizationalstructure of both FAW and SAW is highly centrlized and followsfunctional lines. For example, one executive productionmanager is in charge of all the productionoperations of the entire auto works with 38 plants and several product lines and with responsibilityfor 50,000 employees. Similarly,the central personnelmanager makes the decisionsfor all personnelin the Auto Works, and all procurement is also handled by the central procurement group of about 1,100persons. This highly centralizedorganizational structure greatly stretchesthe span of managerialcontrol.

3.47 The centralizedfunctional organization of the Auto Works is not appropriate to the large size of the Auto Works and the diversityof its product categories. The special characteristicsand requirementsof specificplants and products are not well met in such a system. Nor is this organizationalstructure well designed to separate out the well- performing units from ones that are less successful. A more divisional organizational structureorganized by product groups would be more suitable in allowingfor an optimal managementspan and in convertingproduct groups into profit centers.

3.48 (b) ManagementSystem. The centralizedorganizational structure mirrors a hierarchicaland rigid managementstyle. Managementat both FAW and SAW is divided into three levels. The first level comprises senior managementwho makes all decisions on productionactivities. The secondlevel translatessenior management'sdecisions into operationalplans, while the third level is responsiblefor production.

23/ In the past, the separationbetween tax contnbutionand profit remittanceswas not alwaysclear, mainly becausethe Ministryof Fmnncewas combiningtwo functions. The Ministryintervened as both owner of large public enterprisesand tax collectorfor the State. In the early stages, when all the enterprise profits where submittedto the State, both contributionswere merged. As early as 1978, a contract systemwas established,separating out retainedearnings from governmentcontributions, which were specified in fixed amounts. However, no differentiationwas made between fiscal and owner contributions. In 1981, the fixed amountsrequired were replacedby peretges of profits. Iater, in 1984 when the incometax law was promulgated,the enterpriseswere subjectto tax paymentsas a percentageof profits and to separateadditional govermnent remittances. - 52 -

3.49 At the operationallevel, managementautonomy is highly restricted. Each plant sets targets for production, and the choice of input mix and techniquesdoes not lie with plant managers. The responsibilityof the plant manager is to guaranteeproduction volume, to ensure quality, and to meet cost standards. In practice, productionvolume is the most important target to be met, and cost and quality considerationsare secondary. For example, inventory managementsystems are motivatedprimarily by concern about materials shortages; thus, excessive inventories are stockpiled without regard to the economic costs of carrying inventories. As the industry aims to be internationallycost- competitive,automotive enterprises will have to put in place flexiblemanagement systems that provide incentives for constant innovation to reduce costs and to hold managers accountableto the performanceof their enterprises.

3.50 (c) Culture. Flexibleand performance-basedmanagement systems will also require a corporateculture in which performanceis judged againstclearly stated objectives and individualcommitment and performanceis rewarded. Presently, the remunerationof employees is linked solely to experience and responsibility, and does not adequately recognize individual performance; a worker's basic salary is determined by a grid of experience and rank. Additional remunerationis also provided for managerial and technicalresponsibility. Generalincentive systems for managersand employeesexist with the growth of the wage and bonus bill linked to the performanceof the enterprise. Wages and bonuses are merged into one payment that reduces the visibility of the incentive. Finally, although individualized income supplements are given to reward specific achievementsin product quality, equipmentmaintenance and repair, and work safety, in practice, it appears that the labor incentive system is better developed toward the achievementof quantitativetargets thantoward eliciting quality and product improvements.

3.51 (d) Skils. Management orientation toward the fulfillment of rigid productiontargets has also impliedthat both FAW and SAWpresently lack some functions that wouldbe criticalto their successin more competitivemarkets. Theseinclude strategic planning,marketing, management information systems, and projectdevelopment. Strategic planning involves analysis of future trends, opportunities, undertaking of long-term corporate planning, tracking competitorperformance and initiatives,performing business analysis,and undertakingnew programplanning. Current planningpractices at FAW and SAW-production planning, plant planning, product planning-is not integrated and consists largely of schedulingand control functions. The lack of effective management information systems-in areas of marketing and sales and production and financial management-also hinders the enterprises from developing strategic approaches, fully utilizing productivecapacity, reducing inventories,and assessingareas of cost reduction and quality improvement.

3.52 (e) Inentives. Finally, the organizationaland managementethos of an enterprise evolves to respond to the incentivesand penaltiesoffered by its environment. Current organizationaland managementstructures in FAW and SAW reflectan economic environment in which the senior managers are held accountablefor the attainment of productiontargets with allocated matedal inputs and in which the automotiveenterprises have been shieldedfrom all forms of competition. In such a noncompetitiveenvironment, - 53 - it is rational for enterprises to place primary consideration on the achievement of productiontargets, thus relegatingcost and qualityconsiderations to secondaryimportance.

3.53 Many inefficienciesin the Chinese enterprisesare rooted in the absence of managementautonomy, owing to the multiple functions of regulation, supervision,and ownershipcurrently exercisedby the overseeinggovernment agencies. Autonomywould be enhanced if the legal frameworkof ownership were put in place and the legal and economicentity of the enterprisewere established. However, balancingautonomy with managementaccountability needs more than simply setting up the ownershipstucure in the form of joint stocks becausethe financialmarket, in its current stage of development, is yet unable to wield the disciplininginfluence. - 54-

4. PERSPECE ON A STRATEGYFOR THE AUTOMOTIVE IUSIRY

4.1 If the objective of GOC is to develop an internationally competitive automotiveindustry, GOC needs to assess the comparativeadvantages of the Chinese industry today and its likely future development. It also has to give considerablethought on the government'srole in shapingthe future of the industrybecause only balanced and disciplinedintervention would lead to the outcomesthat governmentintervention intended to achieve.

A. CoMPARATIVEADVANTAGE

4.2 The comparativeadvantage of the Chinese automotiveindustry measured with ex-factoryprices shows a dualisticpicture with a highly uncompetitivepassenger car segment and a highly competitive commercial vehicle (truck and bus) segment.l/ Domesticallyproduced passenger cars are not cost competitiveat this time comparedwith internationaly producedvehicles of comparablequality and features, as ex-factoryprices range from Y 100,000to Y 125,000for cars with enginesizes of 1.6 to 1.8 liters and with no microelectronicfeatures. For example, Shanghai Volkswagen,the largest domestic producerand arguablythe most efficientone, recentlyannounced as part of its t;ompetitive strategy the plan to reduce the ex-factory price to Y 85,000, which is equivalent to $10,000 at the swap exchangerate or $14,000 at the official exchangerate. The border price of comparablecars would be about $7,000,2/ implying a cost differentialof 33 to 100 percent. On the other hand, the China-madefive-ton medium Jiefang truck, which is sold at Y 30,000 (equivalentto $3,500 to $5,000 dependingon the exchangerate), is about one fifth of the ChevroletKodiak series with a similar carrying capacity.

1l Qualityis anotherdmnion by whichcompetitiveness should be measud. lbe qualityof Chinese amotive products,especially trucb, s mny decadesbeind intemationalstandards. A senous discussionon compative advantage,therefore, needs to addre isues fromthe conceptof value, whichis defined to be the qualitydivided by the price.

2/ ShanghaiVolkswagen informed the 1990Bank mission on the automotivesector study that the Brazilian manufater of Santma modelquoted a retail price of $5,600 per car to a lare buyer in the Middle East. If 15 percent is added to cover ransportaton and insrae costs, the border price becomes $6,400. Thee remainsa questionon the exportsubsidy by Brazil, whichis estimatedby one account to be as high as $1,000. (See Capital-IntensiveIndu din NewlyIndusirkilizing Countries, The Case of the Brallan Atoomobileand SteelIndustrier, by Behard Fischeret al.) If this sbsidy is added, the economicprice becomes$7,400. However,the issueof subsidywould bring out subsidiesin China due to relative prices and needs much more refined treatmentthan this sector repor intends. For the sake of discuwsion,$7,000 is used to take accountof cost escalationsand subsidies. - 55 -

4.3 The cost competitivenesscould be explainedin terms of (a) productionscale, especially when it is below the minimum efficient scale (MES); (b) factor prices (raw material, capital, and labor costs); (c) technologyefficiency (learning curve, production and product technology,and management);(d) short-termphenomena, such as capacity utilization and foreign exchange fluctuations;and (e) country specifics, such as work morale and culture.

4.4 China has favorablecost differentials in terms of some inputs, especially steel and labor. Free-marketprices in China for steel are lower than internationalprices by 10 to 60 percent. Since nearly 9 percent of automotiveinputs come from steel,3/ this cost differentialcould amountto 5 percent (rable 4.1). A favorabledifferential in factor price could be also expectedin textilesand nonferrousmetal inputs, which comprises 4.8 percent of the total product cost. However, this cost advantagemay be eroded somewhat if energy and electricity prices are set to reflect actual consumptionof resources. Also, China will have to pay high factor prices for rubber and plastic, which contributesto 5.6 percent of the product cost, owing to the backwardnessof the domestic petrochemical industry; otherwise, China may have to import these inputs to avoid local cost disadvantage.

Table 4.1: RAw MATErALPIuCE COMrARTSON

Free MarketPrice InternationalPrice (Y/ton) ($Iton) ($/ton)/a ($/ton)

Rubbertire 1,640 280 189 300 Semifinishedsteel 1,168 200 134 469 Flat-rolledsteel 1,621 277 186 469 Refinedcopper 15,893 2,719 1,827 2,339

4.5 China has a definite advantage in labor costs because the average hourly wage plus fringebenefits (bonuses,piece-rate wage, above-quotapayment, subsidies, and overtimewage) is about $0.70 to $1.00 (accordingto a high estimatefor Chinese workers in a joint-venture automotiveproducer), or about 20 to 30 times less than wages in advanced countries. However, productivity lags behind; the most efficient producer, SharnghaiVolkswagen, reports annual productionof 9.5 cars per worker in 1991, which comparespoorly with 58 cars per worker in Toyota a decadeago.4/

3/ US.-iina Aomotive IndwsnyCooperadon Projedc, Te Univesityof Michigan, March 1989.

MichaelCusummano, SheJapanae Aombile Indusry,TheHarvard University Press, 1985; Melvyn Fuss,Costs and Proaiity In AutomobikProdaion, Cambri: Cambid UnivesityPress, 1992. - 56 -

4.6 The capacity utilizationrate has a significanteffect on unit costs as well, since short-termvariations of 25 percent would raise or lower unit costs by 6 and 10 percent, respectively. This impact is equivalentto doublingthe productionscale. Until the mid-1980s,the highercapacity utilization was a source of Japanesecost advantageover the United States; the utilizationrates for Japan was consistentlyhigh, 0.95 to 1.01, while those for the United Stateswere volatile from a low of 0.58 to a high of 0.90. Short-term capacity fluctuation could occur in any country; however, a long-term trend of high capacity utilizationis the result of technologyand managementefficiency.

4.7 Some of the comparativeadvantages enjoyed by the Chinese automotive industry cannot compensate for the structural disadvantages in scale economies and technology efficiency. Virtually all automotivemanufacturers other than two medium truck manufacturingenterprises operate with suboptimalscale. This scale disadvantageis evident not only in the old segments of the industry but also in new frontiers of the industry-that is, the passenger car segment, in which the cost disadvantage due to suboptimalscale is at least 20 to 30 percent. Raisingefficiency in productiontechnology, management,productivity, and capacityutilization is also a big challengethat the Chinese automotiveindustry has to surmountto become internationaRycompetitive. The Chinese automotiveindustry, however,has a great potentialwith its growingdomestic marketand with opportunities to accumulate learning by doing experiences that are essential to efficiency and competitiveness. The developmentstrategy of the Chinese automotive industry needs to address ways to resolve these structuralimpediments.

D. MNMUM EFcIET ScALE

4.8 Minimum efficient scale in automotive production varies from one production process to another with changes in the production cost structure. Scale economiesare least in the labor-intensivefinal assembly process and greatest in capital- intensive upstream operations-forging, press, and machining. In automotive manufacturing,upstream processesusually require heavycapital investment; for example, the MES of the capital-intensiveforging could reach 1 millionunits. In this process, cost declinesrapidly with increasingvolume, by as much as 20 percent with every doublingof production. Final assembly is definitely more labor-intensivethan forging. Recent productiontechnology revolution has aimed to r,duce reliance on labor with sophisticated robotics, leading to increasing capital investment and MES. In paraUel with this investment in equipment, production management has also become sophisticated, a developmentthat benefits scale economiesat lower productionvolume through flexible manufacturing.Today's industry wisdomis that the MES for final assemblyof passenger cars is between 100,000 to 200,000 units per year.:J The scale economies are smaller for final assembly, and process cost declines only by about 10 percent with the doubling of volume.61 For componentand part manufacturingprocesses that lie between forging

S/ TIe aumofive idusy stdy done by Booz, Allen & Hamton for IFC, June 1992.

iI NicholasOwen, Econonuesof Scake, Competitiveness,and Trade Panerns Wihin the Ewpean Comw_*y, Oxford: Caredn Press, 1983. - 57 -

and final assembly, the cost will decline by 10 percent as total volume increases from 400,000 to 1 million units and no more beyond this volume.2/

4.9 The MES also varies with the product cost structure; scale economiesare less in more labor-intensivetruck assemblyand greater in less labor-intensivepassenger car assembly. The explanationis that componentsfor trucks are heavier than those for cars, and truck producers have to accommodatea wider range of basic specifications (wheel base, engine, and transmission). The sheer weight of truck componentsrequires larger teams at each work station on the assembly line, resulting in longer work-cycle times and lower line speeds. The variabilityof work content also contributesto reducing the line speed. In industry practices, heavy trucks usualy offer more customized engineenng than medium trucks, leading to more variabilityof work content and lower scale economy. However, the difference in scale economy is mostly confined to the assemblyprocess and for upstreamproduction processes (forging, machining,and press). Truck manufacturing faces scale economies similar to those of passenger car nanufacturing.

4.10 For verticaly integrated automotive production, the total cost-volume relationshipis derived from a weighted average of scale economy for each production process. In integrated manufacturing,about 25 percent of the total cost comes from capital-intensiveprocesses, another 25 percent from labor-intensiveprocesses, and the remainder from sourced components. The weighted average of the above process costs indicatesthat the MES for passengercar production,with 50 percet in-housevalue-added, is 250,000 units per year; the unit cost declines by 10 percent with every doubling of volume. For mediumtrucks, the MES is much lower than for passengercar and estimated to be 50,000 to 100,000units. The MES would be higher for light trucks and lower for heavy trucks as componentweight and labor content change. Inteonal comparisonof profitabilityof truck producersshows that no manufacturerproducing under 20,000 units per year is profitableand that productioncost declines by 9 percent with the increase of productionvolume from 20,000 unitsto 35,000 units and furtherdeclines by the same with the increase fron 35,000 to 100,000units.#/

4.11 If this cost-volume relationship is applied to the Chinese automotive industry, the passengercar segmenthas a cost disadvantageof 20 to 30 percent compared withthe internationalproducers having the MES. This is based on the assumptionthat the 300,000car market, which is the goal of the Eighth FYP, is split by four producers, each producing 60,000 to 70,000 units (whichapproximates Shanghai Santana productionfor 1992). This cost disadvantagecould be an understatement,however, as there are already eight producers in the market, and each one's share could be lower than the above estimate.

21

1/ Iid. - 58-

4.12 The MES of automotiveproduction clearly highlightsthe structuralproblem embeddedin the Chinese automotiveindustry as most producers, except for two medium truck producers, do not have the MES. For example,in the passengercar segment,there are eight producers for the market of a total of 250,000 cars in 1993. The largest producer, ShanghaiVolkswagen, plans to produce only 100,000 units of Santana model in 1993, far below the MES. Passenger car producers have plans to expand their capacitiesduring the Eighth FYP, but none of them plans to expand the capacity beyond 150,000 units per year during the Eighth FYP. This already constitutesoverinvestment for the marketbecause aggregate production capacity of 600,000units alreadyexceeds the productiontarget of the FYP and may suffice until the end of this century, at which time the market is forecasted to reach 700,000 units per year. The sector has structural problemsbecause it requires a much larger market of 2 million (which seems impossible withina decade) to accommodateeight producerswith MES productionwhile none could be an MES producer with the marketsize expectedin near future. This structuralproblem sets a strong case for industral restructuring.

4.13 The commercialvehicle segmentis not any better than the passenger car segmentbecause only two among numerousproducers have MES today. The medium- truck segmentwill continueto be dominatedby these two producersbecause both plan to expand the capacity above 100,000 units per year. Challenges to this segment are in rasing quality and modemnizingtechnology. For the light-trucksegment where the MES is larger than that for mediumtrucks, the marketalready, however, begins to mirror the structuralproblem in the passenger car segment. There are 20 producers in the market size of 300,000units in 1993; many of them produceunder 10,000, a scale that will hardly yield competitivenesseven vith the low labor costs in China. Besides, the investment plans of larger producers (the largest is 60,000 units per year) reveal that none would be comfortablyoperating above the MES. Thus, the light-truck segment faces the same dilemmaas the passenger-carsegment: too many producers or too small market. Heavy truck and bus production requires higher labor content and low MES; however, it is evident Oth with the scale of 1,000 units per year (153 bus producershave a scale below 1,000, only four have above 2,000) productionwill be hardly economical(Table 4.2).

C. TEMOLOGICAL EFFICIENCY

4.14 Technological efficiency is the drivirg force behind the long-term internationalcompetitiveness of an industry and is shapedby technologicalabsorption and development,industrial organization and management,and a developmentalfocus. For GOC to formulate the medium and long-term developmentstrategy of the automotive industry, it wouldoffer valuableinsights to review the generalpattern of technologicaland industrialorganization that wouldcharacterize the developmentof the automotiveindustry, as experiencedby latecomersto the world automotiveindustry as well as leading players (Table 4.3). - 59 -

Table 4.2: FRiAGmENTAIONOF PRODUCTIONIN TRUCKSAND BUSES

Total No. of Production plants Unit size Production

Trucks Pickups 31,800 2 About 10,000 15,800 9 Below 4,000 16,000

Light 141,400 9 18,000-30,000 105,600 16 Below 10,000 35,800

Medium 139,800 2 Above 50,000 111,200 20 Below 5,000 28,600

Heavy 6,600 12 Below 3,000 6,600 Buses small 22,300 4 Above 2,000 12,700 42 Below 1,000 9,600

Medium 7,100 3 Above 500 2,100 33 Below 300 5,000 Large 1,600 2 Around 500 1,000 8 Below 250 600

City 5,926 5 Above 500 2,000 24 Below 300 3,900

Long-distance 11,542 3 900-1,100 2,929 33 Below 600 8,613

Phased Development

4.15 The first phaserepresents the primitivestage in whicha countrydoes not own any significanttechnology capability and relies on import for the tranWsportaton requirement. Even if there are attemptsto developindigenous industry, the level of technologyis behindcontempoary standards by two to three decadesin the absenceof foreigntechnology infusion. The domestic market is small,unsophisticated, and dominated by governmentand militarypurchases. The pnces are very high comparedwith the incomelevel of the public;thus, automotiveproducts are consideredto be a luxuryrather thana necessity.

4.16 In thesecond phase, the importof completevehicles is substitutedwith the domesticassembly of importedCKD and SKDkits, and the domesticindustry begins its attemptsto catch up with worldwiderapid advancesby employingimported foreign Table 4.3: STYLsTc PRESENTATIONOF TEIE FOuR STAGESOF THEDEVELOPMENT OF NDUSTRY

Stmuture Technology DomesticCapability Product Markets Industrial

Phase 1: InmortSubstituton in Isolation dispased indus- Obsolet toehnology,typical- Enie vehiclc is made with Primitive, obsolete product Production for domestic Fragmented, decadesbe. tocal capability. design, poor quality, high market, some imports of trial structure. Industry is ly two to thee by cost considera- hind contemporary world costs of production,protected special-needsvehicles exist. not driven standards. from iport competitionby tions. import restrictions andlor governmentsubsidies.

Phase In Infusionof ForeignTechnolocv: Develonmentof AssemblyTechnoloav Caoabilgv for asumbly Foreign imports of technol- Domesticcapability develops Product design and quality Productionis for the domes- Scale economies in the domes- in thc assemblyof CKD and improves but are still wett tic market, which is smaU operations are 40,000. ogy are infused leaders achieve tic industry. Initial technol- SKD units. Domesticcapa- belov world standards. In and protected. High levelsof Industry devel- bility does not yet extend to particular, qualityassurance, imports of technology,CKD economic scales of produc- ogy hiports focus on of the frag- oping assemblycapability, the technolgy for compo- safety standards and after- and SKD units and some tion. Vestiges nets and specializedmatesi- sales service are not offered/ completevehicles also exist. mentedsector stil exist. ats which are still imported. or are not reiable. Phase m: Mass Productionand InstitutionBuildina: Develoomentof ProductionTechnolopy Capability manufactur- Impo*sof technologyextend Domestic ndustry masters Product is sinple, but of Domesic market expands With integrated production technology for contemporarydesign,perhaps with economic growth and ing, sealeeonomies inrease to the compor.ts sectorand As upstreamindustries. existing model, producing a a few years behindthe world rapidly falling prices as to 150,000-300,000. majority of the components maket. Frequent model domestieindustry gains pro- salU pucers are competed in-country. Quality, safety changesare neither required duction efficiency and out, industrial structure and after-les servicenet- nor reonunended. Quality, realizesscale economies. becomesoligopolistic. works develop. Product safety and after-salesservice tchnology and some specia are integrated in the concept palts still imported. of the product. PhaseIV: Innovationsin ProductDesien: Develo=nentof ProductTechnoloev costa of R&D and Technology imports fall off Domestic industry develops Product quality is of world Industryis competitvein the Overhead ability for product innova- standards. Frequentmodel world market and no longer productdevelopment inemase as own technologicalcapabil- to 1-2 mil- to product tech- tion, developmentand mar- changesare possible and requires any protection. scale economies ity extends lion. Oligopolisticstructure. nology. keting. neeessary. - 61 - assemblytechnology. Break-evenvolume could be very low (20,000 to 40,000) because initialdomestic production is labor-intensiveassembly. However, the costs in the industry remain high becausethe infusionof modem technologylacks depth and most components and parts have to be imported.

4.17 In the third phase of its development,the industrydevelops mass-production capability by mastering imported production technologyor innovating new production systems. The product design remains simple, but production is carried out with high efficiency,high quality and low cost owing to technologicalabsorption progressing to the automotiveparts and componentssector. Economiesof scale of this integratedproduction cycle are much higher, reaching 200,000 to 300,000 units per year. Cost reductions achieved by localization, managementgains, and scale economiesexpand the domestic market through reducedcosts. Basic model changes are still beyond domesticcapability and are less vital in this phase than the next becausebuyers still regard price and reliability as the key variables. Cost and scale economiesbecome important tools in competition,and an oligopolistic industry structure emerges due to market shake-outs or government intervention. In this phase, the industry perfects its production system by organizing subcontractorsand related industriesaround efficientautomotive manufacturing.

4.18 The fourth and maturestage of developmentoccurs when the industry finally has the capabilityto design and marketits own products,and product innovationbecomes the key success factor in the competition. Frequent model changes become necessary as the industry has to cater to an increasinglysophisticated buyer, and marketing comes to the forefront of the competition. In the United States, it was in 1922 that GM instituted annual model changes as a marketing innovation. Since then, all leading players in the world's automotiveindustry spend heavily in product developmentand marleting. Only a few economieshave actually reached this stage because this phase requires substantial creative capability in technologicaland product development. The overhead costs of R & D, product development,advertising, and distributionimply that economiesof scale in the industry rise to 1 to 2 million.

LessonsFrom Experience

4.19 The first lesson that emergesis that the infusionof foreign technologyhas been used in the modernizationof the industry in all latecomercountries. In Japan, the first foreign technology infusion took place in the prewar era when Ford and GM assembledknock-down parts, untl they ceased operationsin 1939owing to restrictionson imports of knock-downparts and a deterioratingpolitical relationship. The secondround of technologyinfusion occurred after the end of the Second World War, when MITI encouragedJapanese automotive producers to enter into formal tie-upswith Europeanfirms to acquire the technologyfor passengercar production. Thus, in 1952, Nissan initiated an agreementwith Austinof England for assemblyof CKD kits. In 1953, Isuzu and Hino entered into agreements with Rootes and Renault, resectively. Although Japan soon graduatedfrom the foreign technologyin the early 1960s,technology tie-ups with Western producersprovided Japanese firms with the springboardfor moderniation. In Korea, it was Ford (with Hyundai) and GM (with Daewoo) that provided the inital assembly - 62 - technology for the modem automotiveindustry in the 1960s, and Mazda and Mitsubishi joined the list of foreign collaboratorsas Ford withdrewfrom the market. In Brazil, it was Ford and GM that started assembly from the 1920s and dominated the market until the Braziliangovernment initiatives were put into operationfor nationalization.2/

4.20 Second, continuedinfusion of product and productiontechnology has been required for maintainingthe technologicallevel of the domestic industry in line with the frontier of the world automotivetechnology. The strategiesused for ensuring continued technological upgrading, however, have varied across countries with significant implicationsfor subsequent industrial development. On the one hand, in Mexico and Brazil, the source of continuedtechnological upgrading has been the presence of foreign capital in the industry. Access to this critical input of new technologies,however, implied that the ownershipof the assemblyindustry passed on to the multinationals;nevertheless, the domesticeconomy achieved significant benefits through the growth of the components industry, technologicaldissemination, and export promotion through the distribution channelsof the parent multinational. On the other hand, in Japan and Korea, the strategy used was to rely on discrete imports of foreign technology with minimal foreign ownership,1Q/while at the same time developing indigenous technologicalcapability that soon eliminatedthe need for continuousimports of foreigntechnology. In either case, however,the benefitsto the domesticeconomy have been far greater than in countries that both restricted foreign capital and were unableto developlocal technologicalcapacity, as was, for example, the case of India and prereform China.

4.21 Third, in all countriesthat have developedsuccessful automotive industries, the industrydid not come of age until the industrialconcentration ratios evolvedto exploit the delicate balance between scale economies, competition,and incentives to innovate. Typically, this has implied the existenceof an oligopolisticset of vehicle assemblersin each product category. In the United States, the concentrationof productionin the hands of a few large producers and the eliminationof the smaller producers was completedby the mid-1930s. The big three-GM, Ford, and Chrysler-have accountedfor 95 percent of all automobilesbuilt ever since. A similar pattem of concentrationwas observed in each of the main Europeancountries during the 1950sand 1960sand went even further on a European scale in the 1970safter the establishmentof the European Community(EC).

2/ Nationaizaion in this sensemeans the establishmentof manufacturingwithin Brazil, not a public takeoverof previouslyprivate enterpnses. 'Denationalizationused lateron means he processof controlover private enterprises passing from Brazilians to foreigners.Both terms are commonlyused in Brazil. RusselMartin Moore, MukinationalCorporations and TheRegfonalion of Latn AmeicanAtomouive Indumty, New York: AmoPress, 1980,p. 122. 10/ In Japan,Ford has 22.59percent equity of Mazdaand Chryslerholds 10.3perent of Mitsubishi. Nissan,Is1 and Hino had licenseagreements for the productionof Europeanpassenger cars; however,the licenserelationship was severedin 7-12 years as Japaneseproducers progressed technologically.Toyota tried to establishtie-ups with Ford but had to takean idependentpath as the tie-updid not maiaize dueto thereluctance of the USfirm. See7he Japanese Awomobile Ind&ry, by MichaelCusumno, Harvard University Press, 1985, p. 116. In Korea,Mitsubishi Motors has a 15 percentequi shareof HyundaiMotor, Mazda and Ford hold 8 pert and 10 percentsbarsm of Kia. GMused to hold50 percentof DaewooMotor but plansto withdrawfrom Korea. - 63 -

By 1982, the six largest producersin Europe-Renault, Peugeot,Volkswagen, Fiat, Ford, and GM-built 80 percentof automotiveproducts produced in WesternEurope. Similarly, in Japan, 88 percent of the productioncomes from Toyota, Nissan, Honda, and Mazda.

4.22 Fourth, the complexityand scale of the productionprocess in the automotive industryhas impliedthat the organizationand managementof the productionprocess itself emerged as a key variable in competitiveness. In the United States, it was Ford that revolutionizedthe production system with the moving assembly line and began to consolidatethe industryby offeringconsumers automotive products at prices not imagined before. In Japan, it was the productionsystem based on just-in-time(1 and total quality control that propelled Toyota into excellencein terms of cost and quality worldwidej.J In Korea, it was only after Korean producers mastered production technology and successfullyorganized subcontracting networks that they were able to move into the export market on the basis of cost competitiveness. In Brazil, the modern automotiveindustry began to be shaped only after the government initiatives of 'Program of Targets" establishedthe domestic productionsystem,l2/ by forcing foreign producers to link with the domesticcomponent industry. A recent study has concludedthat the dramatic success of Japan in the 1970sand 1980scan be attributed largely to differencesin management techniques and to the effectiveness of the Japanese system of production organization.JI/ The inability of US and European producers to comprehend this valuablelesson in the 1980sled to erosion of their competitiveadvantage to Japan despite their superior product technology. Whicheverroute was taken, establishingan efficient and internationallycost-competitive industry organizationis an imperative phase for the advancementof the industry.

4.23 Fifth, the nature of the "product' of the industry itself has changed from a piece of machineryto a complexpackage of tangibleand intangibleattributes that include quality, safety, and reliability. Thus, the successof a domestic industry can no longer be assured purely on technologicalsophistication but will depend on its ability to provide the entire product package. Thus, the domesticautomotive industry also needs to develop a network of distributionand after-sales service centers as well as systemsand institutions for ensuringquality control and safetystandards. Lack of qualityassurance can undermine the success of any automotiveproduct, however sophisticatedits technology.

4.24 The sixth, and final, major lesson that emerges is that some form of competitionhas been critical in forcing the industry to make the tnition from assembly technologyto productiontechnology. In Mexicoand Brazil, the source of this competition came from the export promotionpolicies adopted in the 1980s. In the period in the late

.11 SeeJames P. Woacket al., 2TeMadne ThatChanged The Word, Mcmillan, 1990.

12/ In 1957, then BrazilianPresident Kubitaciek initiated a progrm by which foreign antomofive assemblerswere requiredto ra thelocal content to 90 percet in 1960in rerm forprotection of the domesticmauket.

131 Melvyn Puss and Leoard Wavemun, Costs and PoduiWty in A_nkl 1rduo. The ChaUengeofJqnese 4c , Camridge: Cambwid UniversityPress, 1992. - 64 -

1960sand early 1970swhen Mexico adoptedan import-substitutionstrategy, the industry soon lost momentum. In Japan and in Korea, the sourcesof competitionvaried with time. In keepingwith their strategyof long-termdevelopment of the industry, the Japaneseand Korean models allowed domestic producers time to learn and understandthe imported technology,by protecting them from internationalcompetition. Vigorouscompetition in the domestic market was preserved-even in this phase. As the industries matured, they faced competition in the international markets. The model of discrete imports of technologyfollowed by a protected domestic market was also attempted by India, with results considerablydifferent from those achieved by Japan and Korea. The continued presence of vigorous domestic competitionand the parallel developmentof technological capability seem to have been the key success ingredientsthat distinguishedthe Japanese and Korean models.

D. VERTICALDINTEGRATION AND SUBCONTACG

4.25 The Chinese automotiveindustry in 1992 represents a hybrid combination of the first phase of import substitutionin isolationand the secondphase of modernization through imported technology. Despite the modernizationdrive of the 1980s, large segmentsof the industry, especiallythose in the productionof buses and trucks, continue to produce with obsoletetechnologies and uneconomicscales of production. Policies set by GOC since the 1980s of large investmentsand the import of foreign technology and capital have, however,been successfulin helpingsome other sectionsof the industrymove into the secondphase of the development. A few leadingplayers have made the progress in mastenngassembly technology and deepeningthe absorptionof the new technologywith higher localization content. But for most of the new joint ventures, the process of technological development is as yet in its early stages; thus, much retrains to be accomplishedto move the Chinese industry into the tiird phase of the developmentby establishingefficient industry organization for production. This is a complexundertaking and encompassestechnological knowledge, production organization,and enterprise and sectoral management systems. In the long run, only success in the developmentof productionsystems will determine the possibilitiesof the Chinese industry to eventually develop product technologycapabilities.

4.26 The Chinese automotiveenterprises need to be verfically disintegratedto buildan efficientproduction base throughnetworks of componentand parts subcontractors. The developmentof a dynamicand efficientcomponents industry is critical to the eventual health of the automotiveindustry in China. The componentsand inputs industryin China, however, is relatively underdevelopedand is emerging as the weakest link in China's aspirationsto become a world-classautomobile manufacturer.

4.27 This underdevelopedcomponent industry is due in large part to the high vertical integrationof major automotiveproducers. FAW still produces 70 percent of the value of its trucks in-house at a time when manufacturersworldwide are realiing the efficiencybenefits from outsourcingand developingsubcontracting networks. Nissan and Toyota, for example, produce less than a quarter of the value of their automobiles - 65 - in-house.14/ The economicscale productionfor parts and componentmanufacturing, a necessarycondition for capital investmentfor qualityand productivity,is hamperedas the substantialportion of the marketbecomes captive by assemblerswhile each of them could not realize the economies of scale vith its own production volume. The vertical integrationof the enterpriseshas also left out the parts and componentsindustry from the benefit of infused technology. As a result, the component industry has remained underdevelopedwith antiquatedhardware and managementtechnology.

4.28 The conditionof the parts and componentsmarket in China, however,is not dissimilarto the situationfaced by the Japaneseautomotive manufacturers in the 1950sand the 1960swhen passenger car producti&tngained momentum in Japan. The responseof the Japanesemanufacturers at that time was to activelypromote the creation of a network of subcontractorsto meet the complex requirements for a modern parts and components industry: The networkhad to be technologicallycontemporaneous to produce components for the joint-ventureproducers; able to produce to consistentlyhigh qualitystandards; and able to supply on a reliable and timely basis. Additionally,in an industry that requires some 10,000 parts to produce a car, the systemof productionorganization should be such that all of the abovebe accomplishedwith limited managementcosts to the assembler.

4.29 The system of pyramidical subcontracfingevolved and perfected by the Japanese in the 1960s has shown itself able to meet the complex requirements of the automotivesupply chain more efficientlythan all other cunent systems. In this system, the vehicle assembler enters into long-termcontracts with a few subcontractorsfor the delivery of subassembliesor complexcomponents. These contractorsare known as first- tier suppliers and accept responsibilityfor timely delivery and high-qualitystandards for their subassemblies. First-tier suppliers, in turn, maintaincontractual relationships with second-tiersuppliers of parts and components. There are also likely to be additionallayers of third-tier and fourth-tier suppliers. For example, one Japanese manufacturerdirectly procured engine parts from only 25 primary suppliers, but the latter dealt with 912 subcontractors,who in turn procured from 4,960 third-tier suppliers.15/

4.30 ShanghaiVolkswagen is one major manufacturerthat has actively tried to emulate the creation of a network of local componentssuppliers. Of the 70 percent of locally produced components and parts for the Santana model, Shanghai Volkswagen produces 18.5 percent in-house and buys the rest from its 196 carefully selected local suppliers. These suppliersare typicallyother joint ventures, SOEs, army enterprises, and TVEs; they are subject to a qualityassurance system that broadly follows the procedures of the Shanghai Santana's licensor, Volkswagen,and thus are partally exposed to the infused technology. Parts are usually single-sourced,but multisourcing also exists, providing additional pressures for meeting quality standards. The Shanghai municipal

14/ KurtHoffmand Ral pln*y, DrivingForce: The GlobalReturing of TedhnologyLabor andInvestnew In dt Amnobilk and ComponenIndues, Bouder Westiew Press,1988.

Ill KurtHoffmai and Rapiade Kplinsky, Driving Force: the Glb Rsmwrn of Technology,Labor and Invent in theAutomobile and ComponntIndutra, Boulder:Westview Press, 1988. - 66 - governmentalso promotes the developmentof the local components industry with the proceedsof a tax (approximately10 percent) on the retail price sale of all Santanas. The proceeds of this special tax are put in a special fund used for loans to the component manufacturers; they are made avalable under the Shanghai Automotive Industry Corporation for projects designed to make the manufacturerscapable of supplying to ShanghaiVolkswagen under the localizationprogram.l6/

4.31 Despite the beginningsmade by ShanghaiSantana in developinga network of component suppliers, however, its efforts have not yet taken on the form of active nurturing, which is typical of the Japaneseexperience. The economy does not currently have innovativesuppliers with the financial, managerial,and technologicalcapabilities to emergeas viable primary suppliersto the new joint ventures, taking responsibilityfor the much higher standardsof quality control, technologicalinnovation, and reliable delivery. More active efforts will be required on the part of the governmentand other industry leaders for the developmentof the parts and componentsindustry in China.

4.32 The developmentof the parts and components industry in China is also constrained by weaknesses in upstream industries. For example, due to the underdevelopednature of pe.chemical and its by-productindustries, a number of vital products for the automotiveindustries are either not availablelocally or do not meet quality standards. Paint and sealers, for example, have poor resin. Rubber products, though presently localized, do not meet intemational quality standards. Other problem areas includeglass, certaingrades of steel, electricalcomponents, electronics, and energy. Glass is considered localized, but all raw materials for the production of glass have to be imported. While cold-rolledsteel is available,zinc-coated corrosion-resistant steel poses some problemas the Baoshan steel mill does not produce it in adequatewidths for use in cars. Electrical connectorsare not sophisticated,and the widespreaduse of electronicsis still a remote concept. Some initiatives are presently under way for the technological renovationof some of these industries. For example, ChineseCapital Steel is thinkingof buying a complete steel mill from Californiaand Gennany, and a joint venture between PBG and Guangdongprovince is under discussion. However, more concerted action witl be needed in developing upstream industries if the automotive industry is to develop further.

E. RoLE oF GovERNwr INrRvENoN AN COMmmON

4.33 Governmentsimpose restrictions on the economic systems of their own countriesin order to generatedifferent outcomes, presumably more sociallydesirable, than would be the case in the absenceof restrictions. The governmentsof the latecomersto the world automotiveindustry devised an extensiveset of public poLiciesfor the promotionof the industry. It should be noted from the latecomers' experiences at government

jk/ Initiy, a largeramount, in the ra of Y 28,000,was added to the priceof oachcar sold,with the nion thathdf of the fundsso gatheredwould be uwe by tho centa govemmentto fostr localiaionof partsin otherregons, but thispaut of the schae bhasnot wo*ed well. - 67 - intervention designedto promote the industry sometimesleads to opposite effects, and more often, industry becomesefficiently shaped by market forces.

4.34 Brazil. To supportthe road-basedtransport strategy and counter the balance of payment deficit owing to increasing automotive imports, the Brazilian government initiated the Kubitschekplan in 1957,17/ basically a protectionist policy mixed with incentivesto attract foreigninvestment. The plan imposedmandatory requirements to raise the local content to 90 percent for commercialvehicles and 95 percent for passenger vehicles by 1960. In return for this mandatoryrequirement, the producers were assured of the domestic market with an import ban and were also given adequateand subsidized access to foreign exchange required to import necessary componentsuntil localization became fully implemented. This policy was aimed to force foreign-owned KD kit assemblersto link with domestic componentproducers, and the policy restricted vehicle assemblersfrom backwardintegration into the componentsegment of the industry. By 1962,almost 200,000vehicles were producedwith a local contentof 87 percent. By 1968, three Brazilianassembly firms withdrewfrom the market, and the assembly industry was controlledby foreign capitaland consolidatedwith three top frins-VW, GM, and Ford- producing almost 80 percent of all vehicles. Limitedcompetition existed, with only one model in each size range produced;thus, each producerhad tended to carve out particular segmentsof the market for itself. The prices were over 25 to 50 percent more expensive than their foreign counterparts,even before qualitydifferences were taken into account.

4.35 In the 1970s, after the first oil crisis, car imports were made illegal to control the flow of the foreign currency. Shortlyafterward, in an effort to promoteexport, the Brailian governmentintroduced Befiex schemesunder which enterprisesentered into contracts that allowed them to import (free of tariff but subject to approval from the government)equipment and materialsfor up to one third of the value of their exports. In addition, there were generous export subsidies. Aided with these measures, exports reached 100,000 units in 1979. Anticipation for future growth induced Fiat and Volkswagento expandproduction capacity, leading to excess capacityand fierce domestic competition. This was the period of heavy cost-cuttingand industry restructuring, and less-efficientmanufacturers were weeded out. By 1980, output had passed the 1 million mark and exportspeaked at 212,000units the next year. Prices were reducedduring this competition and became comparable with the intrational level, even though a low valuationof the Braziliancruro was believedto contributemuch to this competitiveness.

4.36 Since the mid-1980s, the industry suffered from poor macroeconomic performanceand hyperinflation,and it did not regain the vitality in productionand export

17/ For the diacussionbelow an te Brmziliautootive indusy, the folowlg referenceswre usd: TheBraziUan Motor Induwoy, Auomotive Spca Rept No. 8, by TheEcaonmist Intlligence Unit, 1987; TheMotor Industryand Marketsof SouthAmerica, Special Report No. 2096, by TheEconomist IntelligenceUnit, 1991;A Report on the AutomodveIndusty Sendnr held in New Delhi, India, by IFC,1990; The World Motor 1udany,Special Report No. 2191,by Ihe EconomistIndellnce Unit, 1992; Capital-lntesive Indwstes in Newly IndutriaUzingContries, The Case of the Brazilian Auomobieand Sted Indusia, byBernbard Fischer et al., 1988;Mulonal Corporatio andthe Regioalon ofLaginAm Aomotvelwen In6my, by RussellMastn Moome, Amo Prs, 1980. - 68 -

that had peaked in 1980. The government,in its fight against inflation, introduceda new currency in 1986, froze the price and foreign exchange currency, and abolished most inflation-indexedmonetary corrections. Againstthe govenment's intention,this policy led to illegal premiumson prices, widespreadshortages of raw materialsand skdlledlabor, and a general increase in industdal costs. With the public enthusiasticallypolicing retail prices, profits were squeezed to the point where some automotivecompanies began to suspenddeliveries of products. The producerswere unable to meet their productiontarget because of shortagesof materials and components. They were said to be losing 25,000 vehicles a month for lack of parts and importingparts to keep production lines moving. There was confhictbetween foreign-ownedassemblers wanting to import less-expensive componentsand the domesticallycontrolled component industry wanting to extend the protection. One such notableexample is the "lawof informatics' that keeps the electronics industry to national companies and prohibits the imports of "national similars",ll/ which retarded the application of microelectronicsto the Brazilian automotiveindustry. This uneasy relationshipbetween the assemblers and component suppliers was further exacerbatedby the governmentpolicy in which the foreign assemblerswere not allowed to integrate backwardinto the parts industry.

4.37 In the 1990s, the automotive industry continues to suffer from macroeconomicmismanagement in general and price control in particular; however, the industry perceivesnew challengesand flexibilityin the new Brazilian trade policy. The failure of the New Brazil Plan in 1990, which was the prevailingeconomic reform policy combinedwith the introductionof another currency, led to a dramatic drop in car sales. Furthermore, price controls, which have been in effect since 1968 except for a short lift in 1990, led to a constant disruptionof the supply of parts and constant strife with the government. The strife between the foreign assemblersand the governmentreached its peak when the governmenttried to block the Autolatinadeal, a merger betweenVW and Ford, by filing an antitrust suit on the grounds of possible monopolisticbehavior resulting from the combinedshare of 60 percent of the domesticmarket. (Autolatinasuccessfully defendedits deal.) In the midst of a difficultmacroeconomic environment, the govemment introduceda new industial policy with the aim of modernizingdomestic industry through broad trade liberaliation. This policy mitigatesmany policy distortions: Vehicleimports are freed and the import tariff will be reduced until 1994, the maximum tariff being 35 percent in that year; CKD imports are now permitted,however regulationon CKD is expected to come; the "law of similarity"has been weakenedand manufacturersare able to source componentsfrom overseasby paying taiffs, which will decline to 30 percent by 1994; local-contentrequirements were reduced; and the "law of informatics" is being phased out.

4.38 In hindsight of the results of past development,the Brazilian approach to build an indigenousautomotive industry seems to have drawn mixedassessments. It used to be regarded as a success story of infant industry developmentwith the technological developmentbased on foreign direct investment. Brazilianexport of automotivevehicles

ID/ By the ^lawof similarity,'a componentcould not be importedif a similarproducts was made in Brazil. - 69 - was highlypublicized as an exampleof the "Brazilianeconomic miracle." There is a study that positively assessed the Brailian policy witi the view that the Brazilian policy of import substitutionbenefited society because the taxes from the automotiveindustry paid off the subsidies given to the industry within the first five years of the policy initiatives.19/ In contradictionto this view, however, there are skeptical views on the export performance of the Brilian automotive industry and the role of foreign MNCs:2DI Favorable export performance is found to be owing to heavy export subsidies and to reflect intermittent business strategies rather than sable competitiveness.These export-promoting subsidies were foundto exceedthe compensation for the export-retarding effects arising from the import substitution policy of the components and the ovevaluation of cruzeiro.21/ The Brazilian automotive industry is consideredto be mostefficient when it emergedfrom fiercedomestic competition in late 1970s. In the past decade, the profitabilityand efficiency of the industry has suffered owing to mismanagementof the macroeconomyand an uneven pricing policy between assemblersand component suppliers. But for the macroeconomicmismanagement and corollary sector policy, the automotiveindustry could have a better chance of developing internationallycompetitive producers. Rigiditiesbegan to be rectified, however, with the new trade policy in the 1990s, opening the door for import competition.

4.39 Japan. The Japaneseautomotive industry was successfulin developingan import substitution industry based on discrete technology imports and limited foreign capital participation. Japan developed its automotive industry from the position of producing less than 1 percent of the world vehicles in 1945 to 28 percent in 1990, surpassing the United States as the largest productionbase in 1980.221 The root of this success could be found in the govemmentpolicy that promoted the automotiveindustry; however, domestic competitiontogether with technologicaland managerial innovations played a major role in shapingthe industry.

4.40 Seeing the potential in the automotiveindustry to be the leading sector through backward linkages, MMTItook policy initiativesto protect the domestic industry against opposition from other ministnes. (The Ministry of Transport and the Bank of Japan argued that the postwar Japanese automotiveindustry did not have comparative

191 HelenShapio, TheRok of Gowmment:Rem Seeking or RentRedisbution? AutomobileFirms and dheBrailian State 1956-1968, Harvard Busess School.Within five yeas of theplan, total investment in theautorotive assembly sector reahed $418 million. Tne subsidies on thisinvestment came to $201 million,or 48 centsper dollarof investment.The biggest subsidies were customs duty exemptions and the rate at whichpayments on foreignfinancing was remitted.The policy was successfulin inducing foreigninvestment for the automotivesector, which rached $201 million during the Kubitschekplan.

20/ BemhardFischer et al., Capital-ImensiveIndsies in Newly nriaizing Counries: The Case of rhe BrazilianAutomobile and &eel lndutries, J.C.B. Mohr Tubingen,1988. 2/ Ibid. 2J If productionby theJapanese transplants in othercountries is counted,the share by theJapanese firms reaches30 prcentof the worldproduction in 1990behind 33 percentproduced by the US-basedfirms -GM, Ford, andChyser-and theirwoldwide subsidiaries. - 70 - advantagesand favoreda free-tradepolicy.) MlMIprotected the domesticmarket with high tariffs and the domestic producers with prohibitionson foreign direct investment. The incentives given to domestic producers included low-interest loans, preferential tax treatment such as special depreciationallowances for capital investments,exemption of import duty for productionequipment and tools, and export incentives such as deduction of export revenue from income. MITI also encouragedthe transfer of foreign technology through licenseagreements.

4.41 Beside these policy measures,however, MII's policy initiativeswere not well received by the private sector, and MlTl had to scrap its developmentalplans on several occasions. For example, in 1961, Japan already manufactured 810,000 units (whichis impressiveprogress over a decade)reaching 5 percent of the world production, but not enough for 13 firms to produce with scale economies. In the same year, Mm tried to restructurethe industryby requinng automotiveproducers to speialize in only one type of vehicle (amongminicars, sportscars, and other specialtyvehicles) and automotive products with engine sizes of greater than 0.5 liter. Except for Nissan and Toyota, all producers strenuously objected, and MMI had to shelve the idea. In 1963, Mlll also failed to persuade Honda not to enter the automotiveindustry. As an alternativepolicy, MM attemptedrestructuring through mergers,the effort of which was pardally successful with only one merger between Nissan and Prince in 1965 and several tie-ups among domesticproducers. Throughthese tie-ups, Toyotabecame the largest shareholderof Hino and Daihatsu, and Nissan of Fuji Heavy Ihdustries. The effort to restructurethe industry continuedinto the 1970swith the policy of libealizing foreign direct investmentand the participationof US firms in the managementof Japanese producers.2@/However, this did not result in significantreduction in competitionor an increase in scale becausenewly affihiated producers offered different product lines and most producers remained independent.

4.42 Contrasted with these mishaps in policy initiatives, MITl's policy of protectingdomestic producers from foreign competitionuntil they become internationally competitiveis consideredto be a successfulmeasure. This protectionwas disciplinedand was not granted indefinitelybecause in 1961 MMI lifted import bans on trucks and buses, which comprised70 percent of the total productionand were consideredto be ready for internationalcompetition. The smallpassenger-car segment, however, received protection throughoutthe 1960sand much of 1970s,until MITMreduced the import duty to 8 percent

23/ Chrysferand Mitsubishistated a joint venturein 1971. GM acquired34.2 pert of Isuz equity in 1971. Ford acquired 25 percentof Mazda equity in 1979. It is notewothy tat 1UZI, Mazda,and Mitsubishi,all sgnificantly smallerthan Toyota and Nissan,opted for joint veues with US fimns raher than with Nissanand Toyota - 71 - in 1972 and eliminated it in 1978.24/ Substitutingfor import competition, however, was the domestic competition among 11 domestic producers, 9 of which produced passenger cars. Due to this intensified competition, the profitability of the Japanese automotiveindustry had declinedsince the mid-1960s until they found export markets.

4.43 After the import substitution stage from postwar to the mid-1960s, the Japaneseautomotive industry entered into its export expansionperiod after the oil shock as the Japanese small cars found a market niche in the United States. The automotive output growth and capacity expansion during 1973-80 was mainly for export.2j/ As a result, the productioncapacity in Japan is almost twice domesticdemand, placing great pressure to pursue an aggressiveexport strategy. This export strategymet with resentment on the side of trading partners as the Japaneseshare of the US market, for example, had expanded rapidly.21I As a result, Japan had to agree to "voluntaryexport restraints" and to constrain the export volume to remain below an agreed-uponvolume, which was initially 1.65 million units per year but raised to 1.85 million units in 1984.27/ This export restraint created an incentive for Japanese producers to invest in manufactunng facilities in their major markets and accelerated the globalization of the Japanese automotiveindustry.

4.44 Implications for China. The developmental experiences of the aforementionedcountries could not and should not be exactly duplicatedas the eco. omic and politicalenvironment surrounding these countriesare differentbetween themselves and from that of today's China. For example, today's global economicenvironment is not poltically and economicallyfavorable for the replicationof the Japanese strategyof export expansion. It is not politicallyfavorable owing to the mountingpressures for trade balance among trading partners. It is not economicallyfavorable because as the global automotive ndustry enters into a stage of excess capacity, the market niches that would open opportumitiesto newcomers(such as smallear segmentto the Japaneseproducers after the oil shock) became hard to find. The technologicalenvironment has changed too as the easy access to advanced technology at moderate costs that developing countries once

ZI Despite this elimaion of imt duty, Japan was accused of nontadff import barriers by trang patns as cusoms officias wssted on nspectig each unportedvehicles and would not check one saple and grant a type certificate,as the United Statesand Europeancountries did, unless sales of a single model were of a volume comparableto domestic maks (a near impossibilty). Besides, only agents registnredin Japan, not foreignproducers, were allowed to import vehicles. Strict standards for vehicle safety and emissionsalso necessitatedexpensive alterations on most cars sold in Japan, doublingtheir prce after taxes and shippingcosts. Under increasingpressure from trading partners, Japan had to change this practice in 1983.

25/ During 1973-80,98.3 percent of new demand came from exports. In contrast, during the import subsitution period (1952-65),90.9 percent of new demand cuae from the domesticmarket.

AI The share of Japanese producers in the US automotivemarcet rose from 3.7 percent in 1970, to 9.4 percent in 1975, and 22.6 percent in 1982.

_/ he agreed-uponperiod for the voluntaryexport restaint ws three years startig from 1981 and ending in 1984. However,Japan unilateray extendedthis period for additionalone year, raising the volume to 2.3 million units. - 72 -

managed to have is no longer available,with technologybeing viewed as the source of competitiveness.

4.45 Experience illustrates that the role of governmentintervention should be disciplinedand that market forces should be allowed to shape the industry as much as possible. There are similarities between the developmentpolicies of the above two countries, namely, to initially protect the domesticindustry from the import competition and to provide subsidiesthrough credits and foreign exchangeallocations. However, the similarities end here and the degree of government interventionvaries. The Brazilian government direcdy controlled the pricing and sourcing of automotive components, microelectronicparts in particular,with the aim of promotingthe domesticindustry. This interventionretarded the industry's developmentsince the distortion of relative prices left automotiveassemblers with parts insufficientin quantity or quality for export. Undue protection to the parts industry by forbidding the assemblers from diversifyinginto the parts segment, in addition to price controls, resulted in tension between assembler and parts industries at a time when the world trend is promoting harmoniouscollaboration betweenassemblers and part suppliers. Contrastedwith the heavy-handedintervention of the Brailian government,the Japanesegovernment left these details to marketcompetition and kept a few simple, basic policy measures-protection from import competition.

4.46 Governmentintervention should be also flexible. What could have been right for the 1960sis not necessarilyright for the 1990s;moreover, the governmentshould constantly measure its intervention against the yardstick of internationaland domestic competition. For example, the -law of informatics"would have affected the automotive industryless in the 1980s,when the applicationof microelectronicsto automotiveproducts became the competitive edge among the world automotive producers. The Brazlian governmentshould have assessedthe cost and benefit of protectingdomestic electronics industry and then redefined the scope of the protection in the changing competitive environment.

F. mSssAND On'oR¶TuN

4.47 First, the government'spolicy frameworkfor the automotiveindustry needs to be reformulated,as it is not consistentwith developmentalobjectives. The current strategy seeks to achieve full domestic self-sufficiency.The govemmenthas, it believes, identifiedthe various levels of demandfor different vehiclesover the next 10 years, and has then "assigned"different segmentsof the market to different producers: luxury cars to Audi, mid-sizesedans to Santana,compacts to Citroen, and so on. Joint ventures have been attracted to these segmentsby meansof high levels of domesticprotection, at tariff rates well over 100 percent. Moreover, producers are then exhorted to maximizelocal sourcing and given further incentives to do so, through tariffs and bans on imports of parts.

4.48 Experiencein many countrieshas demonstratedthat, in this industry,a strategybased soley on Wort protection(the "inlfantindustry* theory) will never lead to eficiencyand internationalcompediveness. Rather, import protectionincus high social - 73 - costs through excessive domestic prices, and creates a powerful interest group for the maintenanceof the protection. 7hus, the present Chinesestrategy to developa competitive automotiveindustry is doomed to failure unless key elements are changed. In sum, tdis study urges an internationalmarket orientationto the strategy for the automotivesector, aiming immediatelyfor internationalcost competitiveness,and for the abandonmentof facilities that cannot achieve this level of competitiveness.

4.49 This said, it must be recognizedthat scale economiescannot be achieved ovemight, especially in what is still a relatively small market. Thus, the immediate implementationof free foreign trade would deny the opportunityfor the domesticindustry to build a base, and for the economyto benefit from spill-over effects.

4.50 The way to reconcile these two factors at this stage of the industry's developmentis to protect domestic producers for a stated and limited period of time. First, the7industry wouldbe disciplinedby increasingexposure to import competitionover time, by means of declining tariff and nontariff barriers. At the end of the protection period, tariffs would have been reducedto averagelevels (15 to 20 percent), and nontariff bariers would have been eliminatedentirely.

4.51 Second,and perhaps the most difficultissue for the government,production capacity in the automotiveindustry needs to be concentratedin terms of the number of final producers, and specalized, in terms of componentmanufacture. It seems impossible to achieve economies of scale in the industry without eliminatinglarge numbers of the small, inefficient producers (although some of these could, no doubt, be converted to component manufacturing). Two alternative approaches are the following: The first approachwould be the "laissez-faire"way, that is simplyremoving protection, both foreign and domestic,and lettingthe marketdetermine the survivors. The secondapproach would offer a more proactiverole for the state in restructuringexisting industry. Nevertheless, the bottom line is clear: If a competitive industry is to develop, a significant ratonalization of the existing automotive industry is required, with large numbers of existing assembly plants disappearing and with their workers finding alternative employment. Of course, governmenthas the choice of protecting the present producers forever, preventing exit, and accepting a high-cost, domesticallyoriented automotive industry. The governmentshould only do so in the knowledgethat this wouldbe a subsidy from the rest of society to the workers in those plants, and this is incompatiblewith China's market economyapproach or its desire to develop a world-classindustry.

4.52 Third, strategy for the developmentof the Chinese automotive industry shouldbe formulatedin the light of world trends in the industry. The current international trend is toward globalizationof manufacturingand sourcing. This is particularlytrue for the componentand parts industry where China needs a larger productionvolume than the domestic market can support and thus access to foreign markets. This means that China needs the right incentivesand strategy for foreign direct investment,which would bnng forth synergiesbetween the domestic industry and foreign producers. - 74 -

5. POLICY RECOMMNATIONS

5.1 The 1990s will present the Chinese automotiveindustry with the greatest opportunitiesand challengesit has faced so far. Strategicand selectivegovernment action will be cntical in facilitatingthe transition. In our view, the governmenthas two main functions that it alone can perform: first, and most important, it must create a policy frameworkfor the sectorthat would be conduciveto addressingthe issuesdescribed above; second, it must create an appropriate supporting institutionalframework to assist the industry to adjust to the new policies. These two functionsare no different in this sector than in any other: The differenceis that economiesof scale make entry at a much more expensive scale, and past policies make the problem of exit significantlylarger than in many other subsectorsof the economy.

A. BALANCINGPROTECTON AND COMPEION

5.2 The challengeto governmentpolicy is to find the balancebetween providing the domestic industry with just enough protectionfrom imports to give the industry time to move down the learning curve, while ensuring that some import competition-and the certainty that protection will decline to low levels in the future-provide domestic producerswith incentivesto learn and internalizenew technologies,to continuouslyreduce costs, and to improve quality.

5.3 Therefore, GOC shouldannounce its program, based on offering protection that is limited in time and scope. It is recommendedthat the customstariff at the end of the protection period should not exceed 20 percent. This tariff should be the only instrumentto implementthe trade policy, and all nontarifftrade barriers (QRs) should be removed, includingimport quotas, import licenses, and prohibitionon foreign exchange purchase. Similarly, all rights to import vehicles free of duty should be abolished.l/

5.4 The period of protection has to be determined after internal study, but experienceelsewhere has indicated that a period of five years after policy announcement should be adequate,at the end of which only the 15 to 20 percent tariff would prevail. A longer period would not necessarily guarantee the domestic industry's commitment to higher efficiency,as it would be outside the typical planningand investmenthorizon.

1/ Announcingthe programis importntso thatexistng and potential competitors klow the ndes andwill respondwith theirinvestment sttegies in a competitivefaion. - 75 -

B. CREATINGINcENTfv TO INNOVATE

5.5 The creation of extemal sources of competitionand pressures to innovate mustalso be accompaniedby an appropriateframework of domesticpolicy. The economic and regulatoryenvironment and the incentivesand attitudesof managersand technicians in the automotivefirms will be crucial factors in the developmentof the industry and the transfer and applicationof modern technology. In this regard, three areas seem to be of particular importance.

5.6 GOC needs to provide clear leadersbl9 in supervisory agencies and developmentalstrategy. A weaknessin the present systemof sector managementis the multitudeof first-tier supervisoryagencies and the ambiguityof the relationshipbetween supervisorsand superviseesat the enterpriselevel. GOC needs to assign clear authority and responsibilityto a single agency, such as CNAIC, for developing and imposing national priorities, particularly in the areas of creation of new capacity and technology development. (This also applies to some of the other issues with respect to the role of government,discussed in sectionC.) This is becausein the presentpolicy framework,and until the reform programin this sectorhas taken hold, there could otherwisebe investment decisionsthat would be inappropriatein the mediumterm. Repetitionof such investment mistakeswould only create increasedpressures not to go forward with the reforms, on the grounds of the loss of productionfacilities. Moreover, it is necessaryto formulatea clear and detaileddevelopment strategy for the sector, and to spearhead the restructuring and adjustmentprogram. Finally, the current overlappingresponsibilities create excessiveand repetitivesupervision and an environmentthat stifles enterprisemanagement.

5.7 Domestic Competiton. GOC should eliminateimpediments to domestic competitionincluding interprovincial trade barriers, such as local procurementpreference guidelines;government subsidies, such as on raw materialssupplied through the Ministry of InternalTrade; governmentcontrol on prices and distribution;and limited managerial autonomy and accountability.2/ Enterprises should be allowed the full 14 autonomies granted in the 'Regulationson the Transformationof the OperatingMechanism of SOEs." In particular, and subject to policies for the sector as a whole, decisions on production volume and parts sourcing should be left entirely to enterprises, as should decisions to invest, once the new policy frameworkis in place. The Ministryof Internal Trade should pay particular attention to competition in this industry, ensuring that purchases by provincialand local governmentsand SOEs are based on qualityand price, and not on tax or financialrelationships.

5.8 Enterprise Governance. The automotive industry poses particular challengesin the area of governance,but its size also offers opportunity. The separation of regulation, ownership,and managementshould be addressedspecifically in this sector. The role of CNAIC shouldincreasingly be one of regulaion and provisionof information, rather than of direct ownership. The major enterprisesin the industry should be formed

ZI Fo concret examples,see chptr 3. - 76 - as joint stock companies. Given the need to stimulatecompetition over time, government should not form a sector holdingcompany in the automotivearea. Rather, shares could be vested in portfolio holding companiesand alz with local govemmentsand, perhaps, banks. These enterprises,given their overalland expectedprofitability, would seem to be candidatesfor listing on the domesticstock exchange. (indeed, one company, Gold Cup, has already be>. listed on the New York Stock Exchange.) Boards of directors should be created for all sucn enterprises; and for the joint ventures, the foreignpartners should be given the leading role.

C. I'm ROLE OF GovERNMENrIN FACILiTATNGTHE CREAnON OF AN EFmCET INDUSRAL STRUCItRE

5.9 It is not the view of this report that the governmentcan simply create the right policy frameworkand let the market do its work. Rather, the role of GOC should be to facilitate the proper functioningof the market, through actions to assist economic agents to react to new market signals. Moreover, the market in China is as yet underdeveloped,and may fail in the absence of governmentaction. There are six areas of governmentintervention at we would considerappropriate and helpful.

5.10 Inefficient enterprises producing with obsolete technology and at an meconomic scale should leave the industry. Since the marketis extremelycrowded and fragmented,small-scale inefficient producers should be forced to exit. There is simplynot room for 117 full producers and 459 assemblers. We can foresee two alternative approachesto this process of rationalization. Under the first, laissez-faireapproach, COC would developminimum quality and safetycodes for vehicles. Serious enforcementof the codes, in conjunctionwith removal of import protection, would drive unsafe and poor- quality vehicles and their producers out of the market. A related, but more proactive approach, would be to set up minimumstandards for productionfacilities (including size) and technologyresources, administered in the formof productionlicenses. Producers with hopelessly inefficient production facilities or an excessivelybackward technology level would be made to exit entirely from the sector. Producers with salvageablefacilities and technologycould be allowed to merge with larger and more efficient producers.

5.11 A more direct approach to this would be for the governmentto establish a task force to draw up a set of criteria with which to review all current facilities. The facilities would then be classified into those that will survive, those that may be salvageable,and those that must be closeddown. This approach would also require the provision of funding to assist exit-including maintenance of welfare coverage and transitionfinancing-and diagnosticassistance to salvageableenterprises. Foreigntechnical assistancecould be sought in this restructuringdiagnostic function.

5.12 While the first strategy is more suited to the market economy, it must be recognizedthat the Chinese marketis as yet far from developed. In particular, there is a danger that if aU the smaUproducers are permitted to continueto exist, the interest groups associated with these facdiities-itotablylocal governments-may seek to undermine the - 77 -

basic policy of developingcompetition, the basis for developinga sound industry in the future.

5.13 GOC should not encourage new entry to passenger and light-truck segments at subeconomicdze. In the longrun, competitionwould be the key determinant in shapingfuture industry concentraion; however,until competitionhas developedthrough the removal of tade barriers, the governmentshould prohibit new entry at a capacitylevel below 100,000units per year. Indeed, there is a case for the governmentto prohibit entry at all. However, it wouldbe inapproiate to discoucagea new, genuinejoint venture that was based on clear knowledgeof the future policy frameworkfor the sector; indeed, this could speed up the transformation of the existing joint ventures into competitive production.

5.14 For other segments, entry by joint ventures should be encouraged as these segments have long been neglected in foreign investment. This applies especially to medium and heavy trucks, which are heavilyconcentrated in two producers in China. The total investmentin bus and heavy-trucksegments represents only 2.5 percent of the total during the Eighth FYP. These segments are also the most backward in the automotivesector and thus could benefit from the infusion of advancedtechnology from foreign sources. Por componentand parts segment,entry by foreign componentproducers shouldbe also encouragedas the segmentneeds foreign technologyand heavy investment because of its high capital intensity. However, most of the joint ventures to date have emphaszed partnership between the domestic and foreign partner, with the domestic partner clearly regarded as the senior. There is a good case for encouragingsome wholly owned foreign entrants, or joint venturesin which the foreign partner is senior, in order to develop factoriesthat will regard China as a productionbase, and the domestic market as just one part of the market for the output of the enterpnse.

5.15 The developmentof the component sector should be a priority. Selective developmentof the componentssector is suggestedat this stage. The governmentshould create a leading group to pioritize major componentsthat can be realisticallytargeted for localization. This must be based on an awareness that economies of scale for the productionof some componentsare very highand that the inabilityof upstreamindustries may constrain the effectivelocaliation of some other components. The existing foeign partners should be invited to participate in such a task force, and provide guidance to Chinesepolicymakers in internationalexperience. Once the priority list was determined, it could form the basis for a targeted search for foreign parters in such industries, together with the search for partners in the areas noted in the previous paragraph. However, specialincentive systemsshould not be adopted for such subsectors.

5.16 The development of subcontracting networks should be a priority. The most importantchange in process technologyin recent years has been the abandonmentof verticaly integratedproduction technology and the developmentof geographicallyclose, but orniationaly separate, subcontracting. This is best chaactized in Toyota technology. It is recommendedthat the Chinese govemmentshould seek astance from those familiar with the development of this approach to create a framework for its - 78 - developmentin China. In paiular, thisshould be linkedto the possibleapproach to the closingdown of many of the existingsubeconomic assembly plants, for some of this experts could be convertedinto subcontating. This could be facilitatedthrough financial,informational, and managerialastance in meetng the standardsrequired of modern componentssuppliers. In Japan, vehicle assemblersprovided this type of assistanceto componentsuppliers to helpthem overcomeinitial production problems. In China, given the managerialweaknL;ies of the assemblersthemselves, stte-sponsored researchand consultingagencies may be more appropriate,with suitableforeign advice. The developmentof productand quality standards by an indusbywideagency would also be particularlyuseful at this stage, as it will help small entrepreneursunderstand the qualitystandards expected of them. The designationof an agencyto leadthe development of the parts and componentssector is recommended,but it is observedthat this seemsto be an appropriatefunction for CNAIC. 5.17 EnterprIse Magemet. At the enteprise level, oganizationaland managementsystems must be realignedto encourageefficiency and innovation, given their verticalinteration andlack of accountability.The levelof verticalintegration should be reduceddrastically and except for the manufacre of some,key components, all parts and componentsshould be subcontracted.Organizationally, they should be reganizd along product divisions and each division should be an independentaccounting entity. Managerially,the managementsystems should be decentralized,with tnsparent performanceevaluaion systems and closelinlk betweenperformance and pay. The auto worksalso need to developnew skillsin strategicplanning, marketing, and distribution. A lot of trainingwill be requiredboth for workers and managers in acquiring these new skills. New systemsof productionmanagement such as contemporarybest-practice managementmethods oa !1T inventorymanagement and total qualitycontrol shouldbe studiedand adopted.3/ 5. 18 To identifysuch problems is straightforward,but implementationand reform designis moredifficult. In particular,the question arises as to whoshould spearhead these technicaland o tional reforms. It is suggestedthat CNAICshould seek technical assince to financedetailed restructuring studies to be carriedout by CNAICwith the helpof foreignand localconsultants, for the two or ftree largestenterprises (for example, FAW, SAW, Nanjing). This shouldbe don* once a new policy frameworkhas been designedand adopted. This shouldbe regardedas assistanceto the industryin formulating a plan to adaptto the new policy framework,but it wouldbe for the enterpriseand its boardof directors,not for CNAIC,to decideon futuresteps for the enterpriseand for the managementof the enterpriseto implementany suchplan. This shouldthus be seenas an exercisein the sepamtionof government,ownership, and management.

3/ To keepup with increasg investnnt dends andfcial automy, enterpie' financing operaionsneed to be improvedas well. Interlinhkigthe Chin auomov sctor with he intational finacial conmmitywill be beneficialto bothChinese enpises and inteaioral invetors. The is a rolefor GOC to play in enhancin hisfinanial itedining. - 79 -

D. LONG-TBRMGOALS-TIE DEVELOPMT OF PURODUCTTECHOLOGY 5.19 The ultmate transitionto achievingproduct technology will dependon the extnt to which the interim transition to acquiringproducdon capabilityhas been accompanied~by the developmentof inherenttechnological capability of the domestc economyand the skdllsof fte domesticfirms to makeinroads in a competitivemarket. Thesefactors underscore the importance of effectivegovernment policies in facilitatingthe developmentof domesticR & D capabilityand quality human resources that are required to ensure technologicalcapabity, thus crating an environmentof vigorousdomestc competitiono ensurethe reilience and adaptabilityof domesticenterprises. E. CONCUWSION 5.20 Theautomotive industy cxemplifiesall theindustral policy questions facing the governmentof Chinatoday: howfast and to whatlevel to libealize imports;how to makeinefficient and uneconomicentprises viable;what to do with displacedworkers; howto balancestate intervention with marketforces during China's transition toward the marketeconomy; and how far to let managementgo whena market-orientedcorporate governancesystem is yet to emerge;and howto guidethe industrydevelopment without resortingto the instrumentsused in the plannedeconomy. This studyhas atemptedto providea rangeof suggestionsto answerthese questions, while recognizing that Chinais stiUin its transitiontowards a maket economyand that in scme cases furtherstudy has to be recommended.The short-to medium-termanswers to the chalenges facingthe Chinese automotiveindustry may change over time with changing macroonomic environmentand deepeningmarket reform. However,it cannotbe too muchemphaized that in the long run the Chineseautomotive sector will have a most efficientindustrial organizationwhen its development,dictated by intenational competitionand state participationin the sector,is eventuallyreplaced by etrepreneurialownership. -81- -

STATISTICS

LIsT OF TABLES

Table No. lWe

Size

1.1 Number of Enterises, 1981-92 1.2 Number of EnterprisesUnder Each Deprtment 1.3 Number of Enterprisesin Each Provinceor Municipality, 1992 1.4 Number of Employees,1982-92

2.1 Annual Vehicle Output 2.2 Output of Major Plants 2.3 Output Mix for Trucks and Passenger Vehicles, 1990 and 1992 2.4 Output of Passenger Cars and Jeeps, 1990 2.5 Bus Output, 1990 2.6 Provinceswith Annual OutputAbove 10 000 Units, 1986/87 2.7 Outputof Main Components 2.8 Output Valueof Provinces, 1983-92 2.9 SubsectorOutput Value 2.10 Output Value of Autopartsand Componentsby Prwince, 1988 and 1990

Motor VehicleFleet

3.1 Motor VehicleFleet 3.2 Growth of Motor VehicleFleet 3.3 Motor Vehicle Fleet, 1989 3.4 Age of Motor Vehiclesin Use (end of 1988)

Trade

4.1 Imports, 1980-89 4.2 Imports, 1986-88 4.3 Exports, 1980-89 4.4 Major Foreign Participation 4.5 Local Contentof Foreign Models Assembledin China -82- ANNEX

Table No. Title

Financial Indicators

5.1 Investment,Sales, Taxes, Profit and Otf.cr FinancialIndicators, 1982-92 5.2 Net Value of IFixedAssets of Major Plants (End-1988) 5.3 Taxes Prevailingfor AutomotiveEnterprises 5.4 Passenger Car Prices, 1992 5.5 Truck and Bus Prices, 1992

Highway Tafic

6.1 Highway Freight and Passenger TzafficVolume 6.2 Highways Traffic Growth versus Total Trffic Growth 6.3 Highway Expansion, 1980-89 6.4 Highway Expansionin Quantityand Quality Materials,Energy and Euvfroment

7.1 China's National Outputand Consumptionof Steel 7.2 Consumptionof Steel, Iron, Coal and Power in the AutomotiveSector 7.3 Gasolineand Diesel Consumptionby Motor VLicles -83 -

Table 1.1: NUMBEROF ENrRFROs, 1981-92 (unit: plant)

1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1992

M,)torvtbicles Production 57 58 65 82 114 99 116 115 119 117 124 Conversion la 198 202 207 248 314 338 347 386 464 459 479 Motorcycles 26 26 34 38 47 50 55 81 65 62 72 Engines 34 34 50 58 63 58 63 63 63 64 63 Components 2,114 2,136 2,371 2,385 2,366 1,877 1,777 1,864 1,885 1,894 1,817

Total 2.429 2.456 W24 2.811 2.904 2.422 2.358 2.509 2.596 2.596 2.555

/a Converona pnts buid speca vehies and buses on purhased chasss.

Source: ChinabWaAiao-Isn Yearbook, 98, p. 119; CNAIC data for 1988-92 figures.

Table 1.2: NUMBEROF ENTERP&uSESuNDER EACHDEPARMDNT, 196-90

Department 1986 1987 1988 1990

Ministry of Machinery Industry 1,357 1,402 1,393 1,427 Ministry of Communications 183 199 204 204 Ministry of Li8ht Industry 254 214 256 241 Departmentof City Construction 45 42 43 58 Ministry of Justice 54 59 54 64 Ministry of Rural Industry 213 142 190 202 Ministry of the Military 132 138 208 232 Ministry of Chemical Industry 17 9 7 8 Ocher Departments 167 153 154 160

Total 2.422 2.358 2.509 2.596

State owned n/a nia 1,374 - Collective n/a n/a 1,115 - Other ownership n/a n/a 20 -

Note:'Otheownoednp' rnfe malny to Chiese-foign joit veurs orwholy foein owned.

Source: CNAIC. - 84 -

Table 1.3: NUow= OF EINJszs DN EACH PROVINCEOR MUNICIPAUTY,1.092

Area of Activity Province or V(ehice Vehicle Motor- Auto Murnicipality Production Conversion cycle Engine Parts Total

Beijing 8 25 0 1 80 114 Tianjin 4 6 1 3 77 91 Hebei 6 28 3 2 53 92 Shanxi 3 4 1 2 47 57 Inner Monoglia 2 6 0 0 29 37 Liaoning 9 29 1 4 96 139 Jilin 3 15 1 1 80 100 Heilongjiang 4 15 1 1 72 92 Shanghai 4 16 3 3 83 109 Jiangsu 9 55 9 4 109 186 Zhejiang 4 .'6 4 4 3 126 Anhui 3 16 1 3 52 75 Fujian 3 9 1 0 54 67 Jiangxi 4 11 6 2 50 73 Shandong 5 29 5 6 111 156 Henan 4 17 8 2 50 81 Hubei 6 35 3 2 118 164 Hunan 6 30 3 6 100 145 Guangdong 5 13 3 1 82 104 Guangxi 3 5 3 3 42 56 Sichuan 12 32 6 8 113 171 Guizhou 3 17 3 4 37 64 Yunnan 6 6 1 1 57 71 Tibet 0 0 0 0 0 0 Shaanxi 4 24 4 0 42 74 Gansu 1 7 0 0 35 43 Qinghai 1 5 0 1 24 31 Ningxia 0 0 0 0 11 11 Xinjiang 2 6 1 0 13 22

Soure: CNAIC. - 85 -

Table 1.4: NumBE OF EwWYmB,S1962.92 (in thousands)

1982 1983 1984 1985 1986 1987 1988 1989 1990 1992

Motor vehicle 483 468 559 Production 256 nla 300 391 386 421 465 18 n/a 189 211 236 233 229 283 270 311 Conwersion la 106 97 135 Motorcycles 15 n/a 40 44 52 78 112 36 nla 75 87 76 88 102 105 106 120 Engines 593 605 723 Component 478 n/a 609 674 518 528 749 1.849 Total 943 1.047 j1.213 11. 1.268 1.348 iahU I72 Lh66

/a Convasion plants build speil vehicla and buses on putohsed bhasis. Souro: Cina Amldusuy Yearbok, 1988,p. 121; CNAIC datafor 1988-92. Table 2.1a: ANNUALVEHICLE Ouwr, 1981-92 (in thousands)

1981 1982 1983 1984 1985 1986 1987 19d8 1989 1990 1992

Total La 175.6 196.3 239.9 316.4 443.4 372.8 472.5 646.9 586.9 509.2 1,061.7 Truek Lk 108.3 121.8 137.1 179.8 236.9 220.7 299.4 Light 364.0 S46.3 269.1 460.2 n.a. n.a. n.a. 60.3 94.9 102.1 139.2 175.0 137.4 95.1 212.4 Mediu.m n.a. n.a. n.a. 103.2 124.0 106.5 117.5 147.4 139.1 Beavy 161.5 178.8 4.7 5.1 6.7 8.9 11.3 10.3 7.9 8.6 10.6 9.6 10.5 Dump truek n.a. n.a. n.a. n.a. 12.2 12.1 15.5 9.1 9.4 Van Le n.a. n.a. n.a. n.a. n.a. 12.7 33.9 16.6 35.0 78.4 77.8 19.9 n.a. Cargo n.a. n.a. n.a. n.a. n.a. n.a. n.a. 33.0 Passenger 36.8 n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. 45.5 41.0 n.a. n.a. Car 3.4 4.0 6.0 6.0 5.2 12.3 20.9 Jeep Id 36.8 35.5 4.Z 162.7 15.5 15.3 18.2 16.6 20.7 21.9 27.4 35.0 41.7 44.3 55.4 BUJ .J n.a. n.a. 6.2 6.9 11.9 12.3 31.2 Consverson /£ 50.9 47.6 23.1 84.5 n.a. n.a. n.a. 118.3 102.1 80.0 96.8 134.1 I.a. n.a. n.a. Special n.a. n.a. n.a. n.a. 19.4 22.4 23.2 Cha.s.s 28.0 33.2 15.4 n.a. 40.0 42.5 62.3 85.3 114.1 81.3 92.3 136.2 103.9 n.a. n.a. Motorcycle 134.9 213.7 287.2 528.3 1,045.1 665.7 737.6 1,171.8 Tractor (large) 1,030.0 965.8 1,982.2 00 52.8 40.3 37.0 39.7 45.0 28.6 37.1 47.2 45.4 31.8 Tractor (sall) 210.0 n.a. Ch 290.3 487.7 688.6 822.5 772.6 1,070.0 1,335.7 1,077.6 834.7 n.a.

Totd outpudoes include not nmoorcycsor tracts. Therei doublecouning beueen chasissnd vehicles, buses and vans, trks and vans,covrsin and busekand speoavehicles and dump tuks; it is dminbatd,however in thetotl outpuL The s fr & ligfh, nm m, andbeavy tucb do not add up to the total numberof trubksbecses they are fiom dft sources. Minitrs (cargo vans) are not lted. Heavy an medium b fOr 19U-90 Iniludo heavy and mdm jeps.

LQVans inlde both passengerand cro vans.

4 Jmps ref to lightpjep in and ater 1986.

L2 Buses ic pa vanm,but for 1988-89,buses rfer only to laWeAnd mediu buses. if Convrdions ilude spoeial veicks,bse, and dwnptrucks built on purchased chssis.

Sources: CNAIC. Total fipgur of al otor veIs, tucks, cas, and chass from 1975 to 1987 are aboavailable inChia AW4industyYearbook 1988. p. 127. - 87- ANNEX

Table 2.1b: ANNUALOuTUTr, 1968-92

1988 1989 1990 1992

Total 646,951 586,936 509,242 1,061,721

Domestic 593,941 544,300 463,95A 938,494

Trucks 358,196 332,647 261,709 441,107 Mini (pickup,van) 30,206 36,410 25,274 58,518 Light 173,308 128,195 87,881 194,114 Medium 147,395 161,381 139,119 178,728 Heavy 7,287 9,441 9,435 9,747

Cross-CountryTrucks 36,384 42,304 44,719 63,373 Light 35,978 41,661 44,348 61,7'! Medium 23 120 179 752 Heavy 383 523 192 874

Dump trucks 8,485 8,329 7,839 38,093 Light 2,949 1,811 1,239 4,469 Medium 4,847 5,662 5,115 28,619 Heavy 689 856 1,293 5,005 Mining ttucks 192 -

Buses 41,420 44,205 23,042 75,986 Mini (van) 11,536 20,174 550 7,269 Small 24,442 20,324 18,660 60,848 Medium 3,932 2,465 1,106 5,625 Large 1,510 1,242 2,522 1,964 others 204 280

Cars 7,623 5,537 6,235 67,716

Other 6,859 5,305 30,620 52,300

Chassis 134,974 103,193 89,795 199,_62 Cross-country Light 4,378 7,003 :3,230 9,663 Medium 90 371 460 1,474 Heavy 291 161 216 291 Trucks Mini 2,886 1,515 791 3,984 Light 47,059 33,331 21,919 44,484 Medium 54,474 41,351 26,998 48,604 Heavy 59125 5,237 4,699 8,008 Bus 20,588 14,065 20,978 81,720 Other 83 159 504 1,384 -88-

Table 2.1b: (cont'd)

1988 1989 19'0 1992

ImportedCKD Assembly 53,010 42,636 45,288 123,227

Trucks 5,804 10,188 7,389 19,167 Mini 2,751 342 0 200 Light 1,700 9,249 7,229 18,238 Medium 6 0 0 0 Heavy 1,347 597 160 729

Dump trucks 654 1,053 805 485

Buses 9,502 654 106 3,565 Mini 9,489 0 0 0 Light 2 500 61 8,373 Medium 3 24 1 110 Large 8 130 44 82

Car 29,175 29,913 36,174 95,009

Other 6,615 125 34 1

Chassis 1,260 703 779 0

SouX8:CNAIC. -89- ANNEX

Table 2.2: Ounur OF MAJoR PLANTs, 1984L90 (number of vehicles)

1984 1986 1988 1989 1990

M.ni Trucks Tianjin Mini Auto a/a n|a 9,329 14,031 12,320 Jilir Light Auto n/a 4,411 14,134 5,700 3,212 Liuzhou Mini Auto 2,574 4.844 8,736 7,706 9,115 Harbin Aircraft n/a 1,015 10,054 7,319 3,750

Liaht Trucks Shenyang Gold Cup n/a 22,178 34,510 34,708 10,626 Tianjin Auto 9,010 18,343 35,250 18,324 9,796 Beijing Auto No. 2 14,600 22,500 29,100 18,499 - Beijing Auto No. 1 4,750 11,805 23,649 20,170 - Nanjing Auto 16,620 20,403 33,898 32,293 28,904

MeditDm-sized Trucks First A:;to Works 78,416 61,607 80,298 74,495 55,587 Second sento Works 70,173 87,592 111,331 117,121 74,407 Qinghai Auto 1,502 1,502 2,240 1,631 1,057

Heavy Trucks Jinan Auto 7,947 7,600 6,741 7,701 6,239 Shanghai Heavy Auto 1,355 2,185 510 426 1,349 Sichuan Auto 451 403 1,157 1,852 1,903

Buses Tianjin Bus Plant 1,085 2,506 5,107 2,408 2,723 Dandong Auto 1,256 1,581 1,282 1,383 1,139 Guangzhou Auto 726 1,532 759 652 705

Cars and Jeeps Beijing Jeep 16,418 24,087 31,002 39,130 37,876 Shanghai Santana 0 8,400 15,550 15,688 18,537 Guangzhou Peugot nla nla 5,354 5,880 5,660 Wuhan Light Auto 6,132 602 2,861 735 729

Source:CNAIC. -90- ANNEX

Table 2.3: OUnTfr MIX FOR TRUCKSAND PASSENCER VEmCLES, 199OAND 1992

1990 _ 1992 Share Share of Vehicle of Vehicle Vehicle Number Category (2) Number Category (2)

Trucks: - Heavy 9,595 3.6 10,476 2.2 - Medium 139,119 51.7 178,278 38.7 - Light 95,110 35.3 212,352 46.1 - Mini 25,274 9.4 58;718 12.7

Total Trucks 269.098 100.0 460.274 100.0

Passsnkor Vehicles: Bus 23,148 21.0 84,551 27.9 Car 42,409 38.4 162,725 53.8 Jeep 44,719 04.6 55,378 18.3 Total Passenfer Vehicles 110.276 100.0 302.654 100.0

Specialized and other vehicles 39,234 100.0 -99,187 100.0

Chassis 90,574 100.0 19,612 100.0

Total All Vehicles 509.242 1.061.721 -91- AN=

Table 2.4: Our OF PASEGER CARsAND JEErs, 190

Jeeps.Domestic Desian Beijing BeijingJeep Co. 31,754 Hebel BaotingAuto 418 Liaoning Shenyan Air 1a"iufacture 1,306 Hebei BaotingGreat Wall Co. 300 Hubei Wuhan LightAuto 639 Jiangsu No. 4 State-ownedMachine Plant 459 Fujian PLA No. 7427 Plant 241 Hunan PLA No. 7319 Plant 164 Jiangsi JiangxiFire EnginePlant 575 Jiangxi Fuji Auto 1,654 Sichuan Hua Tuen 1,893 Sichuan ChenduLight Conversion 1,579 Sichuan PLA No. 7438 135 Sichuan GoldenHorse 707 Xinjiang XinjiangAuto Plant 140 Subtotal 41.964 Jeep. ForesianDesizn Beijing BeijingJeep Co. 6,106 Subtotal 6.106

Car. DomesticDesiRn Shanghai ShanghaiAutomobile 6,072 Subtotal 6.072

Car. ForeianDesian Tianjin TianjinDaihatsu Auto 2,920 Shanghai ShanghaiVolkswagen 18,537 Liaoning FirstAuto Works 4,200 Guangdong GuangzhouPeugot Auto 3,016 Subtotal 28.673 Total 82.816 - 92- -X

Table2.' BusOunwu, 1990

T2pe of bus Province or Specialized municipe'tty large Large Medium Small mini Total

Beijing 196 - 465 2,820 - 3,480 Tianjin 70 - 138 - - 208 Hebei - - 348 1,576 - 19924 Shanxi - - 205 50 - 255 Inner Mongolia - 19 88 - - 107 Liaoning 168 24 1,392 3 - 1,587 Jilin 76 11 63, - - 724 Heilongjiang - 582 779 41 - 1,402 Shanghai 612 6 643 716 - 1,977 Jiangsu 44 7 769 3,972 81 4,873 Zhejiang 35 - 397 146 8 886 Anhui 32 20 451 221 - 724 Fujian - - 183 86 - 269 Jiangxi 24 - 817 576 - 1,417 Shandong - 330 818 579 - 1,727 Henan 27 341 162 1,023 - 1,553 Hubei 256 4 909 603 - 1,772 Hunan 39 14 836 1,498 - 2,387 Guangdong 88 - 1,203 1,204 - 2,495 Guar.gxi - 19 589 351 - 959 Sichuan 56 51 1,248 2,488 - 3,843 Guizhou - - 194 989 - 1,183 Yunnan 20 - 251 874 - 1,145 Tibet ------Shaanxi 19 147 496 446 - 1,108 Gansu - - 605 132 - 737 Qinghai - - 149 15 - 164 Ninxia ------Xinjiang - 18 268 5 - 291

Total 1.761 1.593 15.040 20.714 89 39.197 - 93 - ANNEX

Table 2.6: P9OVINCSWm AMUALOMW ABOVE10900 UNR, 19669 (thousandv*hcles)

Province Total Truck Jeep Car Conversion fk Cha8sis CRD

1986 National Total L 372.8 213.9 23.7 2.2 37.0 71.8 25.1

Beijing 59.6 33.4 20.7 - 1.0 2.9 1.6 Hubei 91.0 53.9 0.5 - 3.1 33.2 0.3 Jilin 67.0 44.3 - - 2.5 18.2 2.0 Jiangsu 22.3 17.3 0.9 - 0.6 3.3 0.2 Liaoning 29.6 19.2 - - 8.1 1.9 0.4 Shandong 10.7 4.6 - - 0.3 4.4 1.3 Shanghai 15.1 2.1 - - 3.1 1.2 8.7 Sichuan 10.3 4.9 - - 0.1 1.2 4.1 Tianjin 21.5 16.5 - - 2.3 0.7 2.0

1987 National Total la 472.5 288.1 27.8 4.0 29.6 92.1 30.9

Beijing 73.7 30.5 22.1 - 3.0 15.1 3.0 Guangxi 12.7 11.4 - - 0.7 - 0.6 Heilongjiang 13.4 12.0 - - 0.1 1.30 - Hubei 111.0 64.3 1.0 - 4.7 41.00 - Jiangsu 31.4 23.8 0.9 - 2.0 4.50 0.2 Jilin 71.7 58.5 - - 0.1 13.10 - Liaoning 38.6 27.5 - - 9.7 0.90 0.5 Shanghai 20.1 2.6 - 4.0 1.0 1.50 11.0 Sichuan 15.9 8.2 0.1 - 0.2 1.70 5.7 Tianjin 30.2 21.8 - - 2.6 2.20 3.6

1988 National Total LA 647.0 358.2 36.4 7.6 56.8 135.0 53.0

Beijing 90.4 32.8 25.1 - 5.2 22.8 4.5 Heilongjiang 25.7 23.4 - 0.1 0.1 2.2 - Guangxi 14.6 12.3 - 0.1 1.8 - 0.4 Hubei 126.7 70.5 - 1.6 7.5 47.0 - Jiangsu 41.5 27.2 1.7 0.2 3.9 8.5 - Jiangxi 11.3 5.2 3.8 - 0.2 0.4 1.7 Jilin 98.7 66.5 - - 11.3 20.5 0.4 Liaoning 57.2 41.4 1.4 0.1 13.3 1.0 - Shandong 14.5 8.8 - - 0.5 3.9 1.3 Shanghai 26.1 3.2 - 5.5 0.3 1.5 15.6 Sichuan 27.9 9.3 0.8 - 3.8 4.0 10.0 Tianjin 45.3 25.1 - - 3.8 4.2 12.1 Yunnan 11.6 8.4 0.6 - 0.7 1.9 - Zhejiang 10.1 4.8 - - - 5.3 - - 94 - ANNEX

Table 2.6: (cont'd)

Province Total Truck Jeep Car Conversion/b Chassis CKD

1989 National Total /a 586.9 335.4 42.3 5.5 57.8 103.2 42.6

Beijing 85.2 20.9 32.5 - 6.0 19.1 6.6 Guangxi 13.8 12.4 - - 0.9 0.1 0.3 Heilongjiang 13.3 12.1 - - 0.1 1.2 - Hubei 126.7 79.3 0.4 - 5.4 41.6 - Jiangsu 3.1 25.8 1.3 - 5.0 7.9 0.1 Jilin 84.2 70.4 - - 1.8 10.1 1.9 Liaoning 49.3 32.4 2.3 - 12.3 1.8 0.6 Shandong 13.5 8.4 - - 0.3 3.7 1.1 Shanghai 24.8 1.9 - 5.5 0.7 1.0 15.7 Sichuan 27.9 14.0 0.8 - 6.9 2.7 3.6 Tianjin 39.2 22.6 - - 13.7 1.7 1.3 Yunnan 11.7 9.4 0.4 - 0.9 1.1 -

/a The output of the provinceslisted does not add up to totl, as some provincesare iot listed since they make very few. /b Conversionincludes dumping buck, bus and specialvelicle, as no sepuate figuresan available. /c Vehiclesassembled from importedkIts (completely nocked-dowvn).

Source: ChinaAWo-Indushy Yearbook,1988 (pp. 128-129);CNAIC.

Table2.7: OUTPuT OF MAIN ComFDwnI

National Total UnderMinistry of Macbine Buildinm Output Output Outputas ('000 units) Enterprises('000 units) Enterprises I of National

Engine 687 63 362 27 53 Carburator 1,270 27 994 16 78 Clutch a"sembly 163 16 133 10 82 Transmission assembly 289 45 259 34 90 Steering assembly 413 43 331 28 80 Brake disc 35 13 16 6 45 Brake drums 1,510 60 1,083 34 72 Mastercylinder 446 29 200 12 45 Starter 1,442 46 1,293 33 90 Distributor 1,320 18 890 11 67 Lightingassembly 7,154 46 4,069 25 57 Meter 2,380 33 1,140 20 48 Autobody 54 40 35 19 65

Sourc: CNAIC(as conmwnictedto th msson in 1990). Table 2.8: OurpUr VALuE BY PROVINCE,1983-92 (Y million, 1980 constant value)

1983 1984 1985 1986 1987 1988 1989 1990 199 1 1a 1992L/

National Total 12.036 16.454 23.534 18.454 23.368 32.462 34.712 34.239 46.808 103.451 Anhui 172 265 369 202 255 377 402 347 442 1,059 Beijing 1,127 1,399 1,806 1,866 2,146 2,609 2,764 3,212 4,994 9,410 Fujian 65 132 201 134 164 285 284 229 295 835 Guangxi 94 171 321 257 414 509 632 694 917 2,317 Guizhou 88 182 375 126 166 248 327 322 427 1,414 Hebei 182 345 442 330 376 708 796 908 1,147 2,743 Heilougjiang 354 472 623 404 621 875 797 471 576 1,320 Henan 153 341 339 207 335 561 488 608 786 1,527 Hubei 2,603 3,236 4,106 3,615 4,345 5,264 5,539 5,160 6,896 9,869 Hunan 353 496 719 648 753 1,063 1,273 1,137 1,480 1,527 Gansu 75 101 186 105 100 lii 131 135 178 241 Guangdong 190 253 463 225 350 516 795 985 1,341 4,621 Inner Mongolia 34 45 66 43 40 68 89 125 176 350 Jiangsu 702 989 1,450 1,178 1,717 2,331 2,454 2,678 3,282 9,747 WA Jiangxi 195 245 503 435 481 781 828 798 1,049 2,394 Jilin 1,419 1,823 2,199 1,654 2,550 3,527 3,303 3,393 3,979 8,150 Liaom.ng 843 1,280 2,209 1,501 1,879 2,578 2,761 2,069 2,958 5,999 Ningxia 11 15 128 11 8 12 19 16 19 23 Qinghai 59 100 147 103 119 141 128 83 128 188 Shaanxi 156 206 322 288 354 538 590 514 664 1,318 Shandong 669 816 1,294 963 952 1,557 2,979 1,905 2,241 4,698 Shanl 68 117 160 106 114 177 153 139 183 390 Shanghai 1,003 1,153 1,647 1,276 1,448 1,864 2,011 2,134 4,202 11,812 Sichuan 567 1,037 1,394 1,210 1,598 2,704 3,086 3,361 4,729 9,614 Tianjin 388 505 907 768 982 1,535 1,469 1,341 1,767 5,165 Xinjiang 76 107 133 87 146 191 198 214 281 463 Yunnan 111 230 346 210 303 464 437 346 511 1,202 Zhejiang 279 395 678 503 652 869 976 906 1,152 2,695

fa In 1990constant vale

SourcesChn Auto-Indusuy Yearbook, 1988, p. 122; CNAIC (for1988, 1989). -96 - ANNEX

Table 2.9: SuBsECroROurruT VALuE,-986690 (Y nmllon,1980 constant value)

Subsector 1986 1987 1988 1989 1990

Auto productionLS 6,457.7 11,564.6 15,313.1 16,086.2 16,212.80 - truck subsector n.s. n.a. 13,748.7 n.a. n.a. - bus subsector n.a. n.e. 788.2 n.a. n.a. - car subsector n.a. n.a. 692.2 n.a. n.a. Conversion 3,306.9 4,024.8 5,400.9 5,660.2 5,153.15 Engine ,0O11.9 1,263.0 1,931.5 2,229.7 2,038.10 Parts 4,841.2 5,496.7 7,719.3 8,594.7 8,507.00 Motorcycle 836.7 1,018.7 2,097.0 2,142.0 23,280.60

TotAl 18.454.3 23.367.8 32.461.8 34.712.8 34.239.09

La Diggaopd figues for1988 vehicpduchton an on a difenntbass tga ons, and do notadd up exacdy totota.

Source:CNAIC dat. -97-

Tabl. LIS: Ouwr VAUJ iro AumPArU AND COMFONEnSBY PtOVINC,18 AND1990 (Y mIlion, 1980 comtant value)

Province 1988 1990

Anhui 123.0 168.9 Beijing 723.4 656.5 Fujian 83.7 135.4 Guangdong 193.9 227.2 Guangxi 47.4 65.0 Guizhou 70.6 127.4 Gansu 69.9 68.7 Hebei 205.5 277.2 Heilongjiang 178.5 129.3 Henan 137.9 182.2 Hubei 1,044.6 1,175.4 Hunan 364.1 437 Hubei 1,044.6 - InnerMongolia 36.2 94.6 Jiangsu 438.6 543.6 Jiangxi 163.0 157 Jilin 330.8 357.6 Liaoning 424.0 468.4 Ningxia 12.3 15.9 Qinghai 31.9 28.8 Shaanxi 124.7 170.7 Shanxi 68.7 80.1 Shadong 370.3 503.7 Shanghai 515.9 591.6 Sichuan 543.1 754.0 Tianjin 574.1 444.4 Tibet - Xinjiug 12.2 2.9 Yunnan 102.9 90.8 Zhejiang 461.8 522.9 Total .,452.7 8.507

Sourco CNAIC. Table 3.1: MoToR VEHICLEFLEET, 1981489 (thousandvehicles)

1981 1982 1983 1984 1985 1986 1987 1988 1989

r nt L 1,612.8 1,753.1 1,887.1 2,075.2 2,426.1 2,667.7 3,015.0 3,378.0 3,294.1 Passenger 455.4 498.0 539.6 632.3 877.6 1,056.8 1,211.0 1,405.0 1,586.3 -Regular bus Lb a.a. n.a. n.a. n.s. n.a. n.a. n.a. n.a. 42?.9 -Car/other n.s. n.s. n.a. n.a. n.a. n.a. n.a. n.a. 1,165.4 special 144.9 148.1 154.1 157.7 184.8 188.0 154.0 163.9 196.9 Motorcycle 244.7 320.0 405.6 599.0 947.5 1,485.0 1,358.0 3,024.0 n.a. Transport tractor n.a. n.s. n.a. n.a. 1,790.9 2,295.3 3,747.4 3,916.0 n.a. Trailer 259.9 302.6 350.2 435.9 454.2 460.0 426.1 447.0 474.5 Subtotal le 2.213.1 2.399.2 2.580.8 2.865.2 3.488.5 3,912.5 4.380.0 4.946.9 5.477.3 ltucK- Un.a. n.a. n.a. n.a. 264.8 312.3 349.1 448.0 525.0 Passenger a.a. n.a. n.a. n.e. 19.3 34.4 73.4 152.9 202.8 -Regular bus lb n.U. n.a. n.e. n.a. n.a. n.a 1.5 2.0 n.a. -Carlother n.e. n.a. n.a. n.&. n.a. n.a. 71.9 150.9 n.a. special a.a. n.a. n.e. n.s. 0.7 0.4 0.3 0.7 3.4 Motorcycle n.e. n.s. n.a. n.a 518.4 888.1 1,009.4 2,219.2 n.e. Transporr tractor n.a n.a. n.a. n.a. 1,260.5 1,750.5 2,619.3 2,983.2 n.e. Trailer n.a. n.a. n.a. n.a. n.a. n.4. n.a. 123.0 n.a. Subtotal n.a. n.a. n.a. n.a. 284.9 347.1 422.9 601.7 731.2 Total Pleet wrucx it) 1,612.8 1,753.1 1,887.1 2,075.2 2,690.9 2,980.0 3,363.7 3,825.8 4,219.1 Passenger (2) 455.4 498.0 539.6 532.3 897.0 1,091.2 1,284.4 1,558.3 1,789.1 -Begqlar bus lb 212.2 212.3 220.2 240.2 383.8 330.1 289.1 321.6 420.9 -Carlother 243.2 285.7 319.3 392.1 513.1 761.1 995.3 1,236.7 1,165.4 8ecial(!3) 144.9 148.1 154.1 157.7 185.5 188.1 154.3 164.7 200.3 tiotor¢yle(4) 244.7 320.0 405.6 598.9 1,465.9 2,372.6 2,367.8 5,243.2 n.a. Transport tractor (5) n.a. n.a. n.a. n.e. 3,051.4 4,045.8 6,366.6 6,899.2 n.a. Trailer (6) p 9.9 302.6 350.2 435.9 454.2 459.9 426.1 570.4 474.5 Total: (1)(2)(3) 2,213.1 2,399.2 2,580.8 2,865.1 3,773.3 4,259.3 4,802.3 5,548.8 6,208.5 Total (1)(2) (3)(4) 2,457.7 2,719.1 2,986.4 3,444.1 5,239.2 6,631.9 7,170.1 10,792.0 n.a. Total: (1)(2)(3)(4) ( ) 2,457.7 2,719.1 2,986.4 3,464.1 8,290.6 10,677.7 13,536.7 17,691.2 n.a. Total: (1)(2)(3)(4) (5),(6) 2,717.6 3,021.7 3,336.6 3,899.9 8,744.8 11,137.6 13,962.8 18,261.6 n.a.

venmnt vehicles are owned by publc sector organizao such as state farms, factories, companies, schools, government agencis, etc., or un by highway transportation departmnts. lb A regular bus has a seatingcap¢city of around40 or more. t Subtotalsinclude only truks, passengerand specialvehicles. d Privte vehiclesareownedbyprivate, colleciveand foreignentprises as well as inaividuals. Sources: CNAIC; China Statics Yearbook, 1988, 1989; US-China Automotve Indusby CooperationProject (Universityof Michigan, Match 1989);Automotive Indutry of China (China Atomotive Technologyand ResearchCentr), 1989, p. 22. p Table 3.2: GROWTH OF MOTOR VEHICLE FLEET, 198289 (Annual Percentage Increase)

1982 1983 1984 1985 1986 1987 1988 1989 Average

Government /a Truck 8.7 7.6 10.0 16.9 10.0 13.0 12.0 9.4 10.9 Passenger 9.4 8.4 17.2 38.8 20.4 14.6 16.0 12.9 17.2 -Regular bus /b n.a n.a. n.a. n.e nn.a. n.a. n.s. n.a. n.a. -Car/other n.a n.a. n.a. n.a. n.a. n.&. n.a. n.a. n.a. Special 2.2 4.1 2.3 17.2 i.7 -18.1 6.4 20.1 4.5 Motorcycle 30.8 26.8 47.7 58.2 56.7 -8.6 122.7 n.a. 47.7 Transport tractor n.a. n.a. n.a. n.a. 28.2 63.3 4.5 n.a. n.a. Trailer 16.4 15.7 24.5 4.2 1.3 -7.4 4.9 6.2 1.2 Subtotalla 8.4 7.6 11.0 21.8 12.2 11.9 12.9 10.7 11.9 Private Id Truck n.e. n.a. n.a. n.a. 17.9 11.8 28.3 17.2 18.8 Passenger n.e. n.a. n.a. n.a. 77.7 113.6 108.2 32.6 83.1 -Regular bus lbn nn.. nne. n.. n.e. n.a. n.a. n.a. n.a. n.a. -Carlother n.a. n.a. n.e. n.&* n.e. n.a. n.e. n.a. n.a. Special n.a. n.a. n.a. n.a. -36.0 -30.2 138.1 356.6 107.4 Motorcycle n.s. n.e. n.a. n.e. 71.3 13.7 119.9 n.e. 68.3 Transport tractor n.e. n.a. n.a. n.a. 38.9 49.6 13.9 n.a. 34.1 Trailer n.a. n.e. n.e. n.a. n.a. n.a. n.a. n.e. n.a. Subtotal no&* n.a. n.a. n.s. 21.8 21.8 42.3 21.5 26.9 Total Fleet Truck (1 8.7 7.16 10.0 29.7 10.7 12.9 13.7 10.3 13.0 Passenger (2) 9.3 8.4 17.2 41.9 21.7 17.7 21.3 14.8 19.0 -Regular bus lbk - 3.8 9.1 59.8 -14.0 -12.4 11.3 30.9 11.0 -Car/other 17.5 11.8 22.8 30.9 48.3 30.8 24.3 -5.8 22.6 special (3) 2.3 4.1 2.3 17.6 1.4 -18.0 6.7 21.6 4.8 Motorcycle (4) 30.8 26.8 47.7 144.8 61.9 -0.2 121.4 n.a. 61.9 Transport tractor (5) n.a. n.a. n.s. n.a. 32.6 57.4 8.4 n.a. 32.8 Trailer (6) 16.4 15.7 24.5 4.2 1.3 -7.3 33.9 -16.8 9.0 Total: (1)(2)(3) 8.4 7.6 11.0 31.7 12.9 12.7 15.5 11.9 14.0 Total: (1)(2)(3)(4) 10.6 9.8 16.0 51.2 26.6 8.1 50.5 n.a. 24.7 Total: (1)(2)(3)(4)(5) 10.6 9.8 16.0 139.3 28.8 26.8 30.7 n.e. 37.4 Total: (1)(2)(3)(4)(5)(6) 11.2 10.4 16.9 124.2 27.4 25.4 30.8 n.a. 35.2

LAGovernment vehicles are owned by public sector organizationssuch as state farms, factories,companies, schools, governmentagencies, etc., or run by highwaytransportation departments. lb A regular bus has a seating capacity of around 40 or more. I Subtotalsinclude only trucks, passenger and special vehicles. Id Private vehicles are owned by private, collectiveand foreign enterprises as well as individuals. Sources: CNAIC; ChinaStatistics Yearbook, 1988. 1989; US-China AutomotiveIndustry CooperationProject (Universityof Michigan, March 1989);Automotive Industry of China (China AutomotiveTechnology and ResearchCenter), 1989, p. 22 -100- ANNEX

Table 3.3: MOTORVifiCLz EqQrr, 1969 (1,000 wits)

Vehicle Type J& Unite

Truck - assoline ensine 3,068.4 Chinese 2,986.4 Toyota (Japan) 52.4 Nissan (Japan) 2.8 Isuzu (Japan) 15.4 Mitsubishi (Japan) 8.8 USSR 2.7

Truck - diesel mpine 831.0 Chinese 582.4 gino (Japan) 38.7 _8uzu (Japan) 77.5 Nissan (Japan) 8.3 Mitsubishi (Japan) 32.2 Toyota (Japan) 4.8 Other foreign 87.1

Car 757.2 Shan8hai 64.8 W Santana 3904 Audi 1.1 Tianj in 18.1 Tianjin Charade 1.6 Guangzhou-Peugot 9.7 Volga (USSR) 47.4 Fiat 21.6 Benz 6.0 Toyota (Japan) 98.3 Mazda (Japan) 15.8 Datsun (Japan) 6.7 Mitsubishi (Japan) 15.7 Isuzu (Japan) 14.8 Other 396.3

Light Jam 357.8 Beijing 339.6 Toyota (Japan) 9.9 Mitsubishi (Japan) 5.2 Lada (USSR) 3.0

PassengerVan 204.9 Tianjin-Dihatsu 30.4 Other (Chinese) 174.5 - 101 -

Table3.3: (cont'd)

Vehicle Type /a Units

C*riLgan 14.1 Chinese 4.5 Dalhatsu (Japan) 9.6 tjgtgPekulD 41.3 Toyota (Japan) 41.3 Bus (conversion on chassls) /b 272.8

Total s5.47.S

NotorcXclo 2,936.6

LaiTh modelsames nWdae h sourceof veiadoldesi but notA*whe do vehiclews impoed or assembledin China.

Lk CNAICd doesnot haveimpe buss. Source: CNAICdat. -102 - ANNX

Table 3.4: AGE OF MOTORV CLS IN USE (}NDOF 1988)

Buses and Trucks PassenaerCars & Jeess Total Vehicles Age Number Age Group Number Age Group Number Age Group (Years) ('000) (percentage) ( 000) (percentage) ('000) (percentage)

0-2 1,069 24.1 124 23.1 1,193 24.0

2-4 991 22.4 134 25.0 1,125 22.6

4-6 768 17.3 105 19.6 873 17.6

6-8 578 13.0 72 13.4 65 13.1

8-10 323 7.3 44 8.2 367 7.4

10-12 188 4.2 12 2.2 200 4.0

12-15 223 5.0 27 5.0 250 5.0

15-20 232 5.2 18 3.4 250 5.0

20-25 49 1.1 1 0.2 50 1.0

25+ 10 0.2 100.2

Souce:Anne Hope, Csina's Motor Indsy: Risk and Opponwakksto 2000,Specia ReportNo. 2008, a1don EonomistInteigic. Unit, 1989) - 103- ANN

Table 4.1: ImplsRn, 1980-89

1980 1981 1982 1983 1964 1985 1986 1987 1988 1989

Number Truck 26,101 2- 770 7,730 8,445 28,047 111,492 64,570 17,554 17,557 16,911 Car 19,570 1,401 1,101 5,806 21,651 105,775 48,276 30,536 33,140 24,440 Other 5,412 19,404 7,246 10,905 39,045 136,725 37,206 40,892 43,999 43,224

Total 51.083 41.575 16.077 25f146 88,743 353.992 150.052 80.982 94.696 84.575 Value (S Sillion) Vehicles 202 269 164 297 681 2,649 1,678 954 n/a 926 Parts La 63 36 61 136 167 288 277 260 n/a 404 Total 265 305 225 433 1.048 2.937 1.955 1.214 1.066 1,330

/a Parts do not include CKsD or chasis with engine, which am included in oomplete vehicles.

Sources: For 1988, ChinaAzo-4ndasoy Yearbook,1988, p. 529; for 1980-87,Clxna Staiuacs Yearbook,1989, p. 643; for 1989, CNAIC. -104- ANNEX

Table 4.2: ImPoT, 198648

1986 19879 198 1989 Value Va Units (O mllion) Units ($ millIon) Unlts (O millon) Units

Passeast Vehcles Car 4,276 225 30,536 140 33,140 191 24,440 Jeep 7,027 42 3,093 21 9,8S2 61 5,032 2,022 13 1,646 1S 3,436 46 3,042 MIAibus 3,240 MeaduD bue 3,058 24 310 6 3,091 46 Large bus 1,669 56 278 14 724 41 376 Other 4,266 13 615 3 21,913 184 30,501

1:Esk n/a Pickup 5,575 30 1,569 13 n/- an/ Truck 73,503 1,054 24,523 384 17,557 300 16,911 Saecial Veles 18 1 217 5 36 9 41 Pire engine 210 Crane 468 39 110 13 130 19 Platfomn 10 1 11 0.2 27 1 12 Fueltask 16 2 2 0.1 50 3 30 other 2,657 134 1,264 96 487 63 644 !arts and Ca"t I Chassiswith engios 1,48? 41 3,008 86 1,234 52 1,339 Auto body 1,825 6 9,016 13 24,237 54 14,088 CKD I& lb 21,800 159 21,253 191 n/a a/a n/a fthr n/a 272 n/a 246 n/a i 1 tOtOst l.9S $J8.9812 24j 112.930 J 85.818

a Mmeauto body Is not inludd in total numberof veiles lpoitd, while chas wth ein and CKD arn inchded.

& CKDimpost of 1966 and 1989 i luded in compted vWhicles.

Sourm Ch. Aa -bsdwu rywtoo, 1988, p. 530 (*r 1986187); n Sa Yowbook, 1969, p. 643 (for 1988); CNAIC (for 1989). '10Q5-

Table 4.3: EXPORTS,1980489

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989

Number Truck 79 460 119 1,484 2,401 1,085 500 4,049 805 1,268 Jeep 18 226 65 123 374 157 295 770 58 302 Bus n/a n/a n/a n/a n/a 1 n/a n/a 14 143 Value Vehicles n/a 4 n/a 11 26 17 26 35 25 32 Parts n/a 10 n/a 11 6 5 14 16 38 51 Total 1 14 2 22 32 22 40 a 63 84

Souroe: ChinaAuo-Indwhy Yearook, 1988,p. 531 (for 198047); ChIa Saistk Yearbook, 1989,p. 641 (for1988); CNAIC (for1988/89). -106- ANNEX

Table 4.4: IoMRT OF TUNOLOGES ANDEQUwm, 198247

Location or Project(s) Number of Value Share of Nature of Company Affiliation Began Projects (Y illion) Total (Z)

Technical ConsultinR and Training Rubber Research Inst. chemical Mnaistry 1985 1 1.0 Agricultural Machinery Inst. Machinery Ministry 1984-85 13 0.4 Design Institute MachineryMinistry 1986 1 n.s. Computer application Machinery Ministry 1986 1 1.2 Auto plant cNAic 1984-86 5 7.1 9.7 2.5 Testina Etluieant and Technoloties Testing station Shenyang 1986 1 2.1 Researchinstitute MachineryMinistry 1986 3 5.2 Auto repair Jilin 1985 1 0.2 Auto repair Jiangzi 1987 1 0.5 Transportresearch Shanxi 1986 2 2.6 Auto parts Tianjin 1985 1 0.1 Auto parts xiamen 1986 2 0.3 Auto plant Beijing 1986 1 4.6 Auto plant Dalian 1985 1 0.2 Pistonplant Fujian 1986 1 0.2 motor plant Ringpu, Zhejiang 1984 1 0.1 Engine parts Shandong 1986 1 0.3 Auto plant ShenyaD 1985-86 2 3.2 19.6 5.1

EngineProductloa Technologiesaid Eouiument Heavy machinery Xuzhou$ Jiangsu 198S 10 37.4 Auto parts Llaonin 1986 3 17.7 Engineplant Beljing 1985 1 0.1 Engine plant Guishou 1985 1 n.a. Auto plant Hebei 1985 7 20.3 Tractorplant Henan 1985 1 0.7 Engineplant Hubei 1987 1 2.4 Engineplant Hunan 1984-86 4 8.3 Engineplant Jiangsu 1982-85 2 3.7 Engine plant lisoning 1986-87 2 7.0 Engiae plant Nantong, Jiangeu 1987 1 0.2 Mini-engine plant Shandong 1985 1 0.3 Eng'-- plant Shanghal 1984-86 4 0.9 Engineplant Shanyang 1984 5 0.3 Engineplant Tianjin 1985-86 4 2.3 Fuel pump plant Shandong 1982-87 8 9.3 Fuel pump plant lantong,Jiangsu 1985 2 0.2 Machine plant Sichuan 1984 1 0.3 Diesel engine China National Ship IndustryCompany 1983 1 1.1 112.4 29.1

TransmissionProduction EquiDment and Technolonv Gear plant Beijing 1986 2 20.6 Gear plaat FuJian 1985 1 0.3 Gear plant Guangxci 1984 1 2.0 Gear plant Hebei 1986 3 1.3 Gear plaut Jiangsu 1985 11 22.6 Gear plant Inner Mongolia 1987 1 3.5 Gear plant Shenyang 1986 3 15.3 Engine plant Beijing 1986 1 1.5 67.2 17.4 -107- ANNEX

Table 4.4: (cont'd)

Location or Project(s) Number of Value Share of Nature of Company Affiliation Began Projects (Y million) Total (Z)

Exhaust System Production Auto parts CNAIC, Shandong 1986 2 8.0 2.1 SteeringSystem Production Auto plant Beijing 1986 1 2.1 0.5

Misc. Auto Psrts Production Technolcaies and Eauisment Auto parts Qingdao 1986 2 5.6 Atto radiator Beijing 1986 1 2.2 Auto plant Qingdao 1986 1 3.9 Auto accessories Hubei 1985 4 3.3 Auto clocks Jilin 1987 2 16.2 31.2 8.1

Repair ServiceEquipment Auto repair Dalia 1986 1 1.9 Auto repair Beihai 1987 1 1.0 Importedauto repair Fuzhou 1985 1 0.1 Auto repair Gansu 1987 1 1.2 Importedauto repair Guangdong 1984-87 5 1.7 Auto repair Guangxi 1983-85 2 1.8 Importedauto repair Gulzbou 1985 1 0.4 Auto body Hebei 1985 1 3.1 Auto repair Shandong 1985 1 0.2 11.4 3.0 Auto Body. PaintinaEquipment and Technology Auto plant Beijing 1986 2 3.4 Autr plant Shenyang 1984 3 1.9 5.3 1.4 Welding Equipment and Technologv Trailerplant Shenyang 1985 1 0.3 Auto plant Jiangxi 1986 1 0.1 Auto plant Liaoning 1986 1 0.5 Tractorplant Niugpu, Zhejiang 1984 1 0.0 /a 0.9 0.2

MouldintDesisn and Production Auto plant Beijing 1986 1 10.0 Mouldingplant Shan8hai 1986 1 0.3 10.3 2.7

Auto AssemblinRTechnolonv and Equipment Auto plant Dalian 1985 1 0.5 Auto plant Tianjin 1986 1 10.6 Specialvehicle plant Qingdao 1987 1 14.5 25.6 6.6

MotorcycleProduction Motorcycleplant 2hejiang 1985 2 3.2 Motorcycleplant Beihai,Guangxi 1985 1 5.4 2.2 8.-6

Tractor Production Tractor plant Henan 1985-87 2 74.3 19.2 Total Number and Value 167 386.7 100.0

/aY 20,000.

Source: CNAIC. Table 4.5a: MAJOR FOREIGN PARTICIPATION IN COMPLETE VEHICLE PRODUCTION

Product and Annual Value Partners Output Targets Year Contract (Approx.) Location

Terex UK (33.72) 30-77 ton dump trucks 1987 20-year jointventure Y 166 M Baotou, Inner Mongolia Inner MongoliaNo. 2 Machinery Co. (76.32) Aveling Barford UK 27 ton dump trucks 1986 7-year coproduction $6 M Beijing Beijing Dump Truck Plant Tokyo Umpanki,Japan 1-10 ton forklifts 1986 technologytransfer n.a. Hefei, Anhui China !achineryand Equip. Baoji, Sbaanxl Import lExport corp. Hino Motor, Japan 35-seat buses 1986 technologytransfer n.a. Shenyang China Shenyang 1,000by 1990 Aircraft Corp. DaihatsuMotor, Japan Charade,993 cc cars 1986 7-year license n.a. Tlaujin Tianjin Auto Industry Corp. Mitsubishi Motors, Ja a 800 cc light coumercial 1986 coproduction Y 2 B Liuzhou CNAIC Liuzhou Auto mnustry vehicles, 10,000 by 1989 Corp. Isuu Motors Japan ELF model pickup 1984 joint venture n.a. Clongqing C guto Industry Corp. 1,000units Isuzu Motors Ltd , and smanl trucks; 1983 technology transfer n.a. Nanjing Tito Coumerciai Co. 600 units Nanjlag Auto Plant Fiat Group Iveco S-series light 1986 technologytransfer Y 1.55 B Nanjing Nanjing Auto Plant trucks; 60,000 units VoLksvaaen Santanapassenger car 1982 joint venture n.a. Shanghai SEMqgalAuto Comp.an1 sighi Automo0tve Industry Corp., CHAIC Perkins Engines diesel engines 1982 cooPerationand n.a. Beijing Beijing Jeep Corporation proauctionagreement AMC-Chrysler(312) Jeep Cherokee 1984 joint venture $51 M Beijing Beijing Jeep Corporation (original capital) Peugot Automoble; pasenger cars, light, joint venture $79.5 M Guangzhou CITIC, G:anuztouy auq trucks AuoHa, Ir and Banque International de Paris Hong Kong Shortridge light trucks, 30,000 p.a. joint venture $145 M Beijing CITIC, Beijing No. 2 from 1990, using Beijimng Jo. 2 cbassts and Isuzu signed light trucks Volkswagen passengercare 1990 loint venture,factory n.a. Changchun China First Auto Works pransferred from Westmoreland,Pennsylvania

Sources: CNAIC, Beijing Jeep Co., Nanjing Auto Works. -109- A

Table 4.5b: MAJOR FOREIGNPARTICIPATION IN COMPONENTPRODUCrION

Companies Involved Products Type of Transaction

A. Truck Comvonents ZF, Germany power steering license Sichuan Auto Works and other plants NSK. Japan variable section leaf technologytransfer spring technology AP, UK clutch license First Auto Works Wabco, Germany truck brake technology technologytransfer Chinese plants Armstrong,UK hydraulic dampers and license Chinese plants struts Mlitsubishi,Japan truck cab technologytransfer First Auto Works Tatra, Czechoslovakia Tatra 815 trucks assemblingcontract Singtai Changzheng Auto Factory Nissan, Japan truck cab technologytransfer Second Auto Works Steyr, Austria technologyand equipment technologytransfer CNHTC B. Engines Berliet, France military and civilian license Chinese plants medium/heavytrucks KHD, Germany air cooled Deutz diesel license for heavy trucks/buses Cummins, USA diesel engines for license CNHTC, Second heavy trucks and buses Auto Works -110 - ANNEX

Table4.5b: (cont'd)

Companies Involved Product Type of Transaction

Man, Germany diesel engines Romanian license from Man Steyr, Austria range of modern diesels license CNHTC

Fiat, Italy SOFIM diesels for light license Nanjing Auto Corporation trucks

GM, USA ex-Flint complete engine license and sale of Beijing Engine Corporation plant plant Chrysler,USA ex-Trentoncomplete license and sale of First Auto Works engine plant plant Peugot, France 1.9 liter engine license for GPAC504/505range

Daihatsu, Japan 2 small engines license Tianjin Automotive IndustryCorp.

Suzuki, Japan small engines license C. Gears

ZF, Germany multi-ratiomechanical technologytransfer Sichuan Gear Factory transmission

GM and Diesel-Allison,USA mechanical/hydraulic technologytransfer Sichuan Gear Factory transmission

Eaton, USA heavy truck transmission technologytransfer Xian Gear Plant D. Electric Parts

Bosch, Germany alternators,starter license motors, ignition systems (includingdistributors), small electric motors and diesel injectors Nippondenso,Japan ignition systems license Hella, Germany lightingunits license VDO, Germany instruments license -111- ANNEX

Table 4.5b: (cont'd)

Companies Involved Product Type of Transaction

E. Foundries and Other Areas

Ashland, USA core-box and resin bonded technology transfer GF, Switzerland sand technology

British Casting and Iron foundry quality control technology transfer Research Association

GKN, UK forging technology technology transfer First Auto Works

Haden-Drysis, UK and France metal pre-treatment technology transfer painting and technology

F. Technologv Consultina Services

Ricardo Consultants, UK engine design updating consulting contract

Mira, UK comprehensive vehicle consulting contract testing facilities

Source: Anne Hope,China's Motor Indury, 1988,Special Report No. 2008 (London:Economist Intefligence Unit, 1989), pp.188-192. - 112- ANNEX

Table 4.6: LOCALCONTET OF FOREIGNMoDELs AsMLED iN CHNA, 1989-90

Local Content. 1989 Local Content. 1990 Enterprise Product Rate (X) Type Rate (2)

Beijing Jeep Co. Jeep 35.51 simple parts 43.51

Shanghai Volkswagen Santana Car 31.0 autobody 11S 60.09 engine '2 transmission .022 chassis 2.0S other 142

First Auto Works Audi 100 Car 7.9 autobody 1S 13.66 engine .5S chassis 1.4Z other 52

Tianjin Auto Co. Charade Car 40.7 autobody 40.70

Guangzhou Peugot Co. Peugot 505 12.7 simple parts 31.00

Nanjing Auto Co. Chassis 11.6 simple parts Van 15.6 simple parts IVECO truck 15.6 15.60

Heavy Auto Ind. Corp. Truck 60.0 n.a. 65.00

Source:CNAIC, Cina Auto-Indus" Yearbook 1991. - 113 - ANNEX

Table 5.1: INvEmEN, SALE, TAXE, PRoFTr AND OTR FINANCIALINDICATORS, 1982-92

1982 1983 1984 1985 1986 1987 1988 1989 1990 1992

(Y million) Infvestment 413 556 950 2,144 2,095 3,099 4,129 3,788 4,130 10,275

Total Original Value of Fixed Assets 8,772 9,771 11,746 14,926 15,254 17,888 21,930 25,558 28,034 46,032

Original value of Fixed Assete for Production 6,954 7,779 9,210 11,590 11,781 13,674 16,874 19,543 21,542 n.a.

Net Value of Fixed Assets 5,766 6,313 7,498 9,618 9,726 11,410 14,117 16,574 17,995 31,015

Working Capital 4,109 4,621 5,674 8,219 9,944 10,978 13,009 17,684 20,954 54,846

Sales 8,738 12,257 17,118 25,921 19,700 27,409 41,300 43,364 44,192 118,741

Sales Tax 439 531 763 1,596 939 1,232 1,811 1,940 1,872 4,552

Profit /a 1,124 1,854 2,857 4,743 2,399 2,797 4,284 3,646 2,405 8,781

Remitted to Government = Y million 916 1,117 1,555 1,988 1,444 1,344 1,367 1,004 1,151 1,842 =Z 82 60 54 42 60 48 32 27 48 21

Retained by Enterprises - Y million 208 737 1,302 2,755 955 1,453 2,917 2,642 1,254 6,939 - 2 19 40 46 58 40 52 68 73 52 79

Ratio of Profits to: -Capital (2) 9 13 16 21 10 10 12 8 5 9 - Fixed asets (S) 13 19 24 32 16 16 20 14 8 19 - Sales (2) 13 15 17 18 12 10 10 8 5 7

/a Profit refers to profit akea saks tax but before incometax

Souroe: ChinaAWo-bIdwsq Yearbook, 1988, pp. 1404154;CNAIC (for 1988-92). - 114- ANNEX

Table 5.2: NET VALUEOF FAXEDASSETS OF MAJOR PLANTS(END-1988)

Net Value Plant (Y million)

Mini Trucks Tianjin Mini Auto 85.87 Jilin Light Auto 196.43 Liuzhou Mini Auto 65.58 Harbin Aircraft 150.55 Light Trucks Shenyang Gold Cup 334.66 Tianjin Auto 36.44 Beijing Auto No. 2 5.47 Beijing Auto No. 1 118.62 Nanjing Auto 163.94 Medium Trucks FAW 669.83 SAW 2,047.22 Qinghai Auto 17.87 Heavy Trucks Jinan Auto 117.85 Shanghai Heavy Auto 9.81 Sichuan Auto 70.61

Buses Tianjin Bus Plant 23.86 Dandong Auto 55.68 GuangzhouAuto 25.82 Jeeps/Cars Beijing Jeep 78.41 Shanghai Volkswagen 61.20 GuangzhouPeugot 82.76 Wuhan Light Auto 29.38 Engines Beijing Internal CombustionEngine Plant 116.11 Changsha Auto Engine 20.09 Tianjin Auto Engine 15.15 Yangzhou Diesel Engine 20.84 HanghzhouDiesel Engine 33.84 Vifan Diesel Engine (ShandongProvince) 158.77 Dalian Diesel Engine 35.03 Transmissions Beijing Gear 45.58 Yijian Gear (Sichuan) 42.53 Tansan Gear (Hebei) 42.62 Auto Electric Parts Changsha Auto Electrics 24.2 ShanghaiAuto Electric Motor 9.2 Nanjing Spark Plug 27.32

Source:CNAIC. - 115- AX

Table 5.3: TAES PREvAILiNGFOR AuTOMOTIE ENTERRISES

Effective Type of Tax Year Rate

National Taxes, Fees and Contribution to Funds Income La 1983 55.0X of income Value added la 1984 14.02 of value added Sales 1984 3-52 of sales City construction 1985 5-72 of value added/product Education 1986 1.02 of value added/product Real estate 1986 1.2S of originalvalue of real estate Real estate 1986 12.02 of rent Vehicle 1986 n/a Invoice 1988 0.1-0.52of contractvalue Invoice 1988 Y 5.00 x number of account books Electropower constructionfund 1987 Y 0.01 x number of kw hours used Transportsubsidy for coal used for electro power 1987 Y 0.047 x number of kw hours used Land use 1988 rate x number of square meters Energy traffic constructionfund 1983 15.02 of profit retainedby enterprise Budget adjustmentfund 1989 10.02 of profit retainedby enterprise Oil burning 1982 Y 70.0 x tons of oil used Bonus 1985 30-3002 of bonus paid in excess of limit Local Taxes. Fees and Contribution to Funds Price adjustmentfund 1989 12 of sales (JiangstProvince) Food price project fund 1989 12 of sales (JiangsuProvince) Capital use fee 1989 2.12 of currentcapital on top of 11.342 interest Unused fixed asset fee: - Year 1 1989 9.02 of net value of assets (Beijing) - Year 2 1989 10.02 of net value of assets (Beijing) - Year 3 1989 20.02 of net value of assets (Beijing) Factorycontracting risk fund 1989 22 of contractedprofit (Beijing) Food grain subsidy fund 1989 Y 15.00 x No. of employees(Shaanxi, Shanxi) Compulsory Buyinaof Bonds State key project bonds 1987 152 investment Electric power bonds 1987 Y 1.00 x kw hours of increaseduse of power Taxes Withheld from Vehicle Buyers Vehicle purchase surcharge 1986 102 of price (302 in Beijing) Sedan car consumer tax 1989 Y 20,000 per car

National Taxes on Capital Construction Construction 1983 10-302 of Investment realized Sewage system fee 1983 Y 2.40 x square meter Environment effect fee 1989 Y 15-35 x square meter Quality control fee 1980 0.152 of buildingcost Increasedvolume of power supply 1989 Y 470 x kws ampere Increasedvolume of water supply 1989 Y 500 x ton Local Fees for Capital Construction (Jilin Province Only) City districtdevelopment 1986 Y 25 x squaremeter (factory) Y 60 x squaremeter (workerhousing) Real estate registration 1989 Y 1 x squaremeter Shopping center development 1980 72 of buildingcost Air raid construction 1980 0.42 of building cost -116- ANNEX

Table 5.3: (cont'd)

Effective Type of Tax Year Rate

Taxes for Joint Venture Enterprises with Cbinese and Forelin Capital Unified industry and coamerce 1983 4.52 of sales of vehicles Unified industry and comnerce 1983 5.02 sales of locally made parts Unified industry and coeerce 1983 3.02 of sales of imported parts Unified industry and commerce 1983 3.0S of income from repair service Shanghai local additional 1983 1.02 of sales (Shanghai only) National income Lb 1980 30.02 of profit Local income lb 1980 3.0 2 of profit Vehicle 1986 n.a. Real estate 1986 1.22 of original value of assets Real estate 1986 12.02 of rent Invoice 1988 0.1-0.5Z of contract value Invoice 1988 Y 5.00 x number of account books Foreign employees - income 1980 (as per related las)

La These two do not apply to enterpriseswhich hand intheir profit accordingto a contractwi the revenue department. /b For ventures in coastal open cities, the incometaxes are reduced by 20 percet For ventures with foreign capitalover $30million, the income taxes are reduced by 50percent. Forventures witha term of over 10 years, income tax is exempted in the first 2 years, in the nex3 years incometax is reducedby 50 percent, and there is no local income tax for the first five years. - 117 - ANNE

Table 5.4: PA&SEGER CAR PIUcES, 1992

Shanghai Beijing Guangzhou FAW Tianjin Santana Jeep Peugot Audi Charade

Ex Works Price Yuan ('000) 61.2 55.6 65.6 94.0 42.2 Plus $ ('000) 9.1 10.6 11.0 17.0 3.5

Retail Price Yuan ('000) 71.2 65.9 77.1 110.9 47.6 Plus $ ('000) 9.1 10.6 11.0 17.0 3.5 Yuan only ('000) L 127.4 131.6 145.5 215.9 69.1

Taxes and Fees (Y'000) Purchase fee 7.9 7.7 8.9 13.9 5.2 Social fee lb 23.0 15.0 20.0 20.0 '.7 Consumer tax lb 15.0 10.0 15.0 15.0 2.0 Capital fee La 0.5 0.3 0.5 0.5 0.1

Yuan Price/Taxesand Fees 173.8 164.6 189.9 265.3 78.1

/a A buyerwho does not have dollars may pay all in yuan but the dollar portion is not convered into yuan accordingto the official rate of Y 4.70 to $1, but insteadat the swap rate. /b Social fee and consumertax are withheldby the sellers. The social fee goes to road constuction, environmentalprotection and other servicesrelated to cars. /c The capital fee is charged to entexprisesbuying cars with working capital. The fee is intendedto discouragethem from buyingcars and encouragethem to use the money for production. - 1- ANNEX

Table 5.5: T1RUCKAND Bus PRUCES,1992

Ex-factory Market Type (Y) (Y)

Mini truck Daihatsu van (TJ11O) 31,000 37,000

Light truck Yejin (NJ1041M) 23,600 27,600

Medium truck Jiefang (CA101) 29,800 34,400 Donfeng (EQF140-1) 31,400 42,100

Heavy truck Huanghe (JN162) 92,500 99,000

Trailer Hanyang (25 ton) 150,000 172,000

Beijing (BJ632A, 16 seats) 32,500 41,000 Huanghai (DD680G, 61 seats) 92,400 96,800

Source: CNAIC. - 119- ANNEX

Table 5.6: DoMEsTc VEHICLEMARET, 1984-87

1984 1985 1986 1987 Number Number Number Number Purchasing of Share of Share of Share of Share Organizations Vehicles (2) Vehicles (2) Vehicles (2) Vehicles (2)

Agriculture Forestry, Fishery, Animal Husbandry 8,750 2.9 8,046 2.5 8,748 2.6 14,265 3.3 Industry 58,152 19.5 57,061 17.8 39,782 11.7 26,624 6.1 Construction 9,065 3.0 4,198 1.3 11,055 3.3 9,452 2.2 Transportation 21,268 7.1 35,495 11.1 21,628 6.4 22,929 5.2 Education,Health, Science 2,313 0.8 4,838 1.5 4,320 1.3 4,100 0.9 Export 2,477 0.8 2,489 0.8 1,279 0.4 4,182 1.0 Marketing 119,019 4.0 132,855 41.5 145,279 42.8 223,283 51.0 State Inventory 2,362 0.8 3,710 1.2 6,215 1.8 1,154 0.3 Other buyers 74,406 25.0 71,156 22.2 101,217 29.8 131,830 30.1

Total 297.812 100.0 319.848 100.0 339.523 100.0 437.81 100.0

Source: CNAIC. - 120- ANNfX

Table 6.1: HIGHWAY FRIG}T AND PASENGER TRAIC VOLUME

Passengers Preifht Freiaht Kauiv. Total Year Volume Growth Volume Volume Growth Volume Growth La (2) Lb Le (2) La (2)

1980 76.4 3 73.0 18.3 21 94.7 6 1981 78.0 2 83.9 21.0 15 99.0 5 1982 94.9 22 96.4 24.1 15 119.0 20 1983 108.4 14 110.6 27.7 15 136.1 14 1984 153.6 42 133.7 33.4 21 187.0 37 1985 169.3 10 172.5 43.1 29 212.4 14 1986 211.8 25 198.2 49.6 15 261.4 23 1987 266.0 26 219.0 54.8 10 320.8 23 1988 322.0 21 252.8 63.2 15 385.2 20 1989 337.5 5 266.2 66.6 5 404.1 5 1990 335.0 -0.5 262.0 65.5 -1.6 401.3 -0.7

la In billion ton kn.

/b In billion passenger mn.

L Freight equivalent of passenger traffic is expressed in billion ton kn, and calculated based on an average passenger seat capacity of 18 per bus and an average fieight capaoity of 4.5 tons per truck (passenger traffic *4.5/18).

Source: China Smattsal Yearbook, 1989, pp. 414, 420. CNAIC (for 1989).

Table 6.2: IGHWAYTRAIC GRowH ESUS TOTAL 1tAIC GROWTH

19&0 1981 1982 1983 1984 1983 1986 1987 19" 1989 1990

Paasenoer Totai (bln km) 228.1 250.0 274.3 309.5 362.1 443.7 489.7 541.6 620.7 607.3 562.0 Grorth (M) 15.9 9.6 9.7 12.8 17.0 22.5 10.4 10.6 14.6 -2.2 -7.5 Hiw.y (bin km) 73.0 3.9 96.4 110.6 133.7 172.5 198.2 219.0 252.8 266.2 -262.0 Grewh (2) 21.1 '14.9 14.9 14.7 20.9 29.0 14.9 1O.S 15.4 5.3 -1.6 Carom Traffic WtONS'(bln Km) 1,202.6 1,214.3 1,304.9 1,405.4 1,569.4 1,812.6 2,014.8 2,222.8 2,382.5 2,559.1 2,620.7 Growth (z) 5.6 1.0 7.5 7.7 11.7 15.5 11.2 10.3 7.2 7.4 0.06 Hithway (blu km) 76.4 78.0 94.9 109.4 153.6 169.3 211.6 266.0 322.0 337.5 335.s Growth (Z) 2.6 2.1 21.7 14.2 41.7 10.2 25.1 25.6 21.1 4.8 -0.5 Ainual Average Growth Rat sa Mj Passen r Traffic Traffict 15 19 1985-89 8 12 1979-89 12 16 CaR%Traffic .'87 8 15 1985-89 9 19 i979-89 9 17

Note: Total traffic includes railway, highway, waterway and airway.

Sources: China Stansrcal Yearbook, 1989, pp. 414, 420; CNAIC data. - 121- ANNX

Table 6.3: HIGHWAYExPANSION, 1980-90

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990

Highway LenEth Total length of highway ('000 km) 888.2 897.5 906.1 916.1 926.7 942.4 962.7 982.2 995.6 1,014.3 1,028.4

Rate of expansion (2) 1.0 1.0 1.0 1.0 1.2 1.7 2.2 2.0 1.8 1.5 1.4

Average expansion rate 1980-89: 1.42 1985-89: 1.82

Sources: China Skadstcal Yearbook, 1989,p. 394; China Aso-Indwtry Yearbook,1988, p. 778; CNAIC. Table 6.4: HIGHWAY EXPANSIONIN QUANTIrYAND QUALrlY, 1984-90 (thousandkm)

Average Rate of Expansion 1984 1985 1986 1987 1988 1989 1990 1984-90

Total 926.7 942.4 962.8 982.2 999.6 1,014.3 1,028.35 - Growth (1) n.a. 1.7 2.2 2.0 1.8 1.5 1.4 1.9

Paved highway 725.0 750.3 780.4 810.7 842.3 862.5 883.5 - Growth (Z) n.a. 3.5 4.0 3.9 3.9 2.4 2.4 3.5 Share of paved highway in total (Z) 78.2 79.6 81.1 82.5 84.3 85.0 85.9 lop and secondarytop grade /a n.a. 195.3 203.8 216.0 230.8 244.3 250.0 - Growth (1) n.a. n.a. 4.4 6.0 6.8 5.9 6.4 5.8

Medium grade lb n.a. 280.6 292.6 303.5 312.8 316.7 320.0 - Growth (1) n.a. n.a. 4.3 3.7 3.1 1.2 1.0 3.1

Low grade lc n.a. 274.4 284.0 291.2 298.6 301.4 303.4 - Growth (Z) n.a. n.a. 3.5 2.5 2.6 0.9 1.0 2.4

/a Paved with concreteand/or asphaltwith two or more laes m eachdirection. hb Paved with asphaltwith one lne m each direction.

Lc Paved with asphalt and gmvelwith one lane in each direction.

Soure:China StatisticalYearbook 1985-89, CNAIC (for 1989). - 123- ANNEX

Table 7.1: CHiNA'SNAToNAL OurruT Am CoNSUMrro- OF STEEL (million tons)

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989

Output 32.1 30.0 33.2 40.3 46.5 55.0 59.0 56.3 56.5 58.2 Rate of increase (X) -3.0 -6.4 10.4 21.6 15.4 18.1 7.3 -4.6 0.3 3.1 Consumption 28.3 26.1 31.9 35.2 43.2 49.8 51.9 56.3 58.0 53.6 Rate of increase (1) 3.2 -7.6 22.4 10.1 22.9 15.3 4.2 8.5 3.0 -7.6 Surplus/Shortage 3.8 3.9 1.2 5.2 3.3 5.1 7.0 -0.1 -1.6 4.6 Import n.a. n.a. n.a. n.a. 12.3 20.0 18.4 12.4 9.1 n.a. Export n.a. n.a. n.a. n.a. 0.2 0.i 0.2 0.4 0.8 n.a.

Sources: China Statistical Yearbook, 1989, p. 374; CNAIC.

Table 7.2: CONSUMPTIONOF STEEL, IRON,COAL AND POWER IN TEE AUTOMOTIVESECrOR (million tons)

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989

Steel: Sector Consumption 1.1 0.9 1.1 1.4 1.8 2.2 1.9 2.2 2.7 2.4 National output 37.1 35.6 37.1 40.0 43.5 46.7 52.2 56.3 59.4 58.2

Iron: Sector Consumption 0.3 0.2 0.3 0.3 0.4 0.5 0.4 0.4 0.5 0.5 National output 38.0 34.0 36.0 37.0 40.0 44.0 51.0 55.0 57.0 58.9

Coal: Sector Consumption 1.5 1.5 1.6 1.8 2.3 3.2 3.1 3.4 3.9 3.1 National output 620.0 622.0 666.0 715.0 789.0 850.0 e94.0 928.0 980.0 n.a.

Electricity la Sector Consumption 1.7 1.5 1.7 2.0 2.5 3.2 3.2 3.5 3.9 3.3 National output La 300.6 309.3 327.7 351.4 377.0 410.7 449.5 497.3 545.2 n.a.

/a billion kW per hour.

Sources: Automotive Ind&sty of China, China Automotive Technology Research Center (1989), p. 11; CNAIC (1989); Chira Ato-hnduby Yearbook,(for 1988), p. 771.

Table 7.3: GASOLNEAm DIESELCONSumPION BY MOTORVEHCLES (million tons)

1980 1981 1982 1983 1984 1985 1986 1987 1988

Gasoline Automobile consumption 8.3 9.1 9.8 10.5 11.3 12.8 14.8 15.6 17.1 National consumption n.a. n.a. n.a. n.a. n.a. 14.0 15.0 16.2 n.a. National output 10.5 11.1 11.1 12.6 13.5 14.4 16.5 17.1 18.8

Diesel Automobile consumption 1.2 1.3 1.5 1.6 1.9 2.2 2.8 3.3 3.8 National consumption n.a. n.a. n.a. n.a. n.a. 19.4 21.2 23.1 n.a. National output 18.3 17.8 17.5 19.0 19.5 19.9 22.0 23.4 24.6

Source: Autowidve Induty of China, China Automotive Technology Researh Center, 1989, p. 33.