مسیری به سرمایه داری: رقابت و تغییرات نهادی در چین

Wedevelop a theory of institutional change and apply it to analyze China's transition toward capitalism. We focus on how product market competition induces institutional change through the interaction between bureaucrats and managers in regional government-controlled economies. When cross-regional competition is sufficiently intense, each region has to cut production costs. Given that the efforts of managers are not verifiable, local governments may have to grant total or partial residual shares to the managers. In general, intense product competition stimulates the rise of a private property system. We submit our theory to a vigorous empirical test using China's industrial census data of more than 400,000 firms. The test supports strongly our postulation that cross-regional competition is the driving force behind China's transition toward capitalism.J. Comp. Econom., June 2000, 28(2), pp. 269–292. City University of Hong Kong, Kowloon, Hong Kong; and Peking University, Beijing, China.

Institutional arrangements, particularly property rights, are central to incen- tives and hence to economic performance. Under the condition that information about individual attributes and actions is largely decentralized, most economists agree that private ownership is the most high-powered incentive instrument. This view is supported by the fact that more than twenty former socialist economies, with about one-third of the world population, are trying to undergo the transition to capitalism.2Yet our knowledge of institutional change is limited. How do institutions change? What factors drive efficient institutional change? In partic- ular, what are the driving forces behind the transition from government to private ownership? These questions provide both unprecedented challenges as well as opportunities for economists to study institutional change. Among the transition economies, the Chinese case is particularly intriguing. When Deng Xiaoping and his comrades began the reform in 1978, no one, including Deng himself, expected to witness a nearly double-digit annual growth rate in the subsequent two decades and the rise of a predominant non-state sector. China’s phenomenal performance is cited by some economists as an example of why privatization is not a necessary precondition for efficiency because the high growth rate in China has occurred under the dominance of public ownership (e.g., Stiglitz, 1994). Some argue that the success of township and village enterprises (TVEs), which are a form of collective ownership, challenges standard property rights theory (Weitzman and Xu, 1994; Li, 1996). However, the Chinese expe- rience is not consistent with these arguments. In the last two decades, especially since the early 1990’s, both state-owned enterprises (SOEs) and TVEs have been increasingly privatized and most newly established firms are private enterprises. In 1978, nearly four-fifths of the total industrial output in China came from SOEs. By 1997, the SOEs’ share had shrunk to slightly more than a quarter (Statistical Survey of China, 1998, p. 99). The major players behind the rise of a private ownership system are local governments at various levels (China Reform Foundation, 1997; Cao et al., 1999). Interestingly, the Chinese economic reform began with decentralization, rather than with the development of a private ownership system, and with revitalization, rather than privatization, of state firms. What are the driving forces behind the unintended and accelerating rise of a private ownership system in China? What motivates local governments to privatize the enterprises under their control and to issue licenses to newly established private firms? The work of North (1990) and Weingast (1995) provides some hints about answers to these questions. North (1990) maintains that institutions are the rulesof the game, while organizations are the players, and competition among orga- nizations is the key to institutional change. Weingast (1995), and Qian and Weingast (1997) propose that market-preserving federalism provides a good political foundation for economic development. They argue that cross-regional competition played a central role not only in the rise of England’s economic power in the eighteenth century and that of the United States in the nineteenth century but also in the rise of the Chinese economy during the last two decades. More recently, Cao et al. (1999) argue that federalism, Chinese style, has induced privatization, Chinese style. However, one issue these authors do not address, at least not formally, is how cross-regional competition stimulates the rise of a private ownership system. It is not clear whether it is in the interest of local bureaucrats to privatize. Although privatization generally makes the pie that they share with firm managers and others bigger, it also decreases the relative shares of the local bureaucrats. We develop a theory of institutional change for transition economies by characterizing it as the rise of a private ownership system. We then apply our theory to explain China’s road to capitalism. We argue that the rise of the private ownership system consists of two essential components, the privatization of existing SOEs and collective-owned enterprises (COEs) and the establishment of new private firms. For ease of exposition, we focus on how cross-regional competition in the product market triggers privatization of SOEs and COEs. However, the same logic can be applied to analyze how cross-regional competition induces the establishment of new private enterprises. In our paper, firm ownership is defined by residual claimancy. 3 Privatization is the process of shifting residual claims from the government to managers. In our model, there are two local governments and two enterprises or firms. The enterprises were formerly owned by the central government. At the initial stage of reform, the central government gave the enterprises to the local governments, with each local government owning one enterprise. After the localization, the central government still maintains the authority to set tax rates as well as to retain a share of the tax revenue, but the local government obtains the residual claim on after-tax profits and also has the right to decide whether or not to shift residual claims to management. In other words, the local government has the autonomy to decide whether or not to privatize. To simplify our analysis, we assume that the manager has all the control rights over the firm’s business, except for the rights of taxation and privatization. We further assume that the manager’s residual claim rights are welpreserved in privatized firms. Thus, when the manager holds all residual claim rights to the firm, he is the de facto owner of the firm, enjoying both residual control rights and residual claim rights. The two firms play a Bertrand–Nash price game in markets with differentiated products. The production cost is determined by the manager’s non-verifiable effort. The local government is concerned with its own total revenue, i.e., the sum of its share of tax revenues and any profit remittance, which depends on its market share and the profit margin. We show that, when competition is suffi- ciently intense in the product market, the local government will be induced to shift the residual claims to the manager. The reasoning for this is inductive. As the product market becomes more competitive, the market share, and therefore the profits, is more sensitive to production costs. In order to maintain a minimum market share for survival, the manager must be motivated to work harder. Given that verification of the manager’s effort is impossible, privatization is the only effective means by which the local government can motivate the manager. In contrast, if the central government sets the after-tax residual share or if two local governments collude perfectly to maximize their joint revenue, public ownership may prevail. We find that efficiency generally improves as a consequence of privatization

In this paper, we develop a theory of institutional change in the context of a transition economy. We show that the rise of a private ownership system occurs as a consequence of cross-regional competition. Initially the Chinese economic reforms were not intended to privatize state and collective enterprises. However, the decentralization policy triggered privatization eventually and the establish- ment of new private firms through cross-regional competition. In 1997, the Chinese Communist Party’s Fifteenth Party Congress promoted the formation of joint-stock systems and various other organizational forms to bail out the vast majority of failing SOEs; this move is widely viewed as a covert act of privatization. Formal open privatization in China has thus far not been adopted as a central government policy for ideological reasons. However, competition is far more powerful than ideology. Regardless of whether or not the central government will draw up a blueprint for full privatization, both our theory and reality show that the privatization process will continue to accelerate with its own logic and vigor. China has reached a point of no return on the road to capitalism. The Chinese experience demonstrates that the invisible hand is not only powerful in allocating resources; it is also powerful in creating institutions. Once decentralization begins, market competition may precipitate a self-enforcing development of a private ownership system. The newly founded and privatized firms intensify, in turn, market competition. This is the major lesson that other transition and emerging economies may draw from China’s experience. Nevertheless, the emergence of a private ownership system requires a sound legal system to protect property rights. In particular, de facto ownership by managers must eventually become de jure private ownership. Commercial laws are also needed to enforce contracts between enterprises. Although China enacted the General Principles of Civil Law in 1986, the Law of Civil Litigation in 1991, and the Contract Law in 1999, and many other laws since these, there are two major problems in its current commercial law system. First, there are no clear and detailed rules to protect private property. To facilitate efficient private invest- ments, detailed civil codes and procedures are needed to protect private property under different contingencies. Second, cross-regional commercial disputes are settled in local courts that are virtually controlled by local governments, in that the local governments provide the courts with both financial and personnel resources. To mitigate local protectionism and to facilitate interregional compe- tition, local courts must become independent of local government control or major cross-regional commercial disputes must be settled by higher-level courts, whose jurisdiction is common to the regions. We are only beginning to understand the driving forces behind institutional change, in general, and the rise of private ownership systems, in particular. Much work remains to be done. Although we have demonstrated how decentralization can promote the development of a private ownership system through competi- tion, we do not yet have a theory to explain what drives decentralization, nor do we have a theory to explain how de facto property rights evolve into de jure property rights. Exploration of these topics will enhance our understanding of institutional change. This study provides a foundation on which to base such endeavors.