Chapter 16 The Role of State-Owned Enterprises in the Chinese Economy FAN Gang Director, National Institute of Economic Research Chief Researcher, China Center For International Economic Exchanges Professor of Economics, Peking University and the Graduate School of Chinese Academy of Social Sciences Nicholas C. HOPE Director, Stanford Center for International Development (SCID) and its China Program With contributions from Winnie HE (The Fung Business Intelligence Centre), HUANG Zhilong, ZHANG Huanbo Executive Summary hina’s state-owned enterprises (SOEs) have The share of SOEs in the country’s gross industrial a long history. When the People’s Republic output, for example, fell from one half in 1998 to C of China was established in 1949, the coun- one quarter in 2011. The number of SOEs owned by try had been devastated by a long period of war and the central government has fallen from 196 in 2003 underdevelopment. As there was neither private to 115 in March 2013. But many smaller SOEs are wealth nor any organized structure to take on the still owned by different levels of sub-national (local) huge task at hand, it was the state enterprises that government, many of which adopt policies that still gradually undertook all the nation-building tasks. discriminate in favor of local companies. In addition to their historical function of rebuild- Despite the dramatic restructuring of Chinese ing the country, they have been playing an impor- enterprises, the subsequent successes of the large tant role in providing for the livelihood of many Chinese SOEs have become a source of friction be- people. SOEs provide not just employment, but also tween China and some of its trading partners, as a range of social services, education, medical care these companies have become increasingly formi- and healthcare and retirement protection. dable competitors in both the Chinese and global Since economic reform and opening-up policies markets. The U.S. business community has com- began in 1978, China’s SOEs have undergone a long plained about the unfair competition arising from process of gradual and progressive transformation. government policies that favor SOEs in the China To reduce their claim on budgets and/or bank loans, market. In addition, the Chinese government’s en- many inefficient and smaller SOEs have been closed couragement of overseas ventures by large SOEs is down, merged or sold. The resulting unemploy- also seen to disadvantage other companies compet- ment and restructuring problems were painful. The ing in the global market. transitional difficulties were made less disruptive Some complaints are justified. For example, because China maintained rapid economic growth SOEs do enjoy some preferential treatment, includ- and established basic social security, medical ser- ing in licensing and in winning government pro- vices, education, housing and other safety-net ar- curement contracts in the China market, particu- rangements. Concurrently, and more positively, larly at the local government level. However, some many large SOEs in key and strategic sectors have complaints – such as the argument that China’s been successfully transformed, from inefficient pro- SOEs benefit from access to preferential financing duction units operating under the state’s economic – are subject to debate. Furthermore, many SOEs plan, into profitable, incorporated business entities, compete against each other very aggressively, and for which appropriate corporate governance struc- they should not be seen simply as government-con- tures are being gradually implemented. trolled monopolies. The relative economic weight of the state sec- China’s central government has reaffirmed its tor has declined substantially as successive reforms determination to accord national treatment for all have increasingly opened up more industrial sec- foreign-invested companies. At the fourth meeting tors to competition from non-state enterprises. of the U.S.-China Strategic and Economic Dialogue 2 held in May 2012, China committed to developing a structure; and ensuring fair competition, including market environment of fair competition and treat- national treatment for all enterprises, regardless of ing all enterprises without discrimination. In line the nature and background of ownership. with the longstanding strategy of implementing re- China’s main SOEs will continue to play a ma- forms in a gradual manner, China issued a set of di- jor role in both the domestic and global markets, rectives in mid-2012 to encourage the development particularly in strategic industries and sectors. But and growth of China’s non-state enterprises. China China’s SOE and market reform should continue, also introduced further measures in late-2012 to al- as the government has pledged. Our study suggests low more market competition in vital industries, that the government’s shareholding in SOEs could including financial services, healthcare and tele- fall below 50% without compromising the need for communications. China now needs to demonstrate the state to remain a major and controlling share- that its actions validate its statements of intent. holder. In the longer term, state ownership of SOEs Given the long history of SOEs and the enor- could be confined to non-contestable sectors only. mous social responsibilities imposed on them, Meanwhile, reform of the governance of the SOEs China’s gradual approach to SOE reform is under- should continue. Recent initiatives – such as the re- standable. Today, deficiencies in China’s market quirement for SOEs to increase their dividend pay- infrastructure continue to prevent the government outs, the introduction of proper recruitment and from fully allowing free market forces to run the appointment systems for top-level executives and economy. The government will continue, therefore, external directors, and efforts to address intercon- to have an important role to play in resolving these nected party transactions – are steps in the right transition problems in China’s development. Our direction. Above all, greater transparency is needed study proposes that the Chinese governments at all in the decision-making processes of the SOEs, along levels should focus on providing public goods; de- with assurances that they are operating indepen- veloping and maintaining an efficient market infra- dently and at arm’s length from the government. 3 The Role of State-Owned Enterprises in the Chinese Economy Introduction mid-size private mining firms or their mergers with SOEs in 2009 and 2010. In recent years, issues surrounding SOEs have be- There have been many subsidiaries of SOEs in- come growing sources of friction between China volved in real estate businesses that have bid ag- and some of its trading partners, including the U.S. gressively for land in public auctions in recent years, The disputes reflect the rising clout of some of Chi- benefitting from the abundant low-cost capital and na’s SOEs at home and abroad, and have come to the bank loans they could get. These actions are seen by fore due to some high-profile cases involving acqui- the public to have fuelled housing prices that were sitions and mergers. The main complaint from the already too high. U.S. business community is the perceived unfair In its annual report to the U.S. Congress in advantages given to China’s SOEs by the govern- 2012, the U.S.-China Economic and Security Re- ment, with the playing field tilted against foreign view Commission (USCC) argued that the past five companies in the Chinese market. The global ad- years have witnessed a reversal of the trend towards vance of China’s large SOEs, with support from the less government control of the economy and greater government, is also seen to be putting pressure on market openness1. Whether this assessment is true foreign competitors or even placing them at a disad- or not, both the U.S. and China could benefit from vantage in the global market. measures that would alter perceptions about how Concerns about the rising importance of China’s Chinese SOEs compete in domestic and foreign SOEs were also heightened by the debates in China markets. in recent years about a perceived phenomenon de- scribed as ‘the state advances, the private (sector) Historical Overview and the retreats’ (国进民退). This debate was triggered by Evolution of China’s SOEs various developments, including: China’s deployment of a RMB4tr fiscal stimulus State ownership of enterprises is not a China-spe- package to counter the economic downturn trig- cific phenomenon. According to a study by the gered by the global financial crisis in 2008. Most Organization for Economic Co-operation and De- of these funds and the RMB10tr bank loans that velopment (OECD), in the 27 reporting member supported this fiscal measure, at the end, were allo- countries in 2009, there were 2,057 SOEs, with an cated to SOEs. This happened at a time when many estimated value exceeding US$1.3tr and employing non-SOEs were seriously affected by weak markets close to 4.3 million people2. and rising costs. The large-scale restructuring and consolidation 1 “Report to Congress”, U.S.-China Economic and Security Review Commission, November 2012. of the coal mining industry in Shanxi province – 2 “The Size and Composition of the SOE Sector in OECD Countries”, after many coal mine accidents with high death OECD, 2011. Some respondents only reported SOEs that are under the supervision of the segments of general government. Data are missing or tolls – led to the closing down of a lot of small and partially missing for Japan, Turkey and the U.S., which have substantial SOE sectors. 4 History and origin of China’s state enterprises SOEs found their profitability eroding. By the mid When the People’s Republic of China was estab- 1990s, in aggregate, China’s industrial SOEs no lished on 1 October 1949, the country was on the longer provided net revenues for the government, verge of bankruptcy.