Yao Dawei / Xinhua News Agency / Getty Images

Political inertia stalls China’s economic reforms

The Communist Party depends on the political management of economic growth – and the selective allocation of its rewards

October 5, 2015 2:00AM ET

China’s economic picture hasn’t been looking very rosy lately. Over the summer, analysts and observers began to fret over its slowest rate of economic growth in 25 years, near 40 percent declines in stock market indexes and the desperate and decidedly nonmarket measures its government adopted with increasing alacrity as the picture darkened.

Less attention has been paid, however, to China’s larger reform agenda, especially as it affects state-owned enterprises (SOEs), the industrial behemoths — from coal mines and steelworks to textile mills and media groups — that still employ a plurality of the country’s urban workers and whose shares still constitute the mainstay of the Shanghai Stock Exchange composite index. Some, such as China Mobile (the world’s largest cellphone service provider) and PetroChina (one of the world’s biggest oil companies), are even listed on major international stock exchanges in Hong Kong and New York.

Last month on the heels of the stock turmoil, the Chinese government looked to silence critics and reassure skittish investors by announcing what it claimed would be a major new initiative to reform SOEs, which have long been criticized for being inefficient and unprofitable and for being the beneficiaries of unequal access to inefficiently allocated credit and investment. Since the announcement, the official narrative has been dominated by talk of corporate restructuring, reforms to government oversight and other new initiatives in the state sector.

But there are monumental political challenges to meaningful reform. To understand how this is playing out in the corridors of power in Beijing and on countless shop floors and factory offices around the country, we must understand the impetus for change as well as the blockades in place preventing it.

The rationale for change is obvious. China is slowly transitioning away from an export-led manufacturing economy to one driven by domestic demand, consumption and services, a move for which state-owned businesses are far from prepared. In the 1990s and early 2000s, state enterprises liberalized without being privatized, changing the ways they operated without changing their basic ownership structure. In a few short years, they laid off more than half their workers and fundamentally changed how they compensated labor, priced and sourced raw materials and marketed and sold their products. In all these areas, market forces ostensibly took the lead over politicized planning for the first time, with significant social consequences but concrete economic benefits for many firms. Since they listed their shares en masse, however, an inverse trend has taken hold over the past 15 years, one in which state firms have been at least partially privatized through the sale of their shares but have failed to keep pace with substantial new liberalization.

In fact, under an informal agenda of enticing the state to advance, while the private sector retreats, the Chinese government has given state-owned enterprises a free pass over the last decade, letting them reap vast rents and rewards while their reforms stagnated. The run up in share prices earlier this year was fueled by a government expansion of margin credit — loans by banks and other financial companies to investors for the purchase of stocks — and its explicit encouragement for new investors to buy shares. The state did this to shore up domestic demand as China’s long overinflated real estate bubble finally began to subside, but an unintended consequence was to elevate the valuations of state firms still mired in the outdated business models of two decades ago.

A Chinese government official explained to me that state-owned businesses would never be shut down or fully privatized because no Communist Party could ever completely give up ownership of the means of production.

So why are the Chinese government’s claims — that the recent stock market turmoil will invigorate SOE reform — suspect? First, the measures currently topping the agenda are focused mainly on strengthening the Communist Party’s hierarchical control of state firms. They do not include significant changes to the firms’ corporate structure or any reorientation of their basic goals. Political control, rather than market economic performance, remains the paramount objective of reform in China’s state sector.

What’s more, even if the new moves succeed in making state firms more profitable and efficient, China’s overall political economy will still be plagued by an overreliance on state-owned giants that cannot be allowed to fail and a glaring inequality of access to credit and investment. State firms and local governments continue to be lavished with more capital than they require, while private firms and individuals must look to informal, often shaky or predatory shadow banking lenders or simply forgo market opportunities. This arrangement hinders overall economic growth potential and widens the chasm that persists between elites and the masses — different tracks for those with connections or access to state patronage and for those on the outside.

The reasons for not reforming the system are simple: The Communist Party is loath to give up one of its last key levers of economic power, while entrenched interests benefit too much from the status quo to countenance genuine reform. A Chinese government official explained to me nearly 15 years ago that state-owned businesses would never be shut down or fully privatized because no Communist Party could ever completely give up ownership of the means of production.

Such logic is even more compelling in today’s China if considered separately from its philosophical underpinnings. As it enters its 67th year in power, the party needs the state-owned industrial sector to endure because it needs leverage over the Chinese economy — to make it grow when it needs it to grow and to shift when it needs it to shift to the benefit of particular regions, groups or actors. Economic growth and the management and allocation of its rewards maintain the current political order — what the party calls social stability. Fully relinquishing state firms to the market would be the equivalent of giving up of one of the state’s most powerful stability maintenance tools.

Even if the leadership were committed to radical reform, powerful elites stand in the way. State enterprise managers, central and local government officials, tycoons, bankers and hundreds of thousands of bureaucrats — all are winners in the partial-reform equilibrium in which China’s state-owned enterprise sector is trapped. All of them would lose if genuine reform were pushed through.

President Xi Jinping and his leadership team have been pretty fearless in pursuing an anti-corruption campaign during their first three years in office that has brought down former generals, Cabinet ministers and a Politburo member once responsible for the country’s internal security and law enforcement apparatus. But they need to muster much more courage to take on the powerful interests who have benefited from China’s transformation to date. For all the reformist rhetoric, it seems that for now, China’s stagnant state-owned enterprises, slower growth and sharp inequities are here to stay.

William Hurst is an associate professor of political science at Northwestern University. He is the author of “The Chinese Worker After Socialism” and a co-editor of “Laid-Off Workers in a Workers’ State: Unemployment With Chinese Characteristics.”

The views expressed in this article are the author's own and do not necessarily reflect Al Jazeera America's editorial policy.

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