In 1978, two years after the death of Chairman Mao and the end of the Cultural Revolution, Deng Xiaoping disengaged the government monopoly on the country’s economy and began to welcome free markets. These advertising billboards from 1980 were among the first to replace posters with political slogans. PHOTO BY JOAN LEBOLD COHEN.
China abandoned a Soviet-style command economy in favor of a mixed economy late in the twentieth century, and the economic system overall contains a complex set of enterprise designations: state ownership, shareholding, private ownership, collective ownership, foreign direct investment, and public ownership through shareholding. In spite of many reforms and impressive growth during the past two decades, the economy faces major hurdles.
China’s economic system during the last two decades of the twentieth century changed from a command economy, which dated to shortly after the Communists took control in 1949 and was based on the Soviet economic system, to a mixed economy with complex set of economic relationships between enterprises and the state.
In a command economy the means of production are publicly owned, and economic activity is controlled by a central authority that assigns quantitative production targets and allots raw materials to production units. A command economy entails comprehensive economic planning on the basis of targets and balancing of materials.
China’s command economy was established in 1950 and 1951 and was followed by a Soviet-style five-year plan, the First Five-Year Plan, for the years of 1953 to 1957. The Soviet model was ideologically sound in the Marxist theory that supported it, but, more important, the Chinese deemed it a necessity when they had to face the decline of the economy after a century of wars and turmoil. With the capacity to mobilize resources quickly on a national scale, this administrative approach was effective in its initial phase.
Beginning in the early 1950s Chinese central industrial ministries and administrative regions were required to assign production targets to enterprises under their jurisdiction. Each group of enterprises was then required to formulate annual production, labor, and cost plans and to submit them to the higher echelons—that is, the industrial ministries or bureaus—for approval. During this period procedures for making annual plans “from the bottom to the top” and “from the top to the bottom” were introduced and standardized. Frequent consultations and exchanges of information took place at various levels of the hierarchy. Moreover, China established a centralized system of supplying raw materials.
The central bureaucracy played a major role in the economy. For example, in the industrial sector the state owned outright enterprises that produced more than 60 percent of the gross value of industrial output, and all but a small portion of the remainder was collectively owned. In the urban sector the government not only prescribed output targets and allocated energy resources but also set the prices for key commodities, ran the wholesale and retail networks, determined the level and general distribution of investment funds, set wage levels and employment targets, and controlled financial policy and the banking system. The foreign trade system also became a government monopoly during the early 1950s. Similarly, in the countryside beginning in the mid-1950s the government prescribed the level of prices, set cropping patterns, and fixed output targets for all major crops. Most rural commercial transactions were undertaken by the Supply and Marketing Cooperatives—nominally an organization of farming cooperatives but in fact a heavily bureaucratized organization that operated as the rural branch of the Ministry of Commerce.
In 1952, in order to run the command economy, the chief organ of planning, the State Planning Commission, was established and placed under the State Council when the council was made the supreme executive body by the 1954 constitution. At the same time the State Construction Commission was established to oversee capital investment under the five-year plans in 1956; the State Economic Commission was formed to take over short-term—up to annual—plan responsibilities, leaving the State Planning Commission to concentrate on long-term and perspective planning. Also established in 1956 were the State Technological Commission to plan long-term technical development and the General Bureau for Supply of Raw Materials to handle material allocation. The State Statistical Bureau was formed in 1952, its provincial and municipal statistical departments in 1953, and below them administrative and special district officers in 1954.
First Centralized, Then Decentralized
The organization of planning grew more centralized, reaching a peak during 1955 and 1956. China had nearly 200,000 enterprises, operating with widely varying technologies, levels of efficiency, and product assortments, even within the same industry. However, the data gathered, transmitted, and processed for central planning were irregular, sometimes incomplete, and often overestimated. As the number of commodities and the number of enterprises for which the central planning bodies assumed responsibility increased rapidly, the maintenance of such a great degree of centralization of both planning and management became ever more cumbersome. In 1957 and 1958 the government adopted decentralization measures to shift some responsibilities to the localities, increase the scope for local initiative, and strengthen central control of the most important plan targets and enterprises.
During this round of decentralization most planning tasks were transferred to officials closer to the scene of production in an effort to shorten the lines of communication and to reduce absentee management. This transfer took place when the ministries passed most of the enterprises they had controlled to regional authorities, which gained more rights to allocate scarce resources. Most planning tasks then became the responsibility of regional and local authorities. This move was also a regionalization of planning by which several industrial ministries were abolished after losing a majority of their enterprises. The sixty thousand communes subsequently received an administrative and planning role in rural areas. They replaced the xiang (township governments) in 1958. In principle only the most important enterprises remained under direct ministerial control; even many of these were supposed to come under dual subordination to ministries and regional authorities. However, in practice ministerial control came to dominate. The decentralization of 1957 and 1958 was never entirely reversed.
The command economy traditionally operated with a strong centralized monopoly over commerce. Monopoly purchase of grain actually preceded agricultural collectivization, and even during the Cultural Revolution (1966–1976), when much of the industrial management system was being decentralized, central control of agricultural procurement and distribution of key consumer goods continued. Although around thirty thousand rural and suburban periodic markets (that is, markets that opened periodically) existed, they were rigidly controlled, and people were forbidden to transact goods, such as grain and cotton, over which the Ministry of Commerce had a monopoly.
All command economies follow development strategies that stress high levels of investment in, and give priority to, heavy industry. China wa
s no exception. Predictably, the focus on heavy industry was accompanied by severe shortages of consumer goods as well as, ironically, producer goods.
The shortages seemed to come from three sources. First, the government simply channeled so many resources into investment and heavy industry that there were few left for households. Second, the soft budget constraints of enterprises caused shortages. Most enterprises were profitable, and they faced no risk of bankruptcy. As a result, they pursued unrestrained growth and had an almost unlimited desire for investment. Each planning unit of an enterprise typically tried to make sure it would have the inputs it needed to fulfill its plan targets plus a margin for insurance. Therefore, each unit tended to overstate its needs and to treat the requirements of other planning jurisdictions as residual. Third (and related to the second), when managers were promoted based on their ability to meet the state-set output volume, their demand for inputs tended to expand until total demand ran up against the total available supply of resources. The over-demand for production inputs, without much concern for quality of output or efficiency, led to constant shortage of the supply of resources. Thus command economies have a built-in tendency to become “shortage economies.”
China’s command economy, in addition to the features mentioned earlier, adopted an urban-biased social-welfare policy to spur industrial development. The policy provided not only lifetime full employment but also virtually free housing, free health care, and free retirement benefits. However, nonurban residents were excluded, and the government controlled obtaining permits for urban residency.
The government also controlled internal migration and job assignment in the urban sector through a house-registration system, which largely replaced the free labor market after 1957, although the reforms after the rule of Chinese Communist Party leader Mao Zedong have attempted to revive it.
Economic Reforms after Mao and a Mixed Economy
Since the death of Mao in 1976 China has tried to reform its economy with gradual but somewhat parallel changes in the urban and rural sectors. The reforms by Communist Party general secretary Deng Xiaoping (1904–1997) have been accompanied by complaints about the inefficiency of Soviet-style central planning and, in particular, about China’s overlapping and inefficient administrative bureaucracy, along with the excessive dependence of enterprises on their planning apparatus. In an effort to end the latter, post-Mao leaders have sought to establish a system of managerial and production responsibility under which producers become more responsible for procuring supplies, marketing their output, operating in a cost-effective manner, and financing their investments from their own earnings or repayable bank loans. In these post-Mao reforms the government has stressed raising personal income and consumption and introducing new management systems to help increase productivity. It also has concentrated on foreign trade as a major vehicle for economic growth.
China in the late 1970s began to pursue agricultural reforms, dismantling the commune system and introducing the household responsibility system, which gave peasants greater decision making in agricultural activities. Evolution of the household responsibility system can be roughly divided into three phases: the work-quota contract phase, the output-quota contract phase, and the responsibility contract phase. During the work-quota contract phase the household was responsible for the hours of work contracted on the collective land with the production input from the collective. During the output-quota contract phase the household was responsible for the quantity of output contracted given the production input from the collective. During the responsibility contract phase the household was responsible for everything from input to output. The government has also encouraged nonagricultural activities, such as township and village enterprises (TVEs), in rural areas. Thus agriculture has been decollectivized; small-scale private trade and workshops have been legalized; and the role of market forces has been considerably increased.
In the urban sector the goal of enterprise reform becomes ever loftier. Its original goal was to solve the problems of low incentive and inefficiency in state enterprises. However, as the reform has progressed, the goal has become changing the managerial mechanism to make state enterprises competitive in the market.
Four Phases of Economic Reform
Reform of state-owned enterprises has gone through four phases. The first phase (1979–1984) concentrated on giving a certain amount of autonomy to enterprises in exchange for their improved efficiency. The second phase (1984–1986) concentrated on ways to enhance the vitality of state enterprises. The third phase (1987–1996) concentrated on the reconstruction of state enterprises’ managerial mechanisms. The fourth phase, beginning in 1997, has concentrated on getting rid of money-losing enterprises, hence starting a period of much-delayed privatization.
Reformers in China, as in other socialist countries, have followed a dual approach. In addition to the state sector, they have allowed the more marketized sector—consisting largely of small- to mid-sized private and collective firms—to expand explosively in both rural and urban areas. In some cases the enterprise capital is still state owned, but the facilities are leased to individuals or groups who operate them on a profit-or-loss basis. Stock and bond markets have also sprung up since the mid-1990s, and more than 400,000 enterprises have incorporated themselves.
Within the planning network many large enterprises still have a primary responsibility to meet plan targets, but the targets are supposed to be set low enough to allow a margin of overfulfillment. Production that exceeds state targets or is not covered by targets is to be sold in competitive markets, and enterprises that do this successfully are supposed to be able to keep part of the resulting profit for bonuses and investment under their control. Prices have also been deregulated gradually and are now mostly free of controls for output not subject to mandatory planning, although subsidies and production quotas in agriculture still keep down grain prices.
Price ceilings for consumer goods historically were supported by formal rationing of some staple foodstuffs and other daily necessities as well as of a number of consumer durables. However, this system has been virtually replaced by market allocation, together with far higher prices, although housing may still be purchased through work units at a much lower price.
In recent years a dual market for urban housing has developed. Some apartments of relatively high quality are leased through the market at some of the world’s highest rents. For example, Shanghai has rents much higher than those in New York City and nearly as high as those in Tokyo.
Large-Scale Industrial Reform
Although larger-scale industry has remained subject to central planning controls, similar market-type reforms have long been implemented as reformers have expanded market links within the state-planning network while reducing control by government agencies. The number of ministries and commissions directly under the State Council was cut in 1982 from ninety-eight to fifty-two and subsequently to forty-one, and their total staff was cut from 49,000 to 32,000. As their decision-making rights grow, enterprises are supposed to become more profit oriented in order to be stimulated to reduce waste, raise quality and labor productivity, upgrade production, and better tailor their products to user needs. They are supposed to m
ove away from the one-sided emphasis on output volume—a hallmark of the command economy. In addition, provincial governments and more than nine hundred enterprises now have the right to conduct foreign trade on their own.
The economy by the late 1980s had become overheated with increasing rates of inflation. The economy regained momentum during the early 1990s after Deng Xiaoping’s Chinese New Year’s visit to southern China in 1992 gave economic reforms new impetus. The Fourteenth Party Congress later in that year confirmed Deng’s renewed push for market reforms, declaring that China’s key task in the 1990s was to establish a “socialist market economy,” an economy that would accommodate a variety of forms of ownership and permit coexistence of government planning and market mechanisms. Continuity in the political system but bolder reforms in the economic system were proclaimed as the hallmarks of the ten-year development plan for the 1990s.
In spite of China’s impressive economic growth during the past two decades, reforming the state-enterprises sector, creating a social-welfare system, and modernizing the banking system remain major hurdles. Many small, unprofitable enterprises have been closed or sold, but larger money-losing enterprises are usually merged with viable state enterprises or simply continue to be subsidized. Most workers who have been discharged have continued to receive minimum compensation, including early retirement and opportunities to go into business for themselves.
China has three types of economic activities: those that are stipulated by mandatory planning, those that are done according to indicative planning (in which central planning of economic outcomes is indirectly implemented), and those that are governed by market forces. The second and third types have grown at the expense of the first type, but goods of national importance and almost all large-scale construction come under the mandatory planning system. Operational supervision over economic projects has devolved primarily to governments at the provincial, municipal, and county levels. The market economy generally involves small-scale or highly perishable items that circulate only within local market areas. In addition, enterprises themselves are gaining more independence in a range of activities. Almost every year brings changes in the lists of goods that fall under each of the three types of planning. The Chinese economic system overall contains a complex mixture of relationships: state ownership, shareholding, private ownership, collective ownership, foreign direct investment, and public ownership through shareholding. Indeed, the nonstate investment in fixed assets in China at the beginning of the twenty-first century reached 47 percent of its total and has continued to grow. China continues to search for an optimal balance between plan and market, although the Communist Party reserves the right to make broad decisions on economic priorities and policies.
Huang Yasheng. (1999). Inflation & investment controls in China: The political economy of central-local relations during the reform era. Cambridge, U.K.: Cambridge University Press.
Lin, Justin Yifu, Fang Cai, & Zhou Li. (1996). The China miracle: Development strategy and economic reform. Hong Kong: Chinese University Press.
Naughton, B. (1995). Growing out of the plan: Chinese economic reform, 1978–1993. Cambridge, U.K.: Cambridge University Press.
Perkins, D. H. (1966). Market control & planning in Communist China. Cambridge, MA: Harvard University Press.
Source: Hu, Xiaobo. (2009). Economic System. In Linsun Cheng, et al. (Eds.), Berkshire Encyclopedia of China, pp. 668–673. Great Barrington, MA: Berkshire Publishing.
Chinese officials at a seminar of the China Council for Promotion of International Trade. Beijing, 1979. Due to economic reforms begun in the late 1970s provincial governments and more than nine hundred enterprises now have the right to conduct foreign trade on their own. PHOTO BY JOAN LEBOLD COHEN.
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