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TilE RO LF. OF TIlE STATE IN ECONOMIC DEVELOPMENT:

EXPFR IENCES

OF THE ASIAN COUNTRIES CENTRE FOR SOCIAL AND HUMAN SCIENCES INSTITUTE OF ECONOMICS

THE ROLE OF THE STATE IN ECONOMIC• DEVELOPMENT: EXPERIENCES THE ASIAN COUNTRIES

EJItCd VU TLIAN ANI!

SOCIAL SCIENCE PUBLISUIM; hOUSE

HANOI - 1994

Ii. C CONTENTS

Page

PREFACE 9

SOME COMMENTS:

• VU TUAN ANH - Different approaches and Experiences as regards the Role of the State in Economic Development 10

PART I: THE ROLE OF THE STATE IN ECONOMIC DEVELoPMENT IN JAPAN AND TUE ASIAN NIES.

• MANABU SHIMIZU- Pre-conditions for Industrial Policies in Japan 25

• MUKUL G. ASHER - The Role of the State in Economic Restructuring and Development: The Case of Singapore 57

• JOSEPh S. LEE - The Role of the State in Economic Restructuring and I)evelopment: The Case of Taiwan 97

• SHANGDAL SHIM - Risk Sharing by Goverment

5 and Human Capital Accumulation: The Case of Korea ,....,, ] 27

PART H: THE ROLE OF T1E STATE IN ECONoMIC DEVELOPMENT OF' THE ASEAN COUNTRIES.

• MOHAMED ARIFF - Structural Change, Economic I)eveloprnent and the Role o( the State: The Malaysian Ii'xpenence 161

• KHIEN THEERAVIT The Role of the State in Economic I)evelopment of Thailand 194

• DJISMAN S. SIMANI)JUNTAK The Role of the State in a Gradual Marketization: Recent Experience of Indonesia 210

PART III: THE CHANGING ROLE OF' THE STATE IN ECONOMIC RESTRUCTURING IN INDIA, CHINA AND VIETNAM.

• CT. KURIEN - State and Market in India's Economic Restructuring 233

• SOYG GUANG MAO - Government's Efficiency in the Economic Development in China. (A Study of the Economy before after the Economic Refo;m) ...... 250

6 • VU TUAN ANH - The Changing Role of the State in Economic Restructuring and

Development in Vietnam . 283

• NGUYEN MAI - The Role of the State in Investment Activities 311

• DO HOAI NAM - State-run Enterprises in the

Process of Economic Restructuring in Vietnam . 324

• DOAN TRONG TRUYEN The State Apparatus Reform in the Transition to Market. 339

INSIE1D OF CONCLUSIONS:

• KEIZO NAGATANI - The Asian Economic Culture and the Role of the State in Economic

Development . :355

7 PREFACE

The Vietnam Institute of Economics with the support of the In!eroalionai Devc'/opmen t Research Center (IDRC of Canada, has been conducting the research project "Economic Restructuring in Vietnam' since 1992. In framework of this project, the international workshop on 'The Role of the State in Economic Restructuring and Development in the Asian Countries' was organized in Iiunui, 14 16, 1993. The present monograph is a collection of several papers presented by the scholars from Canada, China, India, Indonesia, Japan, Korea, Malaysia, Singapore, Taiwan, Thailand and Vietnam on this workshop. Needless to say, the views presented in those papers do not necessarily reflect those of the institutions the authors belong to. They are solely the responsibility of the authors The Vietnam Institute of Economics would take this opportunity to thank the International Development Research Center of Canada, especially the Southeast Asian Regional Office of IDRC and its Director - Dr. Randy Spence, for the generous support, as well as all participants 012 tile workshop for their active and successful co-operation.

Dr. VU ThAN ANH Director VIETNAM INSTITUTE OF ECONOMICS

9 SOME INTRODUCTORY COMMENTS.

DIFFER FINi APPROACHES AND FXPFRIFNCES AS REGARDS THE ROLE OF THE STATE IN ECONOMIC DEVELOPMENT

VU TUAN ANH Institute of Economics Hanoi, VIETNAM

The problem regarding the regulation and intervention of the State in the economy has been an interesting theme for scientific debate, but it constitutes at the same time a politico-economical field in which have existed different schools of thought engaged in an acute struggle against one other. A veteran banker of Japan Luis Mulkern had the following remark: "There is no other weakness having the effect of sabotaging the main States in the 1980s than the incapacity in the determination of the role of the

11 Government in the economy' (1). As regards the developing countries, this constitutes all the more a problem of prime importance and to such an extent that the World Bank affirmed in its 1991 annual that: How does the State intervene in the economy and for what purpose - that is truly a challenge to the development of developing countries at present (2). Since the appearance of States in human society until about the 19th century, they would carry out same functions no matter where they were set up. Those functions were national defence, construction of roads and dikes, protection of water resources, minting coins, law-making and law-execution The industrial revolution completed in several countries by the end of the 19th century caused a change in the traditional way of life and the State was them compelled to carry out the function of regulation in the economy with the aim of ensuring the effectiveness of competition and protecting the rights and interests of private individuals. The State would carry out the regulatory function like the referee would see to the maintenance of the rules of game in the market. The late-coming industrializing countries would make a further step ahead by making the State play heavier role in the

(1) Chalmers Johnson - MITI and the Japanese Miracle. The Growth of

Industrial Policy 1925 - 1975. Stanford University Press, 1982.

(2) The Tmallenge of Development. World Bank and Oxford University

Press, 1991

12 economy. The State in those countries was not only concerned with the rules of game but also intervened in the very content of economic activities. The State mapped out long-term or short-term plans, gave its priorities regarding industrial branches and COil) mercial activities, carried out policies of incentive or restrained different domains of economic activity, and event directly implemented business undertakings in a number of domains. This could be called also function of development. No countries in the present-day world no matter they are not yet industrialized or in the pnst-industrial period could do without the intervention of the State in their economies according to different motives. However, the levels of State's interference differ from one another and it seems that is no direct correlation between the level of State's interference and the economic growth rate. Between two extremities - one being the direct and alisided interference affecting in centralized planned economies and the other being only the regulation at the lowest level affecting in "laissez-faire" economies, there exist a lot of "models' of successful and unsuccessful economic development as the result of differing levels and styles of State's interference. In the countries involved in a centralized planning economy it is of general conception that the market could not guarantee a sound distribution of resources and wealth in society and could not either regulate in a fair way the

13 process of economic development, therefore the State has to shoulder the mission of calculating and organizing optimal plans for that distribution, starting by the distribution of production resources and eiiding with the distribution of consumer goods and services to each individual. Because of the State directly engages in making investment for development and defines by regulations nearly all economic activities, the market and the private sector play a secondary role in the economy and the function of regulation does not need to become a primary function of the State. The interference up to the very detail of the State could in a definite stage have pushed up industrialization and made it. advance more rapidly thanks to capital investments concentrated on several important domains which would serve as the foundation for other industries to grow up. That was the thing having taken place in the former Soviet Union in the 1920s-50s, in the Eastern European countries and to a certain extent in india in the l950s-60s. However, making the role of controlling the whole economy by the central government an absolute necessity and negating entirely the role of the market plus the errors in the calculation of in what industries capital investments should be made have led these economies to the state of recession. The buceaucratic management of the economic apparatus and the lacking of individual motivation in economic activities would be the consequences of the excessive of the State. The shift to he market economy

14 was an event testifying to the failure of the model bearing the character of extreme. The laissez-faire economy 'model' is based on the thinking of Adam Smith, the man that the economic circles call the "father of capitalism", saying that the strength of the market is like an invisible hand leading private individuals in their actions. State is called upon to carry out the function of regulation to maintain the rules of game only in necessary circumstances (3). People have admitted that the market by nature has its own failures, but the interference of the State is considered to have deformed market operations, thereby this interference having been not welcome. Such a thinking was made known some 200 years ago and has ruled over those countries first involved in the industrial revolution in the 19th century. Nowadays Hong Kong could be said to represent this model. In the context of the present-day world, the role of the State has become more active. The classical model of free market economy has been transformed through a number of supplementary policies on the interference of the "visible hand" of the government following the Keynesian and neoclassical theories which have been realized in a number of countries, including the U.S.A.. In this country the Federal Administration has to assume the following duties:

(3) Adam Smith - An Inquiry into the Nature and Causes of Wealth of Nations

15 1 Macroeconomic stability; Promotion of defence industrial base and high industries; 3. Unemployment insurance; 4. Investment incentives; 5. R & [) incentives; 6. Protection of US firms against unfair' foreign trade practices; 7. Watchdog of anti-trust S Sometimes intense regulation of selected industries transportation, finance, oil and gas). influential international organizations such as the World Bank, the International Monetary Fund have agitated for the application of this type of market economy developing countries with the suruniorized formula of Keynes: "The important thing for government is not to do which individuals are doing already, and to do them a little better or a little wone; but to do thc6e things which at present are not done at all" (4). The role of the State has been more active in a number of other countries, especially in the stage of industrialization. First, the scale of the public sector is considerably more extensive not. only because of social welfare programs but also because of the business activities of the State owned enterprises aimed at producing and supplying public goods and at having a wide-spread effect on the private sector in a number of domains which the State intends to push up. Second, the State carries out the policy of protection and gives an impetus to the development of several industries or regions; it encourages exports by many different instruments, ranging from

(4) The Lt.allenge of Development

16 controlling the production output and prices, directly granting subsidies, using taxes and other financial means to guiding measures. With very differing degrees of interference from the State, it could be seen many types of State characterized not only by different economic aspects but also by different social aspects. With regard to a state which is now engaged in industrialization but hoping to make a rapid development as Vietnam, the State not only fulfills its function of regulating the market but also has the capacity of successfully implementing the function of development seemingly to be driven by a strong force of attraction. A number of Asian economies such as Japan, South Korea, Taiwan, Singapore are being the examples enjoying admiration for their miraculous growth rates. Among a good number of factors leading to high growth rates in those countries, there have been factors that other countries in the context of their different juncture could not repeat to their advantage, but the active participation of the State in the process of economic development has been considered by many researchers and policy-makers in Vietnam to be a factor which can be repeated, that is to say an experience that the late-coming nations may apply. For example in Japan, besides other experiences deserving our attention on State policies such as more attention given to make investment in human resources, in new technologies etc., the interference of the State is represented by MITT (the Ministry of International Trade

17 and Industry) with its putting forward and realization of industrial a special concept of called in Japanese sangyo seisaku) through a system of indicative planning which has been regarded by many analysts as an important factor determining "the economic miracle. Right from the I 930s, the Japanese companies enjoyed concrete guidance in terms of orientations for engaging in production and making investment. They were granted subsidies, enjoyed protectionism and tax reduction if they would comply with those guidance. If the State interfbrence was to be measured by certain quantitative targets, by the amount of expenditure allocated by the government or the amount of reduced taxes, by some goods with their prices controlled by the State, by the proportion of State-owned enterprises in industry or by the number of forbidding regulations or the limitation of the sphere of activity of the private sector, people would have to continue debating on the scale of the State interference to see whether it was large or small. But it would he quite clear to everybody t.hat the interference of the State had the effect to direct the zaibatsu towards an orbit enabling them to develop on an effective basis. The experience on the State interference in the newly industrializing economies (NIEs) of Asia such as South Korea, Taiwan, Singapore and in a number of other countries such as Indonesia, Malaysia, Thailand bear many traits similar to those of Japan. Parallel to the implementation of policies of regulation aimed at creating and stabling the macro-economic environment arid produing pure public goods, the State still carries out a series af measures to promote the development su h as the creat jun of a suitable infrastructure for economic development and direct business undertaking 5) ('oiiipared with South Korea, the States of Thii)and and Indo nesia realize their regulatory function much less effectively, especially in the period when these countries pursued the import-substitution strategy. The cause lies in the handling capacity of the State management apparatus. The State intervenes in all the types of market commodities, land, labour, capital at different degrees. For example. while Singapore and South Korea had in one period (if time controlled the levels of wage increase on the labour market; Indonesia, Malaysia and Thailini did not see the necessity to effect such a policy because they had a labour surplus.

Soit Ii Korea, especially Singapore have ii their

attention on the establishment of the ( ch nical infrastructure and on the human resources from an early stage of industrialization. Other countries paid attention to this some time later but they are increasing their efforts to do well this job State-run enterprises have also been set up in all countries The reasons invoked may be dill rent

(5) The State and Economic Development in the Asian Pacific Edited by Ng Chee Yeun and Pang Eng Fong Institute of Southeast Asian

Studies - Singapore. 1993.

19 some countries said that it was affected for enabling the State to occupy 'commanding heights" of the economy other stated that it was done for creating an indigenous economic force counterbalancing other forces or because of the weak and feeble private sector which did not yet wanted to accept the business risk. rrhrough not all the State-owned enterprises had a low effectiveness as were pretended to, the question of effectiveness of the State sector has been raised and tendency of privatizing State-owned enterprises in all countries is now clearly noted. This process has taken place from the 1980s but has advanced very slowly and did not lead yet to a fundamental minimization of the role of the State sector in economies of the above-said countries. In some countries the State has reduced its participation in a number of industries in order to strengthen its position in other industries (for example in the high-technology industries). The above-mentioned countries have more or less carried out the policy of orientation for industrial development. The South Korean State has successfully led process of shifting the labour-intensive industries in the 1960s to the heavy industry in the 1970s and to the high-technology industries in the 1980s. The Indonesian Government has spent a big amount of capital for the oil and aircraft manufacturing industries, whereas Malaysia has made investment in heavy and automobile manufacturing industries. The Singaporean government seemed to have not believed in the "natural evolution" of its

20 comparative advantages and has by itself made investnient in new industries, then it began to see to the design of the policy of encouraging private companies to get involved in them. This had 'reated a less risky investment environment for private investors. In Thailand, the government has not intervened in the shaping of industrial structure and deliberately let it to be done by domestic and foreign investors. Worthy of note is that both in Japan and in East-Asian countries the role 0! the State did not remain unchanged in different stages of development. The intervention of the State has dwindled away when industrialization was completed. The State would withdraw the restrictions in terms of institutions which the market took shape and operates well giving up the place to the private sector in a number of industries in order to transfer its capital to exploit" new industries. It was due to such immanent development and also to the trend of the whole world that a series of "-ation' such as privatization, liberalization, deregulation have been taking place in the above-said countries. Though changes have occurred, it seems that the role of the State in these economies has not considerably minimized.

As said above, there are many approaches regarding the role of the State, but within the framework of a research work or a seminar it would be impossible to deal largely with it. The recalling of a number of examples as cited above is designed only to testify to the fact it would be of

21 no possibility to have a common mode for all countries. And more than that, the more or less intervention of the State in the economy is not the objective of development of a society Therefore, that interference can be only evaluated by basing it on the results it has brought about. Up to now, there have been a lot of research works dealing with the role of the State in different countries. However, they would mention only successful experiences. But the erroneous experiences regarding the State interference hn"r not boon dealt with or mentioned. The question "In such countries as India, Central and Southern American countries with very high degree of interference by the State. why did their economies not obtain a rapid growth as expected? is not yet answered It is the same as regards the question 'Why does the opposite model on the much weaker interference by the State in the economies of such countries as Thailand or hong Kong obtain a high growth rate while many other countries pursuing similar policies are still in the stage of underdevelopnient?". 'I'he pre-requite condition fcr the State to interfere with in economic development has been pointed out that the State must have itself enough strength. But whether the State is strong or weak is a predestined fate of each nation or it may be created following a certain scenario in the process of economic and political reforms. This question is surely let open and requires much more research efforts in the coming time.

22 PART I

THE ROLE OF THE STATE IN ECONOMIC DEVELOPMENT IN JAPAN AND THE ASIAN NIEs

P RE-CON DITI ONS FOR INDUSTRIAL POliCIES IN JAPAN

MANABU Pro head 0/ Depa rtrnent Ic of Developing on o'ni Tokyo,

I. INTRODUCTION On the world economic arena we observe new drastic and wide - range experiments of transition to market economy from the former centrally planned and guidod systems among countries such as CIS countries (former (USSR). Eastern Europe as well as Asian Socialist countries such as Vietnam arid China. We may by able to include such countries as India or Egypt in the same category. It is believed from the viewpoint of Neo - classical schools the introduction of market economy would solve various economic bottlenecks which have been preventing increase

25 and levelling-up of quality of production. As is known, we can point out, for example, from this viewpoint some posi- five development in Vietnam and China because of economic reforms, However, transition to market economy induces at the same time very complicated and difficult problems and issues. It is needless to refer, in this context, to the recent developments in Moscow to show difficulties on the way.

Although we accept. in principle the transition to market economy is an inevitable and necessary path, we have to choose out of various options and find out a proper sequence of various economic measures to he taken for that purpose. For example, the experience of 'shock therapy" as was taken in Russia must be compared wit.h 'gradualism" taken by other countries.

In this connection, one of the most important questions to be asked is whether the transition to market mechanism will solve every problem on development. Another problem to be discussed will be the role of government in develop- nient in the transitionary phase of development taking into account the expected role of market. Therefore I believe this discustion deals with one of the most. urgent issues today. However, it may be necessary to emphasize as a matter of course that the realization of market economy per se is not the purpose. What is important is the achievement of economic development which guarantees the welfare of the people.

26 In this paper I would like to take part in the discussion by referring to Japan's experiences during one of the transitionary periods since the end of World War Two taking into the role of government in economic policies and measures. However, before I come to the very subject I would like to introduce recent arguments on the role of government to give some comments on them.

II. OPPOSING AR(;UMENTS ON THE ROLE OF THE STATE IN ECONOMIC DEVELOPMENT It is generally known that the World Bank and the lMf' are fervent initiators and promoters of ideas of introduction of market mechanism in development. The two international financial institutions under the strong influence of sical schools believe in the role of market in allocating resources in the most efficient way. They insist that usually government interventions result in inefficiency and distort the functioning of economy. Japanese government seems to have had a diiffere.nt perception on the issue from its experiences during the reconstruction period after the World War. One year ago one of Japan's main aid-giving organizations the OECF (Over- seas Economic Cooperation Fund) submitted one paper to modify the fundamental theoretical premises for development of the World Bank. This polemical paper was entitled "Issues related to the World Bank's approach to structural adjustment - Proposal from a major partner, on differences

27 with the World Bank in its approach to development in developing countries' (OECF; OECF 1992/2 No 73. The paper did not intend to refute and challenge the basiC theory of t.he World Bank. It wanted to modify 1 The proposal refers to various important issues, particularly related to the role of state of government in development

I would like to introduce, therefore, the arguments raised by the OECF in its proposal paper. The OECF proposal referred to the fact that the World Bank always proposes the same menu for development to developing countries without taking int.o account. the levels of development in those countries. The paper proposed to put the philosophy behind the World Bank again in doubt in order to examine it in more detail from a viewpoint of practices and results in the past. The paper specifically refers to Japan's experiences in economic reconstruction as well as OECF's experiences in developing countries. paper tries to amend or ameliorate the measures related to structural adjustment in developing countries. Accepting that structural adjustment policy is a medium-term microeconomic policy that supplements the stabilization policy which is a short-term macro-economic policy, the paper emphasizes importance not only of the efficiency from short

- term viewpoint but also from long - term viewpoint. It. says as follows. It is fully recognized that efficient resource allocation through the market mechanism is an important issue of

28 economic policy. However, when we make up economic reform programs, various factors other than efficiency must be also taken into account. If efficiency of resource allocation is stressed too much without giving due consideration to other factors, the program will not be a properly balanced one. This can lessen the significance of introducting the market mechanism itself. Therefore, a well - balanced program pursuing more than just economic efficiency is quired". And the paper takes up the following four points on the problems which the World Bank seems to have overlooked. a) The necessity to introduce additional measures to promote investment in order to achieve sustainable development after the completion of structural adjustments. The paper goes on to say that the World Bank's approach seems to be founded on the assumption that the introduction of market mechanism and removal of restrictions on the private sector will automatically improve and stimulate the investment climate. However, additional measures which "directly" promote investment would be necessary. In this respect, Japan's fiscal and monetary policies after the War such as preferential tax treatment and development finance institutions lendings may give some lessons to he considered, of course, with some modifications adaptable to each country.

b) On the pace or speed of liberalization. The paper puts the following question and supports the

29 transitional period. "If imports are liberalized too quickly, is it possible to develop industries, which will play lc'ading roles in the next stage of economic If not., isn't it necessary to protect the domestic indust ry to some extent. for a certain period of Lime in order to allow a viahe export industry to develop? When we discuss that. trade liberalization leads to the optimum allocation of resources, the com parative advantage of each country is a static one. From the standpoint of developing countries, dynamic comparative advantage is indispensable in order to promote the long- term improvement, of the people's standard of living. In- dustrial development needs certain period of time and certain amount of social set. up cost. Therefore, protection for a certain period of time is indispensable as infant industries. However, we have to guard againt possible tive effects of these measures. In order to avoid these negative effects, the following points should he taken into account.

(1) Identification of those promising industries which will have leading roles in the future. (2) The minimum level of necessary protection. (3) Specific actions, in accordance with the GATT, and the period of minimum requirement."

c) On excessive emphasis on market mechanism. The paper also refers to the necessity of governmental

30 intervention in economy as follows. 'It is generally accepted that market mechanism, if it works efficiently, contributes to allocative productive efficiency and technologi. cal innovation. Ilowever, the smooth functioning requires certain preconditions. Isn't it to have development finance institutions lending with subsidized interest rate, under some circumstances, in order to maximize the social welfare? In this connection the following points should be taken into account. Since financial sectors are underdeveloped in developing countries, market mechanism cannot fully function. (2) As there are inherent limits of market mechanism itself, mar ket mechanism cannot handle various problems properly. Government intervention in these areas, as a result, is indispensable.

d) On privatization. The paper points out some factors which go beyond purely economic consideration as follows. "Privatization should be carried out only when adequate conditions are found. Is the privatization program taking into consideration other important aspects than economic efficiency?" Ac- cepting the fact that privatization is of major significance, since many developing countries have large, inefficient public firms, paper wonders whether privolization is always softtion for mproving effi of the public sector.

31 The paper at the same time wonders about the idea that all the private sector is to be treated equally, whether it be indigenous or foreign It points out as follows. 'Mast of developing countries have had hitter experience of colonialism The idea to transfer basic industries to foreign capital is a serious political and social issue in view of their history. Moreover, even from an economic standpoint, we must also consider that monopoly of foreign capital will lead to the repatriation of rents".

As are shown in the above, the four points addressed to the World Bank are contradictory to a greater degree to the policies and measures which the World Bank have pursued. Therefore it is only natural there are theoretical as well as practical differences in approaching the issues related to development in developing countries. The diffrences center around the appraisal on the intervention by government in economic activities, in other words, implications of industrial policies in the wider sense of the word.

Ill. NEW APPROACHES WITHIN THE WORLD BANK

The principal arguments against government intervention in markt economy or industrial policies are composed of refutations against such measures as priority credit to selective industries, suppression of saving rate thus lowering rate of interest in giving credit in order to stimulate investment, import substitution policies intended to protect domestic industries, subsidies to decaying industries which

32 lose competitiveness in market, establishment of public sector banks for specific purposes, government investment in applied research and development, and establishment of institutions for export promoti)n and institutional exchange of information between the public sector and the private sector. Arguments against industrial policies rest on the supposition that intervention by the government distorts market mechanism, hinders efficient allocation of resources and in the long run results in negative influence on develop. ment. The World Bank and the JMF in principle support the arguments. The above - referred OECF paper, in contrast to the World Bank, argues that appropriate intervention by the government makes favourable conditions for develop. ment. however, recently the World Bank to be more flexible toward other approaches different from the Bank. For example, one of the latest report by Ihe World Bank entitled "East Asian miracles - Economic Growth and Public Policy" (Published by the World Bank, Oxford Univ. Press, 1993). It is only natural that the Asian NIEs countries should attract specific interest from all over the world because of their remarkable performance in economic growth for the last three decades. The report deals with eight Asian countries: five tigers (Japan, South Korea, Taiwan, Sin- gapore and hong Kong) and three NIEs (Malaysia, Thailand and Indonesia). These eight countries or oreas are called by the World Bank as HPAEs (High Performance East Asia Economies). The report is one the trials to sort out factors

33 which have contributed to the economic successes or miracles" in the East Asia. The project to find causes of economic development in the East Asia requires very complicated combination of works. Economic development could be explained by com- pound and interrelated various factors taking into account political, international circumstances and economic policies. Some former studies attributed the economic dynamism in the area to principles of be- haviors of the people there who are diligent and industrious and some explained them in the broader context of traditions of Confucianism I do not negate those socio-cultural factors are sometimes very important in understanding causes of economic development. However, it is very difficult to determine the causal relations. I just for your reference point out in this connection about thirty years ago Confucious traditions were very often referred to explain causes of stagnation in economic growth in the same region, which we call now the Asian NIEs. It is possible to sort out general economic factors, such as high saving rate, high rate of investment, as well as continuous growth in productivity. Comparatively high level of education as well as efficient administration are initial prequisites for taking - off of their economies. Physical infrastiucture and human capital were combined together in paving the way for economic growth. The World Bank report out the moderate development policies, efficient macre-economic controls resulting n stability, banking

34 systems absorbing saving of those people who had not habit of saving until that time, limiting distortions in prices within reasonable bounds, agricultural development and open society which accepts new thinking and technology from abroad. These factors were mobilized as exponents for economic "miracles in the East Asia. However, as far as the government intervention in economy is concerned, the World Bank report discredits in principle the argument that industrial policies themselves promoted rapid economic development; in the East Asia. It indicates that these measures might have impeded initiatives by the private sector. However, its presentaion is quite ambiguous, because we find a few of comments admitting to some extent the promoting effects of industrial policies on enhancing growth rates in some cases in the area It singles out particularly export promotion policies, high tariff rate for import and export subsidies combined, as an example of succese of government intervention. On the other hand, it limits the applicability of government-led development by saying that East Asia enjoyed necessary preconditions for taking-off and these kinds of government intervention do not guarantee the same prospect for other developing countries in the fututre because of different circumstances. Dr. John Page at the World Bank who headed the study team on the "East Asian miracles" acknowledges that remarkable development in the East Asia is attributable to smooth functioning of government intervention for export

35 promotion ('Nihon Keizai Shimbun" Oct 15). FIe adds that in the East Asia not only large enterprises but also even small-scale enterprises could enjoy necessary credit from the government financial institu:ens once the credit is intended to be given to promote export and that government and the private sector worked harmoniously in to promote export. According to his explanations. the preconditions for the success of government intervention are composed of the following four conditions. (1) The targets of government intervention should be limited to those areas where market niechanisni does not function efficiently (2) Importance of setting the target properly and de\elop ing measures for government intervention accordingly. (3) Proper approciation of the private sector and incentives for their activities. (4) Once the target is achieved, government interventions should be withdrawn and the way for market mechanism should be open. It is interesting to note that his views have some thing in common with the OECF proposal referred to in the above. However, it does not necessary mean that his views might reflect central line of thinking in the World Bank. The e' 'phasis on market mechanism emerged in the face of "regulatory failures" or "governm its failures". These

36 "failures" are related to the legacies of centrally - controlled economic systems such as lack in initiatives by managers to improve in management, lack in cost. consciousness, bureaucracy and red - tapism, corruption, excessive dependence on government budgets to cover losses in management. However, in the market economy also, we have to face with different kinds of problems which are called "market failures'. "Market failures" mean those areas where market mechanism does not work efficiently. Even in the most adavanced stage of market economy, imperfection of market mechanism are observed in case of public goods, externalities, uncertainties, increasing return and uneven distribution of information. When we focus our eyes on developing countries, because of less-development of market economy itself, we find that "market failures" have more wider implications. There are areas where non-market transactions play more important role in allocating resources. At the same time, because of lack in efficient infrastructure such as transport and communication, very often there is neither unified commodity market nor conimon information within the same country. Sometimes initiatives should be taken by the government to create the conditions for introducing market economy. The introduction of market economy does not always lead to the development of leading industries I)epending up on the local conditions and levels of development, additional measures are required particularly at the initial stage of development. Usually "market failures" are remedied by the interven-

37 tion by the government. However, the government. interven tion should not bring about another 'regulatory failures "in their place. This is a sort of dilemma between market. failures" in their place This a sort of dilemma between 'market failures" and 'regulatory failures'. How to cope with this dilemma seems to be a new challenge particularly for those countries on their way to market economy

IV. JAPAN'S EXPERIENCE INDUSTRIAL PO1J('IES AND ITS PRECONDITiONS In connection with Japan's industrial policies as one of the most inspiring examples concerning the role of State in economic restructuring and development., I refer to some comments by foreign specialists on them,

(1) Similarlity with Soviet experience? Just before the collapse of regime, some economic specialists of former Soviet Union visited Japan in order to find "secrets of Japan's miracles" in economic achievement. One of them commented that they had found Japan's economic system more "socialistic" than that of Soviet Union. They pointed out comparatively equitable distribution of income, efficient coordination between the government and the private sector, representation of employees in the management of enterprises, guaranteed life-tong employment and social security systems as proofs for justification o. the argument.

38 Employment practices No one can deny the fact Japan's economy has been functioning within the framework of market mechanism wich iricwitahly accompanied limitations. However, there are variations depending upon specific conditions even among the countries of same economic system of market mechanism. It seems to me that the Soviet specialist focused on brighter side of Japan's economy. It is true that the above-mentioned characteristics were to some extent ap- plicable mostly to big enterprises which played leading roles in restructuring and achieving high rates of economic growth after t;he War. For example, the three features in employment in Japan's industry are believed to have contributed to the development. They are the life-long exployment system, the seniority-order wage system and the enterprise union regime. It is not unfounded that many big enterprises succeeded through these practices in instilling in minds of workers and employees a sense of solid loyality to their enterprises. This sense of loyality without doubt was instrumental in promoting a smoother management-labor relations and useful in facing with new challenges for enterprises. However, these three characteristics are historical products and they took roots only in the latter half of 1960s. I have to point out that many small-scale enterprises could not afford to follow the same measure in management because of their financial constraints. At present Japan's economy suffers from one of the most serious recessions after the War. Some

39 of leading firms profess in public that they cannot leavecon- tact these systems as before because they are oblige), to reduce personal expenses (wages and salaries) not only by firing their employees hut als by making amendment of the existing exployrnerit practi(:es Therefore,, the life-long, employment system and the seniority.order wage system may not last long and be taken the place by more selective one even in Japan. Japan's big enterprises succeeded in keeping the existing exployment practices intact as long as business opportunities have expanded and assured necessary profits to support them. Similarity in transitional period? Another interesting discovery by Soviet specialists was similarities between Japan's experiences just after the second World War and Soviet's experiences which are observed at present. Both of them experienced, according to Russian specialists, similar transitional period from the centrally- controlled economy to the dc centralized market economy. It is a historical fact that during the World War Two in Japan the government gradually intervened in economic activities in every corner of society in order to mobilise every kind of resource, either material or human, to continue the war efforts. The government distributed materials through the quota system and gave the target of production to each sector of industry. The intervention extended to fixing prices of major ç roducts and in distributing labor force among

40 different sector of industry. However, we have to take into account fundamental differences between Japan and the Soviet Union in connection with centrally-controlled economy. In case of the Soviet Union, all the enterprises were owned by the state. The control as well as distribution of material and finance was directed by the state from the above to the state enterprises. In these circumstances, liberalization of central control did not automatically result in activation of state enterprises in their economic functions. These state enterprises have not any experience in carrying out economic activities in market economy. it difficult for them to behave themselves as expected. Market and the private sector In contrast to the Soviet Union, Japan's experience during and after the Second World War was quite different. Although during the war the government strangthened control over enterprises in detail. After the war, these controls were gradually lifted to pave the way for liberalized de- centralized economy. Those enterprises were mostly private enterprises and their ownership and management through the period of controlled economy remained in the hands of private sector. Therefore, lifting-up of control resulted in spontaneous activism of these enterprises and responded sharply to the market conditions at that time. This difference of type in ownership and management of enterprises between Russia and Japan rejects an easy identification of

41 the period of transition from the centrally.controled economy to market economy in two countries.

However, in order to avow probable misunderstanding. I have to add a few 3fl the issue I do not indicate here an immediate privatization as the only solution to activate state enterpises in any country is important is to create circumstances in - hich market mcchanism can play an important role in distributing limited resources and promote competition among enterprises resulting in increased efficiency. In the transitional period from the dominance of state enterprises to the efficient industrial organization, various forms in combination of ownership and management can theoretically and practically be expected to exist. They include de-control of management by the state over enterprises, division of state monopoly enterprises into plural ones in order to promote competition among enterprises, contracting of management of state enterprises with the private sector, and conversion of state enterprises into joint-stock companies 'paving the way to partial or total privatization. In some cases gradualism is necessary to shift from one stage to another stage because the privatization does not always create conditions for efficient competition. Russian experiment of "big push" since the beginning of 1992 indicates that lifting of state control does nit always lead automatically to efficient competition or to increased production. One of the reasons of failure in the recent economic reforms in Russia since 1992 may be attributed to the existing monopolisti structure in the in-

42 dustrial organization, which impeded efficient functionning of market mechanism and distorted it by resorting to speculation without increasing production

I don't mean here every economic activity can and should be transferred to the private sector. For instance the state should take an initiative in investing in the infrastructure. It is needless to say that investment in infrastructure is essentially prerequisite for economic development in the initial stage for those developing countries where lack of infrastructures such as road, transport and communication is one of the major obstacles against inducing activatization of the private capital.

(2) Preconditions for restruturing and economic development in Japan after the War

I would like to refer to some preconditions for Japan's economic reconstruction after the War. As is usually pointed out, in spite of massive destruction we had still a certain level of accummulation of human resources and physical infrastructure. What was required for reconstruction at that time was to find out necessary capital to be invested and to be joined together with hun1an capital. Engineers with various levels, skilled labor as well as semi-skilled labor were abundant. Also there were private enterprises, small-scale as well as large-scale ones which are ready to make use of any new opportunities once opened before them.

43 One factor which should not be forgotten in this connection is the management resources. Business management should be given due weight when we discuss the human resources. In other words the absolute number of Ph.Dholders, engineers, skilled labor is the potential or necessary condition for economic reconstruction. The high rate of literacy is without doubt. one of the very promising assets for economic construction However, without their wide mobilisation and efficient organization these potential capacities might remain as potenital as ever without, being realised. The economic difficulties in the former Soviet Union with so many scientists and engineers might be drawn as one of the negative examples It seems to me that accummulation of management skill which was found in Japan even after the defeat of the War was very useful for the reconstruction. Management is a art of skill inter- mingled with technical knowledge and cultural ones. Management. has to take into account historical traditions and value judgement of the nation.

Besides the above preconditions, 1 have to put a special emphasis on various reforms or "democratization in economic structure" which were implemented after the War. They are the land reforms, dissolution of Zaibatsu (family - based Kontzern) and labor laws. These reforms were implemented between 1946 and 1950 under the strong pressures of occupation authorities: GHQ (General Headquarter). [As for the perod refer to Nakamura Takahusa, "Keikakuka" to

44 "Minshuka" (Planning and Democratization) (in Japanese), Iwanami Shoten, 1989, pp. 39 - 411. Although these measures were taken for the purpose of eradicating social classes which might again support potential military-fascist expansionist forces, these reforms incidentally resulted in preparing the favorable initial conditions for the economic reconstruction and growth.

The land reforms were initiated by the GIIQ in 1946 refecting the more conservative program Japanese government had proposed. The reformd enabled tenants to pur-. chase agrarian lands which they cultivated at cheap price through the m:dium of government and to own their lands, Lan-downers were not allowed to own their agrarian lands more than a certan ceiling, in general one hectare per household. It is perorted that between November 1946 and August 1950 the percentage of tenanted [and out of total arable and decreased drastically from 46% to less than 1] %. Land reforms gave to each peasant a strong motivation for increased production. We observed a remarkable increase in productivity in agriculture since the introduction of reforms, Land reforms could be rated as particularly successful in Japan and contributed to the improvement in pattern of income distribution among peasants and to the expansion of domestic market. In addition to that the introduction of three labor laws between 1945 and 1947 which legalized trade unions and set the minimum working conditions for laborers also con-

45 tributed to the expansion of domestic market by raising the level of incomes of workers particularly in the urban area. At the same time, trade unions were organised in such a way as to imitate such as the patriotic association of industrial workers formed during the War, which turned out to he the basis for the so-cafled enterprise union regime. rphe dissolution of Zaibatsu (giant. family trusts) was also one of the key reforms implemented by the HQ. Zaibatsu were family-centered giant trusts which developed themselves particularly making use of special connections with the Goveriitnenl since the Meiji Restorolion Each iniluencial family controlled vertically through the holding companies which in turn owned of those companies under it. Representat.i ye Zaibat.u families were Mitsui, Mitsubishi, Sumitomo, Yasuda et. cot. Through the dissolution orders the head offices of Zaibatsu were broken up and those shares held by them were offered to the public for sale by the special commission for liquidation of holding companies. Zaibatsu families were compulsorily forced to part with their shares. Those companies which had been under the direct control of Zaibatsu families were obliged to function inde- pendently and were prohibited from bearing the family names of Zaibatsu for a certain period of time. Vertical control of major industries under one family ceased to exist in principle. Some firms were divided into two or more firms. In Lddition to the dissolution ')f Zaibatsu, an anti-

46 monopoly law was enacted in April 1947. The law was very severe and totally prohibited cartel practices and holding companies. In the end of the same year, another law tended to the removal of excessive concentration of economic capacities was enacted in order to divide any company which monopoly control in market in any certain field. Because of the changed international circumstances such as the beginning of the cold war the latter law was implemented only in the iron and steel as well as the paper manufacturing industries. However, a series of these economic laws contributed significantly to the creation of favorable ccrnditions for competition in industry. The above-mentioned various reforms and tion after the War were preconditions for the economic development by expanding the domestic market through the increase of income in the rural area and also through the decrease of discrepancies in income distribution among laborers. At the same time, these refdrms created circumstances for keen competition in industry.

(3) Industrial policies

"Excessive competition'

As was indicated in the above, one of the preconditions for reconstruction and development in the after-war Japan has been stiff competion in industry. The jargon excessive

47 competition" was coined tocha racterize Japan's industry and the government rationalized its intervention in industry by indicating that excessive competition" might ruin altogether those enterprises the same category of industry unless they agree to amalgamate themselves into more big ger enterprises, small in number

However, it may be said that 'excessive corn- petiton' Japan's economic growth might have been realised. New entries were not, infrequent. Perpetual corn- petitions among many enterprises enforced them to cut the prices and level up the quality of products through various means of rationalization. This keen competition might. be understood as one of the 'secrets' for Japan's rapid economic growth after the war. Sometimes the govgernment intervened to check the competition by advising mergers in order to decrease the number of enterprises in the industry fearing this sort of "excessive compet.iton" might undermine viability of enterprises concerned. This kind of industrial policies in sonic cases succeeded. in other cases they failed facing with strong opposition from the enterprises concerned themselves. Very often the industry was more optimistic than the government concerning the potentiality of market and in many cases the industry's prospe"t proved to be right. Industrial policies. The hid .istrial policies in Japan are composed of various

48 measures such as economic plannings, promotion of industries, conversion of decay industries, presenting future visions, finding and supporting new leading industries. The industrial policies are different from general economic policies, which are pursued by each government in the marke-toriented economy, such as supply of social overhead capital, social security, and business adjustments or macroeconomic control. In the post-war Japan one can not conceive the economic development after the war without taking into the industrial policies or government intervention in industry, It is generally asserted in the government circles in Japan that the industrial policies after the War succeeded in restructuring and promoting economic growth in Japan. However, it is fair to say that we can find many success stories side by side some failure stories.

Government intervention in Japan prevailed in mainly in 1940s, 1950s, 1960 and 1970s. In the 1980s and thereafter, policies .for de-regulations began to emerge. In 1990s, particularly under the new coalition government under Mr. Hosokawa, the deregulation emerged as one of the political targets for the foreseeable future.

Economic planning It is worth noting that since 1949, Japanese government produced economic plans succesively. Until now we have eleven such planning. Each plan indicated eadh target for

49 the foreseeable futures although those targets changed depending upon the circumstances, particularly stages of industrialization, at the time of formulation. For instance, the plan 1949 - 1952 was called "economic reconstruction plan' and the plan in 1960 was called the plan for doubling national income". The characteristics of Japan's plannings are different from those of socialistic centrally-controlled economies in that the former ones are indicative while the others are dictated ones from the above. The plannings in eiapan were not compulsory in nature.

It is rare that other countries wich market economy such as Japan should have these kind of national planning The ideas and practices of planning were introduced and intensified during the Second World War in order to mohilise every resource available to pursue the war efforts. The measures taken were called the National Mobilization Scheme. it is interesting to note that behind the ideas of the Scheme lay also influence of the achievement of successive five-year plans in the Soviet Union. The intensified National Mobilization Schemes just before the end of the War resembled on the surface to economic plannings in the Soviet Union with the strict control from the above over almost all the spheres of production, distribution and consumption. However, experiences of plannings during the War were valuable and they were innherited by the bureaucracy and applied later in formulating the successive plans for the reconstruction after the War. As for the at-

50 titude of the private sector towards the planning, even after the War when compulsion was lifted, the private enterprises seem to have taken seriously these new plans when they worked out their own investment planning for each company. The question raised here is: why did Japan s planning succeed in enjoying confidence of the private sector without any compulsion from the government? It may be pointed out that the private sector did not lose its confidence in the government in general and in the reliability of statistics supplied by government. In my personal experience, 1 know so many companies which rushed to get drafts of t.hese government plans in order to make use for reference when they work out a production target for each product Al though those plans do not bind the national budgets from a legal point of view, still the national budgets were drawn up taking into those plans. Other sector-wise plans were also formulated depending upon those plans. It is very valuable for each private company with limited capacities to get a birds' eyes' views of macro-economy through the government plans. Therefore any date included in plans were very useful for each private company. Planning process also made clear various bottlenecks of Japan's economy at the time, which were very important information for the private sector. What was more important might have been the fact that economic plans were proposed before the people as another new national targets to be followed after the War. As the

51 people was looking for national guidelines to follow, these plans took the place of national targets every citizen is expected to participate. At the same time, it is to be noted that many specialists as well as leaders in various fields, government officials, scholars, journalists, leaders in oprative movements, representatives of industry and labor union leaders were mobilised from the beginning of prepar ing plans. Through the process, these leaders could get a sort. of sense of participation in decision-making process, In the same process major associations which organized themselves industry..wide were also mobilised, which contributed to the implementation of the desIgns of plans. These joint works were at the same time processes for exploring various economic and social problems facing the country.

Promotion of new leading industries Promotion of new industries was one of the important functions of industrial policies. Just the end of the War when

Japan faced with the total break - down of reproduction mechanism of the national economy. In the beginning the policies of occupation forces were intended to be very much severe with demand for massive war reparation and disman- tling of industrial base. However, the beginning of "cold war" and aggravation of economic conditions gradually changed the occupation policies and favored for Japan's economic reconstruction. In the beginning of 1947 the so-called "priority production scheme" was adopted by the Cabinet and approved by

52 the GHQ. The scheme set the target of domestic production for coal at 30 milion tons at the minimum base for economic reconstruction. The idea of the scheme was to put imported heavy oil into the iron and steel industry and increased steel was to be concentrated intensively to the collieries. The vertuous mutual cycles were expected between the iron & steel industry and the coal mines for increased production of the two basic products, steel and coal. Credit Fund for Reconstruction was established and began its operations at the beginning of 1947 to support the "priority production scheme". The target of 30 million production of coal was achieved in the latter half of 1947, which paved the way for reconstruction of accelerated reproduction process. The scheme helped afterwards Japan's economy tO come over another problem, the galloping inflation, through drastic budget control. The "priority production scheme" was the first positive intervention by the government in the industry after the War, calculated proposed and implemented in order to fight against the vicious cycle of inflation and decline of production. When Japan overcame the unstable turbulent period after the War with favorable external as well as internal conditions, she launched on new projects to promote leading industries. Since 1950s the government. selected those leading industries which should be promoted (Refer to Kanamori, Hisao, Nihon keizai ni okeru seihu to minka no kankei (Relations between the government and the private sector), in "Soren Keizaikaikaku he no Teigen (Proposals for

b3 economic reforms in the Soviet Union) edited by mama, Hidezou and Tsutsumi, Seiji, Nihon keizai shinburnsha, 1991). The government worked out targets for development with the association related with the industry concerned.

The industries selected in the 1950s were iron and steel, coal, marine shipping, electricity, synthetic fibers and synthetic fertilizers. Since the latter half of the 1950s to 1960s, petrochemicals, general machinery, electronics et cetera were leading industries supported by the government. Main tools through which the government promoted these industries were tax allowances and easy credit given through government financial institutions. Direct subsidies were not given except for specific cases. In some cases cartel formation was approved in order to restrain excessive competition. The government intervened in guiding investment projects in certain industries such as iron and steel, petrochemicals, refinery, paper and pulp. These interventions were executed in general through the so-called "Gyosei Shido (administrative guidance)" and did not resort to the laws.

V. CONCLUSION

As the report by the World Bank on the "East Asian Miracle" shows, the international financial organization seems to have recognized at least the possibility that the state or government could play an important role in promot-

54 ing export and industry although with some reservations and denial of its replicability to other areas beyond the East Asia. As for the role of government, it might he said in conclusion from the limited experience in Japan that in certain conditions government intervention could play a role in promoting certain industries, through which economic development in one country. It is important to find conditions which enable each country to realise these targets. These conditions could be found only through trials and errors. it seems to me that one of the conditions for a success of industrial policies is the co-existence with keen competition in the market. According to Japan's experiences, excessive competition" among private enterprieses collided sometimes with the government which, fearing expected overproduction in the specified industry, tried to check investment projects of companies or to promote mergers in order to cope with threat from foreign competition How- ever, there were some cases where the private sector defied the government intentions. In case of the iron and steel industry, Sumitomo Kinzoku deied the guideline of Bank of Japan concerning the consumption of iron and steel in the future and launched a new project with success. In case of the automobile industry the government tried to intervene in merging the domestic automobile indutries so that they can compete with foreign enterprises. Some companies defied and could cope with foreign threat. These cases might be taken as case of failures for the industrial policies. How- ever, such a keen competitiveness within the domestic market has been one of the important prerequisites for

55 responding vigorously to incentives given by the government with the purpose of establishing and promoting leading industries For those economies with strong background of centrall- controlled economic regimes people sometimes tend to as- similate the government controls with industrial policies. Or industrial policies are liable to be explained as they are "relaxed forms" of central planning. However, the assimila- tion is quite misleading. If the enterpises respond very weakly to market mechanism, various incentives implied in industrial policies would not have expected results. There- fore, strenuous efforts for the creation of infrastructure for expanding market mechanism shouid be pursued side by side with the guiding roles of the government. I do not mean, however, that every enterprise should be privatised. Privatization and introduction of market mechanism are not the same policies although they are in the same direction. Another precondition for a success of industiral policies would the strong government in that implementation of those policies are neither mitigated nor distorted through corruptions or under pressures from interest groups. In other words the private sector's loss of confidence in the government should be avoided. It is expected for the government to take a neutral stance to each individual company in the industry which expect favorable incentives according industrial policies. It is very important for the government to convince the people of perseverance during the transitional period when a big share of budget or finance is allocated to certain sector of industry or economy.

56 TUE ROLE 01 THE STATE IN ECONOM IC RESTRUCTU RING AND DEVELOPMENT: The case of Singapore

MUKUL (;. ASHER Department of Economics and Statistics

Natwna 1 Un i ccrsi ty of Singapore SINGAPORE

1. INTROI)UCTION

After nearly two and a haU' decades of almost unintorrupted rapid economic growth Singapore is now an

AU unless stated are in Singapore dollars In late

October 1993. tne exchange rate was US$1 - S$1.60 approximately

57 affluent society, with per c;apita GNP of US$14,210 in 1991 In this remarkable economic performance, the state has played a crucial role. Two major economic functions performed by Singapore are as a production base for selected goods and services, such as oil refining, disk drives, financial services, and transportation services; and as a middlemen for the region and beyond. Its economy is dominated by the multnational companies (MNCs), and by the state-owned enterprises (SUEs), which S hc' into arid government-linked companies (GLCs). The state ownership of land increased from 44 percent of total land in 1960 to 76.2 percent in 1985 (Lini et al 1988, p. 101). The land in Singapore is usually Jeased for a long period, but its ownership is retained with the state. Since the early 1990s, Singapore has been making a concerted drive to regionalised its economy by developing investment and other economic relations in the Singapore also has high saving and investment rates; and high and persistent structural surpluses in the budget. In Singapore, economic, social and related information is regarded as a strategic resource at the state's disposal rather than a public good. In the remarkable economic performance and in bringing the present Structure and features of the economy, state's role has been vital. The state has acted as strategist, planner, regulator or enforcer, manager and administrator, entrepreneur, social engineer, and a direct participant in economic activities. In the process it has

5g either set up or has undertaken overseeing responsibilities relating to cultural, social, political and economic organizations and institutions.

As Singapore has till now provided combination of high growth, good social and demographic indicators such as educational attainment, home ownership, and life expectancy, and authoritarian polity, with corporatist management, its experience is of particular interest to those count ries which give improving economic performance prioritY over other concerns such as political reform. Singapore has used foreign models, at tjmes explicitly to support part icuia r socioeconomic st adopted. Margolin divides the ideological and intellectual transformation of Singapore into three periods since the 1950s. These are: "the 'revolutionarv, Third Worldist one of the opposition years; the socialaleuocra(ic one of the 1960s; arid the 'Nippo-Swiss' one of the last two decades" (1993, p. 85), Each successive model is more and more economy centered, and so has been the case with the Singapore society as a whole (Margolin, p 65).

A necessary hut. clearly not sufficient condition for an tered society is near .moiiopoly of politics and political processes by the governing elite, and depoliticization of the rest of the population and of is willing to accept such a focus. An important. determinant, of this willingness is the

59 ability to provide rapidly rising living standards, even to the elderly who are no longer participating in the labour force. Thus, authority, both political and moral, of the elites and legitimacy of the government in an economy-centered society are inextricably linked with the ability to provide rapidly rising living standards.

This paper examines role of the state in Singapore in selected areas, and suggests possible implications for other countries It is organised as follows Section Ii discusses the issue ci economic boundaries 0! the state. In the Singapore context, it concerns the manner in which market has been used; and steps taken by the Singapore government, to ensure effectiveness of its style of economic management Budgetary or fiscal policy represents for any government an important instrument to influence aggregate economic activity, ,.to assign priorities in government expenditure, and to raise resources through tax, non-tax and borrowing sources to finance government expenditure. The discussion in Section 111 of budgetary policy also briefly touches on the role of fiscal incentives in Singapore. A brief discussion of the role of public enterprises including privat.isation is provided in Section IV. One of the important socioeconomic institutions in Singapore is its national provident fund, called the Central Provident Fund (CPF). I3rief comments are offered about the CPF in Section V. Implications of the role of the state in Singapore are discussed in Section VI. The final section provides the concluding observations.

60 II. ECONOMIC BOUNDARIES OF TIlE STATE In the conventional economic literature, market and government represent two alternatives to economic organisation. The balance between the Iwo has undergone significant changes over time, Before the great depression of the 1930s, faith in market mechanism and in Adam Smith's 'invisible hand' under which individuals pursuing their own self-interest were pictured as achieving the overall maximum well being of the society was extremely high. But the great depression 01 the revealed in a dramatic manner failure of macroeconomic coordination; and the second world war demonstrated possibilities of effective government planning and intervention This, combined with the importance attached to the goals of distributive justice and of positive freedom. designed to improve capacity of individuals to expand consumption demands, meant that. role of government, expanded significantly. But such expansion led in due course to intensive examination of the concept of government failure. Reasons for such failure may he summarized as follows: (i) consequences of many government actions are extremely complicated and difficult. to foresee; ii) government may promulgate policy measures, hut. it has only a limited control over relevant, variables, Kiii' there is a gap between legislation and intention, and betweeni those who set. broad policy framework on the one hand and those who frame detailed rules and procedures and who actually implement them on a day to day basis on the other; and (iv) different

61 interest groups may vie with each other in a society, and this maycomplicate the task of defIning what is overall public interest.

fri addition to in tnaeroeocnomic coordination noted above, other reasons for market failure include monopoly power (when buyers and sellers are price makers rather than price-takers and entry and exit barriers are high); externalities (when actions by an individual or a firm affect cost or utility functions of others but these do not get reflected in the marketi; public goods (when marginal social cost of additional person consuming a good is zero and when those who do not pay can not be excluded because of technical infeasibility or high cost); and asymmetric information (when either a buyer or a seller has markedly more relevant information in a transaction). Thus, both market and government are imperfect alternatives. Indeed, as helm has noted, "... economic theory does not provide any evidence to support a general preference either for markets or for planning' (1989, pp. 42.43, emphasis in the original). A pragmatic approach would he to assess which of the two failures is greater in a specific situation and context, and to then decide on whether market or government is more suitable. While the emphasis in the economics literature has been on market and government (or planning) as alternative mechanisms, economic success achieved by Japan and other East and Southeast Asian countries, including Singapore,

62 which have borrowed heavily from Japanese methods of economic and to a lesser extent political organisation and management, has raised many complex issues regarding market and government. has described the Japanese policies as favouring '... producer over consumers, bureaucratic control over political debate and stability over innovation' (1993, p. 12). Indeed, the above policies, and the role of the bureaucracy in guiding markets have led some analysts such as Clyde Prestowitz Jr. and Chalmers Johnqnn to argue that Japanese different in fundamental ways than the western capitalisni (Sterngold, 1993). Sterngold quotes Yasushi Mieno, governor of Bank of Japan, as stating that Western nations need to study the Japanese model of economic organization and that lessons from the Japanese model should be applied, by the multilateral institutions in their advice on development strategy (1993). The main difference between the conventional economic theory and the western view on the one hand and that of Japan, Singapore and other like-minded countries on the other is that in the latter market is used an instrument of policies and goals already set as in these countries belief in the idea of invisible hand as a mechanism is quite weak. As a result, markets in these countries are not, free in the western sense. Thus, in Singapore extensive government land holding noted earlier, combined with extensive public housing program have resulted in government being a dominant player in the real estate and property market.

63 Similarly, government decides on the number of certificates of entitlement (COEs to be issued in each period; but then uses auction mechanism to allocate theni Government also decides on the amount of levies, overall number, and the source for foreign labour, but then allows this labour to be allocated according to those who are prepared to pay the resulting price. Thus, market is used as an instrument because it is regarded as more economical in information and administrative costs. but not as a mechanism. It should be noted that. such use 01 the market does not carry with it normative efficiency implications which are normally associated with market mechanism leading to Pareto efficiency, under which it is not possibsle to make someone better off without making others worse off. Use of market as an instrument also assumes that allocation function can he separated from the distribution function. When the use of market, as an instrument is combined with the organic concept. of state and corporatism, almost no area of individual's life is theoretically immune from the purview of the government. This is evident in the role state has played in Singapore, which has touched lives of citizens in many diverse areas. It appears that Singapore government recognised at the very beginning that for its method of economic organization and management to function effectively, efficiency-conscious, and result-oriented bureaucracy; friendly business environment; and minimization or

64 elimination of illegal payments to those in positions of power within Singapore, would be indispensable. Indeed, those entities which are unable to match these requirements may find that Singapore-type of economic organization and management yield very different results. Thus, changing the attitudes and behaviour of the civil servants, so that these are consistent with the ruling party's objectives and strategies has been a priority ever since the People's Action Party (PAP) formed the first government of the State of Singapore in 1959. On 16 September 1963, Singapore became a constituent state of Malaysia. It became a sovereign, independent nation on 9 August 1965. Through various measures and policies relating to personnel, training, adoption of information technology (IT) in government, review of procedures, rules, regulations, and others, the government has lowered compliance costs, both psychic and financial, of day to day transactions of general public with t.he governmental machinery. The government has set up Corrupt Practices Investigation Bureau (CPIB) under the Prime Minister's Office (PMO). As Ow has noted, '... the CPIB has immense powers and may carry out investigations of allegations of corruption by civil servants, other public sector employees, Members of Parliament and Ministers The director of CPIB reports directly to the Prime Minister' (1986, pp. 247-248).

65 III. BUDGETARY POLICY

Budgetary accounts of the Singapore government, are organized around various funds, A distinction is made between the current or operating expenditure and capital or development expenditure The budgetary system emphasizes efficiency objective, and as a consequence, relationship between financial md other inputs for a given activity or a program on the one hand and resu"lting output or performance ts stressed. published budgetary amounts are based on a mixture of cash, accrual, opportunity cost, and notional cost elements, whose combination may vary from year to year. As a result, budgetary analysis needs to be undertaken with care, Policy: It may be useful to begin the discussion of tax policy by briefly summarizing the relevant features of revenue system. Fiscal data for presented in Table I forms the basis for the summary provided below. (1) Total revenue to GDP ratio at 33.27 percent in 1990.91 is fairly high, particularly when compared to government expenditure (19.8 percent of GDP in 1990-91).

(2) Tax revenue (at 15.77 percent of GDP) accounts for less than half of total revenue. Unlike the revenue to GDP ratio, tdx to GDP ratio for Singapore is substantially lower than the average for the Organization of Economic and Development (OECD) countries (38.8 percent of in 1990).

66 Thus, the role of non-tax revenue and capital revenue combined is greater than that of tax revenue. This has three main implications. the government has considerable flexibility in raising revenue. In particular, it does not need to rely exclusively on taxes if additional revenue is needed. Second in analysing the economic effects of revenue structure, such as on stabilization, the cost of doing business, and incentives to save and to work, exclusive attention to tax revenue is likely to be inadequate. The effects of various regulatory and non-regulatory charges, incidence of land acquisition policy, sale (essentially long term lease) of land, pricing policies of statutory boards, and sources of and cosi paid to generate investible funds, all need to be taken into account in analysing the economic effects. The above suggests that budget balance (or changes in it) is even less likely to be an useful indicator of the overall direction of fiscal policy than is normally the case. Third, since a major portion of income is from capital income and investment income, and since a substantial part of the investment income is from investments abroad, conservative management of investment portfolio and continued health of the current international financial system are vital for Singapore's fiscal health.

Persistent government budget surpluses has meant a build-up of assel,s of the Singapore government. The assets

67 TABLE I: Singapore: Thx-Mix, 1990-91

Amount As a As a As a Category (MilliOn Percent Percent Percent S$) of Thial of Tax of Revenue Rever.uc (.IDP [al

1. Total Revenue 21.o36 100.0 211.0 3327 Current Revenue 17872, 82.6 174.3 27.49

3 Capital Revenue 3,764 17.4 36.7 5.79

3 1 Sales of Land 3,674 17.0 35.8 5.65

4 Tax Revenue 47.4 100.0 15.77

4 1 Taxes on Income

Profits 4577 21.2 44.6 7.04

on Property[bJ 1,181 5.5 11.5 1 82

4.3 Domestic Taxes on

Goods and 2,859 13.2 27.9 4 40

43.1 Excise 685 3.2 6.7 1 05 4.3.2 Motor Vehicle

1,525 7.0 14.9 2.35

4.4 Thxes on

International Trade 357 1.7 3.5 0.55

4.5 Stamp Duties 561 2.6 5.5 0.86

4.6 Others[cJ 719 3.3 7.0 111

5. Non.Tax Revenue - 7,618 35.2 74.3 11.72

5.1 and

Property Income 6,422 29.9 62.3 9 88

68 Identities: Total Revenue = Current Revenue ± Capita! Revenue

Current Revenue = Tax Revenue 1- Non-Tax Revenue Notes:

[a] GDP in 1990 was S$65024 [b] Includes real estate taxes and estate duties [c] Includes levy on domestic maids, foreign workers levy and other miscellaneous taxes. Source: Calculated from IMF. Goi'crn,nent Finance Statistics Yearbook. 1992. pp. 475-478 have increased from $107,300 million on 31 March 1992, to an estimated $121,500 million on 31 March, 1993 (The 1993 Budget Document, p. 85). These assets may be contrasted with the estimated total expenditure and operating revenue for fiscal year (April-March) 1993 of $15,500 million and $17,200 million respectively. 'The 1993 assets are equivalent to 162.1 percent of the 1992 GDP of Singapore. The official foreign reserves have 1increased from $17,917.9 million in 1982 to $65,788.4 in 1992 (Republic of Singapore, Department of Statistics, 1993, Table 12.4, p. 223). In addition, the accumulated balances in the national provident fund, called the Central Provident Fund (CPF) amounted to $51,526.9 million as at end 1992. (Republic of Singapore, Department of Statistics, 1993, Table 1215, p. 233). While the above are gross and not. net figures, they do

69 demonstrate the point that conservative management of such large balances is vita! for future economic and social well being of the residents of the country.

An important and institutional development in this context is the Elected Presidency Law (EPL) which came into effect. on 30 1991 Qualifications needed to bc nominated to contest for Presidency are set in such a way that at only several hundred individuals can potentially qualify. There are two main fiscal powers under the EPL. The first gives the President the right to veto the annual budgets of the government statutory boards and key government companies if they draw on reserves accumulated during the terms of previous government.s (definition of reserves is at present somewhat ambiguous) The President also has the power to scrutinise and if necessary veto any large item of expenditure by a statutory hoard or a government company. The second fiscal power allows the President to veto key public service appointments, including those concerned with fiscal aspects. The EPL does not forbid the use of reserves, but requires the concurrence of the President before this can be done. This suggests that the President does not have any direct oversight powers over the level or composition of the public sector, though the President can still influence it through veto powers. Nevertheless, the EPL is

70 designed to prevent drastic departures from the present public sector arrangements, including almost exclusive reliance on the national provident fund mechanism to provide social security. (3) In 1990-91, taxes on Income and Profits accounted for 44.6 percent and Domestic Taxes on Goods and Services 27.9 percent of total tax revenue. Since taxes on international trade are overwhelmingly on consumer items, such as beer, textiles, and tobacco products, they should be considered together with the Domestic Taxes on Goods and Services. The combined share is 33.4 percent of tax The differential is not large, particularly as company income taxes, a portion of which may be shifted to consumers in terms of higher prices, accounts for two-thirds of revenue from taxes on Income and Profits; the corresponding proportion for the OECI) being around one-fifth. Thus, given Singapore's high income status, the role of taxes on Income and Profits, particularly of individUal income tax cannot be regarded as being unduly imbalanced,

(4) Motor vehicle taxes accounted for 14.9 percent of total tax revenue in 1990-91. If other types of taxes dependent on motor vehicles, such as petroleum excises, are included, then the importance of motor vehicle taxes would be even greater.

(5) Among the 'others' category which accounts for 7.0 percent of total tax revenue, foreign workers levy is quite

71 significant. In this case, government not only sets the overall quota, but also decides on the share of various sources, and levies taxes. At the lower end of the wage scale, such as construction and maids, it is not unusual t.o find that foreign worker levy exceeds the wages paid to foreign workers Pricing is used to allocate labour, hut control is exercised on both the demand and the supply side.

(6) Singapore does not, levy any export taxes. The import duties are largely confined t.o liquor and tobacco products, motor vehicles, and others such as textiles, cosmetics and chocolates. Thus, unlike in many countries, import duties play only a marginal role in fiscal incentives. (7) Singapore does not, levy capital gains taxes. The only tax on wealt.h is estate duties whose revenue importance is negligible.

The Introduction of the Goods and Services Thx (GST): The GST is to be introduced from April 1, 1994 at a rate of 3.0 percent. The GST is a type of value-added tax (VAT) covering all aspects of production and distribution. However, because of the high exemption level (those with turnover of S$1 million or less are exempt from the tax, but as a result they cannot claim refunds on input taxes paid), 'nly 20 percent of businesses are expected to be covered under the GST. This would turn GST into a complicated excise tax with cascading-type features. The introduction of GST is to ccincide with various

72 other changes in the tax system. Among the most important are the reduction in company income tax from 30.0 percent to 27.0 percent; and in the top income tax rate from 33.0 percent to 30.0 percent, both effective from the year of assessment 1994. Other tax measures include increase in personal relief from S$2,000 to $3,000; and an annual sliding-scale rebate on income tax. The above changes in income tax, according to the government estimates, are expected to reduce the proportion of households liable to income tax from the present. 90,0 percent to 50 percent. As Singapore has used income tax for a variety of socio-economic objectives such as providing incentives for qualified women to have more children; to take care of the aged parents; for gifts to approved charities; to in effect differentiate in income tax rates between citizens, permanent residents and others, lower coverage of income tax as well as lowering of rates will reduce their effectiveness. The GST is expected to increase the share of taxes on domestic goods and services, while reducing the share of income tax. This is expected to move the overall tax system in the direction of regressivity. It is also expected to increase the administration and compliance costs of the tax system. The GST will also have important implications for social security financing in Singapore, as noted in Section V.

73 With the GST, Singapore now has two broad-based taxes, namely income tax and consumption tax. Since both the potential to generate significant amounts of revenue, the government is 'veil placed to meet increased expenditure, if such a need arises

The Role of Fiscal incentives As may be expected from Singapore's economic strategy and from the role of the state, Singapore has pursued an activist fiscal incentive policy. In addition to the incentives contained in the Economic Expansion Incentives (Relief from Income Tax) Act, there are incentives provided in the income Tax Act. Certain tax incentives also exist in the double tax treaties which Singapore has negotiated with other countries, particularly in treaties with the capital exporting countries. Singapore has entered into investment guarantees agreements with countries such as the 1..T.S., Germany, U.K., People's Republic of China, and Sri Lanka. Such a treaty with India is being considered. In addition to the Economic Development Board (EDB), the Trade Development Board (TDB), Monetary Authority of Singapore (MAS), the National Computer Board (NCB), and other bodies have become active in granting and monitoring incentives during the 1980s. In recent. years, there has been a shift towards promoting service related activities at the margin. There are also many important types of incentives which have not been written into the Law, but which are expressed by the relevant authorities as

74 administrative or policy decisions. Thus signifcant discretionary power is exercise in Singapore in granting of fiscal incentives. Rules and regulatioans governing the entry and operations of foreign enterprises, with some exceptions such as retail domestic banking, have been relatively liberal once objectives of significant contribution to the economy and consistency with the economic have been satisfied. Repatriciation of capital, and remittance of profits and other capital income is allowed with no undue restrictions. There are no local content, technology transfer or other such requirements. Borrowing by foreign firms from domestic sources also faces only minor restrictions. Foreign labour flow is however regulated. It is important to recognize that Singapore government has attempted, quite successfully, to regard fiscal incentives as only a part of overall business environment; and has regarded incentives as signals to investors as to where government's energies and policies will be focused. It has also had an effective pre as well as post incentive evaluation program. Thus, while incentives are quite generous on paper, in practice stringent criteria are applied in granting them, particularly whether the enterprise granted such incentives will help the economy to reach a higher level at the margin. Post-evaluation of incentives has meant effective sun-set types of policies under which incentives are withdrawn after a certain date; and new ones introduced in response to perceived need for new

75 niches Concerning the business environment, civil service reforni has already been indicated. In addition, the following may be noted, First, the government has emphasized relevant and utilitarian investments in skills formation, particularly on technical training. This constant upgrading of techr cal skills has meant that Singapore can not only develop the capacity to move up the technological ladder, a move which is essential as its competitors catch up, but also provides a real possibility of overcoming technological dependence implied in the overwhelming importance of foreign enterprises in the economy. The second aspect concerns the power of the trade unions In 1968, Singapore enacted two important labour legislations which severely circumscribed union's power to negotiate on economic issues While the Employment. Act curtailed the power of unions to negotiate fringe benefits; the Industrial Relations (Amendment) Act made matters, such as recruitment, promotion, reclassification, transfer, retrenchment and dismissal of workers, management's prerogatives, and thus not a part of bargaining with the unions (Yoshihara, 1976, pp. 32-33). In a recent study, Asher et al. conclude that fiscal incentives regimes in Singapore have enjoyed an overall success, but as number of agencies involved in initiating and implementing incentives increases, as political system matures, rid as distribution coalitions take root, greater

76 transparency, public disclosure, and accountability would need to be given greater weight (1992, pp 126127) This conclusion is particularly relevant as there does not appear to be any prospect of less activist fiscal incentive regime.

Expenditure Policy: The expenditure policy of the Singapore government has the following main features. It is designed to keep the level of government expenditure low. Thus, government expenditure plus net lending has declined from 35-89 percent of GDP in 1985.86 1993, p. 475) to 22.21 percent of GDP in 1990-91 (Table 2). Per capita government expenditure in 1990-9 I was $5,340 (Table 2). It should be stressed that the above figures refer only to the general government sector, and only net lending and grants to statutory boards and others are included,

Second, in allocating expenditure, priority is given to defense, education and economic services. Thus, in 1990-91, expenditure on defense and public order and safety amount to 6,02 percent of 01W (Thble 2). Even this, rather high level is understated as in males are required to do two and a half years of national service. The amount paid to them is at below market rates. The military training however is regarded by the government as an indispensable past of nation building, and in preparing individuals for facing economic realities confronting Singapore. In 1990-91, education expenditure was equal to 34 percent of GI)P, with primary and secondary education

77 receiving the largest subsidy as a proportion of its costs. The government is to cap the subsidy for tertiary education at 75 percent of recurrent costs. With numerous scholarships and available, affordability of education is not a major issue in Singapore. Stress Ofl education is a part of human resource development; and it is designed to allow rapid and upgrading of the economic activities in Singapore. Expenditure on economic affairs and services equalled 3.63 percent of GI)P in 1990-91 (Table 2). Third, expenditure on health and social security and welfare is kept low, with emphasis on individual or family provision. This is achieved by extensive government intervention on both the demand and the supply side of health care. The objective is t.o price health services as near to true economic cost as possible. with provision made for the most needy. As a result government's health expenditure has declined from 1.64 percent of GDP in 1981 to 1.0 percent in 1990-91. Whether affluence, rapid ageing, longer life spans, and commercialisation of health sector particularly evident since the mid l980s will allow this trend to continue remains to be seen, Difficult choices between equity, efficiency, affordability, and needs and demanJs concerning health care lie ahead. The question of social security is discussed in Section V. Fourth, since the late 1960s, providing affordable good

78 TABLE 2: Singapore, Level and Composition of Government Expenditure, 1990-91

[ J Asa Proportion of Amount Per capita Total h Categon' b.xpen- Fxpendilure GD!' ot SS) plus Net

(SS) I endrng

Aggregate Expenditure

1. Iota! expenditure plus flet lending 14,414 5,340 1000 22 2! 2. Total expendbure 14.223 5.258 985 21.87 2.1 Current expenditure 11)867 4.017 75 2 16 71

2.2 Capital expenditure 3,356 1,241 232 5 16 3. Net lending 221 1.241 232 16 Functional Expend itureL 4 General public services 897 332 6 2 1.3 5. Defense and public order md safety 3.915 1.447 271 () 02

6. [ducation 2.82$ 1,014 19 5 434

7. I Icalth 652 241 1 S I 00 8. Social security

and welfare 300 111 2. I 0 Ii,

9. 1 lousing and community amenities 1.121 414 78 1.72 10. Economic affairs

and services 2.362 873 16 4 3.63

11 Interest on public debt 2.021 747 14 0 3.11 Expenditure by Economic TypeC 12. Expenditure on goods and services 7.193 2,659 498 11.06 12.1 Wages and salaries 3.781) 1,397 26.2 5.81 13. Subsidies and other current lran.sfer's 1.653 611 11.4 2.54

79 tw)tes:

a) Based on resident population of citizens and permanent residents of 27051 miUion in 1990 b) GDP in 1990 equalled million Singapore dollars

C) Includes net lendIng. Details ray not add up to ire total as some items have been omitted

Source: Calculated from MF Government Finance

Yearbook, 1992 Washington D.C IMF. 1993 Republic of Department of Statstics Yearbook of 1992 Sinoaoore 1993 table

2.1, p 29 quality public housing has been on important goal of Singapore government in this the government has achieved remarkable success (see footnote 9; The government, acquired the land at below market prices but it passed on this low land cost, until recently. to the public; while simultaneously ensuring that the Rousing and Development Hoard (HDB) and other such. bodies had management culture and expertise to build good quality housing at relatively low cost on a mass scale The CPF scheme provided the means to the general public to purchase public housing; and the centralised nature of the scheme meant negligible default rates. If also made available enormous amount of data which could be used for social errn"ineering and economic planning. in the first half of the 80s when the public hc.ising program was so expanding rapidly, net lending was an important item of expenditure (it accounted for 8.67 percent of GDP in 1985-86). But with the program now at a lower level, and because of revision in pricing and accounting procedures of the HDB, net lending has become much lower, accounting for only 0.34 percent of GDP in 1990-91. Fifth, even though government has had an overall budget surplus since 1968, and its external debt is negligible (less than 0.04 percent of total in, 1992) the interest expenditure in 1990-91 was equivalent to 1 percent of GDP, or 14.0 percent. of total expenditure plus net lending (Table 2). Singapore's internal debt has increased from $19,855.7 million in 1982 to $67,228 million in 1992 (Republic of Singapore, Department of Statistiès. 1993, Table 13.5, p. 254). This debt is issued in the main to satisfy the statutory requirements of the financial institutions, including of the CPF. Indeed, almost all of CPF' assets of S$51,526.9 million in as at end 1992 were in Singapore government securities The government in turn invests these funds at home and abroad, though the details of portfolio are not made publicly available. Sixth, in 1990-91, wages and salaries accounted for 26.2 percent of total expenditure plus net lending or 5,81 percent of GDP. The government considers it essential that it is able to attract highly qualified technical and professional manpower. It is willing to provide them with competitive compensation package. At the same time,

81 productivity, performance and behaviour of the civil servant is closely monitored to ensure efficiency and minimize rrobiems

IV. PUBLI C ENTERPR ISES AND PRIVATIZATION As noted, public enterprises has played an extensive role in Singapore's economic development. As Tan has argued... since the 1960s, statutory boards have played a catalytic role in spearheading new activities and identifying th. a the governIntnt s elopiiieiit for the private sector to follow through (1992, p. 13), rI\\,O main types of public enterprises in Singapore are boards and government linked, companies (GLCs). Statutoty hoards are autonomous organizations set up by specific Acts of Parliament. Their autonomy permits greater commercial flexibility. Recently, the inland Revenue Authority, which collects income tax, property tax and other mainly direct taxes, have been turned into a statutor\ authority Almost all infrastructural, promotional, and public utility services are provided by statutory authorities in Singapore. While they enjoy managerial flexibility, they are controlled by a small group of in dlv id u a is The activities of the statutory boards are complemented by the GLSs which are in turn owned through three major holding companies. They are Thmasek, Singapore Technologies and Ministry of National Development, MNI)

82 Holdings. The GLCs are also controlled by a small number of individuals. Recent Initiative of the government to develop an external economy is also being led by the stat utory hoards and GLCs. In particular, Singapore Keppel Corporation, TDB Holdings, and Singapore Thlecom have been aggressively expanding abroad, often in partnership with private sector firms. Moreover, public enterprises are not confining their activities to a particular area as evidenced by the Singapore Technologies venture teaming up with others to operate a family-dining chain across ten countries (Straits Times, Singapore, October 1993, p. 40). Statutory boards and GLCs have been prodded with task of absorbing technology and becoming a counterweight to the multinational enterprises. They have also been in the forefront of promoting use of information technology, and spearheading science and technology, through Research and Development (R and D). The government has kept the subsidies to public sector enterprises at minimum; and has set benchmarks for them which not only retain but improve on Singapore's international competitiveness. At'the same time, potential entry in the domestic arena and regulatory policies have been managed in such a way as to permit public sector enterprises to obtain high level of profits essential for upgradatlon.

83 The issue of public.private mix and privatization has also been discussed in Singapore. But privatization is an elastic term and a variety of measures are usually included under this term (Figure 1) Singapore has emphasized cost recovery, user fees, corporatization and partial divestment., divestment without giving up control among the various aspects listed in Figure 1. Government's privatization program, spelled out. in a 1987 of the Divestment Committee. is designed to broaden and deepen the stock market It is also designed to permit relatively younger middle level technocrats in the civil service more advancement opportunities, thus helping to retain them in the public sector It does not envisage privatization as a way to spread risks associated with choosing technologies, markets, and products or to introduce a different management culture. The program is also not being envisaged to promote local private firms, Instead, these firms are encouraged to team up with government enterprises both at home and abroad. It should be stressed that the impetus for divestment in Singapore has not come about because of such traditional reasons as the lack of technological dynamism, inefficiency, or drain on budgetary resources by public enterprises. indeed, government enterprises have continued to expand scope of their activities, and their number has also been increasing. As their number and scope expand, there will be increasingly need to co-ordinate their decisions and activities, so as to prevent macro-economic failure and to ensure that their

84 FIGURE 1: Classification of privatisation measures by operational area of impact MARKETISATION Thc whole range of market oriented tranformation initiatives AFFECTING OWNERSI lIP PERFORMANCE FINANCE

1)IVESTMENT CONTRACTING -OUT USER PAY The transfor of An external entity The main reliance ownership by: is paid to perform is on financing a service by the users. Private offer of shares AGENCY COST RECOVERY The of the The consumer is Public offer of performance to a called to finance shares subject who acts in more heavity the name and on behalf of current operations Restricted the SQL of the firm. or lease of assets. eg. land MANAGEMI/NT/ FRANCHISE CONTRACTOR EQUITY l;MPtX)Yl;1. 'the lease of the FINANCING: I3UYOU1' (M130) enterprise to a Build own and Ownership is trans- firm who pays to operate (BOOS) ferred to a group acjuirc the right contracts: "Build of managers and/or and hear all the own, operate and employees of the ontrepreneurial transfer' (l3Of')Ts) firm, effects. ctsntracis

I ,I:VLRAGI/l) MBO Ihe MIlO if financed through credit from the financial sector c,r by the seller itself (the state). EMPLOYEE STOCK OWNERShIP PLAN (ESOP) Special financial arrangement promoted by the to minimise the financial burden to the employees. Dilution of Ownership Allowing new private investments in the 501'.

85 FIGURE 1

ORGANISIVI ION BUSINESS ENVIRONMENT CORPORATISATION IJBERALISATION The transformation of Any measure aiming to a government body in increase competition a Companies Act and provide freer

&. olupans access to Inc market

PERFORMANCF AIEI) I)EREGULA1 ION INCENTIVES The removal ot government imposed restrictions MEMORANI)ItM 01 on any level or AGREEMENT (MOA) type of economic Agreements between activily. PEs and Government fixing objectives and [)EMONOI'OI ISAl ION other aspects of a Pt the removal of rules or group of Pls ensuring monopoly n

quasi - m mu market I:RAGMENLVI ION by non-renewing Ihe breaking ttçi Ot a investments aid altowimig Firm in a number 01 investments torn pile entities the private sec-tot

Source: Adopted fiom Asher and Strazzullo, 1992, p 138

86 activities are consistent with public interest objectives.

A strong case can be made that in the Singapore context, its privat ization program will make the role of govornnient oven and more exten ive This because there is an overall budget surplus. so the divest ment proceeds are not needed to either reduce taxes or expand expenditure. Instead, these can he invested at home and abroad. Since divestment of such public enterprises as Singapore Telecom, Singapore Airlines and others has usually been partial which allows retaining control by the government even as divestment, proceeds give greater control over financial wealth to the government. If this wealth is used to rationalise public sector port folio, overtime the public sector could emerge stronger. This is likely to be the case in Singapore Thus. public enterprises will continue to play a dominant role in Singapore. The government will continue to regulate competition to ensure adequate profits to hose enterprIses; linking efficiency with international cornpotit iveness and trying to achieve them through administrative and political leadership. Producer interests will continue to receive priority over consumer interests.

V THE CENTRAL PROVIDENT FUNE) The publiclymanclated arrangements for providing social security in Singapore consist of the Cent ral Provnient F'uncl (CPF) system and an extremely limited program of public assistance. Among the high income countries,

87 Singapore is alone in adhering to the provident fund mechanism; others use a combination of social insurance, social assistance and social allowance in their social security arrangements. The government is determined to continue the present system as long as possible. Affluence, demographic transition such as rapid ageing and below replacement rate fertility levels, and political aspirations ftr participation, particularly by the aged, could significantly influence the outcome, however.

The CPF system which began in has evolved since then to become the dominant social security institution in Indeed, a wide range of schemes under it, including home ownership, investment, health care, various types of group insurance along commercial lines, and others, have been introduced over the years (Table 2). As a result, the mechanics of the system have become exceedingly complex in spite of being a compact. city state, in 1990

The CPF is financed through mandatory contributions from employers and employees. The rate of contribution since July 1993 has been 18.5 percent for the employer and 21 .5 percent for the employee. The rates are however expected to he equalized at 20.0 percent each by July 1994. Such high rates are designed to generate forced savings for housing, health care and other needs during the working life, and still have sufficient amount left over for retirement. Even then in 1992, average balance at the withdtawal age of 55 was oniy $24,223, insufficient to

88 finance retirement (Republic of Singapore, Department of Statistics, 1993, Table 12.16, p. 234). The CPF system, however, does not provide protection against inflation, or against longer than average span of life. The government is to extend the retirement age to 67 in two stages from the present 55, thus reducing the number of years for which retirement financing will be needed. While the tax treatment on contributions, interest accruals, capital gains from approved investments, and withdrawals is generous. the rate of effective return is positively correlated with the marginal rate of income tax. Thus, the system is quite regressive. This will become even more so when GST is introduced, as then half the households will get no tax benefits as they will not be liable to income tax. Also, as the GST is expected to lead to a one-time price increase of at least 3.0 percent, this will act as a tax on CPF wealth as their real will be reduced. Since the interest paid on CPF balances was made dependent on the average of relatively short-term interest rates, eventhough the CPF funds are of a long term nature, the variable interest has often meant near zero or even negative real rate of return, particularly if the market basket of the elderly is considered This could adversely impact on social adequacy of the scheme. There is also an implicit tax on CPF balances. I)ue to the budgetary surpluses of the government, balances are largely invested abroad, but the probable higher real rate those investments is not channelled back to the CPF members.

89 TABLE 3: Various Schemes under the CPF, by 'LS'pe and Year of introduction

Ycar Pt Schcrne lot r idiiccd

I inc ) Approved I lousing Scherni

to sip ti ) Approsed Resident iii

0 iii' rtv Sch mc I I

Ins est men t ) St tlgaporc Rus Sers ics

I 97M ) ltd Share Scheme 1978 \[pt liestitiiitt Sclictnie iii) Appr.iseil Non-Residential

I'riipci tics Scheme (AN PPS ) 986 Share ownership lop-up Sehenie 1993

Insurance i) 1 ionic Protection Insurance Scheme 1982 Depertdcn IS Protection Insurance Scheme 1989 uij Medishield Scheme 1991)

)thcrs I) ( onlpanv Through

I in Contribution ((OWIC) scheme'1 1984 it) Medisave schemeb 1984 iii Minimum sum scheme 1987 lopping-up of the Minimum Sum scheme 1987 v) Ii nancing ot Tertiary Lducation in Singapore 1989

:Voies: a) Present status of the scheme is unclear. b) From July 1.1992 all self-employed people who earn more than S$2,400 a year must contribute to the Medisave, The initial rate is 3.0 percent for all income groups. This rate will be raised by one percentage annually until it reaches 6.0 percent.

90 The above suggests that the CPF system has objectives wider than the provision of social security. Through the CPF, the government seeks to influence the avenues of consumption and savings, as well as to exert enormous social, political aiid economic control. It also puts almost exclusive reliance on individual or family for the provision of social security. Thus, the CPF system is consistent with the philosophy of the Singapore government concerning the role of the state. The CPF also permits conservative macroeconomic policies, as it decreases the level of consumption, and allows socially desired allocation of income. Lower income tax rate made possible by state supported social security allows internationally competitive income tax policy to be pursued. High contribution rates could however increase labour costs to uncompetitive levels as happened in Singapore (luring the first half ot the I 9&)s.

The ('PF system is a flexible instrument. 1 tius it the izovcrnmcnt does decide to tnt roluce nudest social insurance elements, the svsteni can he easIl\ nuditied to cct.mnudatc. them. Thus, the catastrophic medical insurance scheme. culled the Medishield scheme, at present covers only a hundlul of diseases: its coverage stops at age 70: its insurance irments ate not related to income hut to benefits arc Ii rn ted i ri

amount; and it is not . Making the henme compulsory, extending the age and dollar limits and the ii umber ci diseases covered, could he easily done Ihrough '.ociaf insurance type arrangements. Thus, CPF pru\ a firm basis fir more social security system more appropriate tot

9 1 an affluent society. The government has shown a high degree of pragmatism and innovativeness when particular challenges have arisen, and it is like!) to do so in this case as well.

VI. CONCLUDING OBSERVATIONS This paper has analvted the role ol the slate in Singapores remarkable rise to an affluent society in about three decades. The state has played an extenstve role, while its policies have been increasingly economy - centered. Singapore was among the first Asian countries to a production base. Ii thus was able to capitalise on the waves of outward investnicnt from U.S.A., Europe and Japan to Asia The state not only ensured that multinational operations were highly profitable, hut it also undertook to build social and political cohesion among the elites; and took vigorous steps to ensure hal Singapore prepared for the next stage or level of developmeriL In the process, it depended on spotting and profiting horn new activities and niches. This required exien'Rc, powerful, hut efficient planning and execution apparatus As argued in ihc papet , the same policies and type ol of the state which Singapore has pursued so far. could lead to opposite results under difterent conditions and under different political and adrntnistiative structures. As Singapore becomes accustomed In its affluence, and as amenities, including adequate social security atid political and inie!Icetual space, become important. the role of the state would need to undergo modifications, and this will he an important challenge to the polieymakets.

92 REFERENCES Asher, MG., 1993. "The Proposed Goods and Services Tax (GST1: Implications for Singapore's System", WIRC 11, 6, .lunc, pp 212-220

Asher, MG., 1989. "Fiscal System and Practices in Singapore", in MG. Asher (ed), Fiscal Systems and Practices in ASEAN, Singapore: Institute of Southeast Asian Studios, pp. 131-183. Asher, MG., et al., 1992, Fiscal incentives and Economic Management in indonesia, Malaysia and Singapore, Singapore: Asian-Pacific Tax and Investment Research Centre.

Aspe, P. and J.A. Gurria, 1993. "The State and Economic Development: A Mexican Perspective", Proceedings of the World Bank Annual Conference on Development Economics, 1992, pp. 9-14. Brown, 1)., 1993. "The Corporatist Management of Ethnicity in Contemporary Singapore", in C Rodan (ed.), SingapJre Changes Guard, Melbourne: Longinan Cheshire, pp. 16-33. Dhanabalan, S., 1993. "The Economic of Government", The Straits Times, (Singapore, August 29, 1993

The Economist, (London), 1993. "Privatisation", August 21, pp. 16-18.

93 Friedland, .1., 1993 'Necessary Caution", Far Eastern Economic Review, August 19. p.. 12. Helm. D., 1989. "The )ktonomic Borders of the State", In I) If rim ted I. The Ecunc'snic. Burifrro of the S/ak, Oxford. Oxford University Press, pp 10-45. Lee, T.Y., 1992. "EconomIc Restructuring Policies in the 1980s" in L. Low and M.H. 'lbh teds.), Public Policies in Singapore, Singapore: Times Academic Press, pp. 12-29. Lim, C.Y. and Associates. 1988. Policy Options for the Singapore Economy. Singapore: Mc Craw-Hill Book Co.

L.. 1993. "The Public Sector In Contemporary Singapore: In Retreat". in C. Rodan u'd.), Singapore ('hangs's Guard. Melbourne: Longman Cheshire, pp. 16$ 183.

Margolin, •J L. 1993. "Foreign Models in Singapore's l)evelopment and the Idea of a Singaporeen Model", In G. Rodan ied. I. Singapore Changes Guard. Melbourne: L.ongman Cheshire, pp. 84-tOO. OECD, 1992. Revenue Statistics of Member Gountries, 1965.1991, Paris OECD. Ow, C.H., 1986. "The Role of Government in Economic 1)evelopment: The Singapore Experience", in C Y. Urn and PA. Lloyd (eds.). Singapore: Resources and Growth, Singapore: Oxford University Press, pp. 221-267. Ramesh, M., 1993. "Economic Globalisation and Domestic Policy Choices", Processed. Republic of Singapore, Advisory Council on the Aged, 1988. Community. Based Programmes for the Aged, Singapore. Republic of Singapore, Ministry of Trade and Industry, 1993. Economic Survey of Singapore 1992, Singapore.

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95 CH., 1992 "Public Sector Past Achievement and Future Challenge", in L. Low and MW Toh (eds.), Public Policies Singapore, Singapore: Times Academic Press, pp.

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Yoshihara, K., 1976. Foreign investment and Response, Singapore: Eastern Universities Press

96 TIlE ROLE OF THE STATE IN ECONOM IC RESTRUCTURING AND DEVELOPMENT: The case of Thiwan

JOSEPH S. LEE Professor, Vtce President ('h ung-Huo fn.stitutzon for Economic Research 7hipei, TAIWAN

INTROI) UCTION

What role should government play in economic restructuring and development? Three different roles have been posited: the free market approach, the simulated free market, approach, and the governed market approach.

The free market approach argues that there is only a very Itmited role for the state to play in economic

97 development. That role is to remove distortions in the function of markets, to improve the allocation of resources, and to enhance the prospects for growth. Generally, these measures have involved he restructuring of price procedures into a more markel.orient-d approach. The World Bank and the 1MF arc fervent promoters of this approach They strongly believe that the market mechanism can help to achieve efficiency and. hence, rapid rates of economic growth. In a 1983 study, the World Bank showed that the average anniial growth rate of developing countries with low price distortions in the 1970s was above seven percent, two percentage points than the overall average. However, there is plenty of evidence to show otherwise For example, the exchange rate is a type of price. If free market theory holds true, one would expect, that countries with high distortions in the exchange rate would have low rates of growth. Available data, however, confirm that, Korea, with a very distorted exchange rate, experienced a very high rate of economic growth (Wade, p. 19). In a recent position paper, the Japanese Overseas Economic Cooperation Fund (OECF) argued that the World Bank approach is too simplistic and always proposes the same formula to all developing countries without taking into consideration their special conditions. They argue that there a useful role for state intervention because the removal of restrictions on the private sector does not automatirally improve and stimulate the investment climate. Additional measures are neeled to achieve this

98 purpose. Protection of infant industry fbr a period of time is also necessary for developing countries However, the government needs at the same time to guard against the negative effects of protective measures. The government should identify promising industries and withdraw protection as soon as its goal has been achieved. Government intervention is needed sometimes because in developing countries certain sectors of the economy are underdoveloped. The free market mechanism thus does not work For example, financial in most developing countries are quite underdeveloped (Shimizu 1993) In a more recent study, "East. Asian Miracles--Economic Growth and Public Policy" (World Bank 1993), the World Bank once again shows that eight Asian countries (Japan, Korea, Taiwan, Singapore, Hong Kong, Malaysia, rphailand and Indonesia, the so-called HPAEs, or High-Performance Asian Economies) which enjoyed rapid rates of economic growth during the last three decades achieved them precisely because of the free market operation promoted by their governments. However, in this study, their position is modified to say that the state can play a useful role in promoting export industries, and should intervene in certain areas if the market mechanism is clearly not functioning efficiently the government withdraws its intervention as soon as its goal is achieved (Shiminzu 1993). In short, the World Bank is no longer taking a pure neo-classical free market approach. Instead, it is taking a modified free market approach, or in

99 Professor Wade's terminolo a 'simulated" free market approach, i.e., the deliberate distortion of some prices which causes the market to function in a way more closely resembling a free market, tLus raising growth rates.

Finally, some argue that government intervention is needed to promote high rates of economic growth. For example, the state should pi .y an active role in setting priorities for economic growth, in channelling investment into certain key industries which may not occur in the absence of government, intervention, and in promoting foreign trade through incentives, controls, and mechanisms to spread the risks, These policies enable the government to guide the market process of resource allocation so as to produce a different production and outcome which would not have occurred under either the free market or simulated free market approach

In short, industrial policy and government intervention is useful. Professor Wade cites the Taiwan ease and argues that the Taiwan government utilizes the persuasiveness of incentives and controls on private firms through import restrictions, entry requirements, domestic content, requirements, fiscal investment incentives, and concession credits to achieve the promotion of export-oriented, labor-intensive industry (Wade 1990, p. 113.) Similarly, Amsden points out that in Korea the government used trade protction, selective credit sub:idies, export targets

100 (for individual firms), public ownership of the banking sector, and export subsidies to build their industries to make them competitive in the international market (Amsden 1989L

These arguments are not free of criticism either, however, because some of the evidence presented by these two writers is contradictory and some is not convincing For example, Snape argues that both writers failed to show clearly whether or not the various intervention policies adopted b the government actually cancelled out the targeted negative effects, making them neutral (Snape 1991. Rodrick 1993, p. 24.) The purpose of this paper is not to engage in academic debate as to which approach is the most appropriate government role in development Rather, Thiwan is analyzed as a case study to illustrate that during its process of economic development, the Thiwan government has certainly taken an interventionist role in trade and industrial development, while it has retained a hands-off stance in other areas, e.g., the labor market. In fact, several prominent economists such as Professors Hsing and Thiang have argued fervently that the protective measures the government adopted in the 1970s are the very causes of Thiwan's serious economic problems of recent years (Hsing 1993, Thiarig 1991).

101 THE ROLE OF THE STATE IN TAIWAN'S DEVELOPMENT

During different stages development the government on Taiwan has played different roles. By and large, the government intervened more in the early stage of development than in the stage In general, the government played an active role in the following three areas (1) maintaining a stable macroeconomic environment for favorable investment, (2) use of public enterprJses to provide income for the government to help provide social services to the public, and (3) promoting targeted industries and exports through industrial policies and other measures.

A. Tight control of inflation One of the most important reasons why the Nationalist lost its control over mainland China was hyperinflation Thus, when it retreated to Taiwan in 1949 it was in the midst of hyperinflation, attested to by the fact that the rise in the wholesale price index was as high as 3,406 percent. in 1949 and 305.5 percent in 1950. In order to bring the hyperinflation under control, the government took several steps, including reform of Taiwan's monetary system by converting the Taiwan dollar into the New Taiwan dollar, and the selling of gold to the public in order to build n citizens' confidence in the NT dollar. It also drastically '.aised the interest rate to 7 percent monthly or

102 a compounded 125 percent annually. drastic increase in the interest rate proved very effective in curbing inflation because the WPI dropped to 66 percent in 1951. 23.1 percent in 1952, 8.8 percent. in 1953, and has remained at a low level since, except for during the two oil crises. In short, the government was able to keep the average inflation rate at 7.6 percent between the period 1953 and 1962, 1.8 percent between 1963 and 1972, and 6.1 percent between 1973 and 1988 (iTuang 1992) B. Using the exchange rate to discourage consumption and to encourage exports In the ]950s, Taiwan adopted a very complex multiple exchange rate system. The system established differing exchange rates between the New Taiwan dollar and the U.S. dollar for different trading agents and for different purposes. For instance, the exchange rate for public enterprises importing raw materials in 1956 was set at N'rs18.75 to one U.S. dollar. For private firms importing luxury goods, the rate was NT$24 to the U.S. dollar, in 1958, or,& U.S. dollar earned through the export of manufactured goods could be exchanged for NT$36.08, while for the export of agricultural products the rate was NTS2.1 The purpose of this exchange rate system was to discourage consumption and to encourage the development of Taiwan's public enterprises. In the 1960s, the government abandoned the multiple exchange rate system. For the next two decades, however, the

government, maintained an i ritent ionally undervalued

103 exchange rate in order to facilitate Taiwan's exports C. Encouragement of savings During the early period of Taiwan's development, in order to encourage investment in both the public and private sector, the government maintained a low interest rate policy The effect, though, was that it failed to induce the population to save and were insufficient. funds channelled into the capital markets In the late 1950s, the government dropped the low interest Tate policy The net effect was that not only did savings increase, but inflation dropped as well. D. Protecting infant import.substitution industries

In the I 950s and I 960s, the government adopted a protective industrial strategy by raising the import tariff to more than 30 percent and imposing strict import controls. The government also used the multiple exchange rate system described above to protect the import-substitution industries. E. Using the public enterprises to finance state activities and to provide infrastructure at a low cost The importance of public in Taiwan's econon'ic development can be seen from Table 1. In 1952, public enterprise production accounted for 56.6 percent of total value-added, 56.2 percent of total value-added for the manufactuiing sector, and 100 percent in the utility

104 industries. The importance of the state enterprises steadily declined as the economy developed, and by 1992 its share of total value-added was only 18.0 percent. However, it is important to note that the decline of the importance of the state enterprises is not because its number declined (there were 13 state enterprises during the 1950s and 1960s, 14 in 1970s and 10 in 1993); instead, it is because of the rapid expansion of private enterprises (Chao 1992, p. 308). These public enterprises performed the following functions for the country:

TABLE 1: Distribution of Industrial Production by Ownership (based on value-added at 198! prices)

lot a I Manufacturing I. I ect r icily, Period ThIal Private PuNlic lotal Private (ias & Water

1952 100.1) 43.4 560 100.0 438 So 2 1000

1960 101)1) 52.1 47 9 100.0 56 2 44 100 0

1971) 100.0 72.3 27.7 00.0 79 4 2(1 o 99.8

1980 100.1) 79.1 20 9 100.1) S 4 99.9

1985 * 100.0 81.2 18 8 1011.0 88 0 12 I) 11))) 0

1991). 100.1) 81. 1% 7 100.1) 89.3 0 1(10.0

1991. 1011.0 81.9 18.1 100.0 90.0 100 000

1992* 100.0 82.0 18.0 100.0 90.0 100

* Based on value-added at 1986 prices. Source: Taiwan Statistical Data Book, 1993.

105 1. functwn. Public enterprises such Taiwan Power Corporation and China Petroleum Corporation provided the private sector urgently needed energy. Other public enterprises such as China Steel Corporation

and China Petroleum Corpora t ion are upstream industries which provide downstream Private such as those in shipbuilding, machinery, and construction, and the automobile and chemical industries with industrial inputs at reasonable prices. In addition, maintaining the enterprises in the public domain allowed the government to provide employment for the citizens of Taiwan in the early years of economic development, when unemployment rates were very high .Yu 1993).

2. Financial function: The surplus earned by public enterprises was an important. source of income for the government For example, during the I 950s, revenue from state enterprises contributed 21.4 percent of the central government's income, 24.7 percent between 1960 and 1980, and 18.8 percent between 1980 and 1989. State enterprises were also important in earning foreign exchange for Taiwan during its early development stage. For example, between 1.953 and 1963, sugar consisted of half of total exports (Chao 1992, pp. In the 1970s when the private sector expanded very rapidly, the state enterprises' role in this area become smaller and smaller. In recent yeart it has even become a burden for the state treasury because they have outlived their function and many are in deficit. The government is seriously

106 considering privatizing some of these state enterprises, although it has encountered serious opposition from employees within the firms and some legislators on the outside out of concern for their own interests.

3. Social function: The government-owned railway system and other transportation systems owned and run by various levels of the government helped the government to provide low-cost transportation services to the public (Chao 1992 and Yu 1992). Besides these functions, state enterprises also contribute to the function of national defense, including such enterprises as China Steel and China Shipbuilding, and the promotion of relations, such as Taiwan Power and Taiwan Sugar Corporation by providing developing countries with agricultural and other technical assistance.

F. Promoting the development of industry through industrial policy It is well known that one of the key factors contributing to the success of Taiwan's economic developnierit is the development of the industrial sector. The reason behind this success is that the government adopted an industrial policy appropriate for Taiwan's advantages. That is, it was labor-intensive and light industry. oriented, and it focused on exports. These policies helped to create a large number of jobs for Taiwanese workers and to

107 generate a large amount of foreign exchange. Thble 2 demonstrates that employment in the agricultural sector was more than 50 percent in 1962, hut by 1992 had dropped tr close to one-tenth. Employment in manufacturing increased correspondingly from 12 A percent to 30.1 percent during the same period

The specific measures foi promoting labor-intensive industries are many of the most important ones in the Statute for the Encouragement of Investment (SEI) which

TABLE 2: Employment by Industry

Period Agriculture Manufactu ring Communications

1952 56 1 12.4 10.6 1960 50,2 14.8 10.0

1970 36 7 20.9 13.6 1980 19.5 32.6 16.0 1985 17.5 33.5 18.0 1990 12.8 32.0 19.7 1991 12,9 30.9 20.4 1992 12.3 30.1 20.7

Source.- as Table 1.

108 was implemented in 19G0. Its goals were to encourage investment, savings, export promc)t ion, profit assurance, and production expansion. According to the SEI, a five-year tax holiday, an enterprise tax ceiling of 18 percent, an exemption of personal income tax on interest revenue from time deposits over two years, a maximum of two percent taxable income deduction fur enterprises' export earnings, and an exemption on business tax for exporting enterprises were available for businesses The SET was amended in 1971, thereby expanding its goals to include the encouraging of merger and pollution controls. Benefits under this program, in addition to the original ones, were expanded to include a five-year tax holiday or an acceleration on depreciation of equipment and machinery, a four-year tax holiday on expansion of equipment, a 35 percent income tax ceiling, a deductible income tax on R&D expenses, and a ten percent deduction on enterprise tax for export enterprises two years after a merger or consolidation. The SEI was amended again in 1980 to promote capital- and-technology intensive industries.

G. The development of a well-educated workforce A well-educated workforce is one of the most important factors in Taiwan's rapid economic development. As a latecomer, Taiwan has had the advantage of being able to learn and borrow advanced technologies from the industrialized countries at a low cost. In order to take

109 advantage of all these benefits, workers in Thiwan must have the ability to learn and adapt, Thus, education is important. Throughout the last forty years the government on Thiwan has indeed paid special attention to the development of a well-educated workforee. In primary education, the government implemented the National Constitution in 1945, making primary education the national education system, , free and compulsory for children between 6 to 12 years old. The enrollment ratio reached more than 90 percent for boys and 70 percent for girls in 1950. Universal enrollment was accomplished in the early 1950s for boys arid in the 1960s for girls. Thus, as Thiwan was embarking on her economic development effort, the goal of enrolling almost all school-age children into the national education system had already been accomplished. In secondary education, the expansion of junior high schools was very impressive in the postwar period. The annual rate of increase in enrollment was 14% during the 1951-55 period, 12% between 1956 and 1960, 16% between 1960 and 1965, and 13.3% between 1966 and 1970. The rapid expansion of enrollment in junior high schools in the 1950s and 1960s prepared the workforce needed for development and the rapid expansion of in the and 1970s.

The senior high school system can be divided into two types: acad senior high schools (ASHs) and vocational

110 senior high schools (VSHs). The purpose of ASHs is to provide students with a general academic preparation, and its curriculum eniphasizes the development of students' ability to read and to write, and basic knowledge in natural science. The VSHs are intended to provide students with a technical education.

In 1950, there were more students in ASHs than in VSHs (in 1950 the ratio of graduates of ASHs to VSHs was 1.7:1), however the government decided to expand VSHs in order to provide the skilled workers necessary for industrialization. As a consequence, the government limited the expansion of ASHs, and encouraged the expansion of VSHs. The share of VHS graduates among all high school graduates consequently rose rapidly. For example, in 1988 the ratio of graduates of ASHs to VSHs was 1:2, whereas it was 1:1 in 1975. (Statistical Data Book, 1989, and Administration Situation, 1984, p, 174 Not only are more students found in the vocational track within the senior high school system, hut there is also a shifting of students within vocational high schools from agricultural and other areas to the industrial field. For example, in 1950 agricultural students made up 37 percent of all vocational graduates, while only 22 percent. were in industrial fields, and 32 percent were in commerce and other related fields. The figures were 1 0 percent, 36 percent, and 43 percent, respectively, in 1970. Thday, close

111 to half of vocational graduates are in industrial fields, and only 10 percent arc in agrieultural Thus, \THSs have become a major supplier of skilled and tishnical workers in Taiwan

Development of Higher Edo cat' on During the last three decades, the nuinher of students enrolled in post-secondary institutions liar increased rapidly in 1952, only three percent of 18 to 21-year-old males and an insigni flcant proportion of females in the same age bracket were enrolled in post-secondary institutions. '('he ratios increased to eight percent and three percent, respectively, in the mid-1960s, and 12 and 7 percent in the rnid.1970s. By the inid-1980s, there were more college and university students per ten thousand persons in the population in Taiwan than in and the U.K., though the number was still lower than in the U.S., and South Korea. (Taiwan's Mid. and Long-Range Manpower Planning, 1986, p. 19.)

ROLE OF STATE IN RESTRUCTURING TAIWAN'S ECONOMY IN TIlE 1980s

Durng the latterpart of the 1980s, Taiwan's currency (the N .T. dollar) appreciated by 30 percent, wage rates rose by 80 percent, and the price of land skyrocketed. As a consequei: Taiwan lost its compa 'ativn advantage in

112 labor-intensive products. In the search for new comparative advantages, many businessmen from 'fiuiwan have relocated their factories to other low-wage areas such as Southeast Asia and mainland China. Available figures show that in 1992 the total amount of cumuLative direct investment from Thiwan to mainland China was US$689 biLlion (6 percent of the mainland's total DFI lnflow$t)BS Bank 1993), and the amount of investment from Thiwan to countries in Southeast Asia was US$15 billion. Most of this investment has been in labor intensive industries In order to survive, the government must restructure 'Ikiwan's economy, helping capital- and technology-intensive industries predominate in the economy. The government on 'Ihiwan has adopted the following measures to help restructure the economy. A. Development of the Six-Year National Development Plan In order to upgrade Thiwan's Infrastructure, the government on Thiwan has launched a US$300 billion Six-Year National Development Plan. This is one of the most ambitious infrastructure construction plans in the world. It has subsequently attracted many foreign companies to Thiwan in search of a piece of the pie The government also wants to use this plan to hasten technology transfer and the transforming of Thiwan two an Asia Pacific regional operations center for international corporations. For this reason, the government has

113 announced that bidders for Six-Year National Development Plan projects must contribute a certain percentage of' the value of the construction project for the purpose of procuring local equipment, transferring technology to local companies or making other types of local investment The government aims to bring US$1 billion more in foreign procurement, technology transfers, and investments to Taiwan to accelerate the restructuring of Taiwan's economy. In the case of the fourth nuclear power plant project, for example, the government has announced that bidders for this US$6.7 billion project tnust agree to set aside at least 1 5 percent of the project. costs as offset credit, of which 60 percent will be used to procure local equipment, and the rest will be used to transfer technology or other investment to Taiwan In another project to procure aircraft, Boeing, Mc[)onnell Douglas, and other U S manufacturers were required to set. aside US$8 million in offset credit before the government approved the procurement of their aircraft. As a general rule, the amount of offset credit cannot be in the production costs of the project.

13. Promoting Taiwan as an Asia-Pacific regional operations center for multinational operations Recognizing that Taiwan strategically located in the Asia-Pacific region, the government has proposed transforming the island into a regional operations center for international corporations. The concept of an

114 operations center can include many things, including the idea of making Thiwan into an Asia-Pacific R&D center, a high-tech products manufacturing center, a center for the development and testing of new products, a personnel training center, and a strategic alliance center. C. Promoting the Development of Strategic Industries In order to choose winning industries for development, the government uses the so-called '2-high, 2- large, and 2-low" criteria. In other words, strategic industries are deemed to be those industries which are high in technology intensity, high in value-added, large in market potential, large in industrial linkage (forward and backward), low in energy consumption, or low in pollution. government offers preferential treatment for these industries as outlined below. The majority of these items are in the machinery industry and the electronics Today there are more than 200 items listed as strategic products. The benefits to the involved firms include:

1. Assistance from the government Firms which meet the criteria of a strategic industry can apply for assistance from the Industrial Development Bureau and the government may subsidize up to 50 percent of the total assistance costs. Types of assistance include financial management, quality control, production management, material management, marketing, in service training, and design assistance.

115 2 Low interest loans

A fund of US$250 million was set up in 1982 to provid€' low interest loans to firms in the strategic' industries The of the fund has been increased from time to time and it flOW amounts to US$12 5 billion, These low. interest loans are used by firms to purchase machinery. Preferential tai treatment

Firms in the strategic industries are allowed a five.year tax holiday on their enterprise income tax kr new investment or they may choose accelerating depreciation for the new investment In addition, firms in this category face a tax ceiling of 20 percent

4 Benefits of R&D work

Article 21 of the SEI stipulates that if an enterprise imports equipment or machinery specifically for R&l) work it may be exempt from import tax. Experimental R&D expenses utilized for improving productive tech or in the development of new products can be deducted from the taxable income of the current year.

D. Establishment of the Central Satellite Factory System

In Taiwan the economy is dominated by small- and medium-sized businesses. For moving into high-tech

116 industries, their economic scale is insufficient. Therefore the government wants to develop the central satellite factory system (CSF to help small firms integrate and coordinate their activities There are thrre types of CSF The first type of CSF is a system which is composed of parts and component suppliois. For example, the final assembly plants for the automobile industry or the house appliance industry are central plants in the CSF system. These central plants are supported by many satellite factories which supply various parts and components to them. The second type of CSF is a system in which the central plant acts as an upstream raw and intermediate materials supplier to the large number of medium stream and downstream users. Under his system the price of the upstream products directly influences the competitiveness of the downstream produnts. The third type of CSF is centered by a few major manufacturers which are capable of exporting their products in large volume. When medium- and small-sized firmc, are grouped in such a manner, it is easier for the government to offer assistance to them. The central plants can also lake the responsibility to help out the satellite plants ancf to coordinate their upgrading efforts. The advantage to the firms in being affiliated with this system is the benefits

11 7 offered to them by the government in terms of financial assistance, manpower training, and technical engineering assistance. For example, if the central plant or satellite plants expand their facilities, they may receive long-term, low-interest loans from the central bank. The terms of preferential treatment are exactly the same as those for strategic industries As for manpower training programs, the government. may set. up managerial training programs or training centers to provide training for the entire group of plants. The government may also hire foreign experts to set up training programs for I he central and satellite plants, In addition, the government may also help the central and satellite plants to establish uniform standards or help these firms to obtain the required certification from abroad.

E. Setting up a credit guarantee program for small businesses

Small and medium-sized firms always have difficulty getting loans from banks. '!O help them, the government set up the Small and Medium Business Credit Guarantee Fund (SMBCGF). They offer ten types of credit guarantees to small businesses. They are summarized in Thhle 3. The basic function of the SMBCGF is to share risk.

I ______

TABI F The S\IBCGF Credit Guarantees

I Credir Maximum Guarantee Type of SMBCGF Eligible Guarantee Limit for Fee Per Guarantee Client Coverage Post-Review Annum (as Ratio Credit (2) % of cred!t (NT$ million) coverrage)

1. Credit Guarantee for General 10(3) Purpose Loans

2 Credit Guarantee for Commercral 5 Paper Guarantees — 80% 3. Credit Guarantees for Operational Input 10 0.75% Procurement Mariufac turing and Credit Guarantee for Non Policy-Oriented Loans Manufac- 15 turing 5 Credit Guarantee for Businesses 7(4) Import Duty arid Tax 90% Guarantees 17(5)

6 Credit Guarantee for Import Duty and Tax Recorded Under 5 Guarantees 0 7 Credit Guarantee for Contract Performance 10 Guarantees

8. Credit Guarantee for Small-Scale Small-Scale Business Businesses 80% Loans

9. Credit Guarantee for Young Youth Business Prospective 0.5 0.75% Start-Up Loans Enterpreneurs

10.Credit Guarantee for Enterprises Own Brand approved by International Board of 20 Promotion Loans Foreign Trade, MOEA

119 Notes:

(1) The SMBCGF credit guarantee is provided on a rsk-sharinq basis The credit risk beyond the SMBCGF guarantee coverage shall be assumed by the financial institution.

(2) The SMBCGF sets a maximum limit on bank ci edits for each type of credit guarantee. Under the limit, a financial insntution is not required to reter any application for guarantee to the SMBCGF for revew and approval prior to the institution's extension of credit Beyond the limit. prior review by the SMBCGF is required.

(3) For a single enterprise, if the General Loana and the Commercial Paper Guarantees come from the same single financial institution, the guarantee limits for these two types of credits may be combined into one limit and raised to NT$15 million, with either one of these two types of credits allowed to cross its own limit, although it is still subject to the combined limit.

(4) Refers to the combined limit for pre-expoi t loans arrci the credits against export shipments.

(5) Refers to the combined limit for t cans and the credits against export shipments.

(6) Refers to half of the guarantee fee, wh'cri tinaricial institutions collect from guaranteed enterprises, handed to SMHCGF

FREE MARKET APPROACH IN!' tIE LABOR MARKET

Although the government on Taiwan has played a very active role in niany areas, it maintained only a minor role in the labor market area. Thus, although there is a lot of labor legislation on the books, most of it enartetd in the

120 1930s when the government was still in mainland China. Sinec the Nationalist government's retreat to Taiwan in 1949, and even with all the rapid changes in the economic structure in the 1960s and 1970s, the government has, not revised any of these laws, ncr has it enforced them effectively and with convict ton (except for determination of wage rates have not been influenced by such institutional factors as trade unions. minimum wages, and the government Figures in Table 4 show that wage rates in Taiwan have risen at a similar rate to productivity. It has also been pointed out by many that high labor turnover in Taiwan has permitted the rapid diffusion of skills and technology, hence contributing to the fast pace of economic development

PROBLEMS OF THE GOVERNED FREE MARKET APPROACh IN TIlE INDUSTIHAL SECTOR AND FREE MARKET A!'PROACII IN TilE LABOR MARKET The governed free market approach combined with the free market approach in the labor market have achieved the goals of rapid expansion of foreign trade, and had helped Taiwan-made products competitive in the internationai market, achieve full employment, and attain a rapid rise in national income and foreign exchange. However, both approaches have their deficiencies, which include:

121 TABLE 4: Productivity and Real Wage Increases in Taiwan

Unit:

Labor Share Labor Real Wage of Income Productivity Rate Years (Annual Rate (Annual Rate (Annual Rate of Increase) of Increase) of

1952-64 1.32 11.22 2.72 1965-75 1.86 5.19 5.91 1976-86 0.73 5.27 7.50 1952-86 1.32 594 5.30

Source: Wu, 1987, p. 13.

1. Overprotection of infant industry In order to insulate industries from foreign competition. many countries enact protect we measu res for infant industries. In Taiwan, for example, the automobile industry has been highly protected by high tariffs and nontariff barriers for the last 35 years. As a result, Taiwan has eight automobile companies, even though Taiwan is but a small island. The price of domestically produced automobiles is high and the quality is poor, and they are unable to compete with foreign-made cars.

122 2. Negative effect of long-term subsidies

TO provide businessmen with incentives to invest, the government on Thiwari has adopted measures such as tax holidays and low interest loans. measures have positive effects in the short run, but in the long run they are negative because firms that receive prolonged subsidies do not become independent and they are unable to compete in the international market, because they become accustomed to depending on government subsidies for survival

3. Unsafe work places Free market operation works well if citizens have perfect information and they can select what is best for In reality, though, this is not always the case. For example, in the area of industrial accidents and occupational health, employees do not have good They do not know how to protect themselves, nor can they choose any job they want in any part of the island according to their preferences of risk and pay. Thus, in Taiwan, because of the lack of governmental protection in the area of occupational safety and health, the industrial accident rate is higher than in all of its neighboring countries which have also enjoyed similar rates of economic development. For example, in 1990 the worker fatality rate was 0.19 deaths per 1,000 workers in Taiwan, while it was

123 only 0.02 in Singapore. (See Table 5.)

TABLE 5: Fatal Industrial Accident Rates and Per Capita Income of Selected Countries: 1990

Manufacturing

1981 0 31 0.08 0.08 0.02 003 0.18

1990 0.19 0.07 0.00 0.02 0.02 016

Construct ton oci 1981 -J 0.88 0,36 0.29 1990 0.46 0.24 0.25 0.10 005 0.2l l'cr Capita Income (U.S. dollars)

1990 7.954 20.736 21.016 17.163 1,856 5.652

Source. Yearbook of Labor Statistics, Council of Labor Affairs, ROC. 1992 and Taiwan StatIstical Data Book, 1993.

CONCLUSIONS In short, the government on Taiwan has tariff protection, subsidies to exporting firms, subsidies and direct credit, tax incentives, low-cost infrastructure and export promotion, and government-sponsored research and development to promote economic development. and to

124 restructure Taiwan's economy These measures have no doubt factlitated the rapid increase of exports in the past and hastened the rate of growth in Taiwan. However, these tactics have riot been without their deficiencies since the government has given too much protection to some areas and has withdrawn at too slow a rate The total free market approach adopted in the labor market has failed to recognize that workers do not have perfect; information on occupational safely and health, thus failing to take action to correct. market. failure in this area.

REFER ENC ES

Amsden, Alice, 1989, Asian s Next Giant; South Korean and Late Industrtall2atlon, Oxford Universit.y Press. Chao, Y.T., 1992, State Enterprises", in Charles Kao and Joseph S. Lee, ed The Thiwan Experience 1.919.1989, Commonwealth Publishers, Thipei, Taiwan, PP 305 335. Huang, C.Y., 1992, "Inflation in Taiwan's F;arly Stage of 1)evelopment," in Charles Kao and Joseph S Lee, ed., The Taiwan Experience: 1949-1989, Commonwealth Publishers, Taipei, Taiwan, pp. 102-129.

Ranis, Gustav and ,John C.H. Fei, 1990, "I)evclopment Economics: What Next?" in Guastav Ranis and T. Paul Schultz, eds., The State of Development Economies, Basil

125 Blackwell.

Rodrick, Dani, 1993, Trade and Industrial Policy Reform in Developing Countries: A Review of Recent Theory and Evidence,' NBER Working Paper No 4417

San Gee, 1993, National Technology Research Institutions in Asian Countries and Their Influence on Technological Development, Chung-Hua institution for Economic Research, Taipei, Taiwan

Shimizu, Manabu, 1993, "Pre--condi tions for Irial Policies in Japan,' paper presented at the Workshop on "The Role of State in Economic Restructuring and

Development, held in Hanoi, on T)eceinher 14-16, 1 993.

Snape, R., 1991, "East Asia" Trade Reform in Korea and Singapore," in G. Shepherd and C.G Langoni, ods., Trade Reform From Eighteen Countries, ICS Press for International Center for Economic Growth.

Yu, Tzong-shian, 1993, "The Price Paid for Accelerating Economic Growth," Occasional Paper No. 9305,

Wade, R., 1990, Governing The Market: Economic Theory and the Role of Government in East Asiaiv Industrialization, Princeton University Press.

World Bank, 1993, East Asian Miracles Economic Growth and Public Policy, Oxford University Press.

126 RISK SHAR ING H Y (J(1)VERN M [NT ANt) HUMAN AC(1IM tJIIVJ'ION: Fhe of

Silihi Koii'o Insti tu h- Seiji, KOREA

I, INTRODUCTION

Korea's economic growth performance the past thirty years has been cited as an exemplary model of rapid economic development, and has been termed an 'economic miracle' by many observers. Lucas (1993) even constructed a model for the occurrence of economic miracles based on the Korean growth example.

Identifying the factors behind Korea's fast growth in

127 the past is a task of tantamount interest t.o policy makers and academic researchers In the academic circle, there has been a renewal of interest in identifying the factors that determine growth, after publication of Rorner's paper (1986), which has sparked a signilicant. amount of research on endogenous growth. According to the theory of endcgerious growth, one of the generating fast growth is human capital accumulation through learning by doing, or on-the-job training, as well as education. The accumulation of human capital can be accelerated through international trade as it expands and diversifies the production frontier, and hence provides an excellent opportunities for fast learning. Government policies can affect. both export promotion and the speed of human capital accumulation. The Korean government has adopted an export-led growth policy, as well as a policy which promotes the heavy and chemical industry. Th,s paper attempts to identify factors, both endogenous and exogenous, behind the rapid Korean growth. it will also interpret the Korean experience in the framework of' endogenous growth theory, and try to assess the degree of correspondence between the underlying growth factors and endogenous growth theory. In addition,it will examine the extent of the relative contribution of government policies in accelerating economic growth, as well as detiimental side effects of the government-led growth strategy.

128 The paper is organized as follows: section II will discuss socio-economic factors that contributed to the Korean work ethic and heightened educational zeal. This section will also address the impactof export promotion policies on the stimulation of growth. Section III will discuss policy measures that were adopted from the 1960s to the 1980s to promote export and industrialization. Section IV evaluates the effectiveness of these policy measures in enhancing growth. It also discusses the ext;ent to which government policies can speed up economic growth, as well as distributional issues and other side effects of such government interventions which should be taken into account in the future development policies.

II. HUMAN CAPITAL ACCUMULATION AND INTERNATIONAL TRADE

Recently, more emphasis tends to be given to the accumulation of human capital as a driving source of unbounded growth. Such prediction of growth theories seems to be well applied to economic growth of Korea. Before investigating their contribution to growth, we need to historically review the socio economic environment prevailed prior to the period of rapid economic growth. During the Japanese colonial rule (1910-1945), the traditional social hierarchy based on

129 classes was almost destroyed Production facilities and infrastructures of the economy was devastated during the Korean war 1950-1953 resulting in ext reme poverty of all people, and economic conWtion was not improved by niuchuntil the early I 9GOs. Korea have one 01 the most cornpetet.itive system for Korea Instituteallocating education pportunities in which an access to higer education is determined by a single criterion; the applicants score in various exam, Such an environment created a potential for vertical mobility in the society with very few exception; the general public was given an almost equal opportunity and strong incentives to move up the status ladder by investing in their human capital or entrepreneual activities. This argument resembles the convergence results in neoclassical growth models in which boor economies with lower capital-labor ratio grows faster than rich countries converging to same steady state, if other things being equal. In endogenous growth models, however, absolute convergence results do not obtain because steady state growth itself depends on saving rates and other model parameters. Of course, human capital accumulation and active business promotion at the individual level, however, would not occur if the government initiated economic process within socialist framework rather than capitalist system.

130 In 1960, North Korea dominated South in terms of production capacity and per capita GNP. Such dominance, however, was reversed in the early 1970s.

Endogenous growth models developed by Grossman and Helpman (1990, 1991) and lucas (1993), among others, emphasize the dynamic gains from international trade in terms of expanding and diversifying production frontier. Grossman and Helpman (1990, 1991) have emphasized knowledge spillovers from advanced to developing countries as the most important gains from trade. Lucas (1993) provided a new interpretation for the underlying mechanism for economic growth through international trade by emphasizing a learning spillover technologr.

As pointed out by Lucas, Philippines and Korea showed very different economic growth performance during the last three decades despite the fact that both countries were similar in many aspects including their endowments and living standards in 1960. To explain such rapid economic growth over decades observed in East Asian countries like

Korea, Lucas argued. . for understanding periods of very rapid growth in a single economy, learning on the job seems to be by far the most central. such learning to occur on a sustained basis, it is llecessary that workers and managers continue to take on tasks that are new to them, to continue to move up what. Grossman

131 and Helpman call the "quality ladder'° For this to be done on a large scale, the economy must be a large scale exporter

Lucas' can be employed in assessing the effectiveness of export promotion on economic growth. First, the export promotion strateg,' opened up larger markets for domestic firms so that they could benefit from scale economies. Second, the international markets provided a technology learning ground for domestic firms. in order to remain competitive in foreign markets, domestic firms had to and were willing to learn production technology, management skills and marketing know-hews learning process started wit.h simple imitation, then evolved toward creative modification. The export. promotion also played another important role in increasing efficiencies. As is well known, Korea's industrialization process is characterized by unbalanced development, in which target industries and flrms were selected and supported by the government rather than by the market.The Government not only intervened in the market, hut shared the risks to ensure that the risky projects he undertaken. Such policy can cause inefficiencies and moral hazard problem. However, since exporthg firms were competing in international market, they had a strong incentive to remain cost effective. The potential inefficiencies that can arise along the governmen 's intervention and sharing the risk were

132 reduced because those selected firms should pass market tests to survive in international market. in the next section, we will describe development policies pursued by the Korean government and attempt to assess their effectiveness and contribution to human capital accumulation from on the job learning and economic growth as well as their detrimental side effecs.

Ill. ECONOMIC DEVELOPMENT POLICY IN KOREA

1. Export Promotion Policy From the beginning of the First Five-Year Economic Development Plan in 1962, the government has adopted an export promotion strategy rather than an import substitution policy.

Export promotion was largely dictated by the need to finance imports required to build up industrial capacity. The Korean government strongly supported exporting firms with various measures which included favorable treatment in allocation of credits and in taxation. The system of export financing has played a critical role in supporting export industry until the mid 1980s when current account surplus was realized. The essence of the system was the Bank of Korea(BOK)'s automatic. rediscounting policy which supplied cheap credits via

133 commercial banks to exporting firms who received letters of credit (L/C) The central bank's preferential discount loans have also extended for pre-shipment export as well as for imports of raw materiak arid intermediate goods for export use or purchase from local suppbers.

The export loan was provided at preferential rate of 6

- 10 when the general loan rates were 17 - 23 Until 1980 after which the differential disappeared. Given the fart that availablity of the credit was what mattered. and that. curb market rates exceeded most of the time the preferntial treatment for the expoters were larger than that implied by the above differentials.. Most of export credit extended by domestic money banks(DMB) was supported by the central bank's money creation through the discount widow. Table I shows that between 1966 and 1986, the annual average ratio of the BOK's export credits to DMB's export loans was Specifically, the ratio reached to 90.P7( in the 1973-81 period.

Table I shows the share of export loans in total loans from 1)MBs. Between 1961 and 1965, the annual average share was 4.5w. Since then, the share had increased to in the 1966-72 period and further to in the 1973-81 period. The share, however, decreased significantly since the mid i980s when the current account surplus was

It is interesting to see from Table 1 that there is .$ome positive correlation b' export growth

134 TABLE: 1 Export Loans by Domestic Money Bank 1%)

1961. 196()

1965 1972

I by DM13! 4.5 7o 3 l(l 2 3.1

iota! loans by DM13

Export Loans by DM13! NA NA 20.4 16 4.5

Total l'ohcv i .oans@) by DM13

Export loans by BOK! NA 75.4 90 1 65.8 45.3

Export Loans b's' DM13

Export Loan Interest Rate (A) 9.3 9 7 1(1 0 10 hO

General loan Interest Ra;e (B) 18.2 23 2 17.3 1(1 11 1011

B-A 8.9 17.1 7o 0 I 5 0

Annual Export Growth 40.3 47.7 351 lb 5 164

Lxportl(iNP 3.5 9.9 26 2 32 5 .30.7

1) Size of policy loans are estimated for carmarked credits such as export credit, National Investment Fund, housing loans, credit for agriculture, fisheries, small and medium-sized corripanies, and elc,

2J Annual export growth rate during 1953-60 was 82%.

Source. Bank of Korea, [Economic Statistics Yearbook], various issues

135 and the extent of export loan support in terms of the avaiabiit.y and preferential treat merit Exports grew about 35 to 40% per annum and its share in GNP increased by more than seven times, between 1961- 1981, and the growth rate dropped to 10 % level since 1981

Besides, there was also a long list of governmental support at micro level;special tax deduction fbr purchase of equipninent and facilities investmnet for export, subsidizing for improvements in wrapping and design of products, expanding inspection facilities for export goods, opening foreign language training centers, sending delegations to overseas expos and trade shows, hosting trade shows in Korea, conferring decorations on a of semi-tax on domestic exporter's imports. The Korean government also monitored the performance of exports and international market trends along with domestic economioc conditions on a montly or quarterly basis. Such regular meetings were chaired by the President and attended by senior government ofiThials, representatives from banking, shipping and niajo r exporting circles, and labor union leaders. Through these meetings performance of exports were reviewed item by item, and country by country. If performance of exports were weak, the President urged relevant government officials and bankers to provide enhanced support to achieve a target volume of exports as planned. In this

136 manner, bottlenecks were removed by timely measures. "Korea Incorporated" was termed niainly because of such a unique feature of export-promotion policy implementation; banks were acted as a treasury unit, the industrial sector as the production and marketing units, and the government as a central planning and control unit (Lee. 1992). Another salient feature of Korean export promotion policy was that the government's support to exporting firms was on the basis of export performance. Exporters eligible to receive support were limited only to those whose past year's exports exceeded a target amount. To get more privileges, exporters had to work hard to compete with each other and foreigners. In this way, the Korean government had an efficient allocating device by pick,)ng the winners and could reduce the risk of an "interventionist approach". Furthermore, this tactic to force Korean firms to compete with foreign firms had brought tremendous externalities of accelerating their learning by doing process, thus shortening the learning curve.

These comprehensive export-promotion policy played a key role for K'rean export sector to be remarkably expanded. 2. Promotion of the Heavy and Chemical Industry Korean government recognized the promotion of the Heavy and Chemical Industry as being a vital factor in

137 the procees of industrialization at the early stage of Its development. However, there were many critical obstacles to building HCI :1) Korea lacked capital and Korea's market was very small altb.iugh the HCI requires huge capitaJ investment with long gestation period and MCI is sensitive to scale; 2 technical skills necessary to produce MCI-products efficiently were absent in Korea. Despite these dltflcutles, Korean government designated the steel Industry along with the petrochemical industry as strategic industry with top priority in the Second Flve.Year Development Plan (1967-71). The promotion of lUll was further pursed In the early l970s due to national security concerns sparked by a series of events :an attack on the Presidential Office by a commando; digging of underground tunnels for Invasion;, the Carter adininist ration's plan to complotely withdraw U.S. ground force. Most importantly the fall of South Vietnam to communist rule magnified the security concern. The Korean government, In response, announced to drive the MCI-promotion Plan which was the basis of the defense Industry. Among various government supports, financing was (he most critical factor because HCI required huge amounts of capital. Since there was not enough domestic saving, the government had to for foreign capital. It. hat time, Korean entrepreneurs did not capture

138 any interest of international capital market, br their creditworthiness was almost nil. The government, in response, made two big steps. It normalized relations with Japan, despite very strong anti-Japan sentiment and popular protest. Much niore imoportantly the government started , or was forced to, guarante the reimbursement of all foreign loans, whether they were initiated by public companies or private companies. This facilitated large in-flows of foreign capital especially from Japan. Consequently, the government was deeply involved in foreign loan allocation, from deciding which projects to select to who would participate, because it would have to guarantee their loans.

In a similar way of implementing premotion policy, the President personally monitored the progress of every single project. lie established a situation room next to his office in Blue House (or Chong Wa Dac), and checked the progress of projects and urged government officials by frequent calls to complete I he assigned project as scheduled.

2 shows the allocation of foreign loans by industry. From 1959 to 1982 commercial loans were nioctly allocated to the manufacturing industry, especial!) 1 IC1 while public loans went mainly to the service industry (mainly infrastructure). During this period, of total commercial loans were distributed to manufacturing of which were

139 TABLE 2: Composition of Publie and Commercial Foreign Loan by Industry (on the basis of ar"rual, Ln

,c ifi urt . rig arid lotal

1 I IC ighi

1959 66

Public [lan 7 5 II 7 8 2 100.0

Cornrner oil Loan 22 14 43.4 3 4 2. 9 100.0

1967 71

42 2 (,.8 Ii, 494 100.1) Commercial an 31.6 49 40.8 1000

1972 76

Public I oan 18 2 6.1 0 0 7S.8 100.0

Commercial I .oan 2.2 42.4 4 7 H 7 [004)

1977 - 82

Public Loan 17.0 1 .5 0 4 81.2 100.0

Commercial I oau 0.6 46.0 10.6 42.8 100.0

1959 82

Public Loan 19.0 3.0 0 4 77.6 100.0 Commercial Loan 1.6 43.6 15.4 39,5 100.)) Total 9.6 24.9 8.5 57.0 100.0

' Cha (1986).

140 allocated to HCI-related projects. Along with the foreign loan policy, the government established the National Investment. Vund in 1973 in order to selectively channeling domestic savings into long term investment of HCI. The source of NIF' was a combination of funds from private financial intermediaries and the government fund, but predominantly from the former, During 1974-81, the Fund mainly supplied equipment loans to facilitate construction of the HCI, specifically steel, petrochemical, and shipbuilding industries After 1982, most of the NIF loans were supplied to many unspecified firms for the purchasing of domestically produced machinery and post-shipment export financing. This change in the allocation was caused by the following two factors. First, the need to support building factories diminished as the constructions of HCI were mostly completed by the early while it still necessary to support such sectors as marketing HCI-related products. Second, as the government's direct promotion of 'strategic' firms and industries with preferential credits gave way to more indirect and functional support of unspecified firms since the early 1980s, the mode of operating NIF has also changed from firm and industry-specific to function-specific support.

As shown in Table 3, the share of NIF equipment loans

141 to HCI in the total equipment loans supplied from the banking sector reached at. the end of 1970s Since the mid-]980s, as the ruction of IICI was mostly completed, ho share of NIF equipment loans has gradually declined to 11 4'/c at. the end of 1991 . The also provided sizeable amount of equipment loans to the electric power industry iii rder to meet the sharp increase in demand for electricity related to the construction of lid.

In the mean time, the UCI buildup in parallel with the defense industry in the 1970s was a challenge because production capacity could he idle in peace time. in order to prevent unnecessay idle capacity, the Korean government devised a scheme to make use of portions of the capacity of private-operated factories in UC1 to produce certain parts of weapons In fact, the government designated 82 large- and medium-sized firms as part.producing factories. Behind this plan lied the government's basic principle that "any weapon could be turned into parts when taken apart," and "when any standard parts were assembled, they turned into weapons with good performance." In order to maintain a sound financial structure of parts-producing factories by not letting production capacity lie idle in peace time, they followed a rule that of their total production capacity to be operated for military while the rest for

142 TABLE 3: Share of NIF Loans (I) in total Loans by the Banking Sector (2) (in

IlCis I'owet and industries

Total Loans Ii.quipmcnt loans lotal I .'iatis

1974 6.1 25.3 10.8 1976 16.6 54.2 38.2 1978 25.1 70.6 52.7 1980 21.4 67.3 59.9 1982 21.2 64.1 67.3 1984 20.3 55.9 45 1986 15.2 36.7 3l).7

1988 12.3 26.6 24.7

1990 7.1 14.8 18.1

1991 4.9 11.4 S. i

!\rotC: (1) Outstanding at the end of each

(2) Including loans from the DM8 and the KDE3.

Source: Bank of Korea, [Overview of the National Investment Fund). 1989.

Bank of Korea, [Monthly Bulletin], various issues Korea Development Bank, [Monthly Bulletin], various issues.

143 civilian use (See Kim,1990) The Korean government also fully supported training and recruiting engineers and skilled workers in HCI. Training cenl,ers, technical high schools and engineering colleges were expanded both in quality and quantity. In addition, for each field of engineering the government actively recruited outstanding Korean scientists abroad and established a modern laboratory where research on the improvement of prod uctiori technologies were conducted in collaboration with researchers in the industries and professors in universities (See Kim,1990). These comprehensive government support has helped to institute a rapid change in the industrial structure toward HCI. Such a change generated technology spillover to other industries, which in turn expanded the spectrum of product mix of the economy. As shown in rfable 4, the share of HC1 in the GJ)P was only 11.9% in 1970, but. increased to 26.3% in 1980, which exceeded that of the light industry, and further increased to 31.3% in 1988. The HC1-drive plan also contributed in import substitution of HCI. The import coefficient dropped from 36.9% in 1970 to 23.7% in 1980, and further decreased to 21.6% in 1985. In addition, the share of HCI products in total exports rose substantially from 12.8% in 1970 to 51.4% in 1988.

3. Risk Sharing without profit s

144 TABLE 4: Trend of Development, of itCis (in

1970 1975 1980 1983 1988

.\gnculturc/1"ishcry 17.0 12.8 8.3 7.7 63

Mining LI 0.9 0.8 0 7 0.6 Manufacturing 40.3 50.4 51.0 500 52 7 Light 28.4 29.5 24.7 21.7 21.4 ITCIs 11.9 20.9 26.3 28.3 31.3

Petrochemical 5.9 10.8 12.6 I 1.4 1(11)

Basic Metal 2.0 3.4 5.1 49 5 3 Metal/Machinery 4.0 6.7 8.6 12.0 16.1 Power/Gas/Construction 9.8 7.7 10 2 10.4 9.3 Service 31.8 28.2 29 7 31 2 29.4 Total 100.0 100.0 100.0 100.0 100.0 light 9.2 10.6 7.3 7.0 8.5

I l('ls 36.9 293 23 7 21.o 22.5

l'ctrochemical 23.5 197 4 1 17.0 19.1 Basic Metal 35.1 27.6 8 4 17.6 20.4

Metal Machinery 50.5 41.7 :15 8 2n 9 I

light 49.4 45,u .13 2 30.0 29.1

I ICIs 12.8 29.0 38.3 47,5 51.4 Petrochemical 5.4 9.2 93) 12.4 11.0

Basic Metal 1.5 4.0 8 I 5.8 5.1

Metal/Michin&r\ 5.9 15.8 21) 1 29.3 :73.4

Note: Import Coefficient = total import/tot& supply of goods the market x 100

Source: Bank of Korea. jlnput-Output Tablesi. various issues.

145 Although the theory of economic growth does not deal with the uncertainties beyond indicating that one time shock has a permanent level effect, uncertainties and risks seem to have far reaching implications for economic growth Private firms are not able to invest in project. that involves a high risk. The absence of well developed financial market pooling the risk by enlarging the capital and one had draw from a random experiment would derive the investor out of the scene. Korean experience suggests us how risk sharing by the government, with the firm affected the process of rapid economic development. The Korean government has acted as an active risk sharing partner for all indusirjal firms who were chosen to participate in strategic projects. As mentioned, the government fully guaranteed their foreign debt repayments and mobilized every resource to support them. in this way, risky ventures which could not he undertaken by private companles alone could be with government support with long-term objectives in mind. Furthermore, the government did not hesitate to bail out whenever the strategic firms were financially insolvent. The most dramatic example of government's involvement in the restructuring of business firms is

the Presidential Emergency Decree in August 1 972. which declared moratorium on the payment of the corporat.e

146 debt to curb market lender. And these corporate loan from curb market were converted by the long term loan to be payed on an basis over a 5 year period with a grace period of 3 years at the maximum interest rate 16.2% when the prevailing interest rate at the curb market exceeded 40% per annum. In approximately 30% of the short-term high-interest (15.5% per annum) commercial bank loans to businesses were converted to long-term loans to be repaid on an installment basis over a 5-year period at an 8% annual interest rate with a 3-year grace period. These measures were taken to reduce the interest burden of the firms who borrowed heavily from domestic and international financial markets for investment. These firms suffered because the evaluation of Korean currency by 18 % in 1971 prompted by the growing balance of payment deficit, as a result of sharp slowdown in the export growth amid the world-wide recession at the end of the ]960s caused a sudden increase in the cost of foreign debt ser'ocirig and created severe financial constraints on firms, especially those who borrowed heavily from abroad.

The amount of the debt services increased from $160 million in 1970 to $230 and $455 million in 1971 and 1972, respectively.

Due to these measures taken in the 1972 Decree, the ratio of interest expenses to sales volume for

147 manufacturing firms dropped from in 1971 to 7 lYc in 1972 and then to 4 in 1973 As the financial situation of the corporate sector improved. did the problem of non-performing loans of banks The ec000niy recovered quick]y. Total investment, grew by and export growth was almost in 1973, The real growth of the economy in the first quarter of 1973 increased to 19 37 from 6 4'4 for the same period in 1972.

The August 1972 Decree firmly set the case that the government would take measures to relieve financial distiess when necessary Under this government's commitment to play as a risk-partner for industrial firms, they could undertake risky ventures and maintain a long-term perspective in their investment, decisions. However, the Decree had adverse effects. It raised social equity issues as the wealth of the depositors in the curb market and banks was transferred to the corporate sector. The fact that there was not any profit sharing arrangement in retuin for the transfer of the wealth a discontent among the public, although it was suppressed under the authoritarian regin-Le. The Decree aLso aggravated the moral hazard issue for the corporate firms and banks. The government's excessive risk partnership with the selected firms caused them to depend heavily on the government's protection arid support, failing to give sufficient attention to their investment

148 - appraisal. It has resulted in the overinvestment, and accumulation of noperforming loan. The efficient development of the banking system was also hampered, because creditor banks, once rescued by the government, they had little incentive for serious credit evaluation and monitoring.

Policy Adjusrnents in the 1980s The seriousness of such adverse effects and growing discontent among the public which has been boiling beneaththe surface was recognized by the government by the end of 1970s, It promted the government hi shift its policy stance from unbalanced to balanced growth The government first reduced interest subsidies on export loans, mainly for large firms, as well as the number of qualified large firms eligible for policy loans. On the other hand, small and medium-sized companies (SMC and housing sector were given a higher priority than before in credit allocation. The Bank of Korea began to expand both short- and long-term discount 'oans for SMC, and lightened the required ratio of SMC loans out of banks' total loans. Foreign bank branches and the Non-Bank Financial Intermediaries (NBFI) such as short-term investment and finance companies, lease companies, and life insurance companies, were also subject to the SMC lending requirement (See Table 5) As for housing sector, the government established National Housing Fund (in 1981)

149 1ABIE S: Domestic Money l3anks' Required Ratio of SMC

W,S 1976 1980 1985 1'Ro ')°2

Nationwide ('ow ilercia I ' I) 35(3) Rank 35 1 I) 55(3) ocal l3aik (4) 55 50 51)

Foreign Rank Oranches 25 25

Vo(c: 1) Ratio in terms of total oars outstanding.

21 Ratio in terms of inci'ease ri total loans.

3) Ratio in terms of increase in total loans in won.

to finance investment in housing for low-income class. ,The emergence of current account surplus which started from 1986 and widened afterwards also brought another change in the form of policy support as direct subsidies for targeted industries increasingly became the subject of' trade conflict. As a result, seven industrial acts, which were enacted in the 1960s and 1970s to support specific industry, were abolished and replaced by the Industrial Development Act in 1986. On the basis of this new act the government confined its intervention to structural adjustment and Lo functional support (or R&.l) activities among others. In line with this, policy loans for large corperations were further cut. For instance, the amount of central

150 banks export credit for large firms per dollar decreased from 740 won at the end of 1985 to 175 won at the end of 1987 Since February 1988. large corporations were completely excluded from export credit programs

Furthermore, from February 1 989, large corporations became no longer eligible for commercial bill rediscounting by the central bank.

TABLE 6: Proportion of fort I .oii ii s Rtdi n ted B( )K (in eon per dollar)

t951) )9'45 195")

hrrns(A) 7-n) I 7" 0 0

7-1)) 71)9 "2)) 4S1)

1 -\ U 9) 2'') Fri, Sri) '-ol Irs-I '-i

Note: Figures are at the end of each year

Source: Bank of Korea, The 40 Year History oi the Bank of Korea

In I he mean time, the political democrat ization in) tiated by the President ftoe The- Woo since 1988 spurred social demo ad for social equity. Particula ri the government s corn ,nitnient to support SMC for a bole riced growth was very strong. BOK app! md a

151 preferential rate of rediscounting and increased the amount of export credit per dollar, Program of eneouragmg equipment loans to the export industiy was introduced in 1986. Foreign currency loans also granted to SMC up to

I OO"' of the total amount of equipment imports. "R) further promote R&L) and business transformation of SMC, the government introduced in November 1988 a structural adjustment support program for SMC which was financed by funds from the government and banking institutions. As a result of strong financial support for SMC, the portion of hank loans to SMC out of total bank loans increased from 33 in 1983 to in 1991.

On the other hand, the credit control system on large business groups was intensified to ease the concentration of hank loans to conglomerates (.Chaehol). In 1987, the basket, control of credit system (credit ceilings) was mt reduced to limit the shares of bank loans to the nation's 30 largest business groups. Furthermore, in order to increase credit access of SMC, the government intensified restrict ions on the 30 largest conglomerates to self- Ii nance a certain proportion of their new investment by disposing heir share holdings in their affiliates or real estate holdings This led to gradual reduction in the share of bank loans to the 30 largest conglomerates from in 1988 to at the end of 1991.

152 TABI .E 7: Loans to SMC and 30 Largest ('haebols by Domestic Mones Banks

1989 199(1 99j

Loans to SMC 33.1 31.5 48.1 50.1 S loans In 30 largest ('hachols NA NA 2 3.7 20.7 198 20.4

Source: Bank of Korea

APPRAISAL OF' KOREAN (;OVERNMENT POLICY

We have seen that the rapid economic growth of Korea was largely a result of fast human capital accumulation driven by education and on-the-job training. The government policies greatly contributed to accelerating this process. Particularly, export promotion and the industrialization with intensive government support has substantially reduced, the risks of new projects faced by industrialists.

F luman capital accumulat ion through learning by doing is subject to diminishing ret urns So in order to maintain a high rate of learning, people need to change jobs, which a ontinuous introduction of new iridust rios and new products requiring different skills and technology. Bit the creation of these new industries is subject to high risks The government's assistatice had greatly reduced the risk faced by private firms. The rapid deepening and

153 diversification of industrial structure enabled the learning process to continue without being subject to diminishing returns. Due to a fast learning process, high productivity growth was continued until the late 1980s, In addition to providing support, the government, tried to keep the competitive element alive by linking the amount of assistance to the performance. This practice has helped to avoid adverse incentives that may arise along with the provision of governmental assistance

Since the early 1980s, the seriousness of adverse effets of government's risk sharing and assitance to special sector changed the government policy stance substantially reducing the scope of the government's financial support for exporting industries. The support to the previously disadvantaged sector was increased, at the same time the mode of support underwent changes from the setor specific support to function specific support. Along the process of political democratization during the second half of the I 980s. income distribution and social cquit.y emerged as a major national agenda. Accordingly, the composition of policy loans further changed in of previously disadvantaged sectors such as SMC, agricul tu rat sector and residential construct ion. On the other hand, the credit control and investment restrictions against large conglomerates was further strengthened since 1987 to mitigate the concentration of economic power.

154 Such reversal of policy was caused by the fact that there was no for sharing the returns from previliges bestowed to selected sectors by he previous government. The presumed strategr was to enlarge the pie first and distribute it later But an authoritarian regime with strong leadership which was able to promote the growth actively collapsed before the completion of fair pie distribution. Since the democratic government has faced with difficulties in redistributing the returns, it rather allowed another priviliges to new interest groups with strong voice Such a reritseeking behavior of interest groups digressed resource allocation away from productivity growth Furthermore, it significantly undermined the traditional values and work ethics which have been also crucial for the accumulation of human capital. These two adverse effects eventually led to a significant erosion of international competitiveness of the Korean economy. Lucas (1993) claimed that the speedier the introduction of new products and industries into the economy, the speedier the learning and growth. This implies that if a government adopts policies like those of Korea such as export promotion and industrialization with extensive subsidies, the rate of learning and growth can be increased by a significant margin in the steady state. As can he easily found in the Korean experience, however, such gain in growth will be at: least partially offset due to

155 distributional issues that will arise in due time.

A better scheme would be to design industrial policies along with pie-splitting arrangement at the outset. In this manner the economy ears e stable growth with9ut generating adverse income distribution. Given the presence of market failure, the growth rate under this scheme would still be higher than what it would be without. collective efforts by the government and private sector.

An important lesson from the Korean experience is that for an economy t.o continue to upgrade and diversify its indi.istry structure, the government should provide risk pooling arrangements that. are not feasible within private sectors due to market failure. However, such policies should be implemented with a prudent arrangement to minimize the negative side effect. First,to avoid distributional problem, the government should establish at the initial stage a transparent system of fair distribution of returns realized from the selected projects. L)epending ipon the scope and size of the government support, profit-sharing or ownership-sharing arrangements may be considered. Second, competition for the access to assiuance must be promoted. Promotion should go through a concensus-building process. Government's support should be financed from the budget as much as possible, minimizing risk of rent-seeking by interest groups.

156 REFERENCES

Arrow, K.J., (1962), Implication of Learning by Doing", Review of Economic Studies.

Cha, Dongse, (1986), An Analysis of Effect of Foreign Capital In-flow", (in Korean), Korea Institute for Economics & Thchnology.

Grossman. G.M. and E. Helpman, (1990), "Trade,

Kowledge Spillovers an (1 Growth, NBER Working Paper No. 3485.

- - - (1989), "Comparative Advantage and Long ilun Growth", NBER Working Paper No. 2809.

Kim, ChungYum, (1990), "A Thirty Year History of Korean Economic Policy: A Memoir", (in }

Kim, WanSoori, (1991), "The President s hmergency Decree for Economic Stability and Growth'. in h(:000rnic 1)eveloprnent in the Republic of -A Policy Perspective, editied by Lee-Jay Cho and Yoon IL ung Kim, the East-West Center Lee, C.H., (1992), "The Government, Financial System, and Large Private Enterprise in the Economic 1)evelopment of South Korea", World

Lee, Jisoon, ii 992), "An Economic Analysis of the

157 Korean Trade Policies: 1960-1990, Journal of Asian Economics. Lucas, RE., 1993), 'Making a Miracle', Eeonometrica (forthcoming)

- (1988), "On the Mechanics of Eeonomic Journal of Monetary Economies

Romer, U, (1 990), 'Endogenous Thchnical Change', Journal of Political Economy.

- - (1989), "Capital Accumulation in the Theory of Long Run Growth', in Robert Barro ed "Modern Business Cycle Theory, fla rvard University Press. Cambridge, MA. 986), 'lncreaaing Returns and Long Run Growth", Journal of !-'olituo / Econoniy

Sala i-Martin, X ., 1 990), ore Notes on Economic Growth(l1) Five Protype Models of Endogenous Growth', NBER Working Paper No. 3564,

U zawa, 1-1 (1965), 'Optimal Change in an Aggregate Model of Growth, Economic Re,.:iew

158 PAR'( II

THE ROLE OF THE STATE IN ECONOMIC DEVELOPMENT OF THE ASIAN COUNTRIES

159

STRUCTURAL CHANGE ECONOMIC DEVELOPMENT AND THE ROLE OF THE STATE: The Malaysian Experience

MOHAMED ARIFF Professor, Dean Faculty of Economics & Adm.inistration University of Malaya Kuala Lii mpur, MALAYSiA

1. INTRODUCTION The Malaysian has radit ionallv an open ma rket economy. It has heron so recent The contribution of' to GNP (gross national income) has increased from U per rent in 1970 to 73.3 per cent in 1992, while I he sha r" of the public sector consumption and investment in GNP has

161 declined from the peak of 38 3 per cent in to a low of 26 3 per cent in 1990. has joined the rank of advanced developing economies with per capita income rising from US$334 in I to US$2,485 in 1992, It is envisioned that will graduoh as a developed nation by the year 2020

The economy has performt i t.reditabl with G DP gross domestic product) growing at the average rate of 7 per cent per annum during the last three decades. Ii is also noteworthy that the economy could recover rapidly and smoothly from the worst recession in its histoty in the mid.1980s. The economy bounced back after registering negative growth in 1985. experiencing non stop rapid expansion from 1987 onwards ii i 991 and 1992, it posted a GOP growth of 9.5 per cent ann! 8.5 per cent, respectively In the first hal) of 1993, economic growth accelerated at the annual rate of 9.3 per cent it is indeed remarkable that this continuous expansion has not led to any overheating of the economy, with inflation hovering below 5 per cent. It is noteworthy that during January - July 1993, the rate of inflation has fallen to 3.9 per cent from 4.6 per cent during January-July 1992. The Malaysian economy has experienced important structural changes. It is no longer a predominatly primary producing economy. The share of agriculture in GI)P has from 30.8 per cent in 1970 to 16.0 per cent in 1992, while that of manufacturing has increased from 12 2 per cent to 29.3 per cent between 1970 md 1992 (Table 1).

162 TABLE 1: Composition Of Gross Domestic Product, 1970-92 (In percentages)

1991a V1'O 1975 1980 1985 990

Agriculture, livestock. lurestry and fishing 30.8 27.7 23.-i 20 8 17.2 16.0

Mining and quarrving 65 4.6 5 0 10.5 97 92 8.7

Manulacturing I 4 16.4 20.5 19.7 26 9 28 2 29 3

Construction 39 3.8 4 5 4.8 3.6 3.8 3 9

Electricity, gas and watci I 9 2 1 2.2 1.7 1.9 2.0 2.1

Iransport. storage and comrnuflicatiofl 1 7 6.2 6.3 6.4 6.9 7.0 7.!

Wholesale and reLol tr 13 3 128 12.4 12 I Ii 1 II." 12.0

1-inance. insurance, real estate and business scrs Rcs 8-1 8 5 7.8 8 9 9.8 It) 1 0.4

services Ill 128 12.5 12.2 10,8 04 10.1

Other services 2 2 8 2.6 2 3 2 1 2.1 2.1

(31)1' at contant prices

(RM I 210% 17365 2st,50 '/943(1 86302 93624

(a) Estimates

(b) Forecasts

(c)'For years 1970-80, at 19(0 constant prices!; for years 1985-92. at 1978 constant prices. Source: Malaysia, Ministry of Finance, Economic Report (various yeas)

163 The share of primary commodities in total exports has fallen from 78.4 per cent in 1970 to 24.7 per cent in 1992 whereas the contribution of manufactures to total exports has risen sharply from 11.9 per cent in 1970 to 74.6 per cent in 1992. Evidently, the private sector has contributed much to the dramatically rapid of the economy. Nonetheless, the pivotal role played by the state in all this cannot.hc ignored. The importance of the role of the state in managing, regulating and guiding the economy to greater heights can hardly be exaggerated The role of the Malaysian state has, however, been changing with changing circumstances in a pragmatic fashion. An attempt is made in this paper to sketch out the changing role of the state in the Malaysian economy and to examine the impact of state interventions in the economy. More specifically, the paper tries to evaluate planning, regulatory, entrepreneurial and facilitating roles the Malaysian state has played and to draw some policy lessons from the Malaysian experience.

2. PLANNING State economic planning in Malaysia has always been merely indicative, providing broad directions in which the economy might move and formulating appropriate stategi hut leaving the task of implementation largely in the 1' the private sector. indicative nature of

164 economic planning has ensured that state intervention in the economic affairs of the country is kept at what the private sector would consider "tolerable' or 'minimum", if not "optimum", level. This however has not meant a hands-off government policy in the economic development process. On the contrary, the government has had direct involvements in the implementation of the develppment plans and public sector projects. Interestingly, the government has adopted an "operations room" technique— military of the of 1948-CO in the wake of communist insurgency—to monitor the implementation of development plans, with National Operations Room in the capital having full access to information from the operations rooms at the state and district levels. The history of development planning in Malaysia may be divided into four distinct phases. The first phase covered the I)raft I)eveloprnent Plan (I)l)P, 1950-55) of the colonial regime and the First Five-Year Plan (FFYP) which were charactorised by extreme conservatism based on the proverbial wisdom of tailoring the coat according to cloth, with government revenue dictating the planned expenditures. The emphasis was on the development of infrastructure a ad agriculture, while education, housing and health had received little attention. Thus, infrastructural development was given 66 per cent and 54 per cent of the total allocations under the DPP and FFYP, respectively, the corresponding share of the agriculture

165 being 26 per cent and 24 per cent. Education and healt.h jointly accounted for only 8.6 per cent 9.6 per cent of the total allocation in flI)P and F'FYP, respectively. The accent in th first phase of development planning was thus on format On he pUUIJC sector Thh and

In the second phase. which witnessed the Second Five Year Plan 1961.65) and the First Plan (1st MP, 1966.70). the government had followed an essentially laissez- taire development strategy with minimum state interference (Lirn. 1983), This meant. that the government would ensure a sound and stable macroeconomic climate conducive for industrial development, with the private sector playing a catalytic role. A developmental role of the state was yet to emerge. It is noteworthy that social services, especially education, received increased allocations in this second phase. Rural development also received considerable attention mainly in the form of new land development schemes anti agricultural diversification programmes resulting in the introduction of new commercial export crops, oil palm being the most important of all. Industrial development in this second phase continued to he based on the strategy of import substitution (IS) under mild tariff protection. However, the limitations of the IS strategy had become apparent, as the manufacturing sector's contribution to GI)P under this strategy increased only marginally from 11 per cent in 1957 to 15 per cent in 1968, given ti.e small size of the

166 domestic market which was on the verge of saturation. There was a policy switch in favour of export promotion (EP) after 1968. The adoption of an EP strategy however did result in the abandonment of the IS option Both and ES industrialisation strategies were oursued simultaneously, with foreign investors being targctted at in the EP case, while the IS strategy favoured local investors. As the main objective of export-oriented industrialisation was to generate employment, considerable emphasis was laid on labour-intensive activities such as assembly operations in the electronics subsector. Since low labour cost was then the main source of competitive advantage of Malaysian ma nu factures, export manufacturing was far more labour-intensive than import substitution This is attested by the fact that employment coefficient 11) export manufacturing was higher than that in manufacturing as a whole (Verbruggen, 1984; AntI 1991). The state has played a critical role in reorientatirig the manufacturing sector towards the global market It not only provided such fiscal incentives as tax holidays, investment tax credits and export incentives hut also developed many industrial estates including eleven free trade zones (FTZs) exiusively for export manufacturing. The nature of state economic planning in the 1960s differed from that in the preceding decade in two ways. First, the state was more willing in the 1960s than previously to incur budget deficits to expedite the

167 development process, with the growing public sector development expenditures being financed partly by borrowed funds. Second, planning took on a more elegant appearance with the adopuon of sophisticated growth models which contrasted sharply with the previous haphazard approach. However, distributional aspects had received little attention in the second phase of economic planning, resulting in widening income inequality and regional disparity. The third phase of economic planning, spanning the period from 1971 to 1985, witnessed three five-year plans, ie. Second, Third and Fourth Malaysia Plans. Equity considerations played a far more important role in this third phase of economic planning than previously, following the racial riots of May 1969 which led to the formulation of a new development strategy as embodied in the First Outline Perspective Plan (OPP1, 1971-1990). The New Economic Policy (NEP) was aimed at eradicating poverty among all Malaysians irrespective of race, and

• restructuring Malaysian society so that the racial pattern of participation, ownership and control in the economy would reflect the ethnic composition of the country's population. Thus, the NEP called for, among other things, a 30 per cent equity participation by Bumiputras (indigenous people) by the jear 1990. Under the the state was given an enlarged and more intc-wentionist, role. This meant that the state would participate directly in commercial and ndustrial activities

168 holding in trust the Bumiputra share of the equity. The NEP thus provided a basis for a new assertive and interventionist role for the state in establishing new industrial and commercial activities for the purpose of creating a Bumiputra business communIty. Under the NEP, the laissez-faire philosophy was partially abandoned in favour of greater state intervention. Not surprisingly, therefore, the assertive role of the state had called for increased public sector expenditures Accordingly, public development expenditure grew from RM1O 3 billion under the 2nd MI' to RM46.3 billion under the 4th MP. However, a sharp increase in defence spending led to a decline in the share of infrastructural development, expenditure from 34 per cent under the 2nd MP to 27 per cent under the 3rd MP before it reverted to 32 per cent under the 4th MP (Table 2). The fourth phase of state economic planning covers the period of the Fifth Malaysia Plan (1986-90) and the Sixth Malaysia Plan (1991-95). This current phase, based on the Second Outline Perspective Plan OPP2 (1991-2000) with National l)evelopment Policy (N1iP) replacing the NEP, represents a major departure from the previous phases in that it has assigned the state only a passive role, recognizing the prowess and primacy of the private sector. The severe recession of the mid-1980s, which culminated in a negative economic growth in 1985, had apparently led to a rethinking and re-examination of growth and development strategies It does appear in retrospect that

169 TABLE 2; Percentage sectoral allocation in Malaysian Development Plans

L )[)i II 'Y I SI YP

Plan A( IWO PLui Actual Plan Actual

Econorni<. Sector 906 80.8 69.2 789 68.8 66 5

Agriculture 224 22.9 23.1 23 o 25 5 17 7

Infrastructure 68.2 58.0 44.7 54.0 42.1 46.6

Industry n.a n.a 1,4 1.3 1.2 2.2

Social Sector 9.4 7.1 14.4 228 15.6

EducaiWn 60 4.8 8.3 63 12.1 8.9

Health 2 2 2.2 4.3 1.3 6.7 3.8

housing 1 2 rca . 5 9 68 3.7 2.6

Other Services rca ri.a n a ii a 0.3 0.3

(icner'aI rca 12.1 123 6.7 8.4 17.9

Administration n a n.a 123 6.7 4.1 6.3

it a n.a n a n a 4.3 11.6

Total 100 100 100 100 100 100

RN million 847 681 1149 1007 2105 2652

DDP. Diaft Development Plan

PFYP First rive Year Plan (First Malaya Plan).

SFYP. Second Five Year Plan (Seeond Malaya Plan), 196165

Soutc, Various development plans

170 TABLE 2...

IMI' 2M1' 3511' Plan Actual Plan Actual Plan Actual

Economic Sector 596 63.3 71.6 72.3 640

Agriculture 23.9 26.3 23.1 21.7 2(18 22 1

Infrastructure 33.8 33.7 328 34.1 24 8 266

1 9 3.3 157 16.5 137 IS 3

Social Sector 21.4 17.8 14.0 13.8 17.6 17.2

Education 10.3 7.8 7.4 6.9 69 73

health 4.2 3.5 2.2 1.8 1 7 1.5

housing 4.6 4.9 2.3 2.4 S 5 6.1

Other Sers-ices 2.3 1.6 2.1 2.7 3.S 13

General 19.0 14.9 14.4 1-1.0 23.1

Administration 2.8 3.2 3.6 3.6 2.8 2.2

Security 16.2 15.7 10.8 10.1 20 3 16.6

kital 100 100 10(1 100 100 1(0

RN million 4551 4242 10256 9821 311 21202

Notes: iMP: First Malaysia Plan, 1966-70

2MP: Second Malaysia Plan, 1971-1975

3MP: Third Malaysia Plan, 1976-80.

Source: Various development plans.

171 TABLE 2...

4rvlP OMP

Plan Actual Plan Actual l'lan

Economic Sectot 60.5 61 4 64.8 64 So

Agriculture 16.3 tO 3 19.9 19 9 16 4

Infrastructure 30.5 31.6 33.6 339 29.9

13 7 13.5 11.3 10 7 10 5

Social Sector 21.5 21.1 24.8 24 3 24 5

Education 10.1 9.9 16.1 15.6 15.5

Health 1.6 1.6 2.6 26 4.1

housing 85 8.4 4.1 0 I 0.2

Other Services 1.3 1.2 2.0 6.0 4.7

General 180 17.5 10.4 11.3 18.7

Administration 1.8 1.7 3.2 33 3.4

Security 16.2 15.8 7.2 7.9 15.3

Total 100 100 100 10(3 100

RN million 46320 49025 37290 35300 55000

Notes: 4MP: Fourth Malaysia Plan, 1981-85

5MP: Fifth Malaysia Plan, 1986-90

6MP: Sixth Malaysia Plan, 1991-95.

Source. Various development plans.

172 the dominance of the public sector might have contributed to the malaise of the economy in the Given the severe resource constraints encountered by the public sector, the government hardly had any alternative to allowing the private sector to set the pa.e. The current phase of economic planning in the country capitalises Ofl the dynamism of the private sector, riding on the market forces. Consistent with the new economic philosophy i e., the state taking the hack seat, with the private sector steering the economy the government has brought about a spate of policy reforms in the second half of the 1980s. allowing market forces a greater leeway. Interestingly, policy liberalisation has included privatisation of several public enterprises. The effect of this reorientation is reflected in the fact that the ratio of public to private investment has declined after peaking in 1983 (Figure 1).

3. REGULATIONS AND INTERVENTIONS

Undeniably, Malaysia has a highly regulated economy by market economy standards. Indeed, regulations are looked upon as an important policy instrument. Many of these regulations ore NEP-based, with regulations representing a major variable. The sharp increase in the number of legislations. procedures and licenses is largely a by-product of the rapid growth of public enterprises in the 1970s and in the midst of the These regulations were then considered necessary to bring about

173 Figure 1 Ratios of Public of Private Consumptions & Investment 1970 - 92

120

110 - / 100_ 90. * / / —— / 60 — \ — -. I / — \ / 40 / 30_ -

20 - I I I I I I I I I 1970 1975 1980 1985 1990 Year D Consumption + Investment increased Bumiputra participation in commerce and industry as well as t.o offset, the weaknesses of certain policies, with regulations giving to more regulations.

As mont inn nv reguLit have revolved a round the NEP 'Lbe much-criticised Industrial Coordination Act ICA) ci 1975 represents the single most inIportarit piece of legislation affect rig the industrial sector The ICA has required all manufacturing companies with a paid-up capital of RM250,U0O or more to obtain a license from the Minister ol Trade and Industry, who was empowered by the Act to refuse a license in the national interest, which included cancellation of licenses on the basis of non-compliance of companies with the 30 per cent Buniiput ra equity participation requirement. In the same vein, the Companies Act 1965 Was t.ightened up in 1984 when the government enacted the Companies (Amendment 11111 containing 73 amendments. One of these has called for the establishment of a panel to administer, supervise and control mergers and takeovers. Yet another amendment has mandated that all companies disclose substantial shareholdings of 5 per cent or more,ost(n-ohlv to strengthen the government surveillance of predatory ma noevres. It appears that such regulations have led to increasing production and transaction costs, productivity declines, disincentives for capital accumulation, rent-seeking activities, and corruptive practices In addition, regulations

175 have placed an additional burden on the bureaucracy. Difficulties in enforcing existing regulations have led to the imposition of new regulal ns Consequently, the arm of the bureaucracy has ongel and stronger It was no wonder that Malaysia had Orw oI he biggest service machinery in the world in 1984 with 46 civil servants per one thousand nopulation whih compares overwhelmingly with OECD's Africa's 20, Asia's 30 and Latin America's 38. What is more, government expendit ore on civil service emoltunents constit uted about 46 per cent of the government's operating budget (Yip, 1987). Although it was not the intention of the government to use regulations for stifling private sector activities, there is little doubt that these regulations have acted as a dampener on private sector initiatives In particular, the wide ranging powers of the Minister of and Industry, the Registrar of Companies and the panel on mergers and takeover, whose decisions are final and cannot he challenged in a court of law, have acted as a pain in the neck for the private sector. The business environment, clouded by regulations of sorts, had grown dull and sterile by the rnid-1980s. The complexity of the regulatory system has tended to increase uncertainty and risks. This was exacerlated by the fact that the implementation of regulations was entirely arbitrary Bureaucratic procedures, more than not, proved to he extremely frustrating, with delays in offi al while

176 the time and resources of private enterprises were dissipated in circumventing regulations.

4. OWNERSI{IP ANI) CONTROL

t the N EP, the entrepreneurial role of the state was dominant 'ihe state took upon itself the task 01 holding in trust the Bumiputra share of the equity. as the Rutniputra private sector was iii no position to inobilise resources for capital acquisition. It was reasoned that the state should fill the vacuum arid hold the Bumiputra shares until the Bumiputra community is ready to take over. sector expenditure rose sharply under the NEP. The ratio of public sector expenditure to GNP rose from 29 2 per cent in 1970 to a peak of 58.4 per cent in 1981 (Figure 2), with soaring public sector deficit and national debt It is important to note that the bulk of the public se tor in vest ment has gone nto capital-intensive projects with tong payback periods l'hese include heavy industr tiIE'ga projects and numerous public enterprises which were Emt renched in nearly every branch of the manufacturing sector, 'Ihe public enterprises included not only public utility agencies such as National Electricity Board; mu n ication L)epartnient, and Wat erworks Depart meni. but also fully government -owned public corporations and statutory bodies such as FELI)A (Federal Land Development Authorityb MAIIDEC (Malaysian

177 Figure 2 Trends in Public Sector Finance, 1970-92

60 - -a 50

'U, 40 I" /0 0 30 ...,,/0' 'U'

20 - / 4/ 0 I I I I I I I I I 1970 1975 1980 1985 1990 Year 0 expd as % of GNP + deficit as % of GNP Rubber Development Corporation) and many state-owned companies established under the 1965 Companies Art These public enterprises were engaged in commercial and industrial activitis. competing with other domestic and foreign enterpnses Among the doini nan t public enterprises are I [ICOM Teavv Industry Corporation of Malaysia). MISC (Malaysian International Shipping Corporation) and Petronas iNational Petroleum Corporation), not to mention several hundred enterprises created hv SEDCs. St ate Economic Development Corporations) -. the investment arms of the thirteen states which constitute the Malaysian federation. At the time of Independence in 1957, there were only 23 public enterprises in the country, engaged mainly iii the provision of public utilities, transporation, telecommunication, agricultural development and finance. Outstanding examples are R1SD\ Rubher Industry Small Holders Development Authority) and FELDA. The former was up to modernise the rubber small- holdings arid to improve their productivity through the use of high-yielding rubber clones, while the latter was established to open up new agricultural areas which also served the purpose of resettlement of the landless. Under the NEP, the number of public cnterprises has grown, focussing mainly on the issue of income and wealth disparities. Public enterprises were seen as the main vehicle that would assist and enable the Bumiputra community to participate more actively in the modern commercial and industrial activities.

179 As indeed elsewhere, market failures have been viewed as a major rationale for government intervention in Malaysia. The unwillingness or the inability of the private sector in meeting certain social needs has prompted the state to step in. Natural monopolies, as in the case of petroleum and gas, have also drawn the state into production and distribution of economic goods. Another major rationale for government intervention in Malaysia has been the need to ensure growth with equity. in fact, the high profile of the state in the economy during the NEP years was ascribed primarily to this specific objective, with public enterprises playing an instrumental role in restructuring the ownership of assets within society. Public enterprises in the NEP context have served as patrons of the Buntiputra community, not. only by acting as its trustees holding the I3umiputra in various vent ures through the operation of wholly-owned enterprises and joint-ventures with the private sector undertaking direct or portfolio investment, but also by complementing the efforts of Bumiputra enterpreneurs.

Public enterprises have also shot into prominence in the wake of heavy industrialisation in Malaysia during the 1980s. HICOM and its subsidiaries have undertaken several mega projects in automotive, petrochemical steel and cement industries. This particular mode of stat.e intervention was apparently inspired by the and Korean experiences.

180 During the second half of the period 19751989, a total of 901 public enterprises were created and these represent nearly 60 per cent of all public enterprises in the country (ismail, 1991 Public investment grew steadily at an average annual rate of 13 per cent in real terms before taking a sharp upturn from 1980 onwards, (Figure 3 and Table 3L The rapid expansion of the public sector had contributed to the sharp increase in public deficit and national debt in the early I 980s. The bulk of the domestic and external debt in the first half of the 1980s were incurred by public enterprises causing severe macroeconomic, strains (Ariff and Hassan 1990). Borrowings by statutory bodies, government-owned companies and state governments from the federal government increased from RM1.2 billion (equivalent of 24 per dent of the federal government's outstanding debt) in 1970 to RM17 billion (equivalent of 37 per cent of the total debt.) in 1982 (Table 4) It appears that the expansion of the public sector may have impinged upon the private sector by crowding them out. it also appears that public sector productivity does not compare favourably with that of the private sector. In 1982, public sector expenditure had contributed a substantial 4.8 per cent to the GDP growth of nearly 6 per whereas its contribution to G1)P growth has been negative since 1984 The rapid expansion in public enterprises seems to have led to a sharp decline in the

181 00 Figure 3

Malaysia: Public & Private Investment, 1970 - 92

0 .0 15

0 Public Year + Private TABLE 3: GNP by Expenditure Aggregates - Share in GNP 1970-92

Percentage of (iN P in current prices

Year ('onsu m pticin Invesimen Public Private Public Private

1970 16.4 616 57 12.0 1971 17.9 o4,5 6.8 13.4 1972 20.4 61 9.6 13.0 1973 16.2 57.1 7.0 16.4

1974 16 1 58.4 7.5 19.0 1975 18.2 60.6 9.8 16.2 1976 15.9 545 9.3 13.7 1977 17.3 54.5 9.3 13.7 1978 16.8 54.1 9.4 16.5 1979 14.6 505 9.3 18.3 1980 17.1 52.4 12.1 20.2 1981 18.7 550 16.7 20.6 1982 19.2 55.7 19.1 19.0 1963 16.8 55.6 20.5 17.9 1984 15.8 53.4 16.2 18.0 t985 16.5 56.0 15.1 17.1 19S6 18.2 546 12.9 15.3 1987 16.4 50.5 9.7 14.7 1988 15.2 52.3 9.3 16 3 1989 14.8 55.4 11.6 19.8 1990 14.2 566 121 22.1 1991 14.9 574 11.9 25.3 1992a 14.1 55.0 11.5 25.5 1995h 11.8 52.4 9.5 25.3

(a) Foiecasts (b) 1995 figures are projections. Source. Malaysia, Ministry of Finance, Economic Report (various years), and the Malaysia Plan

183 TABLE 4: Outstanding Loan due to Federal Government from State Government and Authority and others, (In R %! millions)

PLIh!iC lot 0 Ant loans & (

1970 1181 1971 1530 828 213 1972 2045 1094 1973 2504 1326 367 1974 3343 1o91 1975 4162 2124 5074 2624 761 197 6334 3101 lOb

1978 7394 3666 1 Ic! 8922 4310 1216 1980 11132 6301 1394 1981 13760 7002 12 1982 17919 7060 1983 21842 M457 4986 1984 25996 989o 62 1985 36297 11160 6960 1986 40348 10304 9029 42117 10916 1988 43486 11052 43956 12097 1990 43039 11318 6042 43978 11132 45664 11553 (,W3

Estimated actual. (bl Latest estimates.

Source: Malaysia. Ministry of Enarice, Economic Report (vanous years 1 TABLE

(In RM' tnt/lions)

I lousing Stare loans to hersd Year Governnie ri I Goverm en t 01 Officers

1970 302 - 126 1971 341 18 130 1972 436 71 122 1973 552 142 117 1974 815 207 114 1975 1107 176 110 1976 1284 214 188 1977 1643 282 292 1978 1808 205 614 1979 2082 513 807 1980 2494 643 300 1981 3271 1393 557 1982 769 2853 642 1983 4705 2953 741 1984 5392 3705 76.5 1985 6118 4473 7586 1986 (>770 5373 8872 1987 7400 5473 9772 1988 7845 5473 .10393 1989 7383 5473 11934 1991) 7317 5473 12826 1991a 7384 5473 13994 1992h 5473 14791

(a) Estimated actual. (b) Latest estimates. Source: Malaysia, Ministry of Finance, Economic RepoO (various years).

185 productivity of capital in the economy, with the average incremental capital output ratio (ICOtfl rising from 2-3 in the 1970s to 5-6 the early 1980s. In particular, the public sector ICOR had increased from 6-7 in the 1970s to 15-16 in the first half of the 1980s, while the private sector ICOR remained at a much lower level, with a modest increase from 2-2.5 to 3-4 during the same period (ismail, 1991) Many public enterprises have not performed well Their financial woes became evident during the difficult years of the mid-l9hOs when the Malaysian economy was under strong recessionary influences. The total accumulated loss of the non- financial public enterprises exceeded RM2.3 billion by the end of 1987. The Parliament had apparently failed to secure public accountability of public enterprises. It thus became abundantly clear by the mid-1980s that the state had loomed too big, too bureaucratic, and too interventionist.

5. REORIENTATIONS AND REFORMATIONS

A reappraisal of the functions of the state undertaken by the government in the face of the difficult circumstances of the mid-1980s led to a series of measures aimed at reorientation of the role of the state and policy reformulations. All this had led not only to a revitalisation of the government machinery that has subsequently become leaner and more efficient, but also more importantly to a gradual eclipse of the state as an entrepreneur and the

186 emergence of the role of the state as a facilitator. rrhis meant that the private sector would steer the economy with bureaucracy a supportive role,

The role of I lie facilitator H SPPfl as oflP of adopting appropnat e policies that would enable the private sector to contribute niosd. effectively to the fulfilment of the socioeconomic goals cf the nation. Economic growth is recognised not as an end but as a necessary means. Equity remains an important socio-economjc objective, but it is also well understood that equity without economic growth can be extremely disruptive and hence unsustainable.

I3y far the most important function of the role of the state, besides maintaining law, order and security, is to ensure macroeconomic stability. A sound macroeconomic management. is absolutely critical No other policies would work unless and until the state gets its macroeconomic policy right Accordingly, the Malaysian government has paid much attention to macroeconomic management in recent years, adopting pragmatic budgetary policy, prudent monetary policy and realistic exchange rate policy, so as to minimise if not eliminate distortions in the goods and services market, money market and forex market. These policy moves combined with trade liberalisation measures through tariff reduction helped neutralise the existing bias against exporting, and redirect the flow of resources from the non-traded to the traded The facilitating role also meant eliminating unnecessary

187 regulations that tend to act as a dampener on private sector initiatives. In this context, reference must be made to the relaxation of rules governing equity participation by foreign investors. It is noteworthy that foreigners are now allowed to hold even 100 per cent equity where 80 per cent of the output is exported and that companies that export at least 50 per cent of the output or employ at least 350 full-time Malaysian workers are exempted from the equity restructuring requirement along ethnic lines. The facilitating role has also meant streamlining the state administrative machinery, cutting redtapes and expediting bureaucratic processing and decision-making. It has been found that "one-stop agencies' can save much time and expense for the private sector. An important component of the new orientation of the Malaysian state has been its privatisation drive. Privatisation of public enterprises represents a significant departure from earlier approaches. Privatisation has been vigorously pursued because it could (a) relieve the heavy financial and administrative burden of the government. b) raise efficiency and productivity through increased competition, (c) accelerate output growth, and (d provide opportunities for the Bumiputra private sector to increase their stakes in the economy. Undoubtedly, privatisation is antithetical to what may be termed "state However, it is pertinent to note that privatisation in Malaysia is essentially driven by pragmatism and has little

188 to do with idealogical predilections, notwithstanding the fact that Malaysia's political regime strongly believes in the prowess of the market place.

A short-term perspective of privat.isation would he that it was a public policy response to the dismal performance of many state-owned enterprises, ballooning external and domestic debts and public sector deficits. A longer-term perspective would be to view it in the context of Vision 2020 which envisages Malaysia as a fully developed notion by the year 2020. the 'Malaysia Incorporated" concept, the public versus private sector debate becomes a non-issue, as it calls for fullest cooperation between these two sectors. one reinforcing the other, moving in the same direction and viewing Malaysia as a corporate entity This concept demands that all Malaysians. regardless of whether they are in the public or the private sector, 'think, work. produce, and sell as the National J"nterprise' Chan 1984).

Nonetheless, the prival e sector plays a key role under what may be termed the 'new national economic order', minimising the role of the public sector and confining it to those activities which the private sector lends to shy away from. The role of the state under the 'new order' is red uced to providing a conducive environment through appropriate policies that are essentially private sector-friendly. Accordingly, the policy framework of OPP2 lays considerable stress on the role of the state in improving economic efficicncv and corn pct it I supporting investment, enhancing human resource development, and consolidating public sector finances.

189 6. CONCLUSION

The role of the state in Malaysia has become less and less bureau-conforming" and more and more "market -con forming" over the years and Navaratnarn, 1991). This gradual shift has been induced by the need to make development goals compatible with the development of the market system, based on the experience of the East Asian NIFis (newly industrialised economies). This, however, does not amount to belittling or dwarfing the importance of the role of the state. Indeed, the state still has a crucial and even critical role to play in terms of formulating growth-promoting macroeconomic policies and undertaking massive in vestments in physical and social infrastructures. Under this new paradigm, the state is projected as a macroeconomic planner (leaving microeconomic decisions primarily in the hands of the private sector), as a regulator, and as a facilitator. The present privatisation imperative does not render the entrepreneurial role of the state by any means obsolete. Although privatisation may serve to upgrade the efficiency, productivity and responsiveness of the public sector, it is possible to privatise only the profitable or potentially profitable enterprises. To be sure, there are many areas which are not attractive enough for private sector investment, which are nevertheless important from society's point of view. While privatisation can force the public sector to be competitive by posing a threat to the bureaucratic status quo, privatisation can provide no panacea.

190 It. is wrong to assume that all private sector units are efficient or that all public sector units are inefficient. To he sure, efficiency has little to do with ownership. In the final analysis, it is competition, not ownership, that really matters insofar as efficiency is concerned. Privat.e enterprises in heavily protected sectors tend to be inefficient while those public enterprises that are exposed to competition tend to he efficient. This line of reasoning would caution against converting public monopolies into private ones, as it would only lead to welfare losses without any efficiency gains.

The new paradigm does not. obviate the need for the state to play the role of a However, it would be inconsistent with the new paradigm if the government were to engage in detailed planning. rrhe new paradigm calls for broad brush indicative planning in consultation with the private sector. In the same vein, regu'ations are necessary to ensure law, order and fair play in private sector activities hut care must be taken to ensure that all this does not strangulate the private sector. The state should provide a level playing field so that market forces, through private sector initiatives, can allocate resources efficiently. Picking winners for state patronage can be an extremely risky operation. Good governance has scarcely anything to do with the pervasiveness of the state in the economic affairs of the nation. Ironic.ally, if the Malaysian experience is anything to go by, a government that governs best is one that. governs least.

191 REFERENCES

Ariff, M. (1991). The Malaysian Economy; Pacific Connections. Oxford University Press, Singapore. Ariff. M. and liasan. M. (1990). "Fiscal Strategies and Public Debts: The Malaysian Experienre" in and C/ia lien ges for National Developmel? t. F'acul t of Economics and Administration, Univ-'rsitv of Malaya. Kuala Lumpur. Chan, Paul Thck 1{ong (1984). The of Malaysia Incorporated and Privatisation", in Mohd Nor Abdul Ghani. et al. teds'). Malaysia Incorporated and Privatisation: Towards Natonal Unity, Pelanduk Publications, Kuala Lu m p ur.

Chee. Stephen and Ramon V. Navaratnam (1991). 'The Role of the Public Sector in Economic Growth". Paper presented at the 11th Economic Convention of the Malaysian Economic Association. Kuala lu ni pur. Ismail Salleh (1991). "Privatisation: The Malaysian Experience", in Yokoyama, H., and Tamin, M. (eds.) Malaysian Economy in Transition, Institute of Developing Economies. Tokyo. Lirn. David 1983. "Malaysian Economic Planning", in Jomo KS.. and Wells, RJ G (eds.) The Fourth Malaysia P/an: Economic PeP'spcctH.'es. Malaysian Economic Association, Kuala Luinpu r Malaysia (1961). Ma/c' vsta P/un, 1961 1965. Kuala Lumpur. Malaysia (1971). Outline Perspeciwe Plan, 1971 1990.

192 Kuala Lumpur. Malaysia t19761 Third Malaysia Plan 1976-1980 Kuala Luinpur. Malaysia (1981). Fourth Malavüa Plan 19141- 19/45. Kuala Malaysia ii 9$5b Guidelines on Prwatizalion Economic Planning Unit. Prime Minister's Department, Kuala LumpuT. Malaysia (1986, Fl/Yb Malaysia Plots 198S 1990. Kuala lumpur MalaysIa (1 991& The Second Outline Perspective Plan 1991-2000. Kuala Lunipur., Malaysia (1991b). Sixth Malaysia Plan 1991 1995. Kuala Lumpur. 'Ibh K.W and Jomo K S. (1983) The Nature of the Malaysian State and Its Implications for Development Planning", In Jomo KS and Wells, R4J C teds) The Fourth Malaysia Plan: Economic Perspectives. Malaysian Economic Association, Kuala Lumpur. Verbruggen, Harmen (1984). "The Spread Effects of Manufactured Export Production in Developing Countries", in Van Dljck and H. Verbruggen (edsi Export-Oriented Industrialization and Employment: Policies and Responses, Council for Asian Manpower Studies, Manila. Yip, Yat Hoong (1987). "Regulation, Deregulation or Reregulatlon", in Jomo K.S. et al. teds.) Crisis and Response in the Malaysian Economy, Malaysian Economic Association, Kuals Lumpur.

193 THE ROL,E OF TI 'F S]AUF IN I)EVEJ.OPMFNT OF THAILAND

KHIEN THEERWIT Institute of Asian Studies Ch u ialongkorn Unioersity Bangkok, THAILAND

Thailand has adopted a niarket econofluc system Market mechanisms and the private sector are predominant. liowever, the government has played an important role, directly and indftectly, in promoting economic development. With limitation in terms of space and objectives of this paper, the following measures should be discussed.

GOVERNMENT ROLE [N ECONOMY

1. The Industrial Sector. The Lii economic system prefeN nrivate ownership of

194 the means of production. In practice, there are cases of state ownership and state.private but the number Is limited (about 65 state enterprises in August 1993; and Is gradually declining. Surving public enterprises in the indusi.riaI sector are Thailand 'Ibbacco Authority, Thai Plywood Co.Ltd. and The Pharmaceutical Organization All are making profits They are insignificant in terms of economic development. More Importantly, the government has played an indirect role in promoting investment in industries. The Board of Investment (BOI) has since 1960 approved more than 4,000 industrial projects. In the first half of this period, the emphasis was given to Import-substitution industries, but In the later half, export..led Industries have received higher priority. Privileges being given to promoted Industries are those of tax exemption for specified importing machines and equipment, tax holiday for Industrial profits, tax exemption for export products,

As a consequence, Thailand's growth rate has been relatively high, an average of 6 7'7Q per year. Industrial growth rate has been over lOcf per annum. On the other hand, the promoted industries do not necessarily create backward linkages. Import contents are still high. Henc!,

State.pdvat. sntwpdses wtdoh the goveewnent owns over 50% of the shares are dassifled as state enterprise?

195 they have promoted imports. but job-creation rate is not satisfactory.

In the last six years or so. attempts have been made to divert mrnt capito] n provincial Additiona! inentives or privileges have been used as instruments to create jobs in rural areas so as to prevent migration to the already crowded cities.

2. The Agricultural Sector.

Forestry and fishing are included in this sector Since the majority of the Thai population (80c' in 1992( remains in this sector, it is often considered as the backbone of the state.

Since the government launched the first 5 year p!an in 1961 the Thai economy has grown in every sector In formulating the fifth 5-year plan (19821 the government realiied that growth was uneven - - the agricultural sector was dragging far behind others. hence, special measures were adopted as guidelines to remedy the undesiral,' situation. In the plan, 12.562 in out of 73 provInces were identified as poor viflages and sot as targets for special attention, The targeted areas wore expanded in the sixth 5-ear plan 1991) resources were diverted to the areas to provide them basic needs. h care, education, and ott r riral

19 projects. The Seventh 5 year plan (1992-1996) acknowledges that is widely scattered in rural areas, covering about 15 million people, or about of the total population 1Ience. additional efforts are required to tackle people's income distribution.

Th conform with the countrys social and economic development plan, the governmen( allocated a relatively large amount ol money to rural development projects. In

fiscal year 1992 1 October 1991 - 30 September 1992), the budget for rural development projects amounted to 55,378 million hahi, (IJS$2,2 iS mn). The budget was supposed to be used for rural development activities, such as economic infrastructure, human resource development, and environment protection. The current budget for fiscal year

1994 (1 October 1993 - 3() September 1994) allocates 133.1 billion baht to rural development projects. The amount constitutes about. 21 of the total budget.

How is this translated into practice in the rural scene? There are virtually hundreds of thousand of rural development projects scattered all over the country. Some initiated and approved at the village, or provincial levels, and others at the central These are examples of the played by the state in rural economy.

2.1. There are at present 7 state enterprises set. up to promote social and economic development in rural areas. 2.2. Land reform program has been revitalized by the

197 present government In fiscal year ending on September 30, 1993 the distributed 4.53 million rrn of land p73 (approx. 1 1 mn. acres) to landless peasants The target set for fkcai 1994 is 6 million rei 2.3. The current seventh 5-year plan puts greater in the improvenwnt of economic infrast rurtu re irrigation. transportation, electrification. Various means were also introduced to disseminate information to the farmers on technical and management known-how.

2.4. Price guarantee schemes were used to raise the prices of various farm products. such as rice, sugar. cassava. and rubber. It is ironic that while the farmers want to retain their freedom to farm whatever crops they like the also expect. the government to intervene I 0 guarantee the price of their farm products. (it hc-'rwise. they will organize and rally against the government To get out of such a political hook, the government will have t.o aggressively seek foreign markets. 2.5. In livestock farming. the government intervention is even more complicated. Raising chicken, cattle, and pigs, requires assistance from the Depart mont of Livestock, Ministry of Agriculture, in terms of cross-breeding technioues, veterinary medicine, agricultural credits. and raising import barriers. For instance, at present. import. tax for meat is of the market 1)1_ice plus additional 5 baht per I un for import fee; for production, the

198 government was asked to set up a Dairy Farming Promotion Authority in I 971 This organization helps dairy farmers secure agricul I a ral credits from the Thai Farmers Bank cro's-breeding tech ntques. veterinary toedicine Dairy nporters are required not only to pay i in port tax. hut also to purchase local dairy product., 20 ijfljts in weight for every unit of imported powder milk.

2 6 'The government ml erven in agricult (Ira! sector Is not al avs in la vor of the lariners. though it is rare. The ilmost notOrIOUS eXample is the rice premium. The measure was introduced soofl after World War 11. It was designed to keep domestic rice price low - thus in faver of the non--agricult urd sectors and automatically raised the price of Thai expoi ted rice. The consequence was far teaching: as laborers earned low income, the industrial and service sectors could ernoy not only consuming cheap rice. hut also employing cheap surplus labor from the agricultural sect or The rice premium lasted until 1987.

3. 'frade and Service Sector.

Trade, tourism and financial institutions ale included in this sector. The big businessmen such as the hankers are most influential, politically, as they often have close connections with national policy makers The government has played relatively limited role in this sector

199 In banking business, the government set up four commercial banks: the National Savings Bank is designed for attracting capital accumulation: The Government Housing Bank aims at helping housing ownership among middle and lower level income groups; the Thai F'armers' Bank has a special mission to promote the farmers' productivity and welfare; the Krung ['hai Bank operates like numerous private commercial banks, but it enjoys the privilege over the others in handling government's financial transactions. The government banks present no threat to the lucrative business of the private banking industry. There are three public enterprises set up to promote tourism and hotel business. Their budgets draw from the government revenue, but the activities are to benefit the tourism indusiry. Big hotel businesses get promotional privileges. It has been a controversial issue whether or not this higher income group deserves to gain such a favorable treatment from the government. In the commercial sector, government. intervention is minimal. There are four commercial state enterprises set up under the Ministry of Commerce, three of which are provincial companies which engage in small scale trading. 'rhe other, the Public Warehouse Organization, operates nation-wide, and carries some weight as pricing mechanisms of important goods such as fertilizers. The

200 other similar pricing of the government in petroleum product is the Petroleum Authority of Thailand.

in short. Thailand has always maintained a free trade Certain product—are irnes subject to prier control (e g gasoline pork, fertilizer), but that era seems to e passed. The government sometimes uses taxation or nonetar system to siinjulat.e or discourage imports or expoits.i)evaluatiun of Thai baht is sometimes used, but these and other measures are on their way to becoming things of the past. though the government still retains them as parts of the state power.

4. Economic Infrastructure.

Infrastructure includes comniunications, transportation, irrigation, supplies and electrical supplies. The government has played an important role in this sector. Communication of all kinds) and transportation have been given a high priority in all social and economic plans since 1961. This is well demonstrated in the number of public enterprises (141 set up to stimulate or facilitate economic growth, most of then) are under the supervision of the Minsitry of Interior. Most of them made profits, e.g. Metropolitan Electricity Authority, Provincial Electricity Authority. Thai Airways Co.Lt.d., Telephone Organization of Thailand Some others survive only heavy

201 government subsidies, e.g. Bangkok Mass 'liansit Authority, State Railways of Thailand. Questions arise whether the govetjnent which advocates free enterprises should retain The Communiations Authority of Thailand which operates a news agency, a television station and a radio network.

The irrigation system has been nianagad by the Irrigation Department of the Minsitry of Agriculture and Agriculture Cooperatives. When the gmernment built a dam, it always made it an objective that the dam would Introduce an Irrigation system to the needy rural pool. But this part of the pledge has not been always realized. Moreover, increasing concerns over environmental effects have made it difficult for the government to initiate any new dam or water reservoir project. Increasing demand'i fur water consumption on the patt of p73 city dweliers have given sufficient reasons for the Metropolitan W4tts'r Works Authority and the Provincial Water Works Authority 10 expand their operations across the country. Again, new questions are being raised now whether the work should he better done by the private sector, instt'ad of the government's public enterprises. There are also questions about the government's engagements in like electrical supplies and housing. At present, there are five public enterprises involved in these sector's. Electrical supply business was

202 initially operated by the government, partly because of security But now commercial rons!derat!uns may be more dominant, ii has become 01! inpoi'f ant source of ret' nue of the ernment The National TI ousing Authory tS an ('Xteflslofl ot the welfare ai in is not profit hut providing housing br midci Ic and lower level income groups. special lv for no nor government lu net iona ries

ihe East crIt Seal rd I nd I !st n I Develop own t P has required huge rsources for the iii Irast rw'ture. 'TrIlilendoUs amounts of !()ar!s have been for this project Jn the final analysis, the money is from the tax payers The runt ro\ersial quest ion is [)o I he rich to git so touch support ft-urn the tax payers? Yes, if one bphpves in the I ric'Ide down theory. Anyway, this is the capitalist a p proat' I o 'onoliilc developinr'nt I low mitch he go nt should provide economic inIrast t'uct tire to it ()iIiInIlnjtV and who gets what remains

1 ((mt ruversial iSSUe

TIlE LI\IITS OFT tIE UU\ ROLE

The 'l'hai government. in; all of hers, has intervened in its economy in some ways In fact, many activities conducted by various ministries are economic oriented When an issue arises and the government agi'ees that this is an

203 economic problem and a special organi'iaf ion to handle it. a public enterprise is then set up. Reasons beIng used t.o support it can be numerous. such as considerations. managori:t1 flexibility. monopolistic requirements. etc. The public enterprise h*nce symbolic to the government iii ervent ion in its economic development. Property rights and public choice theories conlend that publicly owned enterprises are less efficient than private enterprises. The inefficiency is due mainly to complicated government regulations and ineffient management. The general conclusion is that the state-owned enterprise is a drain on public budgets. This image applies also to the Thai scene.

This is not always true. A study conducted by Dr. Kraiyudht Dhirat.ayakinant of the Faculty of Economics. Chulalongkorn University, points out that in 1986 the balance sheet of 64 state enterprises (out, of the total number of 67) shows an excess of 15841 78 million baht (US$633.76 mn). Only 16 state enterprises or of them operated with net deficit. And the total amount of the delict accounts for only 14Y of the total profit Anyway the image of the state remains poor

(2) See research report by Kra(yudht rstayakinant. State Enterprises Thai Economy [tIe Present Status Prospect for the

) Future . .1 'cade of Thai Economy; ed (Press Development Institute of 1993), pp. 156.

204 The prafe sector the state- enterprise as its adver.sar\ and weighs psychological warfare against the t-r Moreover, there exist a tendency of anti— govern mont bias, and people tend to believe in the negative

as compared to I he positive one So, in the last few \'ears. against the state ownership are rong. of Thai land s state ('fit erprises are in the process if struggling for survival.

I Privatizat ion.

Moato to e st riot state intervention in the economy and to I ransform state -owned assets to private 'sector. arid to refrain from .a-tting up new ones. This can be done by sollingot I through share issues partially or totally.

In the last tO sears, privatization has become fashionable II will continue throughout 1 990's In 'Fhiiland. the gecornatent in varing degree. has followed in I erna i onal mood, set as goals to red uce the gc)vernnLi'nt role in The government has recognized that the engine of the economic development should be t lie private t or and not the government. This has received wide support due mainly to a numl)er of factors. First t lie private sector is now sufficiently strong. Secondly, some flew protects require too much capital for the government to include in the budget. Thirdly, national

205 security interests is no longer interpreted as broadly as before. However, the public enterprises ill he uivested on selective basis and on phased schedule

In air tr:lnsportatinn. t}v Thai \irlins adminsitered by the Thai Airways ('0.1 t ( p io 992 ii was doniinat ed by the Thai Air Force. 1 Air Force Commander was cx officio Chairman of Executive Board. The Anand Government in partially privatizing the Thai Airways. 100 million out of 300 million shares were sold to,the public. The civilian was appointed Chairman of the Board for the first time in the of the Airlines. At any rate, the govern mont remains the largest shareholder and thus retains control the point state-private enterprise.

In navigation, the Navy still do ni mat e the Port Authority of Thailand. as the ('ominaniler of the Navy is still cx Chairman of the Executive Roard 0t that —Ootc enterprise. 11 owever, on I)ecem to r 3, 1 991 . t he Ar; ii d Government decided to separate the Loem Chahing Commercial Port from the administ at i' e structure of the Port Authority of Thailand. This has definitely ended the Navy's control over the new port. hut the stat us of the port — as a purely state enterprise or a joint public- private enterprise. under Finance Minist ry's supervision or Communications Ministry supervision ill unclear The Bangkok transport system we nationalized l\ he

206 Kukrit Government around 1975 and since then it has opperat.ed with government subsidies In recent years the government has wished to dc-nationalize the Bangkok Mass Thinalt Authority, but has failed to do so. for reasons to be explained later in any case, the government has determined to limit the growth the Mass Transit Authority. So. new mass transit projects will he In the form ol private enterprises. On February 7, 1992 the government signed a contract with the Lavalin Co. Ltd to jointly set up the Bangkok Skytrain Corp. Co. Ltd. Of the capital investment of 68,000 million baht, the government agreed to own 25% of the shares. The telephone service has been administered by the state enterprise, the Iblephone Organization of Thailand. It has been well that the government is empowered to monopolize the business for security concerns and service stability istrike by state-enterprise workers is prohibited by lawi. Now, these concerns are no longer predominant. The Anand I Government (March 1991 - April 1992) signed a contract granting two million lines of telephone senlce in Bangkok area to a private company iC.P3. The other one million lines for nation service outside Bangkok was awarded to the other private company Utczley) during the Anand 11 Government (June - September 1991).

207 2. Problems and Prospects.

In theory. privatization can he done in many forms through various processes. In practice, it is not easy Since 1980 Thailand has succeeded in divesting only 7 slate enterprises. Two others were privatized through selling over 50% of the shares to private share holders. About 10 other state enterprises have partially sold the shares or parts of the contingent business while retaining the major shares or parts. The limitations come from a number of considerations. First of all, there often exist a strong opposition ol employees, who fear losing fringe benefits and job security. In addition, there is vested interest of the officials supervising state enterprises. is the case in point for the Bangkok Mass Transit Authority.

Second, the government has to be cautious. Some slate enterprises function as price regulators in the free market

- to prevent monopoly on the part of the big business The preservation of National Petroleum Authority of Thailand is the case in Third, some state enterprises are maintained even though they have poor records in terms of budget This is due to political considerations and welfare-oriented business The State Iway of Thailand is

208 the cahe in point

Fourth the private sector ic Thailand powerful. (I arid dit ically Thiv have close ConneCtionS

ith r They dliiafld total fleed(a]i in run ru rig their' hie-.r ness, hut at the time t hey aiwas want tiNt •duss mci ure to he provided by the government 1 leiice, it net always t rue that they can do bet or than the goverritnen t ii nsummers' interests are taken into consideration.

In any case, privatization a trend for the future

Power and politics are prevailing over reasons. I such COrtditlons, the goverrument roust devise measures to guaranl oe a minimum 1e\ el of national securil. a rid fare ness in business cuinpet it ion.

209 THE ROLE OF THE STATE IN A GRADUAL MARKETIZATION: Recent Experience of Indonesia

DJISMAN S. SIMANOJUNTAK Director Graduate School of Management Prasetiya Mu lya .Jcvkarta, INDONESIA

INTRODUCTION

Within a relatively short period of independence In donesia has experienced different episodes in its ecorionhic The Constitution 1945 provides a formal ground for a strong ceonornic role of the state, among other things that industries which are related to the livelihood of the public should he controlled by the state. Through the nationalization of foreign comparileis in the

210 late 1950s public: sector enterprise emerged as major par ticipani jn the eronomy Soon after this nationalization a planned of a soft type or guided economy was introduced Following a disastrous outcome of this guided economy and the defeat of the Indonesian (ommunist Party in the mid 1960s a pragmatic policy in favor of a stronger participation of the private sector was announced in 1967. Only six years later the oil shock caine Given the state control over oil and gas resources this shock and the one following in 1979 1981 blessed the government, with a strong improvement in u.s resource position. Combined with external borrowing, the oil money made it possible for the government engage in a large and rapidly growing public sector However, any windfall is doomed to be short lived. Oil price plunged in 1982 and, again, in 1986. An adjustment process was immediately set forth of which niarbetizatiori has been a very important part in stages, anticornpetitive forces were dismantled. With help of a huge of debt capital and a relatively favorable international environment the marketization brought the economy hack to a high growth path accompanied by some important structural changes. However, there is no such a thing as a complete blessing in economic development.. In 1989 Indonesia suffered from an overheating. As indonesia started to debate on the Sixth Five - Years Development

(1994 1999) and the Second Twenty - Five - Years [)evelop- meat a plethora of issues of maldistribution gained in prominence. At the end of 1993 Indonesia is, therefore,

211 which a search for a new balance between the state and market is an important component.

FORMS OF STArE I NVOLVENIENT IN TUE ECONOMY

At the end of the I 970s an intensive state control through ownership and policy directives was among the major fea. tures of the Indonesian economy. Along the line of gas and water of the Fabian Society numerous industries were controled through monopoly ownership They include important natural resources such as petroleum and many other mineral resources, public utilities arid services, and heavy industries such as iron and steel, basic chemicals, and cement factories. In addition, state enterprises also compete with private enterprises in a number of industries such as textile, paper, electronics, and machinery, as as services such as financial services, trading, hotel and health care The extensive coverage of state ownership in the economy of Indonesia cannot be satisfactorily explained in a theoretical way. In a number of cases such as road infrastructure, market failure such as non exeiusjon in consumption justfies this ownership control. In Some other important cases such electricity the existence ol natural monopoly offers a st rang reason for state ownership. How- ever, as progress makes the problems of in- divisibility less and less acute - progress in cellular phone and power plant with a small capacity greatly reduced these

212 problems - even nat iral monopoly as a justification for state ownership has been challenged Moreover, ideology is usoally blanketed in the theory on state ownership The fact that state ownership much more extensive in I han corninu mi! uw.nership or cooperative ownership in sp!ii thu- coost itutioral preference for the latter is a result of practtcal experience rather than theoretical

History has a very irilporta rut place in economics The choice of techonology the choice of local ion and many other import au decisions are not necessarily a product of a thorough theorizirug State ow nership in the economy (if Indonesia can also be explained more easily by using histori-- cal perspectives. Struggle for independence in the In- donesian context was also a struggle against capitalism which to a great extent was a kind of economic arm of colonialism. The nationalization of foreign companies in the late 1950s was also related to the refusal of the Dutch government to recognize Irian Jaya as an integral part of Indonesia. Lack of indigenoous businessmen during colonial time motivated an active policy to remove this handicap. State enterprise was part of this capacity building of indigeneous businessmen. In the 1950s a program was launched to facilitate the growth of private indigeneous businessmen with government support inthe forni of preferential access to financial resources, scarce raw materials, government procurement and import licencing. Sofar, no breakthrough resulted from this program. The

213 share of indigeneous Indonesians in the ownership of bust ness is still widely considered to be too small. Increasing this share is likely to continue to influence the policy making in Indonesia for a long time to come.

The role of the state in an economy is also influenced by the resource position that the government is faced with. Unfavorable resource position implies a less exter,she involvement, however strong the desire may be to do otherwise On the contrary, favorable resource position enables a government to step up its presence even beyond what is necessary. When oil price tremendously increased in the I 970s Indonesian state enterprise experienced a new wave of expansion. Existing enterprises embarked upon a progressive expansion program Pertamina became one of the first large conglomerate of Indonesia by entering a wide range of businesses outside oil such as air transportation, shipping, hotel, hospital and property. The expansion was checked only when its financial unsustainability became apparent in the mid - 1970s. Major capacity expansion of state enterprises also occured in shipyard, aircraft, fertilizer, cement, machinery and a number of services, particularly air transportation an pas senger sea transportation. The resources needed for the estab lishment of some businesses were in fact considered to be too big for the private sector. Hence, state enterprise is assigned a pioneering role. In a number of cases these industries are new to Indonesia. Their viability was highly questionable in case of an open competition.

214 The most common argument fbr an active state in a developing economy is associated with the infant industry argument in the case of Indonesia this active role takes the form of both ownership and a plethora of regulations that amount to reducing, in some cases even to sUppressing competition in order to ease the growth of first entrant(s). One can reverse infant industry argument to support the involvement of government in aging or declining industries. The ownership participation of the government of Indonesia in certain businesses was pratly a result of rescue programs. Such a takeover has occured frequently in financial industry, particularly banking. Though less common, it also happened in manufacturing. Infant industry argument and senile industry argument have combined over the years to have the effect of a highly distorted incentive system in Indonesia. In some important industries prices of factors and goods were and still are controlled by the government. There is a minimun wage in labor market with dubious effectiveness Interest rates were also fixed by the monetary authority up until early 1983. During the period of high inflation of the 1970s this interest rate control resulted very often in a negative real interest rate for both deposit and lending. Administrative fixed prices are found in fuel, electricity, public transportation and telecommunication while flexible price is maintained in rice with logistic intervention in case market price threatens to go out of the periodically determined tunnel. In the case

215 of cement an indicative price is in In short, price control has always been a favored polkv instrument in Indonesia, pursued with a multiple objectives which are rarely met simultaneously. Studies on fuel subsidy and university education subsidy for instance revealed that the benefit of these subsidies has been enjoyed mainly by high -income groups while the costs of distortion are widely spread over the whole economy. Investment licencing serves as a major channel through which the government exerts a strong influence in the economy. The government of Indonesia used t.o issue every year an Investment Priority List which specifies the areas which are open and under what conditions to new investment as well as areas which are closed to newcomers. of entry range from the size of capital involved, the location proposed, local content, arid the in- tegratedness of the proposed project. In sonic industries capacity was even subject to licencing. An investment permit is good only for the capacity stated in that, permit. Should a producer want to produce more a separate licence was required. For different reasons, there was a similar control in blanking. Credit. expansion was rationed. A commercial bank can only expand loan up to the ceiling which was fixed on an annual basis by the monetary authority. Incentives such as the right to import raw materials and capital goods free of duty are made conditional on export performance. in the case of foreign which in Indonesia means

216 joint venture, additional requirements are set. They include maJoriry local equity and a commitment to replace cx patriates by Indonesians

icencing which aims it proiding entrants a competitive edge over late corners requires I he support of trw/c policy in order to be effective. This support takes the form of' tariff arid non tariff barriers. By 1985 tariff rates were extremely high in Indonesia or even prohibitive in sonic cases At the same time an intransparent highly restrictive import licencing system was maintained. Import of SOIflO inputs was exclusively left to producers who need those inpyts in their production process. import of some tin ished products was made an exciutive right of the producers who possess the right to assemble similar products locally. Sole import agency was also widely applied. In the automotive industry for instance a local company can he a sole agent of various brands. Products which fiercely compete elsewhere were made foruily in Indonesia. Togot her with the very high tariff rates, this complex import licericing resulted in a very high rate of effective protection The priveleged producers squeeze a high level of rent from this extremely distorted system of incentives the cost of users. What is more, exporting was made tot-ally unattractive in industries where distortions were very high. Artificially kept high, return on local sales was unmatched by that of export. The environment was hostile to new comers, and conglomeration mushroomed.

217 MARKETIZATION, PRIVATIZATION AND DEBUREAUCRATIZATION The active economic role of the state was rarely rhal. lenged in the first 30 years of Indonesia's independenre The overall economic performance in the 1970s was relatively strong with growth rates of GDP persisting at over 7 perrent a year except in 1975 and 1979 when they were lower than 6 percent. The fact that serious distortion in the incentive syatem was penalizing export of the majority of industries was not of immediate policy relevance. Export earning from oil and other primary commodities, especially timber were strong enough to keep the current account deficit. at a sustainable level. Starting in 1982 Indonesia was confronted with a series of dramatic changes. The plunging oil price was only part of these changes. Prices of other primary commodities, too, were at historical low. The yen in which the largest portion of Indonesian external debt is denominated experienced a rapid appreciation following the Plaza Hotel Meeting in 1985, inflating both the services and the stock of external debt by leap and bound. It became clear at this stage of development that a continuation of past policy is no longer realistic. Changes were urgently felt across all policy branches.

The challenge confronting Indonesia in the early 1980s was tough. Mobilization of saving, both privat.e and public, became an imperative as oil revenue was dwindling and debt

218 services rose rapidly as to exceed new disbursement as of 1985 To keep current account deficit at a sustainable 'level, a rapid expansion of nonoil export In general and that of manufactured products in particular became a necessity. Such an expansion requires various adjustments in both macroeconomic policy and Incentive system. Outward orientation has to be cultivated among producers and traders at a time when a similar is sought by many other countries. To facilitate this reorientation partnership with foreign invedorci is of crucial importance, implying a need for Investment policy reform. The first group of Issues taken up by the government in the early days of the economic reform Is related to govern- nwnt finance. Large iniport.intensive government projects were canceled In 1983 Through this decision the expansion of state enterprise was also checked. Subsidies were cut through the price Increase of publicly provided goods and services. At the same new tax laws were passed In the period between 1983 and 1986 wIth a view to mobilizing non-oil revenue. In the subsequent years the government has stickS to an austere budget In terms of budgetary impacts on total domestic demand. However, large external debt services made It unrealistic to cut new debts. As It turned out, the government has accumulated a huge amount of external debt in the reform period. Ext t'rnal public debt Increased from $ 18.3 billions In 1982 to $ 51 billions in 1992 or almost trippled. Net resource transfer

219 has become negative since 1985, amounting to $ 1.2 billions in 1992. Without the growmg new debt, expen. diture would have to be cut much more drain.itically with the obvious negative impacts on social budget and in infrastructure. Under new environment the economic role of the state underwent sign ificani shifts New equity participation in state enterprise decreased. Price distortions were also reduced through subsidy reduction or withdrawal. While some inconcistencies were cornniit ted, the state budget has declined in importance as an instrument of economic control.

A similarly rapid progress was made in financial reform. The currency, rupiah, was heavily devalued in March and September 1986 with a view to improving the relative attractiveness of export, especially that of manufactures, and to stimulate capital inflow. financial repression was relaxed in stages. Credit ceiling was removed in June 1983, but banks are pressured at the same time to look for alter. native funding other than Bank Indonesia's liquidity credit. Floating interest rates were introduced at the same time with the twin objectives of making hank deposit more rewarding to savers and redirecting limited funds to businesses with the highest profitability. Five years later or in 1988, the ban on new bank was removed, and joint venture bank is allowed to enter the market. This decision was followed by an immediate surge in the number of banks

220 The amount of deposit taken and that of toan extended experienced a treneoidous growth expansionary ha ak irig reinforced a stock markei which in turn was gel t ing a hoes! I rem a loosened set. of conditions I hat are attached to public listing. As a result of the financial deregulation the economic role of the state was weakened in nuniher of ways. The dominace of the state banks has been reduced Their combined market. share went down to around 50 percent at the end of 1992, The expansion of private sector benefited a great. deal from the hellish stock market State enterprises on the other hand were hand- capped as far as the tapping of stock market is concerned. Very of them have managed to make themselves attractive to participants in the stock market aid they did so only after a relatively long time lag.

One of rho main deficiency of the reform is widely per— rcived to lie in the considerable delay of policy changes in Ito rca! SP('tar Tb is criticism is valid generally speaking. however, as early as 1 the public was already caught by surprise when the gov-rnment announced the hiring of a Swiss surveyor to reblace the Customs Admi rust ration in the surveillance ul t ranshorder flow of goods This decision was effective in surveillance, relieving traders, including export'-'r prod ucers from the high costs and uncer tainty asSociated with protracted custom inspection. However apart. from this bold decision major reforms of the

221 real sector did suffer from a long delay Investment and trade policies were hardly adressed prior to May 1986 or four years after the oil crisis of 1982. Reforming the real sector after a long.lasting import subsititution is a very demanding job to perfrom. It was the goverrnment who told businesses to invest in import-sub- stituting industries with the promise of giving them policy support in form of capacity restriction, trade restriction and access to financial and other resources. Therefore, rolling back this support stumbles on a strong resistance. Retörni progressed only slowly, and suffered from a high degree of discretion and selectivity. After nearly a decade some important changes did occur in the real sector. First of all, a number of restrictions in the investment policy have been removed or relaxed, The annual Investment Priority List has been replaced by a negative list with a limited industry coverage; reducing greatly its importance as an obstacle to investment, The various performance requirements have been made much more flexible. While the two major laws on investment are maintained the following changes were initiated in a prag matic way: (i) Majority foreign equity is allowed fhr an extended period of time, namely the first 20 years of' operation before it is reduced through divestment t.o a minorit.y level as required by the law C)fl foreign investment; (ii) Minimum amount of capital was reduced with a view to attracting small and medium investment; (iii) Local content

222 has practically been waved through duty tion in favor of exportoriented producers of those with an export.production ratio of 65 percent or more; (iv) ment of expatriates has been liberalized, and (v) Administra- live procedures have been simplified, though complains about red tape persist

Secondly, the average rate of protection has went down substantially as can be seen from Table 1 (Appendix). The production covered by non tariff barriers went down from 41 pereenl in 1986 to 22 percent in 1992 with a more

APPENDIX Indicators of Trade Liberalization

1992

Production Coverage of NTBs, C ross Production 41 22 Manufacturing 68 31 Agriculture 54 30 Import Value Coverage, 43 13 Average Tariff Rate, % Unweighted 37 20 Weighted by Import Value 22 9

(1) For tariff, pe - 1985

223 progressive decline occuring in manufacturing, The fraction of import under non-tariff barriers was only 13 in 1992 compared to 43 percent in 1986. Tariff rate ox perienced a similar reduction. Weighted by import the average level of tariff in 1992 as as 9 percent compared to 22 percent before 1985, This trade reform enables exporters to enjoy prices of capital goode and inter mediate products which come closer to international prices At a time when the import content of manufacturing is high removal of trade policy distortion is crucial to the of export. It helped the textile and apparel iridiisl ries foot. wear, downstream plastic industry and, most. receri tly, electrical apparatus to gain competitiveness in international markets, however thin the margin may be that Indonesian exporters enjoy from such business. Thirdly competition in industries where state enterprises used to play a dominant oi- even a monopoly power strengthened. In the context of indonesia this type of change is necessary, if the economy is to improve its inteiimiJonal competitiveness. For reasons discussed earlier, state enterprise still plays an important role in the developttwnt of Indonesia. There are currently 186 state enterprises in Indonesia, excluding around 50() enterprises owned by local governments. Out of these 186 enterprises 42 are in industry, 35 in agriculture, 30 in finance. 19 in public works, 17 in transportation and 40 in other sectors. They control a

224 bined asset of over Rp 200 trillions or over US $ 1.00 billions of which around t-i6 percent belong to state banks and Pertamina, the state oil compeny

The !mport.ant role of state enterprise in the Indonesian does differ from one sector to another Through he sharing contract. state enterprises are the dornimint forces in the oil and gas and other mining sectors. Strong presence of state enterprise is also found in rubber and palm oil plantations. In manufacturing there are six sectors (three-digit [SIC) where the share of state enterprises in value added in 1990 was higher than 25 percent.. They are basic metals, cement, basic chemicals, food products, rubber products and printing and publishing. State enterprises' share in the value added of manufacturing as a whole was 15 percent in 1990, down from 20.6 percent in 1985. In services the presence of state is particularly strong in air transportation, sea transportation, telecommunication, construction and postal services. Need- less to say, electricity and water are firmly controlled by state enterprise. Yet., the role of stat.e enterprise in an economy is not satisfactorily reflected in these quantified indicators. What is of great relevance are also its usual domination of the up-stream industries and the presence of heavy distortions in sectors with strong presence of state enterprises. It has always been difficult to judge on the performance of a state enterprise. Some state enterprises are set up with

225 the mission of pioneering an industry which the private sector is reluctant to enter because of bad expected return or because of capitalization which is too to be afforded by a private investor. State companies in for instance are required to also serve remote ports with small volume of business. All state enterprises in are currently required to devcte up to 5 percent of respective profits to assisting small enterprises locating in their respective neighborhood. Applying traditional criteria of business ferformance to enterprises of this kind is misplaced. On the other hand, even the most comfortable level of profit does not automatically reflect an exce'lent performance of a state enterprise. Such a profit is a combined result of management effort, privileges in the form of entry restriction or even subsidy, prices which are main tamed above a market-clearing level, to mention only ex amples of the distortions which usually are found in an industry with state enterprise's domination. Given I he lack of transparency in which a typical state enterprise has to operate, using financial report as a basis for perlöi niance evaluation of a state enterprise suffers from a high degree of incompleteness.

Over last few years the role of state enterprise has ranked prominently iii Indonesia's reform agenda. For various reasons the discussion has remained inconclusive. however. While the need for efficiency improvement is clear.

226 ly felt, different constituencies of state enterprise disagree on the approaeh t0 be followed Nevertheless. some changes have already been introduced over the last decade. stricter financial criteria have been adopted the prime aim of maximizing the of state enterprises to the public sector's In reality the budgetary impacts of enterprises are still negative As a fraction of GDP, the negal ive difference between payment. from state enterprises to go (profit I ra osfer and debt. service) and payment from govern ment to state enterprises (capital part icipat ion. subsidies and two step loans) was declining between 1987 and 1990, hut. rose again in 1991. Second, nearly all businesses have been marketized in the sense of being opened to participation which can take the form of ownership, revenue sharing, build operate-trans- fter or huildoperate-owned. Third, privatization in the sense of ownership transfer has also taken place in a limited number of cases More and more state enterprises are expected to float, shares in the stock market or even sell shares internal totnally thrc>ugh direct placement. However, policy on stat-e enterprise will continue to rank prominent in the policy agenda of Indonesia in the coming years. Privaliza-

tion in a big scale does not appear 1.0 be feasible. Worries have been expressed that a large privatization within a short period of lifl)e will exacerbate the problems of business concentration which is not only high but also has increased during the reform years. The social impacts of large scale

227 privatization such as lay off which usually comes together with the transfer of ownership to private owner(s) appear to be scary. Finally, large scale privatization is hound to stumble on inadequate funding. The alternative of foreign funding is being considered. Yet, to tap this funding requires fundamental reforms of the state enterprisec The market for the shares of state may also soon get saturated following the gigantic size of privat.ization which has been undertaken or is being considered in all parts of the world.

SUCCESS AND FUTURE AGENDA OF MARKETIZATIOrN

The concise survey of policy changes which by no means is exhaustive clearly shows the shifts in the economic role of the state. To a certain extent these changes occu red by default rather than by design. Yet, they clearly have led t.o a more markçt-oriented economy. The share of the public sector in total investment in the economy for instance has consistently declined. Monopoly status of state enterprises has virtually disappeared. The redefinition of the state role in the economy has sofar enjoyed a popular support, though some decisions such as the transfer of ownership of a few state enterprises was ciritisized for lack of transparency. This relatively wide support is rooted in the improved performance of the economy uring the reform years. A can he seen from

228 Appendix 11 the economy has done relatively well between 1986 and 1992

Growth rate of GDP has c'et urned to a relatively high level with marw facturing growing the strongest at 9 percent a veer As a result ruariufncturing flow accounts fth

.APPFNDIX Ii Selected Macroeconomic Indicators

19%u 9%? 1985 1989 1990 1991 1992

Ralt's c 75 6 6.

ing. '4 (I u j 2. II 9 2 2. 2 9 7 Manutat tiring

Shati. iii GE)!', '7? 6 I 72 182 15.5 19.4 199 2.05

C urrn; o,urit

mit 4.91 2. 1)98 .797 I,I08 2988 1,1)8))

ii ROes. G 9 2 2. 5 6 6.1 99 99 54) ('s Hitutal

S mio1 4 2. 5 6 4 6.5 4.7 u 6.6

C . I SleEt);)! S mb .42.6 16 ; II 2 41.1 45.0 ts 0 sO.9

tntkns itt 11)1, S rniu. net 2.5% 485 576 682 1,091 1,482 1,774

(1) Fross dibursemerit

229 over 20 percent of GDP and has become the largest con tributor to economic growth and new employment Current account deficit which has always been a dauntiag pril&'tu in Indonesia has remained a tolerable level thanks to a progessive growth of non-oil export in general and hat of manufactured products in particular. The omposo on of export has become more di-, Industrial products have overtaken oil and gas in terms of shares in total export, though oir and gas continue to lead in terms of net oxpoi I Furthermore, dependence on traditional markets of Japan, the United States and a few countries in Europe has les sened while export to non-traditional markets, espeeially the Newly Industrializing Economies of Asia gained in importance. Foreign direct investment with its closei link to trade experienced a strong increase in the years after 1989. though not as strong as in the case of other Asian coo ut rics such as China, Malaysia and Thailand. The World Bank found it indeed appropriate to include Indonesia a morig the eight economies that make up the Asian Mi role.

As Indonesia prepares its Fifth Five Years l)evelopmerit Plan a number of major issues are being discussed They include poverty alleviation, the future of state enterprises, problems of external debt which experienced a tremendous increase during the reform years, problems of business concentration and related unfair business practices. very weak small no medium business which hinders deeper specializa-

230 tion as a source of efficiency improvement, distortions in the incentive system such prices and high of effective protecuon. in industries, relative lack of indigeneous technological capahilinrs and spatial con- contra t ion of eco n omo: grow t. h

There is pa nacea to solving complex problems. Marhetiitiori is going to 1)0 an import ant, but not the only uigredon t which it neu.ded to sust airi economic growth On the one h and and to serve other development objectives at the same time lii other words. what is at issue is the nature rather han the extent of state involvement in the economy. Conimercia liv oriented activities, including the ones in which state enterprises are currently part of competitors, are likely to experience a reduced engagement of the state. On the other hand, the role of the state in rules making and sanctioning as well as in providing infrastructure, par ticularty social infrastructure is likely to increase.

231 PART III

THE CHANGING ROLE OF THE STATE IN ECONOMIC RESTRUCTURING IN INDIA, CHINA AND VIETNAM

232 STAll ANT) MARKEF IN .INI)JiVS [(ONONI i(' R[STRUC11J RING

C.t Emeritus Vrofessor, Madras Institute of Developm .'nt Studies India! of Social Scieji Madras, INI)L4

India became free in 1947 and a process of planned economic development started in 1950. A programme of economic restructuring was initiated then and has been going on ever since. There has been a major policy shift in mid 1991. It is sometimes claimed that this shift has been a movement away from the State-sponsored autarchic

233 central planning of the first four decades into a regime of global free markets This is a gross misrepresentation Both State and market have phyed their roles in India's economic development and c otinue to do so. In the latest phase, there greatel on the role of the market, but the State retains an important position in the economic sphere Planned economic development of the past four decades and more has made a big difference to the performance of the economy. During the first half of the century when the country was under colonial rule, the growth rate of the economy was only around 1 0 per cent annum with per capita growth rate being practically nil. The growth rate from 1950 till 1979 was about 3.8 cent per annum. A process of liberalisation was innitiated in 1980 with emphasis on industrial growth From 1980 to 1989, there was an annual growth rate of over 5 per cent with industrH growth to about 8 per cent. But at the turn of he decade, industrial gTowth suddenly collapscd and in 1990 and the early palt of 1991 there was an acute balance of payments crisis In the general elections held in 1991 the Congress Party which had ruled the country since Independence except for two brief spells (March 1977 to January 1980 and December 1989 to June 1991) "aine back to power. To tide over the balance of payments problem our! fo revive the economy a Ne'.,' E000onth Policy was intal with of IME Bank an in stand

234 IMF cpnditionalities of liberalisation, marketisation and privatisation. It is claimed that by the end of 1993 the process of stabilization is over and that the accent from now on will be on restructuring the economy. With this brief account of the development of the past. four decades, I shall now take up an analysis of the Indian economy and the role that the State and the market have played in its transformation. (For details, see C. T. Kurieri, The Economy : An Interpretative Introduction, New Delhi, Sage Publications, 1992).

In terms of the involvement of the workforce, the main feature of the Indian economy has been and continues to be that it is primarily agricultural. At the turn of the century over 70 per cent of the workforce was engaged in agriculture. With marginal variations this figure was maintained almost till 1980. Since then there has been a slight reduction : the present level is about 65 per cent. Land is substantially privately owned. Indeed, the bulk of the cultivators (about 60 per cent of those engaged, in agriculture, the rest being agricultural labourers who earn the major part of their income as wage workers on other people's land) are owner cultivators; 55 per cent having less than one hectare of land. A sizeable proportion of the

235 work.force, thus consists of small owner.produr.ers who on their own lands produce the food grains that they use. There are household production units with very little market involvement, There other household production units consisting of artisans and fisherfolk who are crucially dependent on markets. A third category of household production units consists of those engaged in trade and wide range of services. 11 these different forms of household production units are added up they account for perhaps 90 per cent of the workforce even today constituting what is described as the unorganised or "inforinaV sector of the economy. The organised sector consists of two part, the private corporate sector which claims only 4 per cent of the workforce with the rest (that is about 6 per cent of the workforce) being engaged by the State, including the public sector enterprises.

At the time of Independence, t.he unorganised sector would have claimed a much larger share of the workforce, possibly 97 per cent. Certainly, not all these units were self sufficient, but where they had interactions with other units these were of an informant nature too and substantially confirned to their own local neighbourhood. The main feature of the Indian economy at. that time was, therefore, that it. consisted of small groups of informally interacting units unevenly spread over the landscape with only the major urban centres presenting anything like a modern economy linked through market processes. This was a reality had to be taken into account in any

236 development activity for the future.

There was a second reality which had to be recognized - the vast physical and natura; resource potential that the economy had for industrial growth which remained unutilised hecaused of the policy adopted by the colonial power to keep the Indian economy as basically agricultural. The policy decision to be made, therefore was how to evolve a national economy protecting the int,erest.s of the household production units with their wide-ranging survival strategies, promoting the rapid industralisat ion of the country, and ensuring that economic activities over all conformed to certain basic social norms determined by a democratic policybased on universal adult franchise Even to the most ardent supporters of private enterprise in the country it was obvious that in order to achieve these variety of objectives a long term plan of action was necessary and that the State , as the representative of society, would have to play a crucial role in it. This was the basis of planned economic development in India and under the overall guidance of the State, the market was going to be a prominent agency in carrying it out. The household production units and private corporate sector were to be given all possible encouragement to increase their activities and production. The St ate would concentrate on building up infrastructural facilities, major irrigation works, power, transport and

237 communications as well as the basic industries such as steel, coal and cement There was hardly any disagreement on this broad division of functions between the private and public sectors. The private corporate sector was to be provided protection against excessive foreign competition based on the infant industry argument which practically all countries in the world resorted to in the early stages of industrialisation. But two kinas of restrictions were to be imposed on it. The first was that the production of certain kinds of goods for which the demand came from the small affluent section (like motor cars and all kinds of private consumer durable items) would he deferred till the economy was felt to be ready to move into them. Secondly, the organised private sector was to be prevented from making inroads into the sphere of the traditional sector. Thus in textiles certain items would be reserved exclusively to the handloom sector. There was also a general restriction on capacity expansion partly as a way of encouraging the traditional sector, but partly as a measure to prevent excessive concentration of economic power. At the same time, positive encouragements were provided to the large scale modern industries to shift their location away from the large cities. A subsidised export promotion scheme was also taken up as industries developed and were ready to move ;nto the world as far as the traditional sector was concerned, the emphasis was to draw them increasingly away from their limited local markets into a

238 growing national market and an emerging international market

III

In its essentials, this was the strategy of the first three decades for restructuring the economy and stimulating its growth and development. It is wrong to say that the role of the State in this strategy was either negative or restrictive. On the contrary, the State was responsible for many positive initiatives, the chief among them being the effort made in the mid sixties and beyond to bring about a revolutionary change in the agricultural sector, commonly referred to as the "green revolution'. The partition of the country at the time of Independence had deprived it of some crucial areas of food production and chronic shortage of foodgrains, and the consequent need to depend on imports, were a regular feature of the first two decades. The initiative to introduce the high yielding varieties of seeds , and the associated changes in farm practices, in particular the use of commercial fertilizers, was taken by the State. And, within a decade there was a substantial increase in the production of food grains which eliminated the need for imports except in years of acute crop failures because of natural calamities. Apart from the increase in output a major consequence of the green revolution was a rapid commercialisation of agriculture, for instance, the use of commercial fertilizers increased from 6O() kg per

239 thousand hectarese to 1 700 kg in 1 975 and close to 70000 kg in the late 1980s The share of industrial inputs in agriculture increased from less than 1 5 per cent in the early fifties to about 40 0 per cent in the late eighties. But not everything was left to the market. In 1969 the major commercial banks were nationalised (leaving a substantial segment to the private sector to ensure that branches of banks were established in the rural areas and that credit was made available to small and marginal farmers as well as to rural artisants But if the State became more active iii this area, the availability of credit in the rural areas led to further increases in private commercial and industrial activity also. The State also strengthened a subsidised public distribution of food grains, mainly to protect the vulnerable sections in the urban areas. In the industrial sphere also the strategy had the desired effect. By the end of the 1970s the country had become selfsufficient in all consumer goods and had built up a strong and diversified base for further expansion. But the strategy also generated new sets of problems. The efforts to stimulate growth were made without any changes in the distribution of productive forces. In term of the ownership of land, the large intermediaries known as zanmidars were deprived of the rights they had on land, but there was nothing like the redistrihutive measures that other As in countries such as Japan and South Korea

240 undertook. A series of land ceiling legislations were anacted, but with enough loopholes to enable large land owning families to retain their assets intact. hence even at the end of three decades of plann&1 development the top 10 per cent of land owning householt claimed over 50 per cent of cultivable land. The ownership of capital assets was even more skewed. Thus, out of the generally low-income Indian economy, emerged an exceptionally well endowed upper crust consisting of some 10 to 15 per cent of the population who were eager to have th' economy by their growing economic power.

In the some put cent of the population continued to he below the country s U low level erlv line It consisted of the agricultural labourers who lost ill their customary rights and became purely wage eaners whose wages did not keep up with the but steadily rising prices, a section of the small and marginal farmers who found it difficult to cope up with the rising cost of cultivation; and the rural artisans who were integrated into the national economy by merchants made effective use of he putting out system to make big profits for themselves while keeping the artisans and their families at close to subsistence The sanic fate shared by many practitioners of the traditional industries such as handlooni weaving.

At the level the State the number of public sector enterprises which were set up to generate surplus to augment investment and to give a social direction tei the economy failed to achieve this objective. There crc some exceptions where

241 public sector enterprises pcrmormcd well and earned profits and fame, but by arid large their performance pOOr The private corporate sector also began to record poor performance and put the blame on the restrictive measures of the State. By the of the seventies strong arguments were being made for a revision of the economic strategy of the first three decades and to move to a more liberal policy giving the private sector greater say in matters of investment decisions and production pat

So was started the liberalisation policy of the 1980s. From then on it was to be demand-led industrialisation. Some of the restrictions on the private corporate sector were removed; the corporate tax rate was brought down; income tax rate were also reduced; a liberalised regime of imports was permitted relying on borrowings from outside, increasingly commercial borrowings. These were to be paid for by increasing exports for which export subsidies were stepped up and a steady decline in the internal value of the rupee was permitted. Internal borrowing by the state also was heavily resorted to and the deficit of the central government started rising rapidly. And it was officially proclaimed that the Indian economy as on a new growth path, made possible "by a sound and responsive policy environment.

242 As mentioned already, the growth rate of the 1980s was over 5 per cent per annum, a perceptible increase over the trend rate of less than 4 per cent, It was industry that set the lead, and the best performing sector was consumer durable, two wheelers and motor cars, refrigerators, air conditioners and television sets. The economy really appeared to the booming and was sustained by the top 10 per cent or so of the population that went on a consumption spree. The fact that this 10 per cent consisted in absolute terms of some 75 to 80 million people, thus constituting one of the largest domestic markets in the word was noted by both Indian and foreign commentators and references to "India's consumer economy' became common. But the boom was short-lived. Because of the pent-up demand of the domestic market. thece was no incentive really to reach out to the international market and so exports did not pick up the way they were expected to. In the meanwhile; imports and international borrowings continued to increase and a yawing deficit in balance of payments became very evident. It would appear that the domestic market got saturated too and by 1989-90 consumer durable, whose growth rate had ranged from 8 to 22 per cent over the preceding eight years faced a sharp fall in growth rate to just 1.9 pet cent due, to constraints in consumer demands, as ones official statement put it. In 1990-91, the confrontation between Iraq and the combined the leadership of the United States led to the large scale repatriation of Indian workers from the entire West Asian region and the loss of foreign cxchangc that used to flow in from

243 I hem and which had, in the past. helped in ftnancinp I he rniport us. There also some political nstahility in the countiV at that tinle- The Parts was in of flue since eark

was thrown out in I he election of a coalition parts Joined thu uc\crnoicni hat soted out fate in the minority thcn formed with the support of the (tigress was intrinsically

Ihe net impact of all these dtvcrse factors was a capital flight that started in OLtohcr 199(1 and picked up rapidly in the first of \Vith the fail at thu in 91)1 March I general elect ions were called during the course of which kativ (iandhi. the leader of the Congress Part\ which was expected 1) come back to power was assassinated. \Vhcn the

— Congress under the leadership of Narashrmha Rao assumed office in June 1491 the foreign exchange reserve position has become extrcniclv :ritical and debt repayment falling due posed a prohlcm l'his the background to the

N nom ic Policy take ii up from J 1991

The New Economic Policy initiated with a loan t'roni and the support of the IMF and the World Bank has closely followed the package thai countries that turn to these bodies with a balance of payments problem are expected to implement. First there was a 20 per cent devaluation of the rupee in early July. A programme of' reforms was

244 announced by the new Finance Manniohan Singh in his first budget later in the month Its main features were a drastic reduction in the deficit of the central government, plans to divest the share of some puhl;c sector enterprises, substantial reduction in the exercised over the private corporate sector, a highly liberalised import policy, a vigorous policy of export promotion, and a opening up of the economy to foreign private capital. The expectation is that the entry of foreign capital with modern technology will lead to an increase in competition both at home and in the international sphere which, in turn, will result in greater efficiency and increase in production. In this sense the New Economic Policy may be considered as indicating a shift of emphasis from the state to private initiative and market force;, ititi from a domestic orientation to an outward orientat ion. I'here is much that is valid and u riavoidable in the new policy. Few people doubt that over the ears the Indian economy had come under e bureaucratic control and political patronage. And hence the attempt to deregulate and liberalise the economy and to bring the operation of the economy more under its own principle. c.specially a more realistic assessment of costs, has been widely welcomed.

Similarly, there is a wide measure of agreement I hat the Indian economy. India's share in world trade which was about 1.5 per cent in the early 1950s has come down to just

245 o 5 per cent and India's exports now constitute only around 7 per cent of its Although the Indian economy will remain largely domestically oriented (as the US economy and the Chinese economy and unlike the economies of Singapore or Taiwan), certainly its performance on both these counts can be much higher and there is no reason why India should not benefit by interaction with other national economies. But there are some matters that need to be carefully examined. When Asian economies such as South Korea and Singapore decided to opt for greater outward orientation in the 1960s and 1970s the global economy was flourishing both in terms of production and trade In particular the larger economies, the United States and many European countries, were quite open to imports from the rest of the world. The situation in the early 1990s is quite different. Both global production and trade have showed down substantially and the USA, Europe and Japan are well facing recessions Partly as a result of it and partly for other reasons they have all become much more protectionist than they ever were since the end of the Second World War. Is this the right time for a large country like India to restructure its economy relying on export orientation? Questions are also being raised about the likely role of foreign capital. Foreign capital may come in to take advantage of India's sizeable domestic markets, and it may do so either by buying up entire domestic concerns (as Coca

246 Cola recently done) or even by setting up production units in the country But in neither of these two cases will foreign capital contribute to India's drive for export promotirn and in rhe former there is unlikely to he any transfer of On the other hand, it is possible that for some foreign concerns India with its large skilled and unskilled labour force may appear to be an ideal place to locate plants to service the entire South-east Asian market

Another matter of concern about foreign capital is the powerful role that finance capital has come to play throughout the world. One of the major areas into which foreign capital has been coming in during the past couple of years is banking. It is well known that the foreign banks that established their branches played a major part in the artificial boom in the second half of 1991 and the early part of 1992 !oilo'-ved by the crash of May 92. the j'essw'e that fort ign capital is cow exerting threigliout the world, it is im tant to precisely what 'ole ti expects

h g en t nob The market episode has raised new questions about the relative role of the state and the market a economic restructuring. Obviously the share market will play a decisive in the .; to ome. But eoniinodity

bare mai I not opei ate unde supply consteni it on toe demand 0 proc id no e by arid ft n rn-ounce

. e sub -u .: he . us to leave this market to its own forces without regulations by the state. The-re is. of cou Ni', no country in the world where the- share and securities nia rket does not come under monitoring and regulations by the state Even so. boom and bust have Ne-en quite fi'e-q tie-nt in different pa i'ts of the world in recent years. These fluctuations have their impact on t hi' real" economy as well- a collapse of the stock exchange- usually leads to a recession and consequent me-nt affecting the lives of large sections of the population

In a country like India there is an additional dimension to he taken into account in dealing with this problem. Those who have financial surpluses constitute a very negligible proportion of the population. perhaps 10 per cent or so. Among them those who enter into the share market will be even a much smaller proportion. Can such a tiny minority of the population be permitted to set the trends of the economy and to rock ii from time to time? What is the role of the state as the representative of society as a whole in such situations? Indeed in countries where the surplus accrues to a small of the population whose primary concern is to augment it further, while the vast majority is concerned with ensuring a livelihood for themselves, the states the must safeguard the interests of the entire population can not afford to leave the economy solely to the play of the market. For the market, while it may offer some

24g advantages to all, is intrinsically the ally and an instrument in the hands of those who have economic power In the Indian context the surplus accumulators are those who directly and indirectly own the private corporate sector and manage it while those who have beeii depicted as belonging to the household production units and depending on their activities are the ones concerned with survival, In sonic areas the economic interests of these two. broad sections of society converge. But in most areas thc nature of their economic calculations and strategies are \Vhere the economic reality is of that kind, the agenda for any economic restructuring will have to more carefully articulated than is usually done. To give just one example, it will be totally inadequate, and in litany ways quite, misleading, to have a single point agenda of accelerating "growth" and to ask whether that objective will be more adequately achieved by the State or the market. The national and social objectives will have to be specified in finer detail and a strategy for achieving those objectives will have to be worked out in which, of course, markets will play a very important role. If one is to learn from experience, the most important lesson is that there is neither a "magic of the market" nor a "magic of the State" in restructuring an economy so as to the well-being of the people as a whole.

249 c;OVFRNMFN'i'S FFFICIFNCY EN TIlL FCONOMIC DFVFL()IMLN1 IN Cl—I INA (A COfllpaf dt IVC St Udy of the economy before and alter ihe economic relorm)

SON(; (aJAN(; MM) Economic Research Ic Aethiciny of Social Sciences o/ C/i/rio CHINA

"Minimization" of Nozick (Nozick R. 1974) and centralized economic planning (the relatively "minimilized" state could be called "maximalized" state) constitute two extremities of the State function. The absolute majority of State functions in the world lie in - between these two extremities. After many years of institutional reform of the economy, the State of China has departed from the 'Maxi- malization" extremity and has oriented itself towards

250 another extremity so as to shift its economy to another direction (naturally the objective being not the minimza- tion" State). This essay does not deal comprehensively with the change in State function in the process of economic reform in China but treats particularly the function ahead performed by the Government in the domain of economic development and this only for analysis purpose

I - TIlE EFFICIENCY OF' THE sTATE: f'RE-REF'ORM ECONOMIC DEVELOPMENT

Prior to the economic reform, the new China has a 30-year long process of development (1949 1979): If compared with the pre('edtng times, the recorded in economic development during these 30 years were quite impressive. The startingpoint of the economic development in China was described through a rather sinip!e comparison as a garbage dump" by the chinese people ( )a irig to the accu inul:ited devastat iorials by successive wa i-s. the Chinese economy met with tremendous difficulties Only after many decades of economic reconstruction during the and of economic nt during the 1 970s, could the economy in China gain a new face and undergo a change for the better.

In 1979. China had nearly 400,000 publici\ and collec-

tively owned industrial enterprises 1 20,000 small - sized, backwa ni lv . eq uipped industrial en t e rprises in pre-

251 liberation times As many as 280000 enterprises were during the post-liberal iOfl times In 1949. I he gross value ot fixed assets of industial enterprises in China was of the order of 12 billion yuan and it amoun ted to 496 2 billion vu a a in 1 979 It would bu rather hard to make a Comparison in terms of materials In the 12 billion yuan mentioned above, were included nlanv repair. assembly and manually operated worshops with rudimentary machines and equip merit hut io the 489.2 billion yuan were included a lot of high t.eL'h eq uipfllent. The industrial uutput. value rearhed as many as 468 1 billion yuan in 1979 compared with 14.2 billion in 1949. an increase by 32 times Counting in comparable prices, the gross national product increased by more than 6 times, the national income by 4 5 times, this figure spoke volumes of the rising incomes of the inhabitants living in both rural areas and urban centres, as their savings rose by 31 times. Along with that development, the production of energy, the output of industrial products and important raw materials were raised to a high level, the average pig iron output in 1949 was 158,000 tons but in 1979, it reached as many as 34,480,000 tons. Coal extraction passed from the target of 32 million tons1year to that of 635 million tonsyear, an increase by 19 times; electicity output increased from 4.3 billion K\VH to 282 billion K\VH, an incease by 65 times; crude oil extraction passed from an output of 120,000 tons to that of 106,150,000 tons, to say nothing of many other products such as cement, timber,

252 glass for construction (glass in sheets) ft should he said that during the 30 years of economic development the main industrial products got an increase by from some dozen to some hundred times upwards. (China's book of statistics in 1988, China Statistics Publishing House, l3eijing) (In this essay, all the materials were taken from the above yearly book So no need to mention about the sources from now to the end of this writing)

The products turned out by each work-day would reflect the economic development of China's national economy during the 30 years prior to the economic reform

a) Including only fixed c'apital accumulated by Chinese enterprises. I)uring the 30 years froni preeconomic reform period to that of building a new China: the economy recorded a rapid growth due to the following reasons: 1- The State concentrated its efforts on the economic management and directly participated in the economic build-up 2- Owing to a backward economic regime, the workers were greatly stimulated to share in the efforts of building a thriving economy 3- The rapid economic growth was due partly to the how-level economic development at its very start Here the first reason for the rapid 0c.rnornic growth is taken up for analysis. This reason is explained by the fact that the State concentrated its efforts on economic manage ment which found concrete expression in the in-

253 TABLE I Annual volume of assets created by China

(100 nullion yuan i

Year Gross social National Gioss Gross agri Fixed product income industrial cultural capital value created output value output value accumulated

created iii each created in created in in each

in each day day each day each day day

1949 1.5 11.911 1 ii n9 0.Io

21.0 9.U4 4.65 1.11

stitutionalization and realisation of a series of economic policies bearing a coercive character beneficial to the centralized power of the State. The State directly participated in the economic build-up mainly through its direct capital investments and a big concentration of manpower for carrying out its objectives... Regarding these two aspects, one might be considered to be the "soft ware" of the State's contribution and the other the "hard ware" of the effect of the State's contribution. First and foremost, it should he mentioned about the "soft ware", that is to say the factor of economic policies... In order to attain the aim of centralized economic management by the State, it should be realized the institutionalization and the fight. against losses in tax collection and overspending in finances, in the issuance of policies aimed at unifying the credit management opera-

254 tions, at achieving high funds accumulation, giving priority development to industry... With regard to macroeconomic field, werc realized the policy of unified distribution of production means and that of regulation of funds by the enterprise itself with no funding from the State for any losses incurred by the enterprise in the course of its business undertaking. The State saw to the arrangement of ment for the working people, to the unification of pricing, and to the price policy in general. The generally improving situation was clearly seen through those policies hearing o representative character such as the financial policy and the high funds accumulation policy without any need to mention about the situation of application of all the policies concerned...

The policy aimed at. countering the failure in collecting adequately financial receipts for the State resulted in the latter's capability of concentreating material and human resources on economic development and in the volume of financial receipts accounting for a major part in the national income.

Table 2 shows the proportion - related figures revealing that the unification of finacial receipts was the premise for spendings. The policy of unified income and expenditure by the State made the enterprises deprived of their financial authority and forced them to report to the organism in charge every spending they wished to make for consideration and approval. -

255 TABLE Proportion of financial receipts in national income

[ Year Proporttion

1952 31 2

1953 31 4 1957 342 1958 347 1962 33,9 1963 34.2 1965 34.1 1966 35.2 1970 34.4 1971 359 1975 32 6 1976 32.0 1979 32.9

The high funds accumulation policy was considered an important lever in high-growth economic development. Before the economic reform, China was a country among the developing countries. The national income was very small hut the population was very dense. In such a situation, there must have been a bigger share of the national income reserved for consumption so as to meet the people's needs prior to any move towards funds accurnula-

256 tion. But on the countrary, the accumulation policy of China would require every people to abstain first from tion, tighten their belt for the objective of economic development. During that period, the funds accumulation obtained every year a rate of over 30% with the highest one recorded in 1959 to be 43.8%. At that time, that rate of funds accumulation seemed to be the highest one in the national income but it would surprise nobody at the present time when the rate recorded would make people impossibly to imagine Later on, many chinese economists advocated that China's accumulation rate could not surpass 25%.. If this advocacy proved to be scientically-grounded and quite sensible, it seemed to have a relatively big disparity between the real accumulation rate and the advocacy itself. Now, we examine the "hard" side: "Hard" means that the state makes direct investments. Here we city only an example of making investment in capital construction. If the capital invested by State-owned units (ownership system) was considered to be from the State, investments included in budgetary estimates to be also from the State Table 3 will show that. direct investments made by the state made up a very big proportion., Because the materials from 1949 to 1952 were not available, so counting from 1953 to 1979, investements in capital construction were of the order of 556,959 million yuan, making up of the total capital invested by all State capital construction units. This long period could be sub-

257 TABLE Capital construction: Capital directly invested by State establishments and the State itself (unity 100 million yuan

made Direct investment Pr()portwn of by State made by the direct. investments Year ments (considered State itself (listed by the State to be from the State) in State budgetary

(1) estimates (2) (3) = (2) :

(1) (2) (3) (4)

1953 90.44 75.49 83 1954 99.07 83.43 84.2 1955 100.3(3 9366 933 1956 155.28 147.12 94 7 1957 10332 131.48 91.7 - 1958 26900 216.44 80.5 - 1959 34972 272.07 77.8 1960 38869 301.75 77.6 - 1961 127.42 93.87 737 - 1962 71.26 60.25 84.5 - 1963 98.16 84.69 863 - fABLE

(1) (2) 3) (4)

1964 144.12 123 96 86.0 -

1965 1 79.61 16:3.09 90.8 - 1966 209.42 188.30 89.9 - 1967 140.17 124.86 89.1 - 1968 113.06 103.78 91.8 - 1969 200.83 181,60 90.4 - 1970 312.55 272.73 87.3 - 1971 340.84 282.77 83.0 - 1972 327.98 264.41 80.6 - 1973 338.10 282.20 83.5 - 1974 347.71 289.76 83.3 - 1975 409.32 335.58 82.0 - 1976 376.44 310.93 82.6 - 1977 382.37 229.23 78.3 - 1978 500.99 389.21 77.7 - 1979 523.48 396.92 75.8 -

6,739.71 5,569.59 82.6 -

According to year-book 1992, p.149 divided into 6 stages: from 1953 to 1957, was the stage of the first five-year plan; from 1958 to 1962 the second five-year plan from 1963 to 1965 the time for self readjustment; from 1966 to 1970 the fourth five-year plan and from 1976 to 1979 the fifth five-year plan. Among the above-said stages, the first five-year plan period was recognized by the State of China and the economists as the stage of economic development having recorded the highest achievements in the course of 30 years. (According to the investment management authority in China, the total fixed capital investmnet by the State was divided into investmnet in capital construction, renovation of investment, investment in strores and fixed capital investment in four other parts, but the proportion of investment in capital construction made up over 80%).

In the first five-year plan, the State made direct invest - ments in capital construction which accounted for 89.5% of the total capital invested by all state establishments. This rate when compared with the average of the six stages (82.6%) would be higher by nearly 7%. This could be considered as one of the reasous leading to the relatively high economic growth in this stage (Table 4 will show the figures related to this respect) The 13 years particularly selected above for showing the spendings on capital construction would largely demonstrate the financial spendings on this field in the years concerned thereby, ving made up a high proportion of financial

260 TABLE 4

Total financial Spendings on spendings capital construction Year (3) =(2) : (100 million yuan) (100 million wton) (1) (2)

J95() 68.1 12.5 18.4 1953 200.1 70.3 31.9 1957 304.2 1237 40.7 1958 409.4 229.4 56.0 1962 305.3 55.7 18.2 1963 339.6 80.2 23.6 1965 466.3 158.5 34.0 1966 541.3 191.0 35.3 1970 649.4 298.4 46.0 1971 732.2 309.6 42.3 1975 327.0 39.8 1976 806.2 311.3 38.6 1979 1,273.9 514.7 40.0

Source of mate;ial 1992 China statistics year-book. pp. 215 and 221 spendings in the overall amount of mone used for this field of work, this proportion was of the order of upwards. to say nothing of some particular years with a proportion of 50% upwards. Moreover State finances used for capital construction were not. Moreover the State finances used for capital construction were not entirely to this field of work but still included transfer of working capital, renovation of investment, procedures, aid to rural production... Thus, it could he in the tab!p thot in the process of economic development, the State used its direct investments to intervene and participate to a certain extent in the economy. In the first stage of economic development, the State's direct investments being considered as forming the essential part and carried out in a concentreated manner, gave rise to better investment results. The cause lies in the four foU owing points:

1. At this stage, the concentration of State investments was still inadequate and could not yet meet. the requirement. This would bring about insufficient results. If the State could make concentrated direct investments, this weakness might be overcome and would there-after make the invest- merits proportioned to the requirement of the economic development. 2. Thanks the State concentrating its finances on direct investments, t rahsport and corn mu nicat ions and ener- industies were strongly developed resulting in the ener- gence of more and more industrial es ablishements which

262 needed ever bigger capital investments but recovered rather slowly their invested money, this would no less make them contribute very importantly to the rapid economic growth. 3. In the first stage of economic development, funds for construction were in serious shortage hut they were badly needed by an urgent economic development,, the State would play the leading role in making investments in the key industries which badly needed funds. During the first five- year plan only 156 key projects were completed They formed the core in economic development, and until now they constitute as always an important source of profits for China's economy

4. By concentrating its finances on making direct inves- timents, the State could make good rather quickly the un sound state of industrial structure and give a boost to backward enterprises to move ahead in the first. stage of founding the new China, it seemed that. the economic structure was lacking a balance with a very small heavy industry which had kept. back the march foward of the entire economy. Only by State's concentrated capital investments could heavy industry be given a strong impetus which found expression in the building of the car-making industry and of a good number of industrial enterprises which had not existed before encompassing machine building... No few problems arose in the process of concentration by the State of its management of and direct participation in the economy. Nowadays, looking back on the past event, we

263 could draw the following experiences I) Effective investments led to low effectiveness of the entire economy. The cause of this low effectiveness was that in the course of capital there were no state representatives to see how the invested capital worked. Even after the projects were completed, no seats of owners were to be seen, no Sons were interested in the preservation of the value of the invested capital This would give rise to waste and serious losses and lead to the ever rising coefficient of investment (that is to say the need of investment for every yuan of income being constantly on the rise). That coefficient was 1.9 during the first five-year plan. The average coefficient of subsequent five-year plans was not lower than the above rate.

2) The economic structure was not in a compact form and revealed many imbalances... The state would have made investments to support those industrial enterprises still lagging behind but instead it regarded the backward enterprises as impossible to operate a change for the better and would let them drift. Owing t.o its consistent support policy, the State unwittingly turned the non-declining enterprises into really declining ones. For example, prior to the founding of new China, light industry strongly develoi;ed whereas heavy industry was brought to a standstill. But in 1970, that situation was completely reserved. Heavy indystry seemed to be too "heavy" while light industty became too "light".

264 3) The workers saw that their enthusiasm was cooled down. They would consent to tighten their belt for a short. time in order to concentrate all human and material resources on the economic build-up. This was quite understandable to everybody. But they could not suffer the shortage of necessaries and content themselves with a how income fw an indefinite period of time, they would not ony such a situation but also lodge a strong protest against way of doing things: This would give rise to the reductio of human labour. The three extremist aspects presented above have stood out all the more conspicuously. Small conclusion: The situation of the State impacting on the economic development during the past 30 years in China is a model of maximalized" State. With regard to a State having a relatively low level of economic development and a weak position at its start, this model might bring into play its activeness during the period of economic rehabilitation and development.

But the effect of the State would dwindle away wit.h the passing time and increase with the coming time which gradually leads to the hindrance of the economy. Therefore, a control over this aspect of the State function must he timely taken and an orientation towards 'minimization should be adopted in order to change the function of the State.

265 II- REFORM AN!) EFFICIENCY OFT lIE "MAXIMALL/ATION" MODEL OF

Thc' of the maxin :iat ion function which the

State performs is t the State concerit rates finances (by means of using material resources theretore in the acpect of first and foremost. a part of the financial power of the State shou Id be taken off from the latter and transferred to the organ rFhis aspect of reform by China starts from that point then come along a series of other arranged in order:

1 . Proving the soundness of the statement: The financial power of the of' max state should be weaken ed

The figures shown in 5 demonstrated that the State income in the national income gradually descreased. The rate of income of the State in 1991 compared with 1979 decresed by nearly 1007. In the meantime, the collective income somewhat increased arid the national economy made up a relatively big proportion Naturally, it was revealed here that the State would on its own initiative give up its profits to the collective and private individual components. Besides, there were also many factors of weakened financial power. But no matter whatever factors were involved, their objective result was the fact that the basis of financial power of the 'ma irnalized" State was weakened.

266 TABLE 5: Rates income of the State and of different economic components in the national income

Year 1979 1980 198! 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991

State 27.2 217 21.7 20.5 206 209 20.9 19.3 16 9 14.5 144 14,5 70f

Collcctivc 19.2 19.6 17.9 19.9 19,2 18.2 17.7 179 194 209 21.5 21.5 20.6

Individual 53.6 567 60.4 59.6 60.? 60.9 61.4 62.8 63.! 646 641 64.8 66.4

Committee) (These rriaterials were takes from the researcri report of the State Planning 2. Delegation of powers. thsintegration of the /vuction of centralized economic managenl 'nt by the State

Since the post reform tiiiv, almost all t ho rights and interests of i ndust ial eat I a varvjne degree wore confided to the care and idininistration of these enterprise such as: the right to make product ion plans. enterprises were authorized to decide on iat prod ucts to to rn out and on how much to produce based on the demand of t he in a rkot They are entittled to proceed with the marketing of their products by themselves and to buy the raw materials needed for production: The State was no longer responsible for the redistribution as it had done before, The enterprises could on their own initiative decide on the sale price, based on the market situation. At present, the State is still contiolling a number of prices related to the purchase of agricultural produce and by-products and to the sale price of energy by sales agents... but this control does not go beyond 20

The State has permitted the enterprises to ut i lire i r funds as they think best provided their funds utilization does not violate the Stale pricing policy. 11w enterprises have been authorized to recruit by themselves the needed staff, given the fact that before the reform, the State had assumed the responsibility of the labour force for the enterprises. The delegation of the centralized management power by the State to tlit enterprises means that the "max- iiualized' State function has disintegrated and narrowed down.

268 3. Planning lessened: The procedure of transforming the State function of economic management Before the reform, the function of centrlized management by the State was to order its plans to be strictly executed by the enterprises. After the delegation of powers to the enterprises, this command by the State did flO longer exist. As far as production is concerned, agriculture is no longer bound by the plans assigned it at State command. A total freedom in agricultural production prevails in the countryside. The industrial branch received production orders from th& State. Planning Committee relating to 120 items in 1984. then reduced to 65 items in 1988 and now to only 36 items. The specialized management organ of the National Assembly gave orders to different branches of industry relating to 1900 items of production in 1984, but this was reduced to 380 items in 1988 and now the order from the National Assembly is considered to be non-existent: The local government which gave orders for the delivery of products to State organs minds very little about giving its orders. Viewed from the angle of the rate of products value, the value of products made according to the legally authoritative orders given to the centrally- and provincial- ly-run industrial branch accounted for an average proportion of 80% in 1984, 16.2% in 1988 and 6% in 1993 in the total industrial production value. The "withdraw" of the State plan bearing a legal character has deprived the State of its "maximalized" function and of the means and ways enabling it to carry out its centralized power.

269 4. back in investment' Reduction of direel in the economy Before the economa' reform, the State did its utmost to c'nceni rat its efforts and material resources on direct largescale investments but tier the reform the State has given up its endeavours in this direction, minimizing its direct participation in econc'nic activities. In agriculture, the state maintains the rate of investments the rate of investment in capital construction at more or less I compared with the pre-retorm total investment in capital constrUction. They rates of investment have been gradually reduced to in 1980, in 1984, and 3.3% in 1985 and between 1986 and 1980, this rate stood only at 3%. In industry, the total investment in capital construction by State enterprises was reduced to 92.2% in 1988, and down to 39.7% in 1990, a cutback by 50.5% in proportion to the budgetary spending for investment in capital contruction equivalent to 86 billion yuan, With regard to the renewal and improvement of pre reform industrial enterprises, all the spendings were totally borne by the State but now the enterprises are held responsible for such expenses. The State budgetary estimate in 1991 covered only 6,8% of the overall social investment. The investments which were highly c'n- centrated in pre-reform times are now shifted to a socially- 'oriented procedure. That means the State is up longer the sole owner of the total capital invested in different undertakings in society. The ownership would belong to a great number of groups of people, and there is emergence of the

270 state of dispersion of capital investments.

5. Structural reorganization: Reduction of the persons who dominate ocer f/ic function of State affairs

The function of the "rna.xirnalized" State is to hold control over a big number of persons in the State structure. At present there are 80 different departments operating in China's structural system: ministries, Party leading the provincial administrations having 70 different services, the provincial capital level having over 50 services, the towns and cities level having 65 and the districts level 45 different The total number of officials throughout the country boasts nearly 34 million persons. The number of officials in proportion to that of inhabitants was I to 60() in the liberation period and is now I to 34, an increase by nearly 17 times. The office staff has surpassed by far the authorized norm. To speak only of the central government offices, in 1989 the total staff surpassed the authorized norm by 400.000 persons and in 1990 by 500,000 persons Given the fact that the staff have been greatly swollen, in 1992 40Y. of financial receipts of the State was used covering the administrative spending (according to the given by the fIoa Dong Information Bulletin issued on May 1, 1993). In order to cope with such a situation, in 1993 a countrywide structural reform is carried out. Based the concrete situation, the specialized management branch may be divided into three categories which would receive different ways of treatment:

271 A category would he changed into an economic entity and does no longer assume the function of administration. For instance the disbandment of the ministry of aviation and space industry which be reorganized into two genneral corporatIons of aviation industry and space in- d ustry.

- One more category will changed into Federation of industrial associations which is a nonproductive unit under the authority of the Cabinet and no longer acts as a State organ. For example the Ministry of Light industry, the Ministry of the Textile Industry after disbandment would be organized into Federation of Light Industry Associations, Federation of Textile Industry Associations of China whose main functions are to work out industrial production plans, put into effect industrial policies in the service of enterprises.

- The third category will be the merger of ministries for the purpose of staff reduction, for example the merger between the ministry of Materials and the Ministry of Com- merce, the merger between the Ministry of Mechanization and the Ministry of Electronics... With regard to those departments which do not undergo any change in structure, there must be definite stipulations about their staff reduction. Those reforms have so far brought about no clear results. But it should be born in mind the fact that the functions of the State indicated by that structure no longer exist to nothing of the minimization of administrative expenditure for the State and the reluction of financial

272 allocations to this end. The direct effect of the State on the economic development has been considerablly weakened. China is no longer put on the list of 'maximalized States. Nowadays, when looking back on the past economic ment, it was ascertained that those reforms were quite correct and proved to be very effective. The Chinese economy in the 1970s underwent a high - growth period with its rising to a rather high level of development: China's gross national product between 1979 and 1991 increased yearly on an average by 8 The national income yearly on an average 8.4q: These two targets were the object of strong and rapid increase. Compared with pre- reform times, within 30 years, the average rise recorded annually was above Now the branch which has enjoyed an ealry loosening of control by the State is agriculture. In this period of time, agriculture made a strong development, food output estimated at 200 million tons in pre-reform times has reached as many as 300 million tons. This increse in food output required a length of time involving 20 years. However, after the reform, since 1980 onwards, this output passed from 300 million tons to 400 million tons within only years. Other industrial crops have also increased in output, by more or less one time compared with the pre-reform period. The State also loosened its grip on the industrial branch from 1978 to 1991. The gross industrial output value increased by an average annual rate of 8.6%; the industrial structure has also been gradually upgraded and changed in

273 the direction of deeper concentration of manpower, funds, _technology and intellect. Prior to the reform, due to the State centralized management and direct participation in economic acitvities, the problems relating to the three above-mentioned aspects should he made clear:

1) Effective investments were made resulting in the raising of the overall effectiveness of the national economy From 1953 to 1978. the total investment of the State (that is the fixed assets value made available by the State) in creased every year by one time; the national income rose only by 0 2 time. However, only within 8 years after the reform )count.ing up to 1987) the fixed assets value of state-run enterprises increased by one time every year while the national income rose by 094 time (1987) 2) The imbalance in the structure was readjusted. The proportion of agriculture to light and heavy industries in 1987 was: 24,8 :42.8 :42.8. In 1991 this proportion changed

to 22.4 37.9 : 39.7. Thus light industry was not too light and heavy industry was not too heavy as in former times. The three industrial proportions were also changed. In 1978,

those proportions were respectively: 24,4 : 48.6 : 23.0, until

1991 they were changed to the following 26.6 : 46.1 : 27.3. These three industrial proportions were also raised with the passing time. 3 The people's living standard was also raised: the net earnings of each member in the peasant household averaged 33,6 yuan in 1978 but they were raised to 1,544 yuan in 1991. The improved living standard of the population on the

274 other hand found expression in their possessions during the pre- and post-reform such as bicycles, sewing-machines, radio sets which were then extended to refrigerators, colour TV. sets, washing machines. Nowadays, motocars, com- puters are the .r tides finding their into private households.. In sum, the essential manifestation of the economic development in China was the loosening off centralized management and the minimization of direct participation by the State in the economy which would bring much vitalit.y to the latter.

Ill. CHANGE IN THE POSITION OF TIlE STATE BEFORE AND AFTER THE REFO RNI, RECOM NWNDATION THAT OF TIlE REFORM BE ONE MORE STEP FURTHER

A- Through 10 years of reform, the effect of the State function had changed which would entail the alteration of the status of the State as well: 1. Prior to the reform, the State being the only owner changed into a partial owner. Prior t.o the reform, the State-run enterprises made investments to the tune of 90% unwards provided by the State budget, the enterprise and the officials and employees having no ability to make any funds accumulation and to have not any authority. So the State was then called the only owner: If we had to say about the ownership by the entire people, this would mean the form of ownership by the State because only the State could

275 represent the interests of the entire people. Saying like that is not quite true The State was the main investor, the real owner and the true representative of the people's interests because as a matter of course, all things belong to she State. Now this way of speaking, which seeenied to be somewhat stereotyped, must he reversed to he correct Ownership by the entire people is indeed ownership by the State. This was motivated by political aim because it made people believe that they were the owners. In reality, the entire people, no matter who they are, had no right whatsoever to handle, the public property. But. after the reform, the situation changed; there are many fbrms of investment which make the level of investment of the State in the total capital investment off the whole society go down to only 1/4 of this total investment. So the State becomes now only a partial owner and not a sole owner as it was before. 2. The State, from being a manager of the plan, shifts to the position of an indirect controller at the macro-level. Before the reform, by means of legally authoritative plans, the State got involved in the handling of affairs which proved to he beneficial to its centralized management and made its plans to go deep into the economic activities at the micro-level. The reform has pushed the State management from the micro back to the macro-level and obliged it to make use of economic levels to indirectly handle the affairs at the macro-level. For instance, from the start of the reform to now, there have emerged four clear-cut fluctuating periods: the first period was in 1980 with the appearance of an ebullient

276 economic development, the second one in the years 1986- 1987 marked by the loosening in management with reagard to finances and credits which made the contradiction between supply and demand more acute than ever before; the third one in 1995 which gave rise to the scramble for the purchase of goods and the rise in prises; the fourth one in which expanded capital investments led to rapid growth, but owning to unpiamed investments, they broght about an economic upheaval. In order to overcome those four fluc-' tuating periods, the State had to spend a relatively short time for reviewing the effectiveness of its macro-economic management and put the situation under control by means of restriting the supply of money, stabilizing the economic growth rate, conciliate the contradiction between supply and demand and to secure price stability SO as to properly readjust the economy. 3. The State, from the status of a direct participant. in the economy, changed into an economic arbitration: before the refom, the State made direct investments and by means of plans controlled the production, the supply and consumption of products, so it became a direct participant in the economy. After the reform, this function of the State was weakened and it began to move from the status of a direct participant to that of an arbitrator; The State has bucked down to the task of institutionalizing contracts to carry into effect its control over the enterprises and to give direction to the harmonization of investment structure... For instance, the institutionalization of the law on the bankkruptcy of State-run-industrial enterprises and the guidance in the experimentation with this law... In the matter of supplying concrete guidance to the

277 investments in 1993, the documents for investments in securities, in iminovables. have been properly alized which would help investors to direct their funds towards industrial astablishments and small = sized estates (category 3'), That guidance from the State has had a good effect on the investment

B. Recommention to take one step further terms of reform Upon the basis of the summing.up of the process of reforming the State functions during the 14 past yeard, I would like to recommend that one step further in reform should be 1. It should be determined the limit of the investment arrangement by the State. In the reform process, we must narrow down the economic function of the State, but this would not mean that the State could not make a proper arrangement of its funds available for investment, on the contrary an number of domains are badly in need of State investments without which they could not work. The crux of the problem lies in the fact that in the market economy. there must be a clear delimitation of the source of funds arranged by the State: Many economists advocated that the limits should he outlined in terms of public products because the latter were not properly dealt with by private individuals because of their lack of production capacity of their iThwill- ingness to produce or if they would produce, the cost price would be comparatively high, so it would be preferable that the State should organize the production of such public items. If the "regime" of these specific, public products are

278 not to be carefully examined (the public products are mainly composed of postal service, information service, transport and communications, radio and television, sources of manpower, reaearch institutions,..) and if going beyond the limit of i rial prod lids, the cost price of invest meat arrangement in society would rise up and cause hindrance to economic development. 2. In the one-step-further reform process, the State function must be separated from the management of public affairs and from business undertaking. The State in its capacity as the greatest owner of' social property due to its structure enabling it to handle the ownership right, could execute at the same time the function of administration and the function of handling the ownership right, thus concentrating in its hand both public affairs management and business undertaking. It is quite understandable that the State gets involved in enterprise business because it assumes the function of handling the ownership right. That is why, when no discrimation is to be made between public affairs management and business undertaking, it would certainly lead to a non-differentiation between these two matters In order to carry out a separate policy on public affairs management and business undertaking, there should be an entity, namely State-run economy. That is indee.J a business organization. It is not a branch of the government hut. it is entrusted by the government with the task of guaranteeing and increasing the value of the national assets. 3. There must be resolute and timely elimination any surplus structure. In the reform process in China, have been clearly revealed a number of phenomena aimed at annulling the fucntion of the State in a number of aspects. If the

279 surplus structure is not to be abolished in time, there would be hindrance caused by that surplus structure to the busi ness activity of the enterprise. The explanation is quite simple an administrative structure is composed of officials and employees who, nature, require to have job, these persons know too well that only by providing job to every person operating in it can an organizational structure sur vive And only by the survival off such a structure can the officials and employees maintain their job and their position. If that structure is weakened or cease to exist, it must be replaces by another one, or change its name or put up another signhoard When keeping back that structure, the old routine would happen again, the old function would recur either clearly or dimly or would he more or less restored, and this would cause hindrance to the implemen- t.ation of the reform. In the structural reform process, there have appeared signboard upturning companies which are the best illustration of what hes been said above. 4 Attention should be paid to the synchronous character of the reform The synchronous character here is not synonymous nih reform" which has been often spoken of by Chinese economists: As the function of the State should he narrowed down to carry out the reform of the State ad- rninistrative structure, the synchronization would require that first, there should he effected the governmental struc-- tural reform and the instritutional reform of different categories needing a synchronized character. The structural reform required there should be done in a synchronous manner the reform of enterprises and the

280 reform of the enterprise business mechanism. After the reform, if the mech.'inism "which is going forward on foot' still maintains its passive reliance inherent in the enterprise, can be done in favour of the transfer That is the common meaning, or in other words, "synchronous reform" and this does not mean that there must coordination in the implementation of the reform by the governmental structure from the high or the low level. It should be said that t.he governmental structure in China constitutes a vertical one encompassing the ministries at the central level and the departments at the local echelon. If there is no synchronized coordination between the central government and the local one, information from the upper echelon to the inferior one shall be obstructed and there shall be no communication between these two levels of authority. \Vhile the central government has annulled some functions or changed it, the local government should not do likewise because no information would reach the lower level. Or when the central government desires to keep intact a number of functions, this communication cannot reach the lower level, which would not know about it. The Hainan province once organized itself into a "separate government'. When being in contact with the central government, this province met with much trouble and tremendous difficulties in its restrusturing in order to fit in with the overall plan laid down by the central government. That is the coordination in a synchronous reform between related organs in the government. Any reform of function by the State should be linked up to the structure of the government. If there is no

281 coordination between different organs concerned in a synchronous refonn. the reform of State function shall take a divergent direction and even go nowhere.

REFERENCES

'Economic management in China at the present epoch". Social Sciences Publishing House, 1985, BeIjing. "Institutional reform of China's economy In the past 9 years". Author: Kao Shiang Xuon . People's Publishing House, Beijing 1987. "The government in the market economy" by Lu Thou Y. PeopLe's Publishing House, Beijing 1992 "Reminiscences on the economic development". Chief author: Ma Kien Tang. Academica Studies Publishing House, Beijing 1990. "Public economic" by Atheny B. Atkinson Joseph Estigliti. Chinese language text. Shanghai Tam Lien Bookstore, 1992 Fluctuations and Chins's economic readjustment. Teng Chia Ning: thief author with the coordination of some other authors. Statistice Publishing House, China, Beijing 1990. "Study of some problems of economic operation and readjustment at macro level". Author: Zhang Ta, "Economic Sudy" magazine N° 11, 1990. Nozick. K. 1974. Anarchy. State and Utopia. Blackwell Oxford.

282 THE C1-IANGING RoLE OF TI IF STATE IN ECONOMIC RESTRUCTURING AND DEVELOPMENT IN VIETNAM

VU TUAN ANH Institute of Economics Hanoi, VIETNAM

During the past period of time in Vietnam, the reform of economic policies has had a positive effect on the growth and the restructuring of the economy. A close combination of the measures of macroeconomic stabilization (such as controlling and curbing inflation, reducing step by step the State budget deficit, practicing a tight. monetary policy, advancing toward a more improved balance of payments establishing a new system of institutions and legislation, .) and those of liberalization, of mInimization of the direct intervention of the central government in economic activities, of readjusting the structure in the direction of

283 gaining more effectiveness in economic activities based on the market yardstick and realizing the open-door policy in international economic relations, had created evident changes in the rate of economic growth and the stability of the macroeconomic With those reform policies, the State's activities in Vietnam's economy have also many considerable changes. Flowever, the prospect of socio-economic development in the coming years for Vietnam is much dependent on the settlement of fundamental problems whose content is related to the very continuation of the process of restructuring the economy. The most outstanding problem among them is to determine the reasonable role to be played by the State in the economy. In the process of the shift from a centralized planned economy to a market economy, Vietnam is expecting to searc.h for herself an economic model by which she could make the most of positive effects and restrict to the minimum the shortcomings of both market mechanism and State intervention by the two aspects of economic growth and assurance of social equity. This paper will raise some theoretical and practical aspects in connection with the change in the role of the State during the process of restructuring Vietnam's economy. We are of the opinion that an exchange of opinions and a large discussion about the matters submitted for consideration will help bring about ideas and suggestions for the required solutions.

284 1. TUE ECONOMIC RESTRUCTURING IN VIETNAM

Though having many different characteristics, the capitalist economies contain by nature two particular t rpj 1/ market mechanism determines the distribution of the of manpower; 2/ The private sector constitutes the main force in the economy, Whatever role it may play, the State can operate only within the scope of these two unbreakable particular traits Before the 1980s, Vietnam's economy contained particular traits differing much ñom the two above-said ones. First, that was a centralized planning economy, in which the market did not play the role of distribution of consumer goods, thereby the activities of the market having been limited to a quite narrow sphere and acted only in the capacity as a supplementary instrument to the planning. Second, though occupying a proportion in the economy, the private sector was not recognized as a force having a prospect for expansion and determining the orientation for development of the economy. This sector was the object of being turned into State and collective ownership. Covering all economic activities was the decisive role of the Stat.e which found expression in a system directive planning, in the fixJng of prices and the allocation of markets for nearly all the products, in the policy of financial subsidies through investment, credit, low prices of raw and other material to be inputted into production for the development of

285 State-owned enterprises. Since 1979, the economic policy have undergone major modifications in the direction of liberalization and market.ization. The process of restructuring the economy has evolved in the form of gradualism with the combination of shock treatment during a short time in the first half of 1989 with strong anti-inflationary measures. This has caused a gradual change to the particular traits of the economy. First, the shift of the economy from the centralized planning mechanism to the market mechanism started from the reduction of directive planned targets that. the State entrusted to economic enterprises and localities until when transferred to market relations and to a system of indicative planning. The State has renounced its unlimited and direct intervention in business activities of enterprises and keep only the regulatory role through its macro-economic instruments. The enterprises of all types would make business decisions by themselves in a self-governing manner and would compete with one another on the market. Through many drives of prices readjustment (1981, 1985, 1987, 1989), the system of Statefixed prices has got much nearer to free market prices and upon this basis, from 1989 onwards, the prices of nearly all the commodities have been formed, based on the market

286 principle, and since 1991 there remains only the electricity price which is still fixed by the State At the same time, the domestic prices have approached those on the international market. The national financial policy has been modified in the direction of actively mobilizing the different sources of funds available in the country to increase budgetary income, reorganize the taxation system, cut down State expenditures to soon obtain a budget. equilibrium. A series 01 legal documents on taxation have been drawn up and continue to be revised and amended to be brought to perfection. By that way, budgetary deficits have begun to diminish. rfhe banking system has been reorganized in the direction of splitting into two systems: the central bank and the commercial banks. The latter have rapidly developed their services the time being. in addition to four State-run commercial banks, there have been formed joint-stock banks, collective credit organizations, joint venture banks with foreign partners and branches of several foreign banks located in Vietnam. The policy of strictly controlling finance and circulation of money have been affected As a result the galloping inflation has been gradually curbed counting from the second quarter of 1989. Though the danger of inflat,ion'is not yet entirely put under control, in general the rate of inflation up to now is not high. rilbat is an encouragement

287 to the reforms so far taken Second, a rather big change has been affected in terms of the role and the mechanism of action of the State and private sectors In agriculture, since the end of 1981, the product-based contractual quota system to every peasant household has been applied to replace the direct and centralized handling of all economic activities in rural areas by agricultural cooperatives. Along with this system was the free buying and selling of agricultural produce and materials on the market In this contractual quota system, cooperatives still played an important role in production and distribution because they decided on the business orientation and the manner of farm produce distribution. But once having the right to self-organize production and to directly contact the market, the peasant. would be desirous to possess a full right of determination in business activity. The policy of renovating the system of agricultural management promulgated in 1988 in which the peasant household is regarded as a economic unit., to whom is entrusted agricultural land for long-term use (2050 years depending upon the species of plants or trees to be grown) and the right to decide on one's business, is indeed a step forward in the switch-over to the direction of privatization of agriculture, in the case, cooperatives could only perform the duties of supplying technical services and materials to the. peasant households. The Stat.e could only influence the peasant economy by banking credits, investment in irrigation projects and infrastructural constructions in rural areas. In industry, right from early 1980s, State-owned enterprises hove been allowed to do business outside the directive plans usually entrusted them by the respective State organs. The State has minimized its interference in State-owned enterprises, first by reducing the number of directive planning targets, the items of goods of which the State has fixes the prices, and afterward has entirely separated the finance of those enterprises from the national financial one by way of entrusting the right of self-mastery in finance to the enterprises and eliminating all sorts of subsidies previously allotted to them such as salary and wage subsidies, price subsidies for the raw and other materials used in production input, low depreciation rate of fixed assets and low rate of credit interest. The change of the mechanism of action of the State-owned enterprises in industry in particular and in the whole economy in general from the reliance on the centralized management by the State to self.supporting and market competition has compelled the enterprises belonging to this sector to restructure their business procedures, change the variety of goods and technologies and improve their management know how. A no few enterprises did not meet the requirements of that change-over. They are being the object of transfer of ownership to collectives and private individuals, of equitization or a close-down. State-owned enterprises have

289 been reduced in number, from 12,084 by the end of 1989 to 8,750 by the end of 1992, and to only 6,544 by mid1993. Though the State sector produces about 40 of the gross domestic product and the Stat.e.run enterprises could produce as much as 70 of the industrial output value and contribute 73 to the State budgetary income, the State-run enterprises have been mainly small- and medium-sized ones, with their technologies standing at a low level and their products in a rather weak position of competing against Imported goods. Near'y one halt ot the total number of 8750 enterprises (counted up to l)ecember 31, 1992) had each a capital of less than 100,000 IJSD, nearly 20 of them a capital of more than 2 million USD and only 1 % a capital of more than 10 million USD. Over two-thirds of enterprises had each a number of employees of under 200 persons and only 4 % a number of over 1000 persons. The number of employees working in State-owned enterprises was not big, making up only 5-6 % of the total social labour. The workers employed in State industrial enterprises accounted for only 2 % of the total social labour. Policies of incentive have been worked out and promulgated to stimulate the long-term development of the private sector. Actually about 5000 l)rivate businesses with an egate capital amounting to about 200 million USD have been established and operated, thus bringing about an evident change to the face of economy, especially in urban areas. are altogether 1796 private industrial

290 enterprises with a total invested capital of nearly 120 million USD, on an average each enterprise has an invested capital of 66,500 USD (according to the 1993 survey data provided by the State Genera! Office of Statistics). Trade and service are the domains offering the attraction for private undertakings and constitut.e also the fields drawing in the majority of surplus labour which has so far grown rapidly in size. While the large-scale private enterprises are still few, not to mention the instability 01 their business operations, household-sized businesses constitute the most popular form because they prove to be conformable to the mentality of the majority of people in the circumstances of a not yet stable business environment. Different forms of joint venture, joint undertaking between the State-owned, collective and private economies are being stimulated to develop. Foreign capital has been involved to make investment in Vietnam in nearly all economic fields. After five years since the promulgation of the Law on F'oreign Investment more than 700 projects have been granted licenses for operation in Vietnam and an aggregate capital of nearly 1.5 billjon USD have been invested.

It may be said that a mixed economy is in the process of formation and development in which the State sector is reducing its proportion and reorganized by the State so as to be made strong enough to hold the key industries for the

291 benefit of the overall development, whereas the private economy, foreign capital included, is quite sure to rapidly expand its sphere of action many fields of production and service. These changes have a good effect on the tempo of economic growth and the oIacro-eeonomic stability. ISee diagram in the appendix). The economic restructuring has had also a negative effect in many aspects In economic field, the competition has taken place between different businesses in the context of the lack of information about price and market forecast, to say nothing of an insufficient regulation. Competition has been particularly keen in the exportation (of such items as shrimps, rice, coffee) or the importation (of such items as steel for construction, cloth) which caused no few troubles to many businesses and even made some industries in the country close down. In the social aspect, the reduction of the staff number in the State sector, the allocation of funds by the State to be spent on social welfare not meeting the required demand and the differentiation in incomes have caused much worry in the mental processes and nature of the population.

II. THE CHANGING ROLE OF THE STATE:

According to our remark, in the process of policy reforms in the last time, enough attention has been given to the up of institutions and the reorganization of

292 the governmental apparatus assuming the regulatory function. During the transitional period, Vietnam's economy has operated in the style of the 'laissez-faire" model with a little impact from the State. The effect bearing a dualistic character of this type of market economy required that there should be an intensified regulation and interference by the State. But the interference for what purpose and following what style is still dependent on the assertion of a concept on the pattern nf the economy required to he huijlf Both extremities have been pointed out above - an unregulated competitive market economy and a command economy - have proven to be inappropriate for the community development in present circumstances (1). The guideline of the Vietnamese State has been affirmed in recent documents issued by the highest leading bodies namely: on the basis of a continued economic reform, there will be built "an economy operating according to market mechanism with State management and along a socialist orientation". The basic idea of this guideline is the combination of all stronger postures which can he brought about by different factors, concretely speaking the flexibility of market mechanism, the unity of institutions and orientations for action emanating from an unique centre through the State management, and the socialist

(1) Beyond the Market and the State. New Direction in Community

Development. Edited by Severyn 1. Bruyn and James Meehan. Temple University Press. Philadelphia. 1987

293 idea of raising the social welfare and effecting a fairer distribution of incomes among different social groups (2). According to our imagination, there might be the following aspect.s connected with the assertion of the functions of the State in the market to be build in Vietnam First, it should be remarked that, there are many concepts related to the role of the State in the economy interference, intervention, regulation control, leadership, management etc. Each concept displays a kind of function and different degrees of influence by the State on the economy. With a view to showing the relationship between action of the State and the economy, we use hereafter the concept 'the impact of the State on the economy.

1. The aim of the impact of the State Through its impact on the economy, the State on the one hand controls and support's the development of the

(2) A similar line been perhaps proclaimed by Chinese leaders at a recent plenum of the Central Committee of the Communist Party of China held in November 1993 which consists in building 'socialist market institution in which public ownership should be play a decisive role, all economic sectors would be encouraged to develop, a unified market should be established, a operr.door policy should be conducted, indirect management measures would be implementea mainly in macru-economic managemen.

294 economy and on the other regulates the structure and promotes social progress. It would he a challenge to the economy of Vietnam at when a high and stable economic growth rate is obtained, But it would be still a bigger challenge if economic growth were to be combined with social progress. There are different, approaches to this matter. Some persons hold the view that economic growth must be secured first and the aim of ensuring social equity will be effected some time later. Thus, the economy will he the field on which the State must primarily focus its attention. Capitalism had developed following such a path. Other people have different ideas saying that there should be a forecast of the price to be paid on the social aspect for the rapid growth and that the State should work out appropriate policies to have an impact at the same time on both economic and social aspects in order to ensure a definite balanced and sustainable development of the whole society and of different communities of living in it. The viewpoint on the building of a market economy along a socialist orientation belongs to this category of ideas. Naturally, discovering and following a new path is a matter of great difficulty and offers more risks than following a well.beaten path. But this new path responds to the requirements of the Vietnamese people. According to this viewpoint, the evaluation of the impact of the State on the economy is not only based on growth targets and

295 economic effectiveness but also on the results achieved in the social field.

2. The mechanism of State impact on the economy;

The State may operate in the economic domain in its capacity as planner. as regulator and as entrepreneur. In its capacity as the State would directly influence the orientation for investment and economic dcve!opment In the centralized planning economy, this impact from the State finds a expression in the that the State replaced the market in the distribution of resources and commodities. Such an opposition of centralized planning to the market would create a suspicion about the possibility of realizing planning in the market economy. The experiences of Japan and South Korea have shown that indicative planning might gain a high result in the orientation for economic development, especially for the elaboration and implementation of industrial policies. The crux of the matter is that planning should not be at variance with the rules of the game in the market, but it should create favourable conditions for the business to forecast the trend of market fluctuations and to act in a most advantageous manner within the framework of market institutions. In such circumstances, planning is needed for businesses and for most of those which voluntaril comply with the plan outlined by the State.

296 Plans in the market economy have the following effects:

1) Pw forward the aims and a clear priority order for policies;

2, Discover those collstraintb which still remain to be overcome, and the correlations needed to he solved in an homogeneous manner;

3) Give an orientation for the activities of all members in society, first and foremost the businesses,

4) Create conditions which oblige governmental organs to implement the planned orientations

In the last years in Vietnam though a long term strategy of socio-economic development until the year 2000 and other annual indicative plans have been elaborated, the correspond policies and measures following those plans are not adequately effective. Not counting the private businesses, the State-owned enterprises themselves do not find it necessary and useful to comply with the guidance of the plan. It is quite c'thvious that the system of plans should be made more perfect still so as to fulfil their function of orientation for development.

In its capacity as regulator now irrespective of political and social institul. ionS, the State has brought ifs pressure is bear on both economic and social areas, and this naturally with differing degree and scope.

297 In the economic domain, it would he better theoretically speaking that the state does not directly engage in the handling of affairs at the businesses but it, should endeavor to create the condition and containing The objectives that the state is intending to attain but the businesses must be given the right to act as they wish, to calculate the results and the affects brought about by their respective activities and to determine by themselves what suitable behaviour they should adopt within the framework of that environment The market. will become a system of exchange in which businesses are to be competing against one another and at the same time to be cooperating with one another with the aim of realizing their respective profit in the context of mutual benefit in society.

However, such a model is far from coming true ir. practice. Particularly in the condition of an underdeveloped economy, of the market relations not. yet in a State of uniform development within the scope of the whole country and of the technical infrastructure and legal conditions not yet ensuring the above ideal environment, the market failures would considerably impact on the social life. That is why in definite periods of development, several States would not avoid interfering in the market economy so as to limit the failures inherent in it by way of price fixing, pi )iction and trade quota determining with regard

298 to a number of lines (3). These measures usually bearing a situational character would be soon withdrawn and ended when there are no longer negative effects from the market on the life of the inhabitants. On the other hand, the State would make use of its policy of preferential treatment and adopt some forms of support subsidies to the areas that it intends to give priority to their development. This policy has been effectively used under the appellation of industrial policy in Japan and in the Asian NIEs during the industrialization period. It has been considered by many analysts to be a decisive factor conducive to miraculous performances in development.

In the social field, the regulatory role of the State is of special importance. The sensitivity of different social groups to the "distribution of the pie" would have a strong impact on the durability of growth and the long-term

(3) For instance, in South Korea during the period 1961-1964, iii order to curb inflation, the State promulgated a law by which it reserved for itself the right to fix the ceiling prices of important items of goods such as rice, barley, meat, eggs, cotton, coal, fertilizers, steel and construction glass... and at the same time through State-owned enterprises it controlled the prices of public goods such as railway, postal, electricity supply services. In 1963, as much as 53% of the exchange value of goods based on wholesale prices were placed under the direct control of the Government. In 1966, this figure was still of the order of 40%. The State of South Korea issued the Law on anti-monopoly and protection of consumers.(See In Joung. The Role of the Government in Economic Development Experiences of Korea. Asian Development Review 1/1990). development That is why the assertion of the role of the State in the primary distribution and redistribution of social wealth will he the decisive content of the so-called 'socialist. oriented development (that the State of Vietnam is expecting to realize) or the "social market economy (that encouraged to be applied in developing countries by several ideologist) Without mentioning that orientation, the minimum regulatory role of almost all States for the time being has already covered a wide scope : ranging from impacting on labour relations and labour market, restriction of unemployment, redistribution of in come through taxation and welfare funds, utilization of government's expenditure for development of public health, education, assistance to vulnerable social groups such as women and children, ethnic minorities, poor people etc., to protection of environment. Tn these fields, the market mechanism does necessarily play the regulating role because, on the one hand, with regard to the development of human resources, there must be long-term investment which can not he calculated about its effectiveness so simply as investment in production and commerce. On the other hand, the social objectives to be carried out by the State in implementation of its functions can not be based on the market mechanism. This requires that the State should have a system of clear-cut viewpoints in its public financial policy and consistently carry them into effect.minorities, invalid and

300 poor people), protecting the environment. In its capacity as entrepreneur, the State directly takes part in business undertakings in a number of domains. In Vietnam, there are actually different ideas about the participation of the State in business undertakings. An idea says that because of the low economic effectiveness in the State sector, it would be better that the State makes investment and carries out business which the private sector does not want to be involved in. Another idea says that it would be better to give a wider scope to the activities of State-owned enterprises namely production of public goods and services, development of infrastructure. A third idea advocates that the State sector should the commanding heights", explore new industries and create a wide-spread effect on the private economy, and more than

that, it should , within a long period of time, actively make investment in those branches which might bring about high budget income. With the functions as cited above, though the State sector may occupy no big percentage in the economy, it would have the effect of giving a lead tc thc development. Viewed from the angle of a purely economic aspect, this idea belongs to the highest leading organs of Vietnam. The arguments on socio-economic and political aspects have further consolidated the "leading role" of the State sector in the multi-sector economy which is to be

301 built in the country The main instruments that the State may use are State budget, policies of incentive (finance, monetary,, international trade, regulatory measures, State-owned enterprises, Those instruments may have two modes having direct and indirect effect on growth and on structural change of economy. The reality is that. if each instrument is to be analyzed separately regarding its effect and capacity of application, (t will be easy to make recommendations to the policy-making organs of the State. IJowever, if those instruments are combined for aiming at a given target, the calculations for a general effect will be a problem hard to solve, Particularly, the coordination of specialized organizations of the State apparatus requires that there should be formed a suitable organizational structure. At present that is the problems for which Vietnam still has to seek for the experiences from the world and afterwards to strive to devise a feasible scheme for itself.

- Above are only a number of problems relating mainly to the functions of the State in Vietnam's economy. There are also the problems tackled by the research project. entitled "Economic restructuring in Vietnam" for the time being and in the coming years as well. At this seminar, there will be other papers presenting each concrete problem more detail.

302 APPENDIX

GROSS DOMESTIC PRODUCT (MILLION US DOLLARS)

7000

6000

5000

4000

3000

2000

1000

0 1976 1980 1986 1990 1991

303 ANNUAL GROWTH RATE OF GDP (%,IN PRICE OF 1989)

YEAR

—a-- GDP —+— AGRIC. —*— INDUSTRY —s-- SERVICES]

304 GROWTH OF GDP (1986 = 100%)

180 -

150

86 89 92

GDP —.4-- AGRICULTURE -*- INDUSTRY —s--

305

GROSS SOCIAL PRODUCTS BY SECTOR

28. 26.

24 0 22 o 20 Jb lb -J 16

14 PRIVATE SECTOR

12 STATE SECTOR

1990 1991 1992

307 GROWTH AND STRUCTURE OF STATE AND PRIVATE INDUSTRY

140 -

120.

100 - I 0 z 80 I > -Jj60 40

0 80 81 82 83 84 85 86 87 88 89 90

STATE SECTOR — PRIVATE SECTOR 1

308 ANNUAL INFLATION RATE (PER CENT)

400 350-

300

250..

200-

150.

100-

87 88 8990 919293

309 VALUE OF EXPORTS & IMPORTS

3000

80 81 82 83 84 85 86 87 88 89 90 91 92 YEAR

—- IMPORTS —+_ EXPORTS] I

310 THE ROLE OF THE STATE EN INVESTMENT ACTIVITIES

N(;UYEN MAI Prufnsor, Vice President State Committee for Cooperation and Inuestrnent Hanoi, VIETNAM

1. At a time when our country's economic situation is tending toward stability, the problem of growth rate Is being raised as a topical issue. Rates of increase of about 7% of the gross national product, 15% of the Industrial output value and 20% of export goods turnover were recorded in 1992. Those rates of increase are being maintained in the current year 1993. There are worries about the recurrence of inflation' if the growth rate is to be pushed up to a higher level. There are also Ideas saying that it would be better to devalue the Vietnamese currency

811 by about 10 ]5(4 so as to further stimulate exports.

It seems that there is no ending to worries even when the economic situation is undergoing a change for the

bettet I have no intention to analyze those worries but I

only desire to mention them as a matter of fact and I would like to underline that thc problem of rapidly increasing capital investment and of continuously boosting the economic growth rate for a period of time covering some decades with be a vitally important matter for our nation. Our country must. make up for the past lost lime ad pay

attention to the surrounding countries - those which have by far surpassed ours in the rate of economic growth. If we could not accelerate the temp of development., we would not he able to bridge the gap and still face the danger of lagging far behind in the early 21. century. Ilow much invested capital does our country need during the two coming decades?. It would be quite difficult to give an accurate figure but everybody Knows that in order to build an infrastructure for a country with an area of 326,000 square kilometers. and a population of over 70 million, it would necessitate hundreds of billions of US dollars in capital investment. Those countries, lying near to ours, have had a high growth rate because they could secure an ever more increased capital investment for many consecutive decades. According to World Bank's statistics, in its "World

312 Development, Report 1993, the proportion of capital investment to the gross domestic product is as follows (in percent)

1970 1993

Indonesia 16 35

Philippines 21 20 Thailand 26 39 China 28 36 Singapore 39 37 Rep. of Korea 25 39

In the meantime, the ratio of capital investment to the GDP from 1991 to 1993 has been respectively 4 6 9'7 and 12.7%.

2. Stimulation of capital investment in the country and at the same time attraction of foreign capital investment constitutes two currents flowing into a canal which would• create a source of power for the country at the present time and in the years to come.

In my opinion it would be difficult and it should not he necessary to say what is the main one because, in

313 the long, run, the source of power from inside the country will gradually grow up arid become a decisive factor. But for the immediate future, when the inner source of power is still limited, and moreover a suitable investment environment is not possibly created for the purpose of mobilizing to the maximum that source of power, capital investments from foreign sources make up a bigger proportion and meet, the requirements of, most important projects

I would like to cite here an example. Oil and gas will surely be an economic branch of prime importance in the country. From oil and gas exploitation, oil refinery, petrochemical process to the use of chemical substances obtained from petroleum or natural gas, our country would build a key industry. But as we know oil and gas exploitation is made with foreign capital - The Vietso Petro (Vietnam USSR oil and gas joint venture) uses the capital loaned from the former Soviet Union, 26 oil and gas exploration projects have been granted licenses with a total invested capital at the exploration stage amounting to 1.4 billion US dollars which come from foreign corporations. New joint venture will soon come into existence with the aim of building an oil refinery with a capacity of 5,5 million tons/year. This joint venture is also mainly dependent. on foreign capital. According to statistical data the total capital invested in the whole country in 1993 is of the order of 3 billion US

314 dollars of which there are:

- billion US dollars allocated by the State budget;

- I billion US dollars contrihutcd by different businesses and private individuals;

- 1 billion US dollars invested by foreign countries. From the above cop-iposition it is quite interesting to see that there are equal contributions from three sides to the total invested capital. According to different surveys, the source of capital available among the population is still rather big (it is estimated to be 20,000 billion Dong in 1993) but these funds are not yet adequately mobilized for investment in and development in and development of production

- A major part of the accumulated funds of the population is used for housing construction, purchase of expensive personal property and of rare and precious objects. Our country has begun to resume credit relations with international financial organizations such as 1MF, WB, ADB. A number of countries have consented to grant financial aids and give money loans to our country at preferential interest rates. This invested capital will be used for the building of the infrastructure. It should be said that foreign direct capital investments have rapidly increased in numbers: Starting with only 320

315 million US dollars in 1988, it is expected to be 2.8 billion us dollars in 1993. There have been so far over 800 projects with nearly 7 billion LIS dollars of invested capital of which the foreign capital really introduced into Vietnam reaches 2.3 billion US dollars.

The question being raised now is jointly with the attraction of foreign capital investments how to ensure the long-term orientation of our country, that is to create a source of power from inside the country so as to shift from the main use of foreign capital to the use of mainly home - contributed one. Attention should be paid to the fact that not any investors are willing invest their money in a project which would enable them to carry out their business only for a short. period of time. investment is always linked to the factors of profitability and time duration. The National Assembly of Vietnam has determined the longest duration for a project to be 50 years, and for some special cases up to 70 years.

We could realize the intention of gradually increasing the proportion of home - contributed capital by way of buying back foreign shares and increasing the percentage of, Vietnamese side's capital shares in important investment projects and to do this there must be a proper policy for encouraging the Vietnamese partners to accumulate funds in the process of cooperation with their

316 foreign counterparts. At the same time, in every branch, a bold step many be taken to allow foreign investors t.o contribute as much as lOOc%, of the shares in projects After a period of time when the Vietnamese businessmen could accumulate enough funds, they would make investment in new home projects off the branch concerned.

There are two tendencies needing to he avoided. First, it is not yet bold enough in the effort to create a favourable environment for foreign investment, particularly when our country has not enough funds thereby losing the opportunity to boost the economic growth rate, second, lack of preferential treatment policies towards home businessmen so as to encourage them to practice fund accumulation and become strong businessmen capable of investing money in key industries. Foreign capital investments, including loans, and aids from international financial organizations and foreign governments as well as direct investments by private businesses must be directed towards two targets: creation of more and more receipts to the State budget so as to secure from the an ever bigger source of capital investment, and at the same time creation of fund accumulation opportunity for Vietnamese businesses so as to enable them to engage in enlarged reproduction for the country's development. If there is no clear orientation for these t.wo targets, there will arise shortcomings and errors, and consequently there will be no rapid increase in home -

317 contributed capital. The increase in invested capital during the three recent years has made it possible to confirm the trend of development of the remaining years of the 20th century, and at the same time, to pose a series of problems regarding the fund - mobilization policy, the orientation for investment, the profitability of invested capital as well as the use of economic instruments of which the most important are the system of finance and credit in investment activity.

3. Since the shift to the market economy, the "role of the State" has become a problem of vital importance because, in former times, the State assumed nearly all the jobs, ranging from drawing up plans, securing funds and allocating them, seeing to the production and caring for the distribution of products, fixing buying and selling prices of goods etc... This routine work of the State apparatus in the old mechanism becomes now a hindrance to the elevation of effectiveness of economic activities for the time being, namely the Sate intervenes too deeply in the function of doing business which is devolving upon commercial and industrial establishments but it leaves open a big sphere of activity due to Pack of regulation legislation, proper division of work, effective cooperation between different services of the State The new mechanism requires that the State apparatus

318 should be restructured and reorganized so as to be suited to the development of the present - day economic life. The restructuring and renovation of the activity of the State apparatus must be based on the following:

- The function of State management must be separated from that of business management Those are two

• functions of differently - structured apparatuses. Those two functions are vital to society and complementary to each other but they are quite opposite to each other viewed from the angle of management.

- The State apparatus constitutes an entity of vertical and horizontal structures designed to carry out the socio - economic administration by means of laws, All the structures which form the State apparatus have the same aim which consists in raising the socio - economic effectiveness of all domains of activity. Hence, they assume the task of direction and regulation so as to secure a through the system of taxation and other instruments an harmonization of the interests of the State with those of businesses;

- In the meantime, businesses are set up primarily due to the needs of the market and for the purpose of making profit. Businesses are called Upon to serve the common interest of the whole society but the always seek by every means and way to minimize their contributions to society. The mechanism of operation of businesses must be

319 permanently adapted to the fluctuations of the market and to the source of materials supply to enterprises.

In many past years, the reform of the State apparatus and the of the system have been dep)oved but did not meet the required expectations.

If such a situation has happened, it is because we have only touch upon the outer cover of the structures that we have had to deal with but life demands that we should en tiro ly reorganize those structures.

At least, attention should be paid to the following content when restructuring the State apparatus and raising its capability. First, there should have a system of clear - cut and consistent viewpoints in the building of tiusinesses i our country, no matter they are State owned or privately

- owned, and encompassing the tendency of shaping up a number of mighty business groups at the same time there should have an overall plan to build tens of thousands of medium - and sinai! sized enterprises. The latter must be set up according to the standard of socio economic efficiency. Upon that basis, the existing laws and rules comprising the laws on company, on private business, on taxes, on banking, on credit, on foreign investment... must be reconsidered for corrections and amendments in order to turn them into a complete system of economic laws.

320 Second, the organ in charge of controlling businesses must be soon done away with so as to separate the direct interests of that organ in charge of control from those of the businesses concerned, at the same time the funds allocations from the State budget must be basically reorganized and this aims to make the administrations at all levels not to be too much concerned with "increased budgetary receipts' so as to appose their local interests to the common ones. These are the works which must he done at the sam time and from which a system of State organs responsible for the management from the central down t.o the local levels having in view unified interests should be set up. The restructuring of the State apparatus should not be done in the style of rearrangement based on the old apparatus. The reality shows that it is very difficult to get rid of the past routine if there is no renovation of the very structure of the apparatus. Hence, there must he a careful preparation and a detailed calculation for the fundamental reorganization of the administrative apparatus, in the direction of running it into a new one and restructuring it in such a way as it would perform the functions objectively required by life itself. Here man is found to be closely related to the apparatus, there must be a reception and utilization of the man from the old apparatus but there should be also a rapid arrangement to retrain those men inherited from the past and change those who prove not to

321 be adapted to the requirement of the State administration in the new mechanism.

Third, attention should be paid to urgent problems posed by the situation of rapidly friereased capital invested by home businesses and foreign companies That is the study for the purpose of making appropriate policies on fund mobilization, on the shapin of capital market, stock market, and the direction of the population towards getting accustomed to the trade in stock and securities and the elaboration of rules and regulations to ensure their interests. Only by doing so can the money lying edge in the pocket of the inhabitants be turned into invested capital Study must be made to work out. measures to give preferential treatment to home investments as well as to foreign ones There must be planed to build a unified law on investment for both inside and outside the country from now to the end of this decade. Fourth, a through reform of rules, regulations and procedures must be soon made as these are being now very complex which would frequently give rise to bureaucratic practices, bribery, and corruption in the State apparatus. Every branch, every locality must work out their own development scheme and build up their own investment project in which there should be clearly defined what project with be based on the funds mobilized from local businesses, what project based on the money loans from

322 international organizations or what project based on direct capital investment by foreign private That is indeed an important work our country to take the initiative in the use of dilferent sources of capital investment for the economic development in the country:

Every ministry must check the implementation of the rules and regulations on the basis of the laws in force. All procedures must be made plain and simple for those persons involved who should have a thorough grasp of what to be done from the beginning to the end, know what officials to deal with and how much cost to pay The vague understanding of the administrative formalities gives rise to the present worries prevailing among the population especially those people concerned.

Finally, in the investment activity, finance and credit if well used would be two strong means helping to stimulate the process of investment and they would hinder investment activity if not properly used, thereby impacting on the growth rate. Is it worth while or not to give priority to the reform and modernization of finance and credit means? Placing these two means in their right. track, having a good knowledge of their role and viewing them from the angle of laws, apparatus, and men constitute the prerequisites if one wishes to have two engines with a big capacity and a high efficiency to pull the economic train of the country at an ever quicker pace in the coming time.

323 STATE-RUN ENTERPRISES IN THE PROCESS 01 [CON OM IC RESTRUCtURING IN VIETNAM

l)() IIOAL NA1'1 1)7. rector institute of Hanoi, VIETNAM

State-run enterprises constitute an important component part of the state economic sector. In the process of shifting from the centralized economic planning to the market economy in Vietnam, State-run enterprises have step by step undergone a change in structure and a renovation in management mechanism rl1his writing focuses on the elucidation of the fundamental view-points of the Communist Party and the Government of Vietnam concerning the reform of State-run enterprises and on the

324 assertion of the initial achievements, and sketches out a number of main orientations for a continued reform of state-run enterprises.

1. State-run enterprises before the reform

1 .1. Before the reform, state-run enterprises in Vietnam had taken shape and developed with a relatively well worked - out mechanism which made their presence felt in al domains, all branches and localities, comprising State-run enterprises placed under the authority of ministry, province (or city) and provincial district (city precinct, district's capital). These State-run enterprises played a decisive role in the national economy and controlled 100% of key branches such as electricity mining metallurgy machine tools making, chemicals fuel, cement, post and tele-communications, railway and waterway communications, foreign trade, banking, national defense and security. In the consumer goods industry for home use and for export State-run enterprises also occupied an absolute proportion or produced most of main products such as : 100 % of Knitwear and medicines, 100% of beer, 90% of electric fans, 85% of writing paper, 75% of cloth, 70% of bicycles etc..

1.2. State-run enterprises made up about 85% of the economy's fixed capital used 90% of technical workers, scientific cadres and managerial staff having graduated from different training courses opened in the whole

325 country. The State appropriated a lot of funds and provided adequate assistance for the development of State-run enterprises. Counting only ir a period of ten years from 1976 to 1985, the State apportioned about 60 of the invested capital for the whole economy and over of credit loans with preferential interest rate te the State-run enterprises.

1.3. Every year, State-run enterprises contributed about of the gross social product and 28-30% of the national income. State budget's receipts from State-run enterprises and through the latter constituted the biggest amount of money received, varying every year within 60 - 70w.

1.4. Like many other countries, the development of State-run enterprises in Vietnam was an objective necessity. J)uring the years of the though still having many weak nesses, State-ru ii enterprises and the centralized planning mechanism had made decisive contributions to the mobilizatkn of a;; sources of strength for winning victory in the war, liberating South Vietnam, unifying the country and presc'r'ving the integrity of the territory

1.5. '['he shift of the whole country from war - time to peace time has created new environment and laid down new tasks for State-run enterprises in an effort to meet the t of healing the wounds 'f war, restore arid

326 develop the economy. But the maintenance of the centralized planning mechanism and the bureaucratic and State subsidized system in the whole economy, especially in the State economic sector has revealed many serious deficiencies of State-run enterprises. Those deficiencies are the following.

a. Productivity, quality of product and effectiveness are very low, All the State-run enterprise sector could not. go beyond the threshold of simple reproduction - Generally reckoning, within ten years from 1976 to 1985 fund allocations to State-run enterprises and receipts from them were in the ratio of three to one.

b. The State with system of budget subsidies decided on the prices of input and output. which would result in the fact that State-run enterprises did not have to make any calculations about their profit and loss account because if they incurred any loss, the State would pay for it.

c. The egalitarian characterin the distribution of income has weakened the motivation of workers to work with higher labor efficiency and greater efficiency and to secure a better quality for their products. d. The managerial body was over-staffed but slow and inefficient not to mention too many intermediary levels with over lapping functions. The managerial organs have often intervened too deeply in the daily production and business activities of the enterprises. There was no clear

327 distinction between the role of the State and that of the enterprise, between the finance of the State and that of the enterprise.

2. Reform of State-run enterprises in the process of shifting from a centrally planned economy to the market one 2,1. Basic requirements for carrying out reforms in State-run enterprises. 2.1.1. Upon the basis of the results and experiences gained in the course of making experiments and finding out an appropriate way of doing things in the last years of the 70s and in the first half of the 80s, the sixth National Congress of the Communist Party of Vietnam held in 1986 has made decisions bearing the character of a turning point on the economic reform in Vietnam. The basic theoretical points of the economic reform are the following.

a. To shift the pure economy with two forms of ownership and two economic sectors namely : the State - owned economy and the collective economy to a mixed economy with many forms of ownership and many economic sectors are intertwined with each other and supporting one another. The private economic sector enjoys the approval and encouragement of the State will create conditions for these sector to develop for a long time to

328 b. To shift from the centrally planned economy to the market economy with the management of the State and by way of laws, policies and orientations.

c. To shift from the closed economy to the open - door economy with the aim of getting integrated into the world economy and taking part in the international and regional division of labour.

d To shift from the import-substitution economy to the export oriented one on the basic of bringing into play the comparative advantage of the country and that of a late-comer. Being an important part of the economic restructuring the reform of State-run enterprises in Vietnam has been continuously effected step by step with the main content as follows

- To assert the enterprise as an independent business organ in the market economy. The State gives back to the State-run enterprise the self- governing right and self responsibility for the results of their business activities. State-run enterprises are entitled to decide on how and for whom to produce in accordance with the market demand.

To abolish step by step the monopoly of State-run enterprises, create a competitive environment between the enterprises belonging to all economic sectors. -

- To marketize State-run enterprises, apply the market

329 principle and discipline with the aim of step by step restructuring the State enterprise sectors. To carry out a rearrangement of existing State-run enterprises. Those State-run enterprises which do not properly meet the conditions of doing business can be disbanded.

- To carry out a policy of credit loans with a positive interest rate and effect a realistic currency exchange rate. To strongly reduce so as to finally abolish all subsidies through the State budget and the banking system with regard to the State-run enterprises which carry on business dealing with consumer goods and personal services for the purpose of making profits.

- To step by step separate the behavior of the Government from that of State-run enterprises, the finances of the State from those of State. run enterprises. -

- To carry out a pilot scheme to see how the contractual quota system, the renting out of the bidding for contracts, and the equitation of State-run enterprises work so as to introduce them on a large scale. The State-run enterprises in their capacity as the subjects of undertakings constitute the focus of the reform. Upon this basis, many problems relating to the market and the State, to the private individuals and the government could be resolved step by step the aim of making more lively still the State-run and raising the iather's effectiveness.

330 • To boldly place the State-run enterprises in the business environment of the market economy. The State has gained some experience in impacting on the activities of the enterprises by the system of legislation and macro-economic policies, especially the financial and monetary policies

2.2. Preliminary successes 2.2.1. Thanks to the determined rearrangement and reorganization of State run enterprises, their number has been out down considerably. In January 1992 there remained only 9300 State.•run enterprises and in June 1993, only 6544 State-run enterprises were still operating as against 12,297 units existing in January 1990. Of those State- run enterprises still in operation, 1971 are placed under the management of the Central Government and 4573 under the local governments' management. Out of the total reduction 2240 State-run enterprises as from early 1992 onwards 900 were disbanded or undergoing a change in the form of ownership, and 1340 merged with other enterprises. The way of dealing with non-profit-making State-run proved to be a correct measure aimed at. concentrating the limited resources available on more profitable enterprises which would result. in lightening the burden for the economy and for the State budget as well. Thanks to the restructuring, in 1992, the State-run enterprise sector

331 made up only 70% of the total fixed capital of the whole economy. Though having been reduced in proportion and number, this sector has made considerable contributions to the gross domestic product and the annual national income which have kept on invoicing.

2,22. It is really by boldly facing the hard trials of the market that many State-run could operate more dynamically, taking the initiative in linking their production to the market demand offering more varieties of goods with different patterns to care to the taste of customers, applying advanced technologies, raising the quantity of product, cutting down spending, all these have helped them to operate at a profit. The central government-managed enterprises prove to be particularly profitable in their business affairs. The preliminary results obtained by the carrying out of the pilot scheme in the application of the forms of contractual quota system, renting out, bidding for business undertakings in a number of State-run enterprises proved to be most encouraging. Though the state still has to subsidize the State-run enterprises the level of subsidization has greatly decreased. 2.2.3. The function of economic management by the State and the function of economic management by the enter prices have been more clearly determined step by step. The State has concentrated its efforts on the creation '-f a suitable environment and a corridor for the enterprises it has seen to the stability, and

332 has asserted the right of enterprises to have self-mastery in the planning of' their activity, in the decision on the prices of input and output (and the prices of the overwhelming majority of goods and services in accordance with the market and the laws of supply and demand) in money matters, in the commercialization of materials in direct imports and exports and to have the right of cooperation and investment and of joint venture with their counterparts in foreign countries. The State-run enterprises the power to make full use of the capital allocated to them but they are held legally responsible for the preservation and development of the said capital development of the said capital. With a view to pushing up the reform of State.run enterprises steering, committee for renovation of State-run enterprises have been set up at Government Ministry and city or province levels. 2.3. Fundamental pending questions 2.3.1. Basic Progress has not yet been made in the change of structure for State-run enterprises following their respective branches and territories. Though State- run enterprises are big in numbers the majority of them are small-sized and scatterly located. All 53 provinces and cities and 37 ministries and organs at ministry level possess their State-run enterprises of the total of 6544 licensed State-run enterprises, only over 100 billion dong (equivalent to LTSD

333 10 million), 46% have each a capital of over 20 billion dong, 30% a capital of 1 - 5 billion dong and a capital of less than 1 billion dong. Over two = thirds of State-run enterprises have each a work-force of less than 300. Only about 4% of enterprises possess each a work-force of above 1000. Strong and prestigious business groups operating on home and foreign markets are slow to be formed State-run enterprises operating in the domain of infrastructure constructions are not enough.

2.3.2. Only of State-run enterprises have made investment in new technologies after the year 1986, the remaining enterprises have had their technologies dating back to 1960 and backwards, For that reason their competition with the products of the same kind in the world market and with foreign imported goods on the home market is quite weak because of the low quality of product and high costs. 2.3.3. State-run enterprises usually achieve low results in their production. In 1991, the ratio of average profit to the capital used was and the ratio of average profit to the turn-over 3.55%. These index numbers of the year 1992 were respectively 4.8% and 3%.

In the meantime, the index of inflation in 1911 was 40% and in 1992 17.4%. 2.34. in a number of domains such as electricity petrol, cement, the state of monopoly of State-run enterprises is very great. No few enterprises take advantage of their monopoly and exploit it to the fullest extent in the fixing of prices, in the iimitation and suppression of competition.

2.35. There is not yet an effective mechanism for inspecting and controlling the finances and accounts of Staterun enterprises. The discipline in the management of money matters has been let drift. The enterprises which strictly observe the State legislation in book-keeping and statistics are few in numbers

2.3.6. The working people's income is not yet linked to labour efficiency, quality of product and result of labour. The irrational and uneven incomes of workers, especially the difference in earnings of managing directors between different enterprises, branches and regions have become wider and wider.

2 3.7. The required laws and policies ark: slow to be promulgated and t Ii is has made it impossible to create necessary condil ions for supporting and act..elerating the process of State-run enterprise reform.

Orientations for pushing up the reform of enterprises

3. 1. The rest rueturi of St ate- run enterprises requires series of to he Up to now, the first

335 stage of this process has been completed with the main content consisting in turning each State-run enterprise into a market, a company. In the next stage, the change in the structure of the branch and in that of owner ship will he one of the most important contents. The sphere and demarcation between the State economic sector and the private one will he clearly defined. 3.2. Shall be maintained, consolidated and developed those State-run enterprises belonging to the group dealing with the material and social infrastructure, the nascent key industries and the national defence and security branches. Those are the branches and domains which private enterprises have neither desire nor capacity to make investment in lent they constitute the economic establishments necessary for the rapid and steady growth of the entire economy and ensure the State a good implementation of its socio-econornic, cultural and environmental policies. In the first stage of the growth of Vietnam's economy, the State economic sector must necessarily play the key role, and serve as a mainstay for the creation of premise and environment to help the private sector to develop. The State economic sector can by no means operate efficiently if it is separated from and opposite to the private sector. Both sectors are complementary to each other, they need mutual support, the one will create the premise for the development of the other and vice versa.

336 3.3. The remaining State-run enterprises will be made diversified in the forms of ownership they will be partly or wholly privatized and this shall be carried out with appropriate measures to be taken as regards each branch, each region The forms of contractual quota system, renting out bidding for business undertakings and equalization shall be applied simultaneously and synchronously in all State-run enterprises.

3.4. It should be encouraged t.he formation of a number of business groups and companies which would have the competitive capacity on home and world markets such as the branches of post and telecommunications, cement electricity, oil and gas civil aviation, sea transport, liquors, beer, textiles, garments making... 3.5. Premise should be created for the establishment of stock-markets in both HoChiMinh city and Hanoi capital city as a means of supporting and accelerating the process of equalization of State-run enterprises. 3.6. The management apparatus of the State and that of enterprises should be strengthened with a view to stepping up the economic reform simultaneously and synchronously with administrative reforms. The difference between the centrally - run economy and the locally - run one should be step by step eliminated and so would be the role in charge of State-run enterprises by the Ministries and the city and provincial people's committees. These organs should focus

337 on the function of State management in economy with regard to all economic sectors without exception. 3.7. Macro-economic policies and the system of laws should be made to support the reform of enterprises. 3.8. The training and fostering of managerial cadres for State-run enterprises should be stepped up in order to provide these enterprises with managers conversant with business sense, knowledgeable about laws and legal matters daring to accept risks in business undertakings and loyal both to the interest of the State and that of the company and the working masses. 3.9. At present an integrated systematic and synchronous program on the reform of State-run enterprises is being elaborated. This program reflects clearly the viewpoints, orientations, and fundamental solutions as well the calculations of different steps to be taken with careful consideration of social effects and the high determination shown by the central government and local authorities as well as by the enterprise leading bodies and the population.

338 TI1[ STATE APPARATUS REFORM IN TIlE TRANSITION TO MARKET ECONOMY

DOAN TRONG TR1JYFN Professor National Academy of Adni hanoi, VIETNAM

I, The managerial role and function of the State in the market economy

1 Proceeding from the relationship between the State (superstructure) and the economy (infrastructure), from the particular traits of State public ownership and the State function of managing the whole society, and from the structural characteristics of the multi sector comirodity economy and the market mechanism with State

in the transitiohal period to socialism • we may clearly define the role and function of the State in the

339 management of the market economy in general and of the State-owned economy in particular. Distinction must be made between State management (or still called administrative-econoniic management) and business management, and it should he found out the, specific traits and the measures of the State for managing the macro economy according to the market mechanism and impacting on the micro economy and the economic establishments belonging to different sectors along the socialist orientation It should be particularly defined the procedures to combine and apply the market relations and the planning method which constitute a problem with a rich content and beset with much complexity in both theory and practice of management. Here we do not want to gain an insight into market mechanism and business management but we would like to deal mainly with the procedure and the State apparatus in the management of the economy in order to develop all potential energy of production and ensure the socialist orientation.

1 .2- The Commodity economy and the market mechanism do not lighten the State management, by it capitalist or socialist State. Moreover, we intend to build a multi-sector commodity economy, apply the market economy along the socialist orientation and to expand international relations in order to enter the world market regardless of politico-economic regime, this would all the more require a good management by the State in the transition period to socialism.

340 The question is how the State management would be so as to adequately apply the laws and objective requirements of the market ecoiiomy but at the same time to ensure the socialist orientat 1(0 and not to let the economy move in a spontaneous man mr into the capitalist path. All the problems to be dealt with above would create a framework for the State in politics, legislation, administration and pave the way for t he economy to move along a really democratic market mechanism in a very orderly manner within the political and economic system stipulated in the Constitution. By the market economy, people are entitled to make a fortune within the framework of the law, they are put on the same footing in competition (enjoying no prerogative, no preferential treatment, no class privilege...), they must know how to produce high-quality goods and sell them rapidly in order to gain maximum advantage in the market. But the market itself engenders no few disadvantages such as speculation and hoarding, smuggling, corruption and bribery, tax evasion. But there are no market economy and no economic system which could give absolute freedom to producers and traders and in which there is always the macro-economic management of the State. A good State apparatus and a well-organized structure and procedure of activity by the State, that is to say a good national administration must be adapted well to the requirements of the market economy, must supply a concrete guidance to its development by supporting the positive aspects and e]iminating the negative ones which may arise from it.

341 I 3 on the basis of the perception of the role of the State in the macro-economic management. with regard to market economy and of the State ownership of the basic means of production and of the Key branches in the national economy, the following functions develop upon the State:

- Defining the orientation for development;

- Defining the legal framework;

- Encouraging and assisting in the economic development according to the.set orientation;

- Regulating, coordinating the required actions;

- Arbitrating: preserving social equit.y and defending national interests. The State carries out its functions by means of implementing the following tasks: working out suitable strategy, proper policies and plans; defining the orientation for socio-economic development towards socialism; establishing rules and regulations in order to create a legal environment; building the infrastructure (which is usually costly but unproductive) for development; training officials, and workers; supplying information and guiding the business in carrying out their activities; taking charge of key industries and establishments of strategic importance which the private sector is reluctant to get involved in; using the macro- and micro-regulation instruments (money, credit, tax, saving-fund, insurance, wage).

342 2- The new economic structure and the new economic management mechanism require that the branch and territory management apparatuses should be restructured according to the principle of combining the management of branch and that territory: 21. First and foremost, an should be made of the general socio-economic structure ot' the national economy, of the branch eConOmic structure and the territovv tlOflW' Qtfli('flJro it the split between the centrally-run economy and the locally-run one. There are actually an economic section managed by the Central government and another section run by local administration, but viewed from the economic angle, both lie in the general and unified economic structure without any split between them. It must be clearly defined and distinguished between the content of the unified and centralized management by the State (central government) and that of the unified management according to branch and to territory, no confusion should he made between branch (economic category), union of branches (business organization category) which are organs assigned by the Government to manage on behalf of the Stat,e the branches concerned; distinction must be made between the territory socio-economic structure and the local administrations assigned by the State to manage the territory; the viewpoint and erroneous practice that the State, government and Ministries would manage only the affairs within their competence and that the local

343 administrations and their services and departments would manage their own affairs within their sphere of activity must be done away with 2 2• The high or low requirement about the unified management according to branch and domain depends on the conditions of development and the characteristics of each branch or each domain but this aims to meet the requirements of' a unified development in the strategy, planning, funds allocation; policies on scientific and tnrhniral nwrha&cm pnIirlna hrntitiitlnnalivnd into laws, training of a contigent of scientific, technical and mangerial staff and skilled workers. 2.3- The requirement of a unified management according to territory is to ensure an all-sided development of the branch, and domain, and of the political, scientific, cultural and social activities oil an administrative - territorial unit in an effort to secure a comprehensive State management and a maximum and highly effective exploitation of all the potentialities on the territory concerned, irrespective of branch, soclo-economic component, level of management assigned by the State. 2.4- The management according to branch or domain and the management according to territory must necessarily be combined and unified in accordance with State laws and placed under the unified direction of the State administrative system. Hence, it should be restructed the apparatus of management of branch (the Ministry) in the sphere of the whole country through territorial unite; it should not be organized too many Ministries corresponding

344 to the social division of labour which consists in the multiplication of more and more technical - economic branches and in a reduction 'o the minimum of economic Ministries bearing the character of a more general State management. On the contraty, the organs of management of domains, especiaaly the domain of research on the strategy, planning, long term plans and domains of finance, money, accounting, auditing must be strenghtened

3. Distinction in the matter of organization and combination of the state management with the management of business undertakings and non-productive activities 3.1- It must be put forward criteria (or characteristics) to distinguish the organization and the content of State management from those of business management and non-productive activity management. That distinction is based on the analysis of the question of ownership, the regime and form of ownership, the socio-economic and legal content of ownership, research must be made into the problem of managing different economic components by the administration of an level with regard to different administrative - territorial units, it should be clearly defined the management of the State by the authority vested in it according to law ans the management of business and activity according to the self-control regime. rillie State in general and the administrative apparatus do not interfere in production - business and

345 non-productive activities concerning the problems defined by law as belonging to the self-control: right of the business or non-productive unit. But it should be recognized the fact that the ever higher level of development, the ever richer and ever more complicated social relations, the rapid development of the scientific and technical revolution and the ever more promoted people's cultural standard have had an ever bigger impact on many domains of social activity. Due to the trend of internationalization and with its open-door economic policy the State must intervene more and more, to say more rightly see more and more to the maintenance of national interests and meet the requirements of society and its citizens. The general tendency is the sphere of activity of the State apparatus must be expanded with every passing day and at, the same time the population must. participate in social activities by different semi-public, semi-private forms of organization. 3.2- But the general principle consists in the fact that state administrative apparatus must not be turned into a business or a non-productive organization and that there must be a reorganization to separate the business organizat ions from the Stat.e apparatus. The State keeps firm to its function of management and it. sees to the national administration by a system of law abiding documents and handles its routing affairs on the ba3is of respect for the democratic freedoms and brings into play the creativity of all citizens and the self-control right of business and non-productive units.

There H flO need of the organism i charge as it is now

346 when the market economy develops within the framework of a comprehensive system of legislation. But it would he necessary to entrust the Ministries, the provincial and municipal People's Committees, with the task of assuming a number of duties on behalf of the State arid with the right and competence of State management with regard to major State-owned enterprises and this only in a definite period of time. But it should be once more affirmed that the administrative apparatus would in any way interfere in business activities. The ministries and the municipal and provincial People's Committees do not manage businesses but strictly administer the main economic activities by means of laws, and this would require that the commercial law, the business law, should be well elaborated and completed for final promulgation in order to provide the State apparatus and the executive organs with sufficierd competence and means to carry out. management at the macro level. A special attention must he given to a number of works such as strategic research and long-term plan, finance, banking, commerce, social labour The State budget is a matter of great importance in the national administration.

4. The relationship between the Central Government apparatus and the local administration one in the economic management The market economy constitues a unified structure indivisible into centrally-run and locally run economies like two separate structures. Proceeding from the above clearly

347 defined problem, the relationship between the Central government and the local administration comprises the contents:

4.1 The problems under the competence of the State (central government) must be without any delegation of powers to lower levels such as public property, national resources; taxes, customs; army regulations concerning human' rights, on freedom, democracy, and obligations of citizens; civil law, criminal law, administrative Jaw onmrner('jal ; of tax management, credit, money, foreign exchange; regulations concerning official business and civil servants; salary and wage... With regard to the above-mentioned domains, which have been defined in the Constitution, and to the laws, State legislation and other legal documents, the local administrations at all levels must stricUy obidE' by and have them seriously implemented, they are only entitled to issue decisions to facilitate their execution according to the concrete conditions of their respective regions. 4.2- The rights of property ownership and the tasks and competence regarding the economic building and management of the local administrations at all levels must be clearly defined but with some differentiations between different levels. There are two ways of approaching this problem:

- Or each administrative-territorial unit and each level

of local U ninistration constitute a person according

348 to public law and consequently gain corresponding rights in economy and finance;

- Or it is not absolutely necessary that each administrative-territorial unit and each, level administration constitute a legal person or an inadequate legal person depending on the branch.territory structure, it would be better to rely on the structural institutions of the State apparatus to decide on how the case will be settled. In the conditions of Vietnam at present, it would be perhaps better to define by cent ral Government, apart from their right of State administration with regard to economic units regardless of their respective sectors still have the right of ownership and are entitled to build and manage a number of ' state-owned economic establishmens (production, construction, commerce, service, public utilities etc.) while the provincial districts and city precincts would assume only the responsibility of State administration with regard to economic units and other domains of activity. The villages, in their capacity as a primary unit bear the traditional community character, so there must be a separate way of dealing with them... 4.3- Contradictions have arisen from the problem regarding the tasks and competence of the local administration towards the State . owned enterprises under the direct State management of the ministries concerned as well as the tasks and competence of the Ministries vis-à-vis the Stateowned enterprises under the direct state management of the local administrations (province-city).

349 This is a problem which needs to he explicated by the conception of applying the principle of combining the management according to branch and that according to territory. is the right of State administration of the local governments on thcir respective territories such as participation in the territorial planning, in the law execution. in the protection of natural resouces and the environment, in the maintenance of social order and security etc with regard to the public offices and businesses belonging to the Central government, and operating on the territory under their authority 4.4 Mention should be made of the fact. that when dealing with the problem of economic management and the relationship between the Central government, and local authories, a special attention must he equally paid to the aspects of security, order, culture, social affairs An incorrect tendency has been observed in many levels of local administration which, with their aid conception about ftc local economy and concurrently is contributions to the local budget, were more inclined towards building State owned enterprises (production, commerce, service) in order to have more receipts to their local budgets and slighted the function o State administration as well as the task of managing the socio-cultural activies as said above. It could be said that the delegation of powers to local administrations regarding these domains bears an extremely important significance and has a big effet on the struggle the negative phenomena actually prevalent

350 in society. 5. State management in finance and accounting 5.1- The State management in finance and accounting consitutes always an extremely rrucial function, especially with regard to the corn modity ecoflomy operating along the market mechanism, The State, acting as a public authority,always sees to the implementation of the system of taxation and full grasp of taxation instruments and the budget. The question to he raised here is how our State. which manages on the macro level the market economy without using the centralized plaining according to law-abiding targets but resorting to the market mechanism with clearly definedorientation, would make use of the financial and accoLnting means and methods to huild the country along a socialist orientation. From the real situation at present. and based on scientifically grounded experiences, proposals should be made to strengthen the role and functions of the State with regard to the field of finance and accounting 5.2- Once the self mastery right of enterprises has been asserted and developed, the State would manage on the macro level more effectively the finance and accounting of enterprises belonging to different forms of ownership through a strict system pf finance and accounting ar its disposal. The Ministry of Finance and the banking system composed of the State Bank and specialized commercial banks would become very dynamic, active and most sensitive organs in the national economy and in the

351 managerial apparatus of the State. Through the instrumentality of the Ministry of Finance and the State Bank, the State would know how to well manipulate the instruments at its disposal from the central to the grassroots level such as the system of tax collection, the treasury, the system of accounting and and this without. any delegation of powers to lower levels. 5.3- In the State managel. ent as regards finance and accounting, the budgetary management has a very important gnificance It a correct and adequate implementation of State management as regards the economic, cultural and social affairs according to State laws. There are two procedures when dealing with the local budget. - Or the State budget is a unified institution and there is not any local budget whatsoever, in other words, the local budget in only an estimats lying in the State budget allocated by the Central Government to the local administrations according to their needs and requirements and depending on the funds allocating capacity of the Central Government, - Or the State budget is a unified system but there is a distinction between the central budget and the local one. The local budget is placed under the self-management of the local authority which should draw the draft budget, decide on and implement it,. and which must strictly abide by the State laws (in terms of finance, budget, taxation, national accounting system...) as pointed out above, the people's c.wncil at each level bearing the character a legal

352 person is entitled to decide by itself on the Local budget according to the principle of a balance of income and expenditure and placed under the control and unified management of the State by laws. The budget law and other laws by the National Assemblyi clearly, accurately and concretely define the sources of revenues and expenditures of local budgets. The Central Government may subsidize or not, but within the framework of the laws in force, the local authority is called upon to manage its budget. The Government and the Ministry of Finance would control the drawing of the draft, budget, its execution and its balance-sheet.

The State governs the local budgets by mechanism (which is institutionalized into and makes it possible for the local authorities to act on their own initiative within the framework of laws. For example: +To give up the regime of revenues by ratio for regulation purposes to the - local budget which is to be modified every year according to the poor or rich conditions or the localitry concerned; replace it by a system of revenues allocated by regulation ratio and on a unified basis to all the localitities for a long period of time. +To define the subsidization mechanism (given as a package or according to concrete targets) for the localities following a long-term a planning scheme, an economic distribution plan for all the territories, rich and poor regions, zones bearing an important significance in economic strategy; ethnic groups, national defence...

353 +To define with a law-abiding character the tasks of expenditures for local budgets, especially expenditures on cultural and social affairs, general education, local road construction, urbanization, very limited expenditures on economic investment For the purpose of making investment in the economy, it would be preferable to mobilize funds from private individuals, cooperatives or those accumulated by State-o ned enterprises under local management, or to borrow money from the bank, etc. The source of revenues comes principally from the "laca! economy' and the locally run State-owned After the taxation system has been unified by law, there is no discrimination whatsoever between the source of revenues from the locally-run economy or the centrally-run one, but it should be clearly defined what kinds of tax or free belong to the source of revenues for the benefit of local budget and the locality concerned is entitiled to collect taxes in accordance with the State taxation schedule arid consequently it would lead to the elimination of the state of localism and departmentalism and the avoidance of conflicts on the source of agricultural, forest and sea products and on the market as well.., between the central government and the local administration. The local authorities at all levels are absoluteley forbidden to impose by themselves any kind of tax or free outside the framework of State laws. +TLe local budget must be clearly defined by regulations and built up in a balanced manner and no overspending is allowed. Tf need be, and the conditions permit, there may be from the central budget.

354 INSTEAD OF CONCLUSIONS:

THE ASIAN ECONOMIC CULTURE ANI) TIlE ROLE OF THE STATE IN EC()NOMIC

KE(Z() NA(ATAM Professor Deparim en! of Econ ()flhLCs The University of British Cu//,nh!10 GANADA

1. Stylized Facts about Economic Development,

Let me begin by listing what 1 consider as basic 'stylized facts" concerning economic development.

(a) The pace of economic development picks up \ i when the investment rate (the ratio of gross national fixed capital formation to GDP) reaches a critical level (e.g. 3(Y4)

$55 and stays up there for a sustained period of time. The standard euliving begins to rise sharply only after a condition of full employment is attained and maintained. This indicates that much (1 the gains in labour productivity conies from subs! it utiun of capital for labour but that the incentive to substitute capital for labour does not exist before then. (c) The market-oriented approach is superior to the corn- approach The most important merit, of the market approach is that it makes you aware of the oppor lunity cost (namely, the value of the resource in question in its best alternative use) of whatever you intend to do, a vital piece of information for efficient resource allocation It is also true, however, that the market's power of efficient resource allocation is severely limited when the "alternatives" exist only in blueprints as in typical development projects.

(d) Abstract models of economic growth and development have been rather unsuccessful in explaining the performances of real economies. Robert. Solow's well-known study of the American economy shows that as much as twothirds of the growth of the American economy is to be explained by the 'Solow residual', namely, the error term in his estima- tion equation. When you take cross section of countries instead of a time series data of a single economy, such residuals" grow even larger. This fact suggests that factors omitted from abstract models (which are more or less

356 nationspecific) may play a major part in economic develop.. men t.

e) History shows that different. countries used more or less different deve!opmental strategies Hong Kong. Taiwan, South Korea, Singapore, Thailand and Malaysia, while all adhering to the market principle, have each devised strategies suited to the respective econo,nic culture.

(f) The role of the state in economic development as (1) the mentor/promoter of desirable economic cultures. (2) the provider of vital infra-structure, and (3) the director/coor- dinator of the national developmental project appears to have gained significance with time, the permeation of the market principle notwithstanding. This suggests that the organizational/managerial skills of nations play a key part in economic development.

2. Building a New Economic Culture.

Practising free market economics to your advantage re quires a right 'mentality" or economic culture. When one is lacking, you must build one. But it is easier said than done. Free market economics (the principle of laissez faire and all that) is a product of the Western culture and, as such, embodies certain values of the Western societies. Privat.e ownership of wealth, free association of individuals, petitive individualism, the state as an overseer/enforcer of free democracy, etc. The term market', for example, means

357 to the Westerner a place where anonymous individuals can freely go in and get out to carry out desired transactions without prejudice or discrimination. Under these conditions the prices established in the market are efficient and fair, which in turn provide vital information for individual planning. Similarly, the term competition' means rivalry among the atomistic participants over the price and the quality of merchandise It is the combination of atomistic and anonymous character of the market participants on the one

L.. ,-.. 1' 1L allu tilt: ii eslai ULLUI Lit tile sisal sits site which establishes the optimality property of competitive equilibrium, which fits nicely with the competitive individualism of the West, and which gives free market economics an aura of religious righteousness For those of us raised in Asiatic cultures which are more oriented towards communal rather than individualistic ways of thinking and towards cooperation rather than competition among individuals, free market economics based on individualism does not sit well with the basic mores and values of the society. First and foremost, the aesthetics rejects the notion of individuals ruthlessly pursuing their self interest, it rejects the Western notion of haggling with a view to maximize your own gain at the expense of the other party; moreover, the social mores do not approve of such selfish behaviour in the first place. Second, in a system where chief units of behaviour are groups and organizations rather than individuals, many economic deals are carried out in the form of bargaining between two groups rather than through an open market. There is even a tendency that

358 only groups and organizations of lowest stature rely on open markets The Japanese faced this conflict nearly 150 years ago and solved it in their own way. First, on individual pursuits of self interest, they rejected it for the reason that it went against the conventional ethics of frugality and self sacrifice; at the same time, they made an exception of corporations when they gave them the privilege of profit making, provided they did so for the interest of the nation. as for free market economics, they practised it in dealing with the Westerners, while retaining their conven tional bargaining for domestic transactions, The latter practice is especially prevalent in the markets for factors, namely, capital and labour. They chose a deliberate mix of the Western rules and their own to their greatest advantage, making sure at each stage that the right economic culture had ripened for the new direction. In the meantime, the Japanese never went through a stage of democratization (from the bottom up) but maintained a kind of paternalistic society in which individuals' economic security is largely provided for by the employing corporations themselves. This Japanese practice has long been eyed by the Westerners with suspicion. But it is just an example of a nation with a different culture devising a sensible compromise solution for the purpose of economic survival and prosperity. Synchronization of the pace of economic reforms and the pace of economic culture building seems vital for a success-

359 ful development An effective administration of taxation, for example, requires an appropriate 'tax culture based on the popular acceptance of tax payment as a citizen's duty and of the quid proquo principle (Taxes the price citizens pay in exchange for the public goods governments supply). This might prove particularly difficult for socialist states. Besides this conceptual issue, there are a large number of practical/technical which can only be solved through patient campaigning and learning, such as popularization of bookkeeping practies, business education, privatization of ownership of properties and fair and transparent govern- trient regulations and their enforcement. If regulations were removed without. preparation, the vacuum would be claimed by the lucky few who stand to gain unjustifiable profits.

3. The Government - Business Relationship. One of the most difficult problems with economic development seems to he how to establish a relationship between business and government conducive to the economic progress of the nation. No matter how far you go into free market economics, government has a well defined set of duties to perform in the economy. Provision of vital public goods, provision and enforcement of economic law and order, and economic protection of citizens, correcting for market failures, just to name a few. It should be clear to everyone that business and government should combine foreces and collaborate for the common national interest. Strangely, the typical b.usinessgovernment relationship we

360 observe in reality is one of mutual distrust and rivalry. In the individualistic Western societies, there is a myth that everything business does is 'good', while everything govern. mont does is a suspect at best and 'had' at worst. Businesses refuse to share information with government and are always anxious to prey on the government. In many countries including Canada, government, bureaucracy has simply lost out to the lawyers and accountants representing the interest of big businesses and rich individuals. High offices in aye fnr h d1-ked hv the elected politicians. The morale of the civil servant.s is so low that no aspiring young talents volunteer their lives to public service. Since government lacks talents, its subordina. tion to the predators continues.

rFhe history of Asiatic economic development offers a more encouraging prospect. Virtually all the success stories in Asia attest. to the importance of a cooperative business - government relationship, although the details of the relationships vary from one country to another. 1 am in dined to believe that something in Asiatic cultures makes for a good cooperative relationship between the ruler and the ruled. It may he that the Asians' "holistic" as opposed to individualistic view of the world has made the difference.

4. A Biological View of Economic Development.

One way to summarize economic development is to op.- peal to our knowledge of human development. There are

361 indeed numerous analogies between a success in national economic development and an individuars career develop-. ment. Like people, some nations arc young and energetic while others are aged and frail, some nations have strong hut. others don't; sonic are better at managing themselves than others; nations rise and fall much like human beings.

If' you as an individual want to succeed in life, you need a right long-range target and a will to make it come true, Faith, hope, fortitude, temperance and other virtues are all essential inputs to That much is obvious You all know these general lessons. What you really want to know but cannot is what's the best target. for you and what it takes to get you there. In short, you want to get individual - specific information. But one person's medicine is another person's poison. A strong medicine may cure a young healthy body quickly and effectively but can kill an infant. Mindless application of the general lessons may ruin you. Transition from a planned economy to a free-market economy is a major operation on the society. It is the right thing to do. But if the gate were to be oppened too suddenly or too fast, the flood would swamp the society and lead to a lasting chaos and eventual disaster. The responsibility of selecting the right, pace of transition rests with the state. Another close analogy between national economic development and human development is the importance of long - term foresight and effort. Individual lives are full of

362 daily worries. Though minor, these worries can get the better of us. Once this happens our lives are ruined. The same is true of economic management. Policy makers tend t,o be exhausted by daily chores and to lose sight of their long-range goals. There is an unmistakable trend in today's world that more and more time, effort and money are spent on shortterm problem-solving as opposed to long-term research and planning. It is as if you spend half of YOU time and income taking temperature every minute and measuring at meal to avoid illness But common cold, stomach irritations and other minor shocks are acts of god and your cannot avoid them completely. The right strategy for your then is not to spend too much time and effort on daily concerns but to concentrate on long-term healt.h building and forget about such minor troubles, because if your are healthy in the long-term sense, short-term troubles will take care of themselves. It is my belief that the same is true of economic development but that there is a serious 'market failure" in the sense of seriously undervaluing long-term research and planning. (In most organizations, private or public, the people doing long-term research and planning are individuals who command lowest regards of their col- leagues. For some infuriating reasons, our societies pay more 'respect and money to a person who can make better predic- tions of the share prices tomorrow than to a person who has a great deal of knowledge and wisdom about our society twenty years from now). Correcting this source of market failure is another important job for the state.

363 I 111111 iiii liii liii 264903

• Chiu trách xuât bàn: NGUYEN DIJC DIEU • Biên t4p: NGUYEN DL!C B!NH • Trinh bay Va bàn in: TRAN TLIAN ANFI

• CM bàn dièn tai Trung tarn Thông tin UBKHNN. • In tai Xi nghiep in Thüy lcii • Giày phép bàn s6 56/CT/KHXH do Xuàt bàn BO h6a Thông tin cap ngày 12 3 - 1994. • In xong và nOp liiu thang 4 - 1994. NATIONAL CENTRE FOR SOCIAL. AND HUMAN SCIENCES INSTITUTE OF ECONOMICS

THE ROLE OF THE STATE IN ECONOMIC• DEVELOPMENT: EXPERIENCES THE AS/AN COUNTRIES

Edttcd VU 'FLJAN ANII

SOCIAL SCIENCE PUBLISUIM; HOUSE HANOI 1994