By Chen Xiaohong

Research Report No 244, 2005

I. Making Plans and policies to Adjust the State-owned Economic Distribution According to National Strategies and the Principle of a Mixed Economy

The 15th Party Congress set the principle of adjusting the state-owned economic distribution and changing the overly extensive layout of the state-owned economy, and a consensus has been reached on this issue. A major problem that has not been solved is that it is not very clear what constitute "advanced" modes and domains in the national state-owned economy while the conditions and policy for the "withdrawal" of the state economy have not been specified either. Since the 15th Party Congress, quite a few provinces and municipalities have come up with ideas on the adjusting the state-owned economic distribution, and many "withdrawals" have been made. But due to a lack of systematic national plans and policies, relevant problems have not been well solved, and this has even led to new confusing and perplexing problems.

The problem of what constitute "advancement" and "withdrawal" is not just related to ordinary investment or civil and commercial issues, but is an important issue for public and industrial policy. It involves major adjustments to the political and economic interests in the national economy. The state must formulate clear plans and basic policies for the adjustment. Laissezfaire or vague policies will only perplex domestic and foreign investors. Planning should be specific to guide enterprises making adjustments. Such plans and policies should at least answer the following questions.

In which fields and under what conditions the state-owned economy must take up a dominant position. China practices a socialist market economy with the mixed economy as its mainstay. The fields which must be directly developed by the state through investment, or the sectors which the state must control, should be those that can develop only through direct state investment. These are mainly the sectors characterized by market failure. Market failures in China include three types of market failure[1]: the common market failures that developed countries also experience; market failures in developing countries which occur in less-developed markets and economies; and the market failures unique to transitional economies. These sectors, according to the 15th Party Congress, are mainly those concerning state economic lifelines and national security, major basic facilities, important resources and strategic high-tech fields. The sectors that the government must control are dynamically changing. When the sectors gradually mature and other investors can enter, the government may consider reducing and even withdrawing investment; when the economic and social regulations regarding security and public benefits gradually improve, and the sectors can be adjusted and controlled through regulations, the state will be able to ensure that enterprises in these sectors serve state policy goals without relying on or by relying less on property right controls; and when the investment management system combining public and private factors and relevant instruments improves, the government can shrink or reduce the sectors in which the state directly invests. Under most circumstances, state-owned economic control refers to the fact that some important enterprises in these sectors are controlled by the state through investment, not the fact that there are only state-holding enterprises through investment. For ordinary competitive sectors, unless they have specific public policy (such as industrial policy) goals, the policies for adjusting economic distribution should be neutral. The state-owned economy can partly or completely withdraw from these sectors. Or, under neutral state policy, existing state-owned enterprises could continue to exist and develop in these sectors. The state could keep and even increase investment in the sectors or enterprises that the industrial policy supports. But the state should try to improve investment mechanisms and ensure that state firms and private enterprises face the same market environment.

The report of the 15th Party Congress also made it clear that various ways of controlling the state-owned economy, such as shareholding, would be adopted in these sectors. This basic policy on the adjustment of state economy layout is clear with the exception of some vague parts. In some competitive sectors in the national economy, it is unclear whether state-owned enterprises can continue to hold a fairly large or a certain proportion of shares; whether it is necessary for the state to invest in high-tech fields where non-state enterprises have already taken very important positions.

The author believes that in competitive sectors such as iron and steel, automobiles and finance, where the private economy has not been strong enough, the state economy should be allowed to own a fairly large proportion of market share; non-state economic development should be supported at the same time. Measures should include supporting competitive private investors to invest in state-owned enterprises and make their own investment so as to gradually lower the proportion of the state-owned economy. After a period of time, the state economy can lower its shares in these fields. The main reasons are that at a time when the country’s private economic sectors and its capital strength are not strong and when domestic enterprises in important industries face technological or market risks, the state has the responsibility to use such means as investment and resource control to support domestic enterprises — the government of China, as a government of a developing country, should do something to cope with the second-type of market failure; some industries are related to economic security, so it might be necessary for the state to control or hold shares in them before a more effective security system is established in order to support a wider opening.

Should the state make any investments in high-tech industries where private economy occupies a considerable proportion? Some people insist that the state economy should only invest in such enterprises at their initial stage. It is our belief that the state can also make investments in the important industries prioritized by the state even if they are still in the early stage of development. In China, where the scientific and technological level is relatively low, the greatest risk that enterprises and investors face lies in the market and business models. Investments targeting market risk are mainly made in large-scale production and marketing capacities. The successful experience of European governments in support of Airbus has indicated the significance of state investment. In fact, the semi-conductor, TFT and automobile industries that have been developed in recent years by introducing foreign technologies facing the greatest risk — market risk. It is state (local) government investment and policy support that helps such enterprises get started and developed.

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[1]The ordinary papers on economics only deal with the issue of market failure in developed countries such as public products, externalities and natural monopoly whereas development economics and papers on transitional economy also deal with the issue of market failure resulting from underdeveloped economy and economic transition. Please refer to The Industrial Policy of Japan edited by Komiya Ryutaro (1984) and published by the University of Tokyo. The book introduced views of Japanese scholars about impact of investment and trade protection on the industrial development of Japan.