china's growth strategies
TRANSCRIPT
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ChinasGrowthStrategies*
ByDerekHeadey
InternationalFoodPolicyResearchInstitutewww.ifpri.org/srstaff/headeyd.asp
RaviKanbur
CornellUniversitywww.people.cornell.edu.pages/sk145
XiaoboZhang
InternationalFoodPolicyResearchInstitutehttp://www.ifpri.org/srstaff/ZhangX.asp
August,2008
*ThisisthefirstchapterinRaviKanburandXiaoboZhang(eds.),GoverningGrowthinChina:Equityand
Institutions,Routledge,forthcoming.TheTableofContentsisgivenintheAppendix.
1
http://www.ifpri.org/srstaff/headeyd.asphttp://www.people.cornell.edu.pages/sk145http://www.ifpri.org/srstaff/ZhangX.asphttp://www.ifpri.org/srstaff/ZhangX.asphttp://www.people.cornell.edu.pages/sk145http://www.ifpri.org/srstaff/headeyd.asp -
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1. IntroductionThehousehold responsibilitysystem (HRS),dualtrackpricing, townshipandvillageenterprises (TVEs),
special economic zones (SEZs), are all household names amongst development specialists. The two
commoncharacteristicsofallthesereformsarethattheytookplaceinpostreformChina,andthatthey
were innovative hybrid solutions to both the economic and political problems facing Chinese
policymakers.Sincethelate1970sthesereformshavehelpedChinaachieverapideconomicgrowthand
lifthundredsofmillionsofitspeopleoutofpoverty.Theseachievementshavebeengenerallysurprised
most observers, including economists, because many of Chinas development strategies seem to be
unorthodoxandindefianceofconventionaltheoriesofgrowthanddevelopment.
ThemiraculousgrowthrateofChinaseconomyhaspromptedagreatdealofstudy,especiallyamong
economists.One
strand
of
the
economic
literature
decomposes
Chinas
economic
growth
into
labor,
capital,andtechnologyand/orinstitutionalchangecomponents.Mostofthesequantitativestudies(Lin,
1992;Fan,Zhang,Zhang,2004)findthatinstitutionalchangeaccountsforasignificantproportionofthe
observedeconomicgrowth since the reform. Inaddition, the structuralchange from lowproductivity
agriculturetomoreproductiveindustrialandservicesectorsalsocontributedtorapideconomicgrowth.
While this body of literature undoubtedly helps increase the understanding of the major sources of
Chinasgrowth, itdoesnotaddressthequestionofhowthe institutionalchangesoccurred inthefirst
place.
There isanother largebodyof literature, includingmanychapters inthisvolume,examiningparticular
reformmeasurestojustifytheirlogicfromanexpostpointforview.Fromhindsight,manyofthereform
measuresmakegoodeconomicsenseand fitwell intothepoliticaleconomyandgovernancecontext.
Butforanygivenreforms,therearealwaysalternativepaths.Itisnotclearfromtheacademicliterature
how the seeminglyheterodox strategiesarose in the firstplace. In thisvolume, inaddition tohaving
papers from leading scholars, we also include papers from key policy advisors who were actively
involvedin
the
reform
process
and
have
played
an
instrumental
role
in
some
of
the
key
reforms.
Their
insiders view on the internal process of reforms is complementary to the writings of academic
outsiders.
In this opening chapter, we will first review the major views on Chinas development and reform
strategies. Then we discuss why the same forces behind Chinas rapid growth also create new
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challenges.Inthelastsection,wemakesomeremarksontheChineseexperienceandlessons,andtheir
transferabilitytoothercountries.
2. AReviewofChinasdevelopmentstrategiesThere are numerous studies on this topic. Jefferson (2008) provides an excellent review on Chinas
reformexperienceandonhowtheeconomics literaturehastriedtoexplainthatexperience.Onekey
differenceofourchapter isthatwetrytocombineboththe insidersandtheoutsidersviewsonthe
reform process. However, in doing so, we constrain ourselves to the major strands of the existing
literatureratherthantryingtoprovideacomprehensivereview.
RealigningtheeconomytowardsChinascomparativeadvantage
Lin,
Cai,
and
Li
(1996,
Chapter
13
in
this
volume)
and
Lin
(2007)
argue
that
Chinas
rapid
growth
since
the
reformismainlyduetotherebalancingofChinasdevelopmentsstrategyawayfromacentralfocuson
heavyindustry and in the direction of more laborintensive sectors. When the Peoples Republic of
China wasjust established, China lacked capital and faced international isolation. Influenced by the
experienceandideologyoftheSovietUnion,Chinaplacedthedevelopmentofheavyindustryasthetop
priority if itwastocatchupwiththedevelopednationsassoonaspossible.Toachievethisgoal,the
governmentsuppressedtheprocurementprice forgrains, restrictedruralmigration,andsetupsome
barriersbetweenruralandurbanresidents.Sincethisstrategywascapital intensive, itviolatedChinas
comparativeadvantage,
which
was
defined
by
limited
capital
and
abundant
labor,
and
led
to
nearly
threedecadesofstagnationinpercapitaincome.
Since the economic reforms beginning in the late 1970s, the central government has shifted its
developmentstrategiestowardmore labor intensivesectors, initiallyagriculture,andthen increasingly
exportoriented rural industries. In the global context, China possesses an obvious comparative
advantageinthelaborintensivemanufacturingsector.Afterintroducingtheopendoorpolicy,massive
foreigndirect investmentflowed inandmarriedwithChinascheaplabor.Asaresult,bothcapitaland
labor resources were more efficiently allocated, which greatly boosted economic efficiency. Chinas
development path therefore reemphasizes the importance of adhering to comparative advantage in
creatinglaborintensive,exportorientedeconomicgrowth(Krueger1978,Krueger1983,Krueger1984,
Littleetal.1970).Avariationofthisthemeisthatrealignmenttowardscomparativeadvantagemaybe
necessary for accelerated growth, but is not by itself sufficient. Ravallion and Chen (Chapter 5, this
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volume) argue that Chinas post1978 economy also benefited from many of the social and
infrastructural investments of the pre1978 period, especially with regard to education, health and
transportinfrastructure.Thustheyinvokeafairlystandardnotionofconditionalconvergencetoexplain
Chinaspost1978catchup.
However, there are perhaps two problems with the comparative advantage explanation of Chinas
success. Firstly, comparative advantage is nearly always identified expost, or after the event (Wade
1990).Priortoimplementingreformsitmaynotbesoobviouswhatproductsacountrywillhavesome
specificcomparativeadvantage in. Discoveringspecificcomparativeadvantagesmaynotbeachieved
undera laissezfairesystembecause theprocessofdiscoveringcomparativelyadvantageousactivities
entailsrisksanduncertainties,andbecausetheentrepreneursthatcarryoutthesesearchanddiscover
activities
rarely
capture
all
of
the
rewards
to
their
success
(Hausman
and
Rodrik
2003).
Existing
research
onotherEastAsiamiracleshasalsoarguedthatthesecretoftheirsuccesswasinvestinginthegrowth
of futureareasofcomparativeadvantage (Amsden1989,Wade1990).Secondly,this theorydoesnot
explain theprocessofsuccessfultransition inChina.Since the late1970spolicymakers inmanyother
developing countries inAfricaandLatinAmericahaveattempted to shift theireconomiesaway from
capitalintensive sectors towards more laborintensive activities, but many of these countries have
experienced sluggish growth atbest, stagnation atworst.HowdidChinamanage itsownprocessof
reformsosuccessfully?WewillcometothispointwhenreviewingChinasreformprocessasrecounted
inthis
volume
by
key
Chinese
policy
advisors
(Chen,
Chapter
3;
Lou,
Chapter
3;
Du,
Chapter
4).
Incentivesmatter
Itissometimesarguedthatthefirstandmostimportantprincipleofeconomicsisthatincentivesmatter
(Easterly2002).A largebodyof literaturehasdocumented thatduring theplanningeraChinas rural
communes or collectives were dogged by weak incentives due to free rider problems, especially in
agriculturalproduction (Lin,1990).Farmersdidnotwant toworkhardbecause the fruitsof their toil
where shared among others, rather thanjust themselves. Likewise, in the stateowned enterprises
(SOEs), shirking was also reported to be a widespread problem (Xu, 2003), and many SOEs made
significant losses. A major theme of marketoriented reform studies on China is that the post1978
governmentgavestrong incentivesforindividuals includingfarmers,managersand localofficialsto
increaseinvestmentandimproveproductivity.Severalmajorreformsallhavethespiritofempowering
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ordinarypeopleor local governments tomake theirowneconomic choices and reap the rewards of
thosechoices.
Take the Household Responsibility System (HRS) one of the earliest reforms as an example. The
principleoftheHRS isthat individualhouseholdscanclaimtheresidualoftheirownproductionafter
fulfilling the grain quota to both the state and collective units. Because peasants could possess all
remnantsafterfulfillingthestatequota,their interest in increasingproductiondramatically increased.
Theimprovedincentivesystemalsohadtheeffectofimmediatelyresultinginamuchfullerutilizationof
longterminvestmentsmadebytheStateinagriculturalresearchanddevelopment,irrigation,andother
infrastructure.Inthespaceofjustseveralyears,agriculturalproductivitynearlydoubled(Fan,1991;Lin,
1992).AndasshownbyRavallionandChen (2007,chapter5 inthisvolume), itwasruralreformthat
triggered
Chinas
economic
growth
and
alleviated
a
record
number
of
people
from
poverty
in
just
severalyears.
Subsequent SOE reforms followed in the same spirit. Initially, a managerresponsibilitysystem was
introducedtogivetheSOEmanagersmorediscretionarypower inmakingdecisionsandofferingthem
performancebasedpaypackages.However,becauseSOEshadtotakecareofemployeesthatwerenot
coveredby socialwelfarebyproviding theirownhousing,healthcareandpension,SOEs still found it
hardtocompetewiththelowercosttownvillageandprivateenterprises.Bythemiddleandlate1990s,
mostsmall
and
medium
SOEs
were
privatized
or
experiencing
large
numbers
of
layoffs.
Avariantof theincentivesmatterexplanationofChinasgrowth focusesondecentralizationwithin
Chinasgovernment.Mostofthe literaturehaspaidparticularattentionto fiscaldecentralizationasa
major drive of Chinas economic growth (Jin, Qian, and Weingast, 2005, Chapter 14; Cheung, 2008).
Duringcentralplanning, localgovernmentshad to turn inmostof their local revenues to the central
government, and there was no clear rule as to how central finances were to be devolved to lower
governments.Sincethe1980sChinahasadoptedaseriesoffiscalreformsaimedatimprovingthefiscal
contractarrangementsbetweendifferent levelsofgovernments.After fiscal reforms, localandupper
level governments shared fiscal revenues according to a predetermined formula. Since local
governments can keep a significant portion of the increased local revenues, they face stronger
incentivestoincreaselocalrevenue(notetheanalogytotheHRS).
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Of course, fiscal decentralization need not result in faster growth unless local governments have
incentives to use increased finances productively, yet governance reforms in China did indeed
complementfiscaldecentralizationwithimprovedincentives.ModernChinahasalwayshadcentralized
meritbasedgovernance structure. In theplanningeconomyera, theevaluationofcadreswas largely
based on political performance. However, since the Chinas reforms initiated in 1978, political
conformity gaveway toeconomic performance and other competencerelated indicators as the new
criteriaforpromotion.ThepromotionofChinacadresisnowlargelybasedonyardstickcompetitionin
severalkeyeconomicindicators,includingeconomicandfiscalrevenuegrowthrates,andsomecentral
mandates,suchasfamilyplanning(LiandZhou,2005,Chapter12,thisvolume).These indicatorshave
been written into local leaders contracts. This creates tremendous pressure for local government
personnel tocompetewitheachother through superior regionalperformance.Consider the fact that
China
has
over
2,000
counties
and
that
because
capital
is
largely
mobile
these
counties
have
to
compete
for capital in a probusiness environment wherein investors are trying to maximize returns (Cheung,
2008). Strong incentives for local governments to achieve rapid economic growth helps explain why
Chinahasgrownsoquicklydespitealackofwelldefinedpropertyrightsprotectioninthedefactorlegal
system (Zhang,2007): competition serves as thedisciplinarymechanismbywhich localgovernments
provide dejure protection of investors property rights. Of course, the existence of strong growth
oriented incentives also explains why the protection of the property rights of other groups, such as
farmers,hasbeenweak(Zhang2006a).
Tosummarize,theChinesecentralgovernmenthasusedbothfiscalincentivesandpersonnelpoliciesto
ensure that local governments use their financial empowerment to increased economic growth.
Althoughthereisnotmuchsystematicinternationalevidenceontheimportanceofdecentralizationfor
economicgrowth,aresearchprogramonDecentralization,FiscalSystemsandRuralDevelopmentinthe
mid1990sacross19countries(orprovincesthereof)foundthatJianxiprovince inChinaeasilyhadthe
highestdegreeofdecentralization(Mcleanetal.1998).Otherstudieshavealsopointedoutthatmaking
decentralizationand localempowerment schemeswork requires the fulfillmentofa largenumberof
conditions inadditiontofiscaldecentralization (MansuriandRao2004,Prud'homme1995).Chinahas
benefited fromanumberof favorable conditionsethnichomogeneity, landequality, strongcentral
governance but Chinas experience also reiterates the importance of good incentives for local
governments, even if the mechanism by which governors are disciplined is not the electorate. So
although theprincipleof incentives is ratheruniversal, theexact formsused to improve incentives in
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Chinamaynotbeeasily transferable.Moreover, fiscaldecentralizationcancomeatacost,especially
insofar as it increases spatial inequality (Kanbur and Zhang 2005, Chapter 6 in this volume; Zhang
2006b).
Experimentationandmarginalreformasasolutiontorisk,uncertaintyandopposition
As argued above, good reforms can be very difficult to identify ex ante. But even if a good reform
measure has been identified, reformers still need a reform strategy capable of overcoming or
circumventingpoliticalresistancetoreform.Indeed,thepoliticalchallengeofreformcanbeatleastas
difficult as the intellectual challenge of identifying the economic direction of reform. Traditional
economic models of development generally do not address the political viability of reform (Ahrens
2002).Thepublicchoiceschoolwhichattemptedtoapplyeconomicchoicetheoreticalmodelstothe
political
arena
seeks
to
explain
policy
decisions
in
terms
of
individual
incentives
and
the
outcomes
of
deliberations between political groups e.g. factions, lobbies, political parties (Rodrik 1996). But such
modelsaregenerallydissatisfactory inthiscontextbecausetheyassumethatgoodpoliciesareknown
exanteanassumptionwehavealreadyquestioned andthatthepreferences(ideologies,beliefs,
normative objectives) of individuals and groups are exogenous. This second assumption is also
insufficient because as the chapters in this volumeby the reform insiders demonstrate, successful
politicalreformoftenrequirespersuasion,or,moreexplicitly,changingpeoplespreferences,ideologies,
beliefsandnormativeobjectives.
In that vein, institutional and behavioral economics generally offers a more flexible framework for
thinkingabouttheprocessofreform.AccordingtoDenzauandNorths(1994)notionsofsharedmental
models,insituationsofuncertaintysuchasChinain1978 peopleactinpartuponthebasisofmyths,
dogmas, ideologies and "halfbaked" theories. Moreover, the psychological notion of cognitive
dissonance suggests that people do not easily disassociate themselves from their existing mental
models,especiallywithoutoverwhelmingevidencetoviolatethe incumbentmodel.1Chinas insulated,
1Inpsychology,cognitivedissonanceisdefinedasanuncomfortablefeelingorstresscausedbyholdingtwo
contradictoryideassimultaneously(e.g.suchassocialismworksandmarketswork).Thetheoryofcognitive
dissonanceproposesthatpeoplehaveafundamentalcognitivedrivetoreducethisdissonancebymodifyingan
existingbelief,orbyrejectingoneofthecontradictoryideas.FromthisviewpointmanyofDengsstatementscan
beseenasmeansofdiffusingcognitivedissonance.Forexample,DengXiaopingemphasizedthat:
"Planningandmarketforcesarenottheessentialdifferencebetweensocialismandcapitalism.Aplanned
economyisnotthedefinitionofsocialism,becausethereisplanningundercapitalism;themarket
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ideologydriven,singlepartypre1978societymeantthattheorthodoxsharedmentalmodelofChinas
leadersanditspeoplefoundedonMaoistandSocialistprinciples wasasignificantbarriertomarket
oriented reform. Changing this model was therefore both an important precondition of successful
reform,anda resultof reform.Akey insight, then, from theinsiderchaptersof thisvolume is that
Chinaseliteschosereformstrategiesthatinvolvedminimizedpoliticaloppositiontoreform.
Inthepoliticalarena,Dengandothermarketorientedreformersmadeuseoftwostrategiesaimedat
changingthesharedmentalmodelofthenation.InfluencingthemindsetofChinasrulingelitewasthe
firstobstacle.DengXiaopingwasrelativelyuniqueinthathehadlivedasubstantialperiodoftimeina
Westerncountry (France)andhad seen thebenefitsaswellas thecostsofcapitalism,anexperience
whichevidentlymadehisownattitudesrelativelypragmatic. Inorder tochange themindsetofother
leaders
he
encouraged
them
to
take
education
tours
overseas,
and
persuade
Singapores
leader,
Lee
KuanYew,tovisitChinaandspeakontheissueofreform.Downtheline,however,itwasalsoimportant
to address the mindset of the greater population, which had long been taught to venerate Maoist
Socialism.ChinascontroloftheStatemedia,ofeducation,anditstraditionofhierarchicalgovernance,
meant that the Chinese leadership could very effectively publicize the direction of reform in China.
Famous public announcements such as the Four Modernizations, "socialism with Chinese
characteristics",and"seekingtruthfromfacts"allhelpedtheshiftpeoplesmindsets,andsignaltothe
broader economy that China was heading in a new direction. Whilst economists largely ignore such
hyperbole,the
political
economy
literature
regularly
emphasizes
the
importance
of
credible
reform,
and
more recent researchhasalsoemphasized the importanceofsoft institutionalchange (in thecaseof
India,forexample,seeRodrikandSubramanian(2004)).
In the economic arena, Chinese reformers used two related strategies to simultaneously promote
economiclearningandovercomepoliticalresistancetoreform:(1)reformsatthemargin(e.g.dualtrack
pricing inagricultureandhousing);and(2)moreexplicitexperimentation.2Theeconomicroleofthese
policiesisselfdiscoveryinthefaceofuncertainty.ToquotetheoftcitedphrasefromDingXiaoping,the
economyhappensundersocialism,too.Planningandmarketforcesarebothwaysofcontrolling
economicactivity."
2Wenotethatalthoughmarginalreformshavesomefeaturesofexperimentation(likeexperiments,theymaybe
morereversiblethanwholesalereform,andtheyalsopromotelearning),buttheyalsohavesomedistinguishing
featuresrelativetootherexperimentalreforms.
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supreme leader in theearly reformperiod,Chinas reformhasbeencrossingthe riverby feeling the
stones.Thepolitical role ismorepragmatic,asnoted in theinsiderchapters in thisvolume,which
emphasize the important role that experimentation in overcoming political resistance to reform.
However,someeconomistoutsidershavealsoemphasizedthisrole.
(1) ReformsatthemarginStudies on the dualtrack price reform (Lau, Qian, and Roland, 2000) are a noted example. Prior to
reform, inthehierarchicalpropertyrightandentitlementsystem,urbansectorsandparticularlystate
ownedenterprises(SOEs)cameunderthecontrolofthecentral,provincial,andmunicipalgovernments
andtherebyenjoyedprivilegedaccesstoavarietyofscarcematerialsandcapitalgoodsthroughquotas.
There were few quotas, however, for other lowerlevel stateowned enterprises and even fewer for
collectively
owned
enterprises.
The
dual
pricing
system
allowed
state
owned
enterprises
to
sell
unused
inputquotaatmarketpricestotownshipandvillageenterprises(TVEs)thatwereoutsidethecommand
economy.Suchexchangesnotonlyprotectedtheoriginalprivilegesofhigherrankingentitlements,but
alsopresentedTVEswithopportunitiestoaccessindustrialinputsviamarketchannelsandtoparticipate
in the market economy. In other words, the dual pricing system provided a functional pricing
mechanism for rentsharing through both hierarchical and market systems. Because the dualprice
reforminitiallydidnothaveanegativeimpactontheSOEsentitledplannedquota,theirresistancewas
muted.Overtime,astheprivatesectorgrewrapidlyandthemarketpriceandplannedpriceconverged,
thedual
track
was
eventually
unified
into
asingle
track,
or
market
price.
The urban housing reform makes use of the same compensation principle. In the socialist period,
Danwei (SOEsorgovernmentunits)were responsible forprovidinghousing tourban residents.Along
witheconomicreform,SOEswerecompelledtobemoreprofitdriven.Thereforetheprovisionofpublic
housingwassloweddownandcouldnotkeepupwithincreasingdemand.Thisforcedthegovernment
toundertakeurbanhousingreforminthe1990s.Thehousingreformpackagestreatedtheinsidersand
outsiders differently. Those already living in public housing were allowed to buy their occupied
apartments at a discount price. However, employees buying new houses were made to pay market
priceswithemployerscontributingsomematchingfundstoaspecialhousingaccountsoastoeasethe
burdenofpurchase.Underthispolicy,thehousingmarketwasprivatizedquicklywithoutcausingmuch
resentment. More importantly, the emergence of a semiprivate real estate market sent powerful
signals to consumersandproducers.Since theurbanhousing reform,Chinasconstruction sectorhas
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boomed.Injustfifteenyears,percapitalivingspaceincitieshasjumpedfrom8.8squaremetersin1986
to15.5squaremetersin2001(ChinaStatisticalYearbooks).
(2) ExperimentationandlearningbydoingPragmatism,trialanderror,evidencebasedpolicymaking,andexperimentationwithsmallscalepolicy
reformsthatare laterscaledup,areallkeyfeaturesofChinasreforms.Mostsuccessfulreformshave
experienced pilot experiments and impact evaluations before being scaled up. Learning by
experimentation isakeystrategywhenreformersfacehugeeconomicandpoliticaluncertainty.When
facingchoicesneverseenbefore,itisextremelyriskyforagentstomakeradicalchoices.Foranyreform
goal, there are potentially many different paths to take (Lou, Chapter 3, this volume). Due to
uncertainty, it ishard tojudgewhichoption ismore feasible from theexantepointofview. In such
circumstances,
experimentation
can
be
a
useful
tool
to
search
for
more
information
and
for
testing
and
updating prior hypotheses. Experiments yield information to help understand what works and what
doesnot.Thus,even failurescanbehelpfulbecause theycanhelpeliminateunfavorableoptions,as
shownbyLuo(2008).Thefailureofhis laissezfairepricereformexperiment inHebeiProvincehelped
himcomeupwiththeideaofdualtrackpricereform,whichisanimportantexampleofanexperiment
whereWashingtonConsensuswisdomwascontradicted.Moreover,experimentationcanhelpcontrol
the possible disastrous consequence of wrong choices. A wrong choice, at large scale, may be
irreversible,and thereforemayundermine the credibilityand stabilityof thepolitical leadership,and
weakenoverall
learning
capacity.
An important point to note here, in the context of emergence of randomized microeconomic
experimentswithindevelopmenteconomics(Duflo,2005),isthatmostofChinasexperimentswerenot
random.Specifically,experimentswereofteninitiatedinisolatedpoorareas.Asshowninthechapterby
Du(Chapter4,thisvolume),the leaderspurposively initiatedthehouseholdresponsibilitysystemasa
pilot reform inseveral remoteprovinces inorder toavoidminimize thepotentialcostsof failureand
reduce the political resistances. Similarly, the Wenzhou area, which used to be a remote region in
ZhejiangProvincebut isnowoneofthemostdynamicregions inChina,receivedspecialpermissionto
be a pilot region for rural industrializationprecisely because of its isolation at the time (Zhu,2008).
Underthespecialpolicy,Wenzhoumadeboldexperimentsinreformingtownvillageenterprises(TVEs)
and legalizingprivate firms.Afterobserving its success,mostTVEsand smallandmediumSOEswere
privatizednationwidebythe late1990s.Althoughsuchexperimentswerenotsorigorouslyconducted
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astoincludecontrolgroups,thepilotsenabledresearchersandpolicymakerstoobservewhatworked
andwhatdidnotontheground.AnotheradvantageofChinasapproachisthatitinvolvedanelement
of experimentation in macroeconomic reform, whereas contemporary randomized experiments are
confinedtomicroeconomicexperiments(Rodrik2008).Dualtrackpricesandspecialeconomiczonesare
twosuchexamples.
Such experimentation has been particularly important in overcoming several major obstacles to
effectivereforminChina,relatedtothecountryssize,itsdiversity,andthehistoryandstructureofits
hierarchicalpoliticalsystem.Fora largeanddiverseeconomy likeChina, it isverydifficulttoderivea
singleonesizefitsallblueprintforreformsimplybyapplyingtextbookeconomictheories.Instead,trial
and error processes can help discover local best practice. Second, the basis for formulating sound
market
oriented
policies
in
1978
was
limited.
Few
bureaucrats
had
any
formal
training
in
orthodox
economics,norevensubstantialexperienceof living inmarketeconomies.Chinese reforms therefore
felt compelled to use experimentation as a collective learning mechanism. Moreover, successful
Chinese reformers moved quickly to overcome Chinas limited research base by employing young
recruitstoworkinthinktanks,suchastheChinaRuralDevelopmentandResearchCenterledbyMr.Du
Runsheng,theauthorofChapter4 inthisvolume.Such institutions inturnhelpedovercomearguably
the most binding constraint to effective decisionmaking in China, information asymmetry. Because
Chinasbureaucratsare rewardedbasedonperceivedmerit,bureaucratsalwayshavean incentive to
falsifyfacts,
as
was
the
case
in
the
Great
Famine
in
which
statistics
on
experimental
yields
were
grossly
falsified. Institutions such as theChinaRuralDevelopment andResearchCenterplayed a key role in
reducing these information biases by screening best practices and feeding them back to top policy
makers(Keyser,2003).
Pressureasacatalystforreform
People evaluate the risks and payoffs with regard to the consequence of proposed policy change.
However,they
often
have
different
(subjective)
perceptions
of
the
uncertainty
related
to
change.
Exogenous social, economic and political pressures though adverse in some sense can help
policymakersinducepolicyreformsthat,incalmertimes,wouldgenerallyberesisted.
Thepressurewhichstimulatedtheearliestreformsofthepost1978erawasthethreatofeconomic
crisis. A crisis can have a silver lining in the context of reform in that it may help update peoples
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perceivedrisksandpayoffsregardingalternativepolicyoptions,andtherebyrealignpolicyprioritiesso
thatnewapproachesemergeoutofpreviousfailures. Sodespitethenegativeeffectsofanycrisis,crises
necessitate change and reexaminations of current policies, in a manner analogous to Joseph
Schumpetersnotionofcreativedestruction.
After the Cultural Revolution (19661976) China was on the verge of collapse under the planned
economy system. More than two thirdsof thepeople livedunderone dollarper day (Ravallion and
Chen,2007,chapter5 in thisvolume).With stagnantagriculturalgrowthand fastpopulationgrowth,
food was in short supply. At the onset of reform, it seemed China faced extremely high barriers to
escapingthelowlevelequilibriumtrapwherepovertypersisted.However,asshowninchapter4byDu,
one of the architects of Chinas rural reform, crisis may trigger reforms. After the end of Cultural
Revolution,mostofthetop leadersandthemassesrealizedthattheplannedsystemwasnotaviable
optionanymore,
even
ifthere
was
still
uncertainty
and
debate
as
how
next
to
proceed.
Under
these
circumstances, top leaders were more willing to listen to different opinions and allow open policy
debate. Inotherwords,thecrisisprovidedwouldbereformerswithawindowofopportunitytopush
new agendas. Significant reforms do not come automatically and require policymakers to seize the
dayinatimelyfashion.
Onenotedexample istheruralreformdocumentedbyDu.Chinesefarmers,whohadsufferedterribly
undertheGreatFamineinthelate1950sandearly1960s,stillhadavividmemoryofthedisaster,and
knewthat
collective
farming
did
not
work,
especially
in
times
of
crisis.
So
with
another
imminent
weather shock looming in 1977, the local government in Fengyang County, Anhui Province the
provincehardesthitbythefamineinthelate1950s3 decidedtocontractthecollectivelandtofarmers
becausetheyknewthecollective farmingsystemcould leadtoanother famine intheeventofsevere
shocks.Yao(2007)providesanextensivereviewoflandtenurechangesinruralChinaandhowtheHRS
was successfully scaled up (again, largely because farmers elsewhere had similarly critical views of
collectivefarming).
Chinasjoining
the
World
Trade
Organization
(WTO)
is
another
example
of
the
use
of
an
external
pressureto invokeand lockinreform.Inthe1990s,bankingreformmetenormousresistancebecause
Statebanksdidnotwanttogiveuptheirmonopolypositions.Manylocalgovernmentsalsoopposedthe
3AccordingtoYang(1996),themortalityrateinAnhuijumpedfrom11.9intheperiodof195658to68.6per
thousandin1960,thehighestamongalltheprovinces.
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reformbecausetheywereafraidof losingtheirabilitytodirectcredit,whichmade itverydifficult for
Statebankstoreallyoperateascommercialbanks.Largelyasameansofforcingfurtherreformsinthe
bankingandotherkeysectors,thetopleadersmadeaboldmovetoenterChinaintotheWTO.Although
theWTOgavedomesticbanksa fewyearswindowofprotection, in theend,mostof thebarriers to
entryinthebankingsectorhadtoberemovedsuchthatStatebankswereeventuallyforcedtocompete
onalevelplayingfield.ByusingexternalpressurefromtheWTOaccessionthegovernmentwasableto
induceaseriesofreformswithinStatebanks.Althoughnotcomplete,mostChinesebankshaveshedoff
badloans,severalmajorstatebankshavelistedtheirstocksinoverseasmarketsandaresubjecttothe
scrutinizingofinternationalfinancialmarkets,andlocalbankbranchesnowfinditmucheasiertorefuse
loanstolocalofficials.Thustheuseofexternalpressurelargelyachieveditsimplicitgoals.
AnoteonthecompatibilityofeconomicandpoliticalexplanationsoftheChinesemiracle
We have discussed four basic types of explanations of Chinas remarkable economic success: (1)
comparativeadvantage(andconditionalconvergence);(2)incentivesmatter(fiscaldecentralization
and realignment of incentives towards growthmaximizing activities); (3) experimentation (as an
economic and political discovery mechanism); and (4) pressure and crisis as inducers of reform. We
conclude this sectionbynoting that all theseexplanations arehighly compatible and complimentary
with each other, and that together they comprise a compelling and holistic explanation of Chinas
economicmiracle.
This holistic explanation of Chinas success, which incorporates both the outsiders and insiders
viewpoints,runsasfollows.TheconventionaleconomicexplanationofChinasgrowthmoreefficient
utilizationofChinasexistingendowmentsconvincinglyaccountsfortheproximatecausesofChinas
growth,butdoesnotexplainthecauseofreformorwhytheprocessofreformitselfwassosuccessful
bothpoliticallyandeconomically.Thesuccessfulprocessofreformisinturncompellinglyexplainedby
boththeincentivesmatterandexperimentationarguments.Indeed,bothargumentsinvokeseveral
ofthesameingredientsofsuccessfulreform,suchasovercominginformationasymmetriesbyderiving
local solutions to local problems, and discovering comparative advantage through trial, error and
observation. Experimentation and marginal reforms, however, also served to overcome political
constraintstoreformbycompensatingwouldbe losersofreform,andconvincingpotentialopponents
of thebenefitsof reformby reducing theuncertaintyofoutcomesof reform.Finally, thecatalyst for
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reformwasaneconomicandpoliticalcrisisthatjoltedChineseleaders,andtosomeextentitsordinary
people, into revaluating theirmentalmodelsofwhere theChineseeconomy shouldbeheading.This
storyneednotprecludeotherfactors,suchastheimportanceofgoodleadership(Jones2005)orgood
luck,buttogetherthesefourargumentscertainlyprovideacompellingexplanationofthreedecadesof
rapideconomicgrowth.
3. Afterthreedecadesofgrowth:thechallengesofthepresentandthefutureAfterthreedecadesofspectaculareconomicgrowthinChina,theproblemisnolongerhowtoachieve
growth but how to manage growths consequences and how to sustain growth. Chinas spectacular
growthandpovertyreductionhasbeenaccompaniedbyrising inequality,environmentaldegradation,
and
increasing
social
tensions.
The
institutions
that
have
brought
rapid
growth
so
far
are
now
under
stress,andthereisaneedtoreformandinnovateonthisfrontinordertosustainrapidgrowth,andto
obtaingrowthwithequity(Lindbeck,2008,Chapter10inthisvolume;Ji,Chapter11inthisvolume).
Rising inequality is one of Chinas most serious problems (Demurger et. al., 2007, Chapter 7 in this
volume; Benjamin, Brandt and Giles, 2005, Chapter 8 in this volume). In particular, the regional
dimensionofinequality rural/urbanandinland/coastal dominatesinacountryaslargeasChina,and
especiallywithitsparticularhistory.RegionalinequalityhasbecomeakeyissueforChinaandanumber
ofinterventionshavebeenintroducedtoaddresstheproblem.ThesearediscussedinFan,Kanburand
Zhang(2009).
As shown by Kanbur and Zhang (2005, Chapter 6 in this volume), the pattern of Chinas regional
inequalityclosely followsthehistoryof itsdevelopmentstrategies inthepasthalfcentury.Theheavy
industry oriented development strategyjustified the creation of the household registration system
(hukou) which was a major contributor to the large ruralurban divide. The opendoor policy, which
grantedpreferentialtreatmenttocoastalareas,hashelpedthecoasttobetterexploit itscomparative
advantageintheinternationalmarkets,butleftmanyinteriorprovinceslaggingbehind. Similarly,fiscal
decentralization policy promoted local government officials to develop their own economies, but
differencesininitialendowmentstendstoleavetheeffectivetaxrateregressiveacrossChineseregions
(Zhang,2006b).Regionswithbetterendowments therebyhavemore revenues left to invest inpublic
goodsand improvebusinessenvironmentafter turningoveraportionof their fiscal revenues to the
upper levelgovernmentandmaintainingthedailyoperationoflocalgovernment.Incontrast,the local
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governmentsinpoorregionshavedifficultyincompetingwiththegovernmentsonthecoasttoattract
investment and develop the local nonfarm economy. Their local revenues are sometimes barely
sufficienttocoverthesalariesofcivilservantsonthepublicpayroll.Consequently,theyaremorelikely
to levy heavy taxes on existing enterprises, worsening the business investment environment. In
summary, the successful development strategies mentioned in the above section also have some
deleterioussideeffects.
In responding to rising ruralurbandisparityand stagnatingagriculturalgrowth,Chinahas launcheda
newruralmovementcampaign inthepastseveralyears(Chen,Chapter3 inthisvolume).Agricultural
taxation has been abolished, the government has provided direct subsidies for grain production.
However, significant challenges still remain. Facing rising food and fuel prices, the government has
placedaceilingonthegrainprocurementprice,whichmaydampenfamersincentivestoincreasegrain
productionin
the
long
run.
The interjuridical competition is a key contributing factor to the increasingly serious environmental
problems. In order to attract investment, many local governments loosen their environmental
regulations to allow polluters to operate as long as they generate lucrative revenues for the local
government.Intherapidlyindustrializingcoastalareas,suchasJiangsuProvinceandZhejiangProvince,
the degree of water pollution and industrial waste hazard is alarming. The cost of cleaning up the
environmentproblemmayeatupalargeportionofthegainsfromindustrialization.
Theinvestmentdrivengrowthmodelalsoinduceslocalofficialstocolludewithinvestorsattheexpense
oftherightsofindividuals(Zhang,2007;Chow,Chapter9inthisvolume).Inordertoattractinvestment,
manylocalgovernmentsprovidepreferentialtreatmentto investors,suchasfreeland.Intheprocessof
procuringfarming landfor industrialorothercommercialuse,thecompensationtofarmerswasoften
farbelow themarket level.Resenting thisunfair treatment,manyrelocated farmers filedpetitions to
theupperlevelgovernmentforhelp,andlanddisputeshavebecomeabreedinggroundforsocialunrest
all over China (Yu, 2003). How to make local government officials accountable has become an
increasinglyimportant
issue.
4. ConcludingRemarksChinasexperiencesince1978hastaughteconomistsmany lessonsabouttheprocessofdevelopment,
but also about the study of economic development. Our reading of Chinas history, and of the
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explanationsthateconomistshaveproposedtoexplainthathistory,reiteratetheincreasinglyaccepted
conclusion that while economic principles may be universal ingredients of successful development
strategies, thespecific recipesthatembody theseprinciples tend tobehighlycontextspecific (Rodrik
2007, Headey 2008,). For example, Chinas strategy contains all the usual elements of successful
developmentgettingincentivesright,adheringtocomparativeadvantage,providingsecure(butoften
notprivate)propertyrights,investinginhumancapital,andachievingrapidagriculturalgrowthbutthe
pathwhichChinatookfromplantomarketwasalmostentirelydistinct.
ThisconfirmationofChinasadherence to theseprinciplesshouldnotbeunderestimated,butChinas
uniquehistory,itsenormoussize,anditsdistinctiveeconomicsystemshouldalsoremindusthatChinas
specificreformstrategiesareunlikelytoapplytootherdevelopingcountries,especiallysmallcountries
and thosewithverydifferent institutionalhistories.Forexample, smallcountries that relyheavilyon
externaldonors
for
both
finance
and
technical
assistance
will
typically
have
alimited
policy
space
in
whichtoformulateheterodoxpolicysolutions.Similarly,democracies,evendemocraciesofsimilarsize
suchas India,have limitedabilitytoexperimentthewayChinadid.Nordotheytypicallyprovidesuch
strongincentivesforbureaucratsorelectedofficialstomaximizegrowth.
Given the uniqueness of Chinese history, perhaps the key lessons of Chinas reform experiences are
mostvaluableforChina itself.Withrapideconomicgrowthandballooningrevenues,policymakerscan
easilybecomecomplacentandoverconfident, ignoringthepragmaticandexperimentalapproachesof
yesteryear.Data
collected
by
Heilman
(2008)
shows
that
the
proportion
of
policy
reforms
with
experimentation componentshasdeclined from around50% in the1980s, to40% in the1990s, and
downfurthertojust20%since2001.Thesestatisticsareconsistentwithwhatisbeingobservedonthe
ground.Thenew laborcontract law (Cheung,2008),whichwaspassedwithout littleexperimentation
andlimitedconsultationin2007,isanotedexample.ThelawgeneratesmuchcontroversyinChina.Forexample, the law stipulates that an employer must sign an open term contract an employee after
finishingtwofixedtermcontracts.Thisgreatlydiscouragesfirmsfromhiringworkers.Thereformstoriespresentedinthisvolumehighlightthevirtueofpragmatismandexperimentationinthereformprocess.
Toovercometheemergingchallenges,itisimportantforChinesepolicymakerstomaintainapragmatic
attitudetoreform,andtokeepfocusingoninnovationsfromtheground.Whenpolicymakersbecome
morecomplacent,theyaremorelikelytomakecentralizedautocraticdecisions,neglectingthewisdom
of localknowledgeandthevirtuesofexperimentation. Inessence,Chinarunstheriskofkickingaway
theladderbywhichithasreacheditscurrentheights.ThisisakeylessonforChina,fromitself.
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AppendixGoverningGrowthinChina:EquityandInstitutions
Editedby
RaviKanburandXiaoboZhang
Overview
1.ChinasGrowthStrategies
DerekHeadey,RaviKanburandXiaoboZhang
PARTIPolicyChallengesandOptions
2.ChinaisAlreadyCapableofSolvingtheThreeDimensionalRuralProblem
XiwenChen
[KeynoteAddressatthe2006ChineseEconomistsSocietyConference]
3.TwentyYearsReviewandDeliberation:TheChoiceofPrioritiesinReform.
JiweiLou
[KeynoteAddressatthe2006ChineseEconomistsSocietyConference]
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4.TheCourseofChinasRuralReform.
RunshengDu
PARTIIPovertyandInequality
5.China's(Uneven)ProgressagainstPoverty,
MartinRavallionandShaohuaChen
[JournalofDevelopmentEconomics,82(1):142,2007.]
6.FiftyYearsofRegionalInequalityinChina:AJourneyThroughCentralPlanning, Reformand
Openness,
RaviKanburandXiaoboZhang
[ReviewofDevelopmentEconomics,9(1):87106,January2005.]
7.EconomicLiberalizationandRisingSegmentationinChinasUrbanLaborMarket,
SylvieDemurger,MartinFournier,LiShiandWeiZhong
[AsianEconomicPapers,5(3):5699,2007.]
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8.TheEvolutionofIncomeInequalityinRuralChina
DwayneBenjamin,LorenBrandt,andJohnGiles
[EconomicDevelopmentandCulturalChange,volume53(4),(2005),pages769824.]
9.RuralPovertyinChina:ProblemandSolution
GregoryChow
[KeynoteAddressatthe2006ChineseEconomistsSocietyConference]
PARTIIIGovernanceandInstitutions
10.EconomicSocialInteractionDuringChinasTransition
AssarLindbeck
[KeynoteAddressatthe2006ChineseEconomistsSocietyConference]
[EconomicsofTransition,16(1):113139,January,2008]
11.RedefiningRelationsBetweentheRuleofLawandtheMarket
WeidongJi
[KeynoteAddressatthe2006ChineseEconomistsSocietyConference]
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12.PoliticalTurnoverandEconomicPerformance:TheIncentiveRoleofPersonnel ControlinChina
HongbinLiandLiAnZhou,2005
[JournalofPublicEconomics,89:17431762,2005.]
13.TheLessonsofChinasTransitiontoaMarketEconomy
JustinYifuLin,FangCaiandZhouLi
[CatoJournal,Volume16(2),1996]
14.RegionalDecentralizationandFiscalIncentives:Federalism,ChineseStyle,
HehuiJin,YingyiQian,andBarryR.Weingast
[JournalofPublicEconomics,89(910):17191742,2005.
23