The Chinese State as Corporate Shareholder

• Author: Harry G. Broadman
• Position: Principal Economist, Russia Operations, at the World Bank. From 1993 to 1997, he was Senior Economist, China Operations, at the Bank

Despite China's commitment to reforming state-owned enterprises, many are still not operating like commercial businesses. Although some of the enterprise reforms have worked, others have led to unanticipated problems. This article outlines some measures that could improve the process.

At the Ninth Annual Trade Fair last fall in Harbin, the capital of northeastern China's Heilongjiang province, 1,078 small and medium-sized state-owned enterprises with 320,000 employees were offered for sale. In fact, the provincial government attempted to give away some of the troubled firms.

Although events like this seem to indicate that China is well on the way to privatizing its corporate sector, the state still maintains ownership of key businesses. In having the state carry out functions typically performed by private shareholders, China's implementation of its state enterprise reform strategy-to separate business from government-has produced problems unanticipated by the reform's framers: asset stripping, decapitalization, wage manipulation, and tax evasion. These problems not only threaten the objectives of China's enterprise reforms but, by spilling over to the financial sector, also jeopardize critical elements of the overall economic reform program.

The state enterprise problem

China's shareholding experiments have included management contracting, greater autonomy for managers, corporatization, and ownership diversification. A centerpiece of these experiments has been decentralization of governmental authority, with supervision of all but 2,000-3,000 of the 114,000 industrial state-owned enterprises shifted from the central authorities in Beijing to local governments. Recently, a multitiered organizational network of state asset management bureaus, state asset operating companies, and state asset supervisory committees has begun to emerge. Large national enterprise groups and holding companies are also being established. Several years ago, the Chinese leadership decided that the central authorities would select 1,000 large, high-priority state-owned enterprises, with the intention of reinvigorating them, and divest most of those remaining. But, to date, relatively few state-owned enterprises-perhaps 10-15 percent-have been divested to the nonstate sector, and almost all of these have been small. (In some provinces, nearly 50 percent of small state-owned enterprises have been divested.)

Some of China's enterprise reforms, although ad hoc, have been genuinely creative and have increased productivity. Moreover, despite an expansion of the nonstate sector-urban collectives, township and village enterprises, individually owned firms, and foreign-funded ventures-propelled by reforms that have liberalized market entry, removed price controls, eased investment restrictions, increased tax neutrality across different types of enterprises, and exposed the market to international competition, state-owned enterprises remain the key drivers of China's industrial sector. Today, China's state-owned industrial enterprises account for one-third of national production, more than one-half of total assets, two-thirds of urban employment, and almost three-fourths of investment. They provide essential raw materials and dominate such capital-intensive sectors as power, steel, chemicals, and machinery.

The reforms have failed to address the fundamental problems of large enterprises, however. Despite China's record economic growth, the industrial state-owned enterprises' profits have declined from 6 percent of GDP to less than 1 percent in recent years. Many state-owned enterprises are technologically inefficient. Most remain obligated to provide cradle-to-grave social services to workers and their families. They also carry a rising proportion of redundant employees and retirees on their payrolls. A growing number are losing money: about one-half incur net losses-compared with one-third just a few years ago-that add up to about 1 percent of GDP. Factory-capacity-utilization rates for major industrial products...