The awarding of the Nobel Prize in economics to three academics “for their experimental approach to alleviating global poverty” has prompted some caustic commentary about how much, or little, global poverty has actually been reduced by the highly targeted, small-scale policy interventions evaluated by such experiments.

It’s well known that most of the reduction in global poverty in recent decades, however it is measured, is accounted for by rapid economic growth in big Asian economies. On the World Bank’s numbers, China alone accounts for about 60% of the decline in the number of people living in extreme poverty worldwide (China’s poor population declined by 742 million people, while the world’s declined by 1.16 billion people).

The contribution of randomized controlled trials to China’s poverty reduction has been, to a first approximation, zero. Yao Yang, the dean of the National School of Development at Peking University, wrote in an English-language op-ed that “Experiments might help policymakers improve existing welfare programs or lay the foundation for new ones, but they cannot tell a poor country how to achieve sustained growth.” In a similar vein, Harvard professor Dani Rodrik tweeted: “Remarkable how little today’s development economics has to say about the most impressive poverty reduction in history ever.”

So if the Royal Swedish Academy of Sciences were to award a prize for “contributions to sustained economic growth in China,” who should it go to? This is not a straightforward question. The prize is usually given to academics for contributions to theory and research, not to practitioners for implementing economic policies. As Bruno Frey noted in a 2018 article on China’s absence from the history of winners of the economics Nobel, “It may be argued that the Chinese economy has been successful without the help of high-ranking academic economists.” There are also few Chinese economists that appear in lists of the most-cited scholars–possibly because Chinese economists have historically tended to focus more on advising their own government than publishing in English-language journals.

It’s true that the decisions that led to China’s sustained economic growth were not mostly driven by research published in peer-reviewed journals. But that does not mean that economic ideas did not play a role in those decisions, or that the role of economists was not important. At least, as long as one does not hold to an excessively credential-focused definition of “economist” as meaning only a person holding an economics PhD. Pieter Bottelier’s recent book, Economic Policy Making in China (1949-2016): The Role of Economists, introduces many of these Chinese economic thinkers, few of whom are widely known abroad. One figure particularly stands out: Xue Muqiao. Bottelier writes:

I agree with Wu Jinglian that Xue (who died in 2005, when he was almost 101) was the most important Chinese economist of the 20th century. He was already involved in economic policy and management before the establishment of the PRC in 1949, and after 1949 under Mao. He then became one of the principal architects of market reform under Deng Xiaoping. The evolution of Xue’s thinking on how to develop a “socialist economy” mirrors Deng’s.

While Deng Xiaoping is these days often remembered mainly as an economic reformer, in fact he was not a specialist in the economy, and largely delegated economic management to other leadership figures. Xue seems to have been quite influential in the formation of Deng’s economic thinking.

Xue is particularly famous for is a letter he wrote in 1977, after Mao’s death but before reforms had begun, to Deng and Li Xiannian that laid out many of the problems in the economy. He focused in particular on agriculture, noting that farm output had grown no faster than the population despite collectivization and massive investments in machinery. The letter is translated in the English-language Collected Works of Xue Muqiao:

The CPC Central Committee has pointed out the importance of having agricultural production catch up with industry’s Great Leap Forward. The Ministry of Agriculture and Forestry has recently proposed twelve significant measures to attain this goal. It recommends an increase of investment into agriculture of RMB 30 billion. These measures are necessary, but I think it is more important to implement agricultural policies that improve farmers’ lives, and that arouse their enthusiasm for agricultural production. … It is hard to motivate farmers if growth in agricultural production cannot bring corresponding growth in income. Any interest in working suffers if extra work is not rewarded. … Boosting farmers’ enthusiasm for agricultural production therefore outweighs improving the conditions for agricultural production.

“Enthusiasm” is the term often used in Chinese during this period for what we would today call “incentives.” And there is no economic insight more fundamental than “incentives matter.” This early insight by Xue laid the intellectual groundwork for the later decision to allow farmers to break out of agricultural collectives and farm their own land–a massive change in incentives for agriculture that resulted in a huge boom in productivity. For Xue to be able to break through the deadening grip of Maoist political correctness and recognize that incentive problems were keeping China’s rural population mired in poverty must surely be counted as an intellectual achievement of the highest order.

Over his long life and career, Xue did much more than write one well-timed and well-placed letter. The economic historian Fan Shitao last year made a catalog of Xue’s achievements in the pages of Caixin magazine, in a letter arguing that “Xue should be credited with making the most comprehensive contributions to China’s early reform and opening-up.” I won’t reproduce the entire thing here, but here are a few highlights:

In a long speech presented to the Central Party School in autumn of 1978, Xue was the first official within the ruling Communist Party elite to criticize the catastrophic consequences and painful economic lessons of Mao’s “Great Leap Forward.” By warning that similar mistakes should not be replicated in the future, Xue’s speech paved the way for subsequent adjustments to China’s economic policies. …

As the most authoritative expert on price in the Communist Party, Xue was the first person to point out that price reforms were key to China’s economic reforms. He also differentiated between overall price stability and flexibility of individual prices. In agreement with German economic expert Armin Gutowski, Chinese American economist Gregory Chow, and experienced economist Edwin Lim, Xue promoted price reforms, which was one of the major decisions of the Third Plenary Session in 1984. …

In 1978 Xue pointed out that instead of administrative regions, economic development should focus on economic zones based on resource flows. The economic zone in Shanghai contributed to its becoming one of China’s most capital-abundant cities. Xue’s proposal also later led to the launch of other regional development plans.

So Xue’s intellectual influence can arguably be detected in agricultural decollectivization, the overhaul of central planning, the transition to market prices, and the coastal export manufacturing boom. That is a pretty staggering list.

Of course, China’s decades-long series of economic reforms had no one author or leader. But China’s system of closed-door debate and collective decision-making has long obscured the important contributions of individuals like Xue, and Du Runsheng, another major figure in rural reform.

That is not the message you would get from the Chinese government these days, which is devoting an impressive amount of high-level political attention to this issue. Premier Li Keqiang just chaired a State Council meeting which urged banks to deliver more financing to small- and medium-sized enterprises, and at lower interest rates–the latest of many such meetings in which this topic topped the agenda.

In effect, small-business lending is being treated as an urgent national emergency: apparently China’s financial system is systematically failing to deliver what is needed for a healthy economy. Yet it is impossible to see any evidence of this emergency in the data presented in a white paper on the topic published by the People’s Bank of China this week. Here is a brief section of the appendix:

At the end of 2016, the balance of renminbi loans for small- and medium-sized enterprises in China was 42.2 trillion yuan (about 6.1 trillion U.S. dollars), accounting for 56.8% of GDP in the same period, higher than that of Japan (46.1%), Malaysia (22.9%), France (10.0%), Brazil (9.9%), Russia (5.8%), the United States (3.3%, where commercial loans under 1 million U.S. dollars are counted as small enterprise loans) and other countries.

At the end of 2016, China’s SME loan balance accounted for 65.1% of all enterprise loans, higher than Malaysia (43.7%), Brazil (36.9%), France (20.6%), the United States (18.5%), Russia (15.8%) and other countries, only lower than Japan (65.6%) and South Korea (79%).

In 2016, the average interest rate of loans for small and medium-sized enterprises in China was 4.77%, significantly lower than that of emerging market countries such as Brazil (33.50%), Russia (13.03%), Malaysia (7.22%), but higher than that of developed countries such as South Korea (3.58%), the United States (3.46%), France (1.50%), Japan (< 1%).

That’s right: China lends more than twice as much to small businesses, as a proportion of the economy or the banking system, as most other countries, and at a lower interest rate to boot (the data cited are from the OECD’s very useful cross-country survey on SME financing; you can download their detailed data for China here)

Of course, that doesn’t mean small businesses in China have problems getting bank loans–but small businesses everywhere have problems getting bank loans, because they are small and their credit risk is hard to evaluate. There is little evidence this problem is worse in China, and plenty of reason to think that it is actually better. After all, in an economy with a debt-to-GDP ratio of 250%, it is not particularly plausible to assume there are massive shortages of credit.

Almost five years ago I wrote an op-ed for The Wall Street Journal, my alma mater, entitled “Small Business Won’t Save China,” that made these points, and argued that a government drive to deliver aid to small businesses would not actually be very effective. Unfortunately very little has changed since then. Pushing credit to small business is still a politically attractive way of avoiding the structural issues for the private sector in China, and the political pressure on banks to meet arbitrary targets for lending to small businesses has only gotten more intense.

Since the breakdown of the US-China trade talks earlier this month, it has often seemed as if Chinese officialdom and state-controlled media have been speaking off of a single script of pure nationalist outrage. But in fact the trade tensions have exposed some interesting differences in views across the system. Consider this part of a Xinhua commentary published on Saturday (you can read the Chinese text or an English summary):

At the negotiating table, the US government made many outrageous demands of China, including restricting the operation and development of state-owned enterprises. Obviously, this goes beyond the scope of trade negotiations and touches on China’s basic economic system. This shows that behind the US trade war with China is an attempt to violate China’s economic sovereignty and force China to harm its own core interests.

Some commentators have noted how the expression “core interests,” previously only attached to territorial issues, has now been applied to state-owned enterprises. But those who track such minutiae will notice that this commentary is signed by two journalists; Xinhua commentaries used to articulate official views are typically written by committee and do not carry a real person’s byline. The more official series of People’s Daily commentaries on the trade war has, as best I can tell, not mentioned state-owned enterprises at all. So my interpretation of this Xinhua piece would be that there are definitely people in the Chinese system who share these views, but the government has probably not (yet) decided to adopt this as its official position.

Now compare this “China has a state-owned economy and we’re proud of it” take with a recent speech from Guo Shuqing, who as Party secretary of the People’s Bank of China and head of the China Banking & Insurance Regulatory Commission is the government’s top-ranking financial official. Guo’s talk on the trade war (Chinese text and English summary) covered a lot of ground, but he also addressed the issue of state ownership:

In recent years, there has been an opinion expressed abroad that China’s rapid economic development is the result of “state monopoly capitalism.” But this kind of talk has no basis. In fact, the composition of China’s economy has become increasingly diversified, and the market share of state-owned enterprises has continuously declined. Including the economic activity of government, the state-owned economy accounts for less than 40% of GDP. Many state-owned enterprises are listed on foreign or domestic stock exchanges, and in fact are joint-stock enterprises; 100% purely state-owned enterprises are rare. Large state-owned enterprises have a large number of subsidiaries whose controlling shareholders are private enterprises. And even the central state-owned enterprises compete with each other. Today, private and foreign investors can enter almost all industries and sectors without any restrictions or barriers.

The tone here is quite different: yes, we have state enterprises, but they are a small and declining part of the economy, and it is more important that there is market competition among all companies. These defensive statements probably are not really completely, objectively true (though I think Guo’s estimate of the state-owned share of GDP is probably not too far off). Guo is what foreigners usually call a “reformer” in the Chinese system, and in a different context I’m sure he would frankly discuss the fact that both foreign and domestic private companies face many barriers. Indeed, at the moment Guo is spearheading a political campaign to increase private-sector firms’ access to bank credit, a campaign whose very existence makes it clear that there is not at all a level playing field.

But I think Guo is here engaging in a strategy that is common for those who want to nudge the Chinese system in a more market-oriented direction: they tend to describe things are being more competitive and market-driven than they actually are, so that marginal change in that direction seems unremarkable and logical. If you pound the table and call China’s state-owned enterprises a core interest of the nation, it becomes quite difficult to change them. If you say, China is mostly a market economy already, then gradually reducing the role of SOEs over time seems pretty unthreatening.

One of the dangers I see in the US-China trade war is that it could become politically more and more difficult for people like Guo to both defend China’s system against foreign attacks, and continue to nudge it in a different direction. “The Americans want us to get rid of state enterprises, and by gosh they’re right” is a much less likely response to US pressure than “How dare those Americans tell us to get rid of our state enterprises?” And that’s true even among people who might not otherwise be disposed to cheer on SOEs.

As is so often the case, Sheng Hong of the Unirule Institute (a libertarian-leaning think tank now mostly banned in China) sees the fundamental political issue quite clearly. Here are a few lines from his recent blog post (I have retranslated the Chinese, since the English version is a bit clunky):

State-owned enterprises account for 10% of exports, so the remaining 90% are made by private and foreign-invested enterprises. Therefore the vast majority of Trump’s tariffs are being imposed on private and foreign enterprises who do not receive government subsidies. This does not correct a market distortion, but actually punishes companies that follow market rules, which makes the market more distorted. …

In order to punish the unfair trade of a small group of companies, Trump has harmed all Chinese companies, and especially private companies. This has caused their feelings to run high and united them in their hatred [of the US], so that in a nationalist fervor they are now supporting their own country’s state-owned enterprises.

In other words, the trade war seems very likely to increase popular support for state-owned enterprises, and push more Chinese people into the view that they do actually represent a core interest of the Chinese nation. And that is probably not in the longer-term interests of the US.

I expect a US trade hawk would likely respond to this by saying that waiting around for China to decide on its own to slim down state-owned enterprises has not worked out for the last decade or so, and the harm this has done justifies putting pressure on China to change more quickly. And they would have a pretty good point. Which is unfortunately why it is now seems hard to be optimistic about the politics on either side.

Recent polemics against neoliberalism have revived an old debate over the role of the economic advice given to developing countries by the World Bank and IMF. A crude but nonetheless influential interpretation of the relevant economic history holds that Russia’s failed “shock therapy” privatization of SOEs in the 1990s was the result of uncritical acceptance of free-market dogma pushed by the international financial institutions, while China’s successful “gradualist” approach to SOE reform was the result of wise officials ignoring those same institutions and carefully designing policy according to local conditions.

This interpretation may accord too much importance to the advice given by the international financial institutions, and too little to the domestic politics of the countries actually making the decisions.

John Nellis, a participant in the World Bank’s first mission to the USSR in 1990, has published an account of that period based on his notes taken at the time. It makes for fascinating reading. It’s particularly interesting that the famous Soviet State Planning Committee, or Gosplan, seemed committed early on to a “gradualist” approach to reforming state ownership:

Even here, in the principal basilica of socialist planning, no one questioned that the old system had failed and that a transition to the market, or something approximating a market, was urgently required. But those we met in Gosplan, and many of those we met in other Soviet ministries and central units, thought that the transition would be a gradual, lengthy affair, and that the outcome would be some sort of mixed approach. In this evolutionary process they thought (or hoped) that Gosplan would retain authority to forecast, analyze, assist, guide and even lead reform. …

As for the future of the real sector, the officials’ evolutionary vision was that the massive, multi-divisional state enterprise/ministerial complexes would be broken down into “correctly sized” units. These would then go through a process of “corporatization” and would become joint stock companies, with all shares initially held by the state. These would then undertake a process of finding private partners, Soviet or foreign, who would bring in capital, technology, management expertise, and access to markets. Some percentage of shares would have to be turned over to these partners, but it would at first be a minority share, particularly for foreigners. These processes had just begun to start and, in their view, years would pass before substantial results were seen. Central organs such as Gosplan would guide and assist this evolution. Majority private ownership was a long-term prospect.

This aspiration is not so different from the course that was actually followed by China. (Nellis also notes that a 1988 Soviet law had allowed for the creation of cooperatives, which, much like China’s township and village enterprises in the 1980s, often functioned as de-facto private companies.) The joint World Bank-IMF report that was published after the mission acknowledged that large-scale privatization was effectively impossible, and focused more on how to manage state enterprises effectively.

All this suggests that China’s “gradualist” approach to overhauling state ownership was less a strategy adapted to uniquely Chinese conditions, but more the approach most likely to be favored by a socialist government that wanted to maintain political continuity and control over the reform process. Yet by 1992, the Soviet Union had been dissolved, and the Russian government launched a program of rapid mass privatization using vouchers–a much more radical approach than anything that had been considered in 1990. Nellis asks the obvious question:

The overwhelming majority of persons we spoke to in 1990 were gradualists. They wanted to effect as painlessly and politically acceptable as possible a transition to the market. …

Why did the 1990 joint IFI mission not get a glimpse of the coming emphasis on mass privatization? How did it — we — miss the fact that the government of the Russian Federation would opt for audacity?

The answer, clearly, is the radical change in domestic politics after the vote to dissolve the Soviet Union in 1991. In particular, the failed coup against Gorbachev, which was led by representatives of the same conservative interest groups that had tried to stymie economic reforms. After the failed coup, the reform and privatization of state enterprises was no longer a technocratic matter of economic management, but an urgent political task to dismantle the strength of the interest groups that had led the coup. The new Russian government was driven by an “overriding fear that the communists might try again to regain power,” Nellis writes. And the reshuffle of domestic politics had elevated to decision-making positions people who were not that important in 1990, and had not previously had well-formed views. 

A more recent, if less detailed, summary of the World Bank’s involvement in Chinese SOE reform by Zhang Chunlin serves as something of a companion piece to Nellis. Zhang is currently the lead private sector development specialist at the Bank, and previously worked on Chinese SOE reform both at the Chinese government and the World Bank. He writes that

The Bank’s work in the 1980s focused on the reform of the traditional SOE model itself while maintaining state ownership. Recognizing the need for state direct control over some “important enterprises” such as public utilities, the [1985] report argued that once a suitable economic environment is created through price reform and competition, pursuit of profit should lead most state enterprises in economically appropriate direction. The fundamental problem remains of the proper relationship between the state and the enterprise.

The central theme of the World Bank’s recommendations for China was not the necessity of privatization, but of corporatization: giving state-owned enterprises the legal form of modern corporations. That promised to improve management and decision-making within SOEs. But it also posed the problem of how the state was to exercise its ownership rights to control these firms. Much of the Bank’s work since the 1990s has focused on finding the right institutional structures for effective state ownership, and it has advocated for reducing state ownership in many sectors.

But the radical downsizing and privatization of SOEs that started around 1995 and continued through about 2002 was a domestic decision driven by the dire financial situation at many firms. A World Bank report in 1997 did call for state ownership to “completely withdraw from inherently competitively structured industries where small and medium sized firms predominate,” but it noted that this recommendation “would formalize a process that is already underway.” (And, of course, China did not actually follow this recommendation.)

Zhang also notes that in later years the World Bank contributed to the debate over the creation and structuring of an agency to represent the government’s interests in SOEs, the body now known as Sasac. It’s less clear if this is a contribution the Bank should be proud of: Sasac is widely regarded as a conservative interest group that has worked to strengthen the position of large SOEs, rather than to further their effective reform. But Zhang mainly wants to emphasize the “productive partnership” that the Bank has had with China. “In retrospective, a clear reason why the Bank managed to stay relevant has been its willingness to adapt to China’s own reform strategy,” he writes.

Yet that is perhaps not so different from how the World Bank worked with Russia in the 1990s: it was willing to adapt to both the gradualist preferences of the Soviet leadership in 1990, and the radical program of the new Russian government in 1992. In the case of both Russia and China, the World Bank seems to have mainly tried to help their governments find the best way to implement decisions that had already been reached by domestic political leaders. It’s not clear that the advice of international financial institutions really played a decisive role in making those decisions.

 

 

That is the question raised in an interesting new NBER paper on the aftereffects of China’s privatization of SOEs in the late 1990s: “Can a Tiger Change Its Stripes? Reform of Chinese State-Owned Enterprises in the Penumbra of the State,” by Ann Harrison and four coauthors.

They report that in 2013, 45% of industrial SOEs received government subsidies, but only 15% of private industrial firms received them. Privatized SOEs, however, are different: 25-35% receive subsidies, much more than firms that were always private. Similar results show up in access to finance: privatized SOEs pay higher interest rates than current SOEs firms but lower interest rates than firms that had always been private.

Their hypothesis is that “allocation of government support in the form of subsidies, tax breaks or low interest loans favors both SOEs and former SOEs.” They conclude that while SOEs do change their behavior after being privatized, the government does not change its behavior toward those companies: “former SOEs retain ready access to large loans, concessionary interest rates, and outright subsidies.”

But why should this be the case? The paper is curiously silent on this.

The whole point of the SOE privatization over 1998-2003 (after that, privatization basically stopped) was so that the government would not have to keep giving free money to money-losing SOEs. Privatizing the SOEs, and then continuing to give them lots of free money, rather seems like the worst of both worlds. So it seems rather unlikely that this pattern is the result of a deliberate, centralized policy choice.

My hypothesis would be: it’s about people. Let me propose that the managers of SOEs understand the government pretty well and are pretty good at extracting benefits from the system. Since, after all, that is a good part of their job.

Furthermore, the managers of privatized SOEs are often going to be the same people who managed the firm when it was state-owned. One survey of SOE privatizations found that sales to insiders (aka management buyouts) were by far the most common type of deal, accounting for 47% of their sample.

Therefore, privatized SOEs are often going to be run by people who have established relationships with government officials and managers of state banks. It stands to reason that they are going to be better at working those relationships than the executive of a run-of-the-mill private company. And that companies that have been able to obtain subsidies in the past would know best how to continue obtaining those subsidies in the future.

On the financial front, this behavior by state banks is not irrational. If a state bank has an established relationship with an SOE, that relationship doesn’t just evaporate once the SOE is privatized. The bank will still have a lot of knowledge about its customer, and have a history that makes it more comfortable continuing to lend on favorable terms.

So the persistence of favorable treatments for SOEs after privatization is probably mostly about the persistence of relationships–and firms’ understandable unwillingness to relinquish established sources of commercial advantage.