1

Theory and Policy Debates

• “Shock Therapy” vs. Gradual Reform

2

“Shock Therapy” vs. Gradual Reforms

• Shock Therapy– Western economists (like Harvard’s Jeffrey Sachs)

and the IMF recommended that every element in the old system be simultaneously eliminated, to be replaced by private property, free markets, individual rights and representative government—in that order of importance.

3

“Shock Therapy”

• On July l, 1991, the central planning agencies, Gosplan and Gossnab, were abolished. – Supply relationships were thrown into disarray.

• On January 2, 1992, all price controls were lifted– Prices increased 25-fold in one year. – Price increases far outpaced wage increases

• Industrial production collapsed because enterprises were unable to get credit– By the end of 1992 Russia’s G.D.P. had fallen by 22

percent

• Insight: there’s no such thing as a “free” market (Karl Polnayi)

4

A 1993 joke in Moscow went:

• “What has one year of capitalism achieved in Russia that seventy years of Communism were unable to accomplish?

• Answer: It has made Communism look good.”

5

Gradual Reform

• Recall core elements of the planned economy:– State monopoly ownership of industry

– State control over prices

• In China– No immediate privatization

• Rather, allow new entry/competition

adjust managers’ incentives

– No immediate price de-control• Rather, “dual-track” price reform

6

Note China’s multiple sources of economic growth

• Note that the former Soviet Union had long-ago made the developmental transition from an agricultural to an industrial economy

• China simultaneously made the gradual transition from – plan to market (better incentives, higher efficiency)– agriculture to industry

big opportunity for growth

7

Recall--positive implications of ag reform

legitimacy--improved living standards, rural incomes

• 1979-83– rural per cap income incr’ed 70% (almost doubled in 4

yrs)

– % of rural pop w/ food intake of <2200 cals/day decr’ed from 31% to 13% (cut in half)

8

Implications for transition from ag to industry

Ag reform • Revealed surplus labor

– For alternative employment in industry

• Increased household savings– For alternative investments in industry

Develop rural industry 2nd major success

9

Loans to Township- and Village-run Enterprises and Rural Household Savings Deposits Agriculture Bank Agriculture Bank Loans to TVEs Rural Household Savings Deposits

Year

Total loans (billion current yuan)

Total loans (percent increase)

Year

Household deposits (billion current yuan)

Household deposits (percent increase)

1979 2.99 1979 2.12 1980 5.30 77.3 1980 3.22 51.9 1981 6.21 17.2 1981 4.26 32.3 1982 7.34 18.2 1982 5.38 26.3 1983 8.00 9.0 1983 6.70 24.5 1984 15.77 97.1 1984 10.05 50.0 1985 18.80 19.2 1985 15.53 54.5 1986 28.79 53.1 1986 25.77 65.9 1987 35.01 21.6 1987 42.62 65.4 1988 40.77 16.5 1988 59.37 39.3 1989 42.06 3.2 1989 84.85 42.9 1990 46.22 9.9 1990 121.21 42.9 1991 49.80 7.7 1991 157.76 30.2 1992 58.25 17.0 1992 197.24 25.0 1993 77.46 33.0 1993 253.30 28.4 1994 93.84 21.1 1994 356.46 40.7 1995 110.55 17.8 1995 481.34 35.0

10

Collective Enterprises: TVEs

• Develop rural collective enterprises– Run by townships and villages

(formerly communes and production brigades)• Legacy of Great Leap Forward (walking on 2 legs)

• Use surplus labor

• Invest savings deposited in state-run banking system

• Redefine role for local officials

• Reduce tax/fee burden on farm households

11

Private enterprises

• Emergence of private enterprises – Absorb surplus labor– Use private investment resources (initially

where few state/collective resources)

12

Private Enterprises

• (1981) State Council allows individual household firms (getihu 个体户 )

• 1982 constitutional revision to recognize individual household firms

• 1987 “primary stage of socialism”• 1988 further constitutional revision and

State Council regulations for larger private firms

13

Political conflict over reform

• Elite policy conflict in lead-up to Tiananmen Square (1989)

• 1989-1991 Conservative backlash

• 1992 Deng’s Southern Tour”– People’s Daily: “Without Reform There is No

Way Out”

14

Private Enterprises: Changing Ideological Justifications

• 1992 14th Party Congress– “socialist market economy”

• 1997 15th Party Congress – Private sector “important”

• 2001 private entrepreneurs allowed in CCP

• 2004 further constitutional revision– Private sector not just permitted; encouraged

15

Increase in share of private enterprise, Songjiang County, 1994-97

Songjiang County, Shanghai

Township-run collective

Village-run collective

Private, individual, and other

Songjiang County, Shanghai

Township-run collectiveVillage-run collective

Private, Individual, and other

16

Increase in share of private enterprise, Wuxi County, 1994-97

(known as a “bastion of collectivism”)

Wuxi County, Wuxi

Township-run collective

Village-run collective

Private, Individual, and other

Wuxi County, Wuxi

Township-run collectiveVillage-run collective

Private, Individual, and other

17

Industrial Sector Reform

• gradual reform– competition for SOEs from new entry of non-

state enterprises – early reforms to increase efficiency of SOEs– no privatization initially – contrast gradual reform in China w/“shock

therapy”

18

Gradual Reform in State Industry

• competition for state sector from new entry of – Collective enterprises– Private enterprises– Foreign enterprises (stay tuned)

Early competition in profitable labor-intensive sectors: garments, toys, shoes, consumer electronics, etc.

19

SOE and Price Reform

• limit plan, expand market – dual-track price system: 1984

• Freeze plan obligations in place

• Allow sale on market of above-plan-quota output

– gradual approach to price reform• Use information from marginal prices on above-

plan-quota sales

– most prices at market levels by ~1992

20

SOE Reform

• measures to improve authority and incentives of SOE managers – factory manager responsibility system

(reduce influence of party-sec) – managerial incentives -- long-term contracts – changes in labor management

contrast w/“shock therapy”

21

22

Major challenges for continued reform

• interrelationships between• SOE reform

• tax/fiscal reform

• banking reform

23

SOE Reform

• Large share of SOEs losing money in 1990s– began selective privatization and bankruptcy for

state and collective enterprises