Reform without Losers: An Interpretation of China’s Dual-Track Approach to Transition

This paper develops a simple model to analyze the “dual-track” approach to market liberalization as a mechanism for implementing efficient Pareto-improving economic reform, that is, reform achieving efficiency without creating losers. The approach, based on the continued enforcement of the existing plan while simultaneously liberalizing the market, can be understood as a method for making implicit lump sum transfers to compensate potential losers of the reform. The model highlights the critical roles of enforcement of the plan for achieving Pareto improvement and full liberalization of the market track for achieving efficiency. We examine how the dual-track approach has worked in product and labor market liberalization in China.

Coordinating Reforms in Transition Economies

This paper analyzes how differences in organizational forms of centralized economies in the Soviet Union and China affected their reforms and transition paths. It addresses the question of why China succeeded in applying the experimental approach to reform whereas Eastern Europe and the former Soviet Union economies failed. Our answer is based on how government organizations are structured and the effect it has on their coordination capacity. We model the coordination of specialized tasks inside an organization as "attribute matching" and compare organizational forms (U-form in the Soviet Union and M-form in China) in coordinating reforms. Compared to the U-form, the M-form has a distinctive advantage in carrying out experimentation and thus is more flexible in reforms, although it suffers from higher costs due to a lack of scale economies.

Federalism, Chinese Style: The Political Basis for Economic Success in China

The purpose of this paper is to provide an explanation of China’s high performance despite several factors that would indicate otherwise according to conventional wisdom. The authors argue that conventional wisdom is problematic in regards to China. First, it provides too narrow a definition of political reform. Second, although it asks the right question about political discretion, the inappropriate definition of political reform leads it to the wrong conclusion. Third, though much is wrong with the system of property rights in China, looking for a system of such rights as exists in the West has confused many analysts. Rights are not as secure in China as they could be, and the absence of a law of property and contracts along with a judicial system to enforce it remains a significant lacuna in the reform process. And yet, property rights are not completely insecure and without political foundations. Indeed, political reform in China has provided considerable limits on the discretion of the central government. These limits, in turn, provide the beginnings of a strong and credible political foundation for many market-oriented enterprises throughout the successful regions of China. China has a new political system that we characterize as federalism, Chinese style. This system, in turn, provides considerable political protection for China’s reforms, including limits on the central government. Viewed from the perspective of the individual, this system differs considerably from federalisms in the developed West.

Public vs. Private Ownership of Firms: Evidence from Rural China

Why are many of China’s successful rural enterprises publically owned by local communities? Using a set of provincial data, we find that the share of community public firms (Township-Village Enterprises, or TVEs) relative to private enterprises is higher where the central government’s influence is greater, the community government’s power is stronger, and the level of market development is lower. We also find that TVEs help achieve the community government’s goals of increasing government revenue, rural nonfarm employment, and rural income. However, TVEs do not increase rural income given the levels of non-farm employment and/or local public goods provision, indicating possible inefficiency as compared to private enterprises.

How Reform Worked in China

China’s reform worked and produced one of the most impressive growth in the largest developing and transition economy in the world in the past twenty-two years. That China has managed to grow so rapidly despite the absence of many conventional institutions such as rule of law and secure private property rights is puzzling. To understand how reform works in a developing and transition economy that has great growth potential, it is not enough to study the conventional “best-practice institutions” as a desirable goal. One should also study how feasible, imperfect institutions have evolved to complement the initial conditions and to function as stepping stones in the transition toward the goal. Underlying China’s reform is a serial of institutional changes concerning the market, firms, and the government in the novel form of “transitional institutions.” These institutions succeed when they achieve two objectives at the same time: to improve economic efficiency by unleashing the standard forces of incentives and competition on the one hand, and to make the reform a win-win game and thus interest compatible for those in power on the other.

Federalism as a Commitment to Preserving Market Incentives

We advance a new perspective in the study of federalism. Our approach views federalism as a governance solution of the state to credibly preserving market incentives. Market incentives are preserved if the state is credibly prevented from compromising on future economic success and from bailing out future failures. The salient features of federalism — decentralization of information and authority and inter-jurisdiction competition — help provide credible commitment for these purposes. In addition, we discuss factors relevant for sustaining federalism.

Introduction: A New Perspective on Reform

Starting in 1979, China embarked on a profound economic reform that led to a transformation of the country from a centrally planned economy to a market economy. Over the next 37 years, China produced one of the most spectacular growth records in human history. According to the World Bank, in 2015 the nominal GDP of China was nearly $11 trillion, surpassing 60 percent of U.S. nominal GDP. In comparison, China’s nominal GDP in 1978 was only $148 billion, merely 6 percent of that of the U.S. If measured by Purchasing Power Parity (PPP), in 2015 China’s GDP was $19 trillion, larger than the $18 trillion GDP of the U.S., the world’s largest economy in the last 100 years....

Why China’s Economic Reforms Differ: The M-Form Hierarchy and Entry/Expansion of the Non-State Sector

China’s thirteen years of economic reforms (1979-1991) have achieved an average GNP annual growth rate of 8.6%. What makes China’s reforms differ from those of Eastern Europe and the Soviet Union is the sustained entry and expansion of the non-state sector. We argue that the organization structure of the economy matters. Unlike their unitary hierarchical structure based on functional or specialization principles (the U-form), China’s hierarchical economy has been the multi-layer-multi-regional one mainly based on territorial principle (the deep M-form, or briefly, the M-form). Reforms have further decentralized the M-form economy along regional lines, which provided flexibility and opportunities for carrying out regional experiments, for the rise of non-state enterprises, and for the emergence of markets. This is why China’s non-state sector share of industrial output increased from 22% in 1978 to 47% in 1991 and its private sector’s share from zero to about 10%, both being achieved without mass privatization and changes in the political system.

Institutional Environment, Community Government, and Corporate Governance: Understanding China’s Township-Village Enterprises

We study China’s township-village enterprises (TVEs) from an organizational perspective with a focus on governance. Unlike most previous studies, we interpret the firm boundaries of TVEs at the community level rather than the enterprise level. From this perspective, we analyze the central role that community governments play in TVE governance as an organizational response to the imperfect institutional environment of both state and market. Specifically, we show that the community government’s involvement in TVEs helps overcome the problems of state predation and under-financing of private enterprises. We also explain why TVE governance leads to harder budget constraints than state-owned enterprises.

Regional Decentralization and Fiscal Incentives: Federalism, Chinese Style

Aligning the interests of local governments with market development is an important issue for developing and transition economies. Using a panel data set from China, we investigate the relationship between provincial government’s fiscal incentives and provincial market development. We report three empirical findings. First, we find that during the period of “fiscal contracting system” the discrepancy between ex ante contracts and ex post implementation was relatively small, suggesting that the fiscal contracts were credible. Second, we find a much higher correlation, about four times, between the provincial government’s budgetary revenue and its expenditure during 1980s and 1990s as compared to 1970s, demonstrating that provincial governments faced much stronger ex post fiscal incentives after reform. Third, we find that stronger ex ante fiscal incentives, measured by the contractual marginal retention rate of the provincial government in its budgetary revenue, are associated with faster development of the non-state sector as well as more reforms in the state sector in the provincial economy. This holds even when we control for the conventional measure of fiscal decentralization. Finally, we compare federalism, Chinese style, to federalism, Russian style.