Toiling in a semi-capitalist purgatory

China Economic Quarterly

(This article originally appeared in the March 15, 2004 issue of South China Morning Post in Hong Kong and is reproduced here with permission from the publisher)

Private property rights are now in China's constitution. So what? The passage, at the weekend, by the National People's Congress (NPC) of a constitutional amendment granting private property the same "sacred and inviolable" status as state-owned property, was an important symbolic step.

But it is only the beginning of a lengthy process of creating a robust private-sector economy with full legal protections. A huge amount of work remains to be done in reforming legal institutions, improving contract law, altering the financial system to enable it to finance private enterprises and - most important - to eliminate the predatory behaviour of local officials.

Extravagant claims have been made about the importance of the private sector in China's economy. Globally, ignoramuses who believe China to be a capitalist paradise now probably outnumber the (surprisingly numerous) ignoramuses who think China is still a communist inferno. In reality, China is toiling through a lengthy transitional purgatory; it is a paradise only for foreign, not domestic, capitalists.

China's domestic private sector is growing rapidly but remains fragmented, abused and subject to many structural constraints. The state sector remains dominant in most of the key parts of the economy. This is easily proved by looking at industry, which accounts for over half of gross domestic product.

It is now common to claim that "the state sector accounts for just 16 per cent of industrial production", or "more than half of industrial production is in the non-state sector". These claims are either false or misleading. They arise because China reports two sets of industrial output statistics, each with a different and rather muddy breakdown of output by ownership.

The figures for industrial value-added, which feed directly into China's GDP numbers, show that in 2002 (the latest year for which detailed numbers are available), state-owned companies accounted for 48 per cent of industrial output. This is down from 57 per cent in 1998, but not extravagantly.

Moreover, these statistics also include a category called "shareholding companies", which accounted for 15 per cent of industrial value-added in 2002, up from 3 per cent in 1998. Many analysts assume these are all non-state companies; in fact this category almost certainly includes state-controlled enterprises.

Industrial value-added statistics do not include a category for private enterprises. Therefore it is impossible to determine what percentage of industrially created GDP is generated by the private sector.

A second data set, gross industrial output, does include data on private enterprises. This shows that in 2002 private companies accounted for 12 per cent of industrial output, up from 5 per cent in 1999. Again, this is good progress but not earth-shattering.

This is the series used to support the ridiculous claim that state enterprises account for just 16 per cent of industry. The breakdown figures attribute that much industrial output to "state enterprises" in 2002. But the breakdowns also show that 31 per cent of industrial output is produced by "limited liability" and "shareholding" companies. In this breakdown, such companies are probably almost all state-controlled. Thus, again we find that state companies control at least 47 per cent of industrial output - and probably more, once effectively state-controlled collectives are taken into account.

When people talk about the non-state sector controlling vast swathes of China's economy, what they really mean is the foreign-invested sector. Such companies, including those from Hong Kong, Taiwan and Macau, accounted for 26 to 29 per cent of industrial output in 2002, and 52 per cent of exports. (Domestic private firms, by the way, accounted for 4 per cent of exports.)

But foreign companies operate according to a completely different - and much more favourable - set of legal, tax and financing rules than do domestic private firms. They do not require protection from China's constitution because they are already protected by lavish preferential policies. Don't be fooled: constitutional amendment or no, China has a long way to go before it is a safe haven for local private enterprise.