People’s Republic of China: Selected Issues
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International Monetary Fund
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Publication Date:
08 Sep 1997
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9781451807783
Language:
English
Keywords:
ISCR; CR; People's Bank of China; bank; government; enterprise; loan; enterprise group; state council; limited liability; small state; majority shareholder; Public sector; Employment; Industrial sector; lie idle
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This Selected Issues paper analyzes state-owned enterprise (SOE) development and reform in China. The paper discusses the role of state ownership in the Chinese economy, providing a “snapshot” of key features of the state sector, and a review of the growth, efficiency, and profitability of SOEs. The paper argues that economic performance in SOEs has declined in the last few years as evidenced by falling profitability, increasing losses, growing industrial inventories, and low rates of capacity utilization in some sectors. The paper also examines banking sector development and policy issues in China.

Abstract

This Selected Issues paper analyzes state-owned enterprise (SOE) development and reform in China. The paper discusses the role of state ownership in the Chinese economy, providing a “snapshot” of key features of the state sector, and a review of the growth, efficiency, and profitability of SOEs. The paper argues that economic performance in SOEs has declined in the last few years as evidenced by falling profitability, increasing losses, growing industrial inventories, and low rates of capacity utilization in some sectors. The paper also examines banking sector development and policy issues in China.

I. State-Owned Enterprise (SOE) Developments and Reform1

A. Introduction

1. The purpose of this chapter is to summarize recent developments in China’s SOEs, as well reform initiatives and issues. Sections B and C, together with Annex I, discuss the role of state ownership in the Chinese economy, providing a “snapshot” of key features of the state sector, and a review of the growth, efficiency and profitability of state-owned enterprises. The remaining sections (D through J) provide a summary of recent progress in SOE reform. Conclusions are provided in section K.

2. The chapter argues that economic performance in SOEs has declined in the last few years; as evidenced by falling profitability, increasing losses, growing industrial inventories and very low rates of capacity utilization in some sectors. One of the primary reasons has been the dynamic growth of the nonstate sector, which has resulted in greater competition with state enterprises in many industries and exposed the inefficient use of resources in parts of the state-owned economy.

3. Reflecting these developments, there has been an acceleration in SOE reforms during the past two years, particularly in the areas of small enterprise ownership reform and the de facto closing of many loss-making enterprises and release of redundant workers. On the other hand, progress in more difficult areas, such as formal bankruptcies and liquidation, reducing the outstanding stock of state enterprise debt, and changing the ownership structure of medium and large SOEs, has been slower.

B. Role of SOEs in the Chinese Economy

4. Summary figures for state ownership in China are given in Table I.1.2 The broadest aggregate covering state-owned entities is “state-owned units” (SOUs), which includes government agencies as well as SOEs and state administrative organizations in all sectors. The latest available data show that SOUs numbered around 1.4 million at end-1993. Within SOUs, SOEs refer to production centers in agriculture, industry and construction, as well as service sectors such as transportation, communications, trade and financial services. State entities in other services sectors (social services, health care, education and culture, scientific research as well as government agencies) are considered “state administrative institutions.”3

Table I.1.

China: State-Owned Enterprises: Basic Indicators

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Source: State Statistics Bureau, State Asset Management Bureau and IMF staff estimates

Staff estimates

Excluding government employment as well as employment in social, cultural, medical and scientific activity

5. At end-1995, there were over 300,000 state-owned enterprises in the Chinese economy. Total employment in SOEs was 80 million at end–1995, or 13 percent of the economically active population. In the aggregate, SOEs accounted for an estimated one-third of China’s gross domestic product.4 The state enterprise sector also plays a key role in fiscal operations, contributing around 70 percent of general government budget revenue in 1995.

6. In addition to their core products or services, most medium and large state enterprises—as well as many small SOEs—provide an extensive range of social services, such as housing, education and medical facilities, which have posed a significant burden on enterprise finances.5 While exact figures are not available, the cost of providing such services has been estimated to comprise almost half of the total wage bill for many enterprises (with housing alone costing as much as 40 percent). At end-1995, industrial SOEs with independent accounting systems employed nearly 1.5 million workers, or 4 percent of their total workforce, in such “non-productive” activities; the share of total SOE assets used in “nonproductive” uses may be as high as 15–20 percent. Another social “service” provided by SOEs is the retention of excess labor; of total SOE employment of 80 million, estimates of “redundant” labor (including labor which has in fact been laid off) run as high as 20 million, or one-fourth of the workforce. This not only lowers production efficiency and raises costs, but also saddles SOEs with relatively high unfunded pension liabilities.6

The following is an overview of state ownership by sector:

Agriculture

7. The role of state-owned production units is relative minor in agriculture, being confined primarily to state-run farms. At end-1995, these numbered around 2,000, employed roughly 5 million workers and produced gross output of some Y 58 billion, or 2.8 percent of total agricultural output. Including another 1 million state workers outside of state farms, in 1995 state employment in agriculture was only 1.9 percent of the total agricultural workforce.

Industry and construction

8. Table I.2 provides indicators on state ownership in the industrial sector. At end-1995, the 118,000 industrial SOEs, included about 4,700 “large” enterprises and 11,000 “medium” enterprises with independent accounting systems.7 Of the total, 7,300 are administered by the central government, with the remaining 110,000 administered by provincial and local governments. Industrial SOEs account for an estimated one-half of total value added of stateowned enterprises, and fixed assets of industrial SOEs make up nearly two-thirds of total SOE assets.8

Table I.2.

China: State-Owned Industrial Enterprises: Key Indicators, 1985-96

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Sources: State Statistical Bureau; and staff estimates.

Figures for state-owned enterprises compiled by the State Statistical Bureau reflect different aggretation methodology than that used by the State Asset Management Bureau (Table I.1).

For enterprises at the township level and above with independent accounting systems.

Gross output figures for 1995 and 1996 are adjusted upward for consistency with previous years’ data.

Staff estimates.

Figures for value added are reported in constant-price terms; the nominal figures shown here are adjusted by the industrial GDP deflator

9. On average, industrial SOEs are larger than their nonstate counterparts. While making up only 1.6 percent of the total number of industrial enterprises, they accounted for one-third of industrial employment, gross industrial output and industrial value added (Table I.2). Among independent industrial enterprises at the township level and above, SOEs accounted for roughly half of employment, gross output and value added, and two-thirds of fixed assets.9

10. As the above figures indicate, industrial SOEs are more capital-intensive than enterprises in the nonstate sector. An examination of the sectoral breakdown of state ownership within industry (Table I.3) shows that SOEs are relatively concentrated in heavy industrial and industrial inputs sectors, while nonstate ownership predominates in light industry and finished goods manufacturing. For example, at end-1995, SOEs accounted for over three-fourths of the value of gross output in petroleum and natural gas extraction and processing, coal mining and processing, and electric power production, and over half of the value of gross output in metals mining and smelting, raw chemical processing and transportation equipment. Meanwhile, the lowest shares of SOE output were recorded in sectors such as finished garments, furniture, electronics and plastics products.10 Overall, SOEs accounted for 56 percent of heavy industrial production, compared to 35 percent of light industrial production.11

Table I.3.

China: State-Owned Industrial Enterprises by Sector 1/ 2/

(In billions of yuan)

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Source: State Statistical Bureau.

Data for enterprises at the township level and above with independent accounting system for 1995.

Gross output figures in the table differ form those in Table I.2 due to the fact that sectoral gross ouptut is reported net of VAT for 1995.

11. The regional distribution of state-owned industrial enterprises is shown in Table I.4. The highest concentration of SOEs (according to shares in gross output) is in the relatively poor inland provinces, as well as the northern “big three” industrial provinces (Liaoning, Jilin and Heilongjiang). Meanwhile, the four most developed coastal provinces (Jiangsu, Guangdong, Zhejiang and Fujian) have SOE shares of less than 30 percent of total industrial output.

Table I.4.

China: SOE Industrial Concentration by Region, 1995

(In billions of yuan) 1/

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Source: State Statistical Bureau

Data for enterprises at the township level and above with independent accounting systems.

12. In the construction sector, state-owned construction enterprises numbered approximately 7,500 at end-1995, or 8 percent of the total number of construction units. These enterprises employed one-third of the total construction workforce and accounted for one-fourth of total value added. Among formal construction enterprises, construction SOEs accounted for half the work force, two-thirds of gross output and value added, and three-fourths of recorded fixed assets.

Services

13. At end-1993, there were 189,300 SOEs in the services sector, comprising some 30 percent of total SOE assets, and accounting for an estimated 40–50 percent of value added in services (including value added from state-owned administrative institutions). State enterprise employment in services was 22 million at end-1995, or 32 percent of total employment in “productive” services sectors; SOEs accounted for 35 percent of employment in transport and communications, 25 percent in wholesale and retail trade, and 74 percent in financial services and real estate activities.

14. While data on total output and assets in services sectors are not available, these shares are likely to be higher than the corresponding employment figures. For example, SOEs account for 80 percent of total assets of highway, waterway and ports enterprises, and a similar share of assets in railways, aviation and telecommunications. In wholesale trade, SOEs accounted for over half the total sales value in 1995.

C. Economic Performance of State Enterprises

15. The economic performance of the state-owned sector in China has been the focus of much attention. Since the beginning of China’s economic reforms in the late 1970s, output growth in nonstate enterprises has been much more rapid than SOEs. While the relative dynamism of the nonstate sector has reflected greater efficiency in production, it is not clear whether SOEs have served as positive contributors to the economy or a net drag on resources and growth. Closely tied to this issue is the question of whether SOE inefficiency is the result of state ownership and the planning process per se or other factors such as the current sectoral structure of state production or inherited debt and social welfare burdens.

16. Entering into 1997, these issues have been given increased urgency by what is considered to be a very poor performance in the last two years. Reported net profits of industrial SOEs fell in 1995 and again in 1996, while nominal losses (together with the number of enterprises reporting losses) also increased in both years. Capacity utilization in certain industrial sectors has fallen to extremely low levels, and industrial inventories are estimated to have risen sharply. Meanwhile, there have been large increases in reported layoffs, as well as accumulating wage arrears.

Efficiency and growth

17. Time-series data on the share of the state-owned sector in the Chinese economy are given in Table I.5. The data imply rapid growth in nonstate production, and much more moderate rates of increase in SOEs; between 1985 and 1995, the share of total value added generated by SOEs (excluding state administrative institutions) decreased by about 13 percentage points, from 43 percent in 1985 to close to 30 percent in 1995. At the same time, SOEs accounted for rather higher shares of total input accumulation, as the changes in relative shares of capital and labor inputs were not as marked; the state enterprise share of fixed assets decreased by only 8 percentage points over the same period, and the share in total employment did not change very much.

Table I.5.

China: State Enterprises: Growth Indicators, 1985-95

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Sources: State Statistical Bureau; and staff estimates.

Staff estimates.

Data for enterprises at the township level and above with independent accounting systems; in billions of yuan.

Real growth rates of fixed assets were calculated using the implicit GDP deflator.

18. More detailed data are available for the industrial sector. The annual real growth of industrial output for state and nonstate enterprises is also shown in Table I.5. The table confirms that growth rates in the state-owned industrial sector have been consistently lower than other ownership forms. Between 1990 and 1995, real SOE industrial output grew at an average annual rate of 7 percent, while output in nonstate enterprises grew at over 30 percent in real terms (similar rates were recorded for the growth of value-added). Reflecting these trends, the share of SOEs in total industrial output declined from over 65 percent in 1985 to under 35 percent in 1995—while the share in industrial employment fell only from 44 percent to 37 percent.

19. For industrial enterprises with independent accounting systems, the state-owned sector also grew on average by 7 percent in real terms between 1990 and 1995, while nonstate output increased by nearly 30 percent per year. As regards input growth, SOE employment did not increase by very much, while state-owned fixed assets grew by around 9 percent in real terms; at the same time, nonstate firms increased employment by 4 percent per year and their real capital stock by 24 percent.

20. In sum, the data suggest that the nonstate sector has outperformed SOEs in terms of both growth and efficiency. There are two caveats with regard to the evidence on growth, however: first, there are a number of difficulties with the data which tend to understate the growth of inputs in the nonstate industrial sector and overstate input growth in industrial SOEs. For example, agricultural employment figures are thought to include a growing proportion of persons actually engaged in (primarily nonstate) industrial and services activities. Moreover, the reportedly widespread practice of “asset stripping”, or informally transferring state assets to nonstate enterprises, is not adequately reflected in the statistics. There have also been significant informal labor flows out of SOEs, as enterprises which have stopped production, but not yet undergone bankruptcy, may keep workers on their books despite the fact that they have left for nonstate employment. In addition, it is not clear whether fixed-asset investment in smaller nonstate enterprises is adequately captured in official aggregate investment data.

21. Second, the relatively strong performance of nonstate enterprises does not necessarily mean that state enterprises performed poorly or “inefficiently” in an absolute sense. In particular, given that the real growth rate of industrial SOEs’ output lies between that of their (official) labor and capital inputs, it is difficult to determine a priori whether SOEs have experienced negative rates of total factor productivity growth.12

Profitability

22. Comprehensive data on enterprise profits by sector are not available on a time-series basis. However, end-1993 data compiled by the State Asset Management Bureau suggests that SOEs were profitable on the whole, were with net after-tax profits in all sectors totaling almost Y 200 billion, or 6 percent of GDP. At the same time, however, roughly 40 percent of the 280,000 SOEs then extant were loss-making, with gross losses reaching some Y 90 billion. Most of the loss-making enterprises were located in services sectors; however, while only one-fourth of industrial SOEs recorded losses, gross losses of industrial SOEs accounted for one-half of the total.

23. More detailed data on profits and losses over time are available for industrial enterprises with independent accounting systems (Table I.6). There has been a steady decline in both net pre- and after-tax profitability of industrial SOEs as a percentage of gross output since 1993; the decline in net profitability has primarily reflected decreasing gross after-tax profits, as there has only been minimal upward movement in reported losses as a percentage of output.

Table I.6.

China: Indicators of Industrial Profitability, 1985-1996 1/

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Sources: State Statistical Bureau; and staff estimates.

Data for enterprises at the township level and above with independent accounting systems.

24. An examination of Table I.6 yields a number of important additional findings. First, and most notably, nonstate enterprises have also performed poorly in recent years, with both state and nonstate enterprises recording declines of over two percentage points in after-tax profits between 1993 and 1996.

25. Second, recorded declines in both SOE and nonstate pre-tax profitability have been rather larger than those in after-tax profits; the slower decline in net after-tax profits reflects a falling relative tax burden.

26. Third, declining pre-tax profitability contrasts strongly with the stable trend in the gross margin between output and production costs, which suggests the influence of indirect taxes and charges against earnings rather than a worsening of “underlying” economic fundamentals (factors which affect this gap are discussed in Annex I).

27. Fourth, the tax burden of state-owned enterprises is twice as high as that of non-state enterprises; thus, while SOE pre-tax profits were more than 8 percent of output compared to 6 percent for the nonstate sector, after-tax profits of SOEs were only 1 percent compared to over 2 percent for nonstate enterprises.

28. Finally, regardless of ownership type, the figures for after-tax profits and gross losses represent a very small percentage of gross output, so that small changes in the economic environment can give rise to very large fluctuations in reported profitability.

29. At the time, there have been significant differences in performance in individual sectors and enterprises, as can be seen from Tables I.7 and I.8, which provide data for pre- and after-tax profits of individual industrial sectors in 1990 and 1995. The tables show that SOE losses in 1995 were concentrated in small and medium-size enterprises; large SOEs were the only group to maintain after-tax profits roughly in line with their share of gross output.

Table I.7.

China: SOE Industrial Enterprise Profits by Sector, 1990 1/

(In millions of yuan)

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Source: State Statistical Bureau.

Data for enterprises and the township and above level with independent accounting systems.

Ratio of SOE after-tax profits to gross output.

Table I.8.

China: SOE Industrial Enterprise Profits by Sector, 1995 1/

(In millions of yuan)

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Source: State Statistical Bureau.

Data for enterprises and the township and above level with independent accounting systems.

Ratio of SOE after-tax profits to gross output; these figures differ from those in Table I.6 due to the act that sector gross output is reported net of VAT.

30. Moreover, with the exception of gas production and some mining sectors, SOE losses in 1995 were concentrated in final—and mostly consumer—goods production; particularly notable are the large losses recorded in state-owned textile factories and to a lesser extent in other garments sectors.13 This situation is in sharp contrast with that of a few years ago, which can be seen from the 1990 sectoral data shown in Table I.7. In 1990, by far the largest loss-makers were the coal and oil industries, with most consumer industries performing relatively well.

31. Some of the divergence between state and nonstate enterprises in 1995 is due to a differential tax burden. The after-tax profits of small and medium SOEs differ strongly from that of nonstate counterparts, while small and medium SOEs’ share of reported pre-tax profits is almost exactly in line with their shares in total production (Table I.7). Broadly speaking, the same is the case for individual industrial sectors, with the possible exception of gas production, food processing and textiles—and even here, the magnitude of reported losses seems to be due to the SOE tax wedge.14 This situation is also in contrast to that in 1990 (Table I.7), when SOE shares in pre- and after-tax profits were much more similar.

32. There are apparently also big differences in profitability at the level of individual enterprises, as the sum of sectoral SOE losses in Table I.7 is little more than one-tenth the size of reported total gross losses. This implies that within sectors, some enterprises are doing very well while others are performing quite poorly.

33. A final point is that the recorded profitability figures likely understate the magnitude of the “shocks” to SOEs’ operating environment in recent years. Although detailed time series are not available, there are indications that, rather than simply accumulate losses, a growing number of state enterprises are adjusting to economic pressures—as evidenced by partial and full layoffs (and wage arrears) as well as declines in capacity utilization. On the other hand, as discussed below, the adjustment process has for the most part stopped short of full and formal enterprise liquidation. A more detailed examination of factors affecting state enterprise profitability is provided in Annex I.

Capacity utilization

34. Sectoral differences in economic performance are also highlighted by capacity utilization data, as shown for selected industries in Table I.9. The table reinforces the findings of the previous section, i.e., that industrial input and heavy industrial sectors seem to be performing quite well favorably, while final goods industries are relatively worse off. Of sectors with capacity utilization of 60 percent or less, most (e.g., film, air conditioners, televisions, washing machines, bicycles, etc.) produce final consumer goods (the table does not include the textiles and garments industries; recent press reports suggest that capacity utilization in these sectors is significantly less than 50 percent).15

Table I.9.

China: Industrial Capacity Utilization, 1995 1/

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Source: State Statistical Bureau.

Data for enterprises at the township level and above with independent accounting systems.

Enterprise indebtedness

35. In addition to issues of current profitability, recent discussion of SOE economic conditions—and a number of nationwide reform initiatives—has also centered on the accumulated indebtedness of SOEs. Table I.10 implies that, at end-1995, the ratio of debt liabilities (primarily to banks) to overall assets stood at over 70 percent for state enterprises. The accumulation of bank debt over the past 15 years has reflected both the shifting of financing from budgetary support, and “quasi-fiscal” direct transfers between enterprises, to intermediation through the banking system, as well as the lack of significant alternative financing sources such as equity and bond markets.

Table I.10.

China: Industrial Enterprises’ Asset and Liability Indicators by Sector, 1995 1/

(In billions of yuan)

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Source: State Statistical Bureau.

Data for enterprises at the township level and above with independent accounting systems.

Gross output figures in this table differ from those in Table I.2 due to the fact that sectoral gains output is reported net of VAT for 1995.

36. Figures for industrial enterprises show that for industrial SOEs, the debt to asset ratio was also roughly 70 percent, with a slightly lower figure for the subset of industrial SOEs with independent accounting systems. Tables I.10 and I.11 imply that indebtedness is relatively higher in light industry, and in medium and small enterprises, while larger enterprises in heavy industry recorded lower debt to asset ratios.

Table I.11.

China: SOE Assets and Liabilities, 1985-96 1/

(In billions of yuan)

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Sources: State Asset Management Bureau and State Statistical Bureau.

Including both fixed and liquid assets, liquid and long-term liabilities.

Staff estimates.

37. Looking at the sectoral pattern of enterprise indebtedness, it is difficult to draw clear conclusions, as some loss-making industries in 1995 (such as textiles) have relatively high debt to asset ratios, while others (for example garments) do not. This is likely due in part to the fact that sectoral performance has varied significantly during the last decade, and may also reflect differences in profitability between enterprises within sectors.

38. A concern of policymakers with regard to enterprise debt is the corresponding burden of interest payments. As shown at the bottom of Table I.11, estimated interest due as a percentage of industrial output has indeed risen, from 10 percent in 1993 to over 12 percent in 1995, before declining somewhat in 1996 as a result of interest rate reductions.

39. Another indicator of SOE performance is interenterprise debt. The accumulated stock of receivables between enterprises has risen steadily in the 1990s, by roughly Y 100 billion per year to a level of over Y 920 billion outstanding at the end of 1996 (this figure is for receivables of SOEs in all sectors; there are no available figures for corresponding receivables of non-state enterprises). Growing indebtedness has been noted as an indicator of SOE weakness, and in particular as a sign of overly tight credit policies. However, the figures do not necessarily support this view. First, the data are for overall receivables rather than for overdue arrears (no data for the latter are available). Second, the average level of debt during 1996 was equal to roughly 13 percent of GDP, and a much lower percentage of gross output—figures which are low compared to the level of enterprise credit in developed countries. Third, the nominal growth of interenterprise debt during the last three years has been lower than that of GDP, implying that the ratio of debt to GDP has declined.

Labor adjustment

40. As noted, there is evidence that poorly performing state-owned enterprises are increasingly adjusting through reductions in output and employment rather than through automatic fiscal and quasi-fiscal subsidization; data on capacity utilization are particularly revealing in this regard. Figures for labor force movements are not as readily available, as reductions in state enterprises tend to take the form of informal “lay-offs” rather than formal separation, as the latter is administratively difficult and often involves bankruptcy proceedings. Thus, labor will often work reduced shifts on partial or no wages, be sent on “holiday leave”, or simply go off to formal or informal employment in the non-state sector while remaining on the books of the state enterprise in question.

41. Statements from the Ministry of Labor suggest that more than seven million employees had left state industrial, service and construction firms by the end of 1995, with additional lay-offs of some three million during 1996 (apparently concentrated in manufacturing and construction, as well as in sectors such as mining and drilling); up to five million more were still nominally at work but receiving partial or no wages. As noted above, the estimated additional “latent” labor redundancy in state-owned enterprises may include another 10 million workers.

D. SOE Reform Programs and Policies

42. Assessing China’s SOE reforms is very difficult. Although general directions have become clearer over time, the current SOE reform “package” is still not all-encompassing, but rather an evolving patchwork of pilot schemes with varying emphases. In part, this reflects the fact that policies toward SOEs have generally arisen as a compromise between competing points of view (since the early 1990s, between those who advocate a strong majority role for state ownership—albeit with reduced implicit subsidies and greater incentives for efficiency—and continued state guidance in resource allocation, and those who foresee a reduction in the size of the state economy to a necessary minimum, with emphasis on the flexibility of the nonstate sector and liberalized market mechanisms).

43. A major part of the current reform strategy has also been to devolve economic responsibility and decision-making authority to the localities. As a result, approaches to reform have varied depending on each pilot region’s particular economic conditions, and there is only sparse aggregate information on local reform efforts, making it difficult to assess developments beyond a few central programs—and difficult to define clear indicators of progress or “success.”

44. Despite these difficulties, the following sections attempt to provide an assessment of recent developments. As will be shown below, there is increased momentum in virtually every area; at the same time, reform progress continues to be uneven, with greater success in small enterprise reform and labor adjustment, while a number of issues surrounding larger enterprises remain unresolved. Looking ahead, stronger reform and revitalization efforts have been identified as a top priority for economic policy in 1997, as success in stabilizing the economy at a high rate of growth has turned greater attention to SOE issues.16

Main elements of SOE reform

45. The fundamental parameters of recent state enterprise reform were laid out at the Third Plenum of the 14th Party Congress in November 1993; a detailed discussion of the resulting programs and policies, as well as early experience with their implementation, was included in People’s Republic of China—Selected Issues (SM/96/67, 3/26/96, Supplement 1). The broad strategy articulated in late 1993 and 1994 contains the following elements:

(1) the introduction of corporate governance (or the “modern enterprise system”), including incorporation under the Company Law, the clear separation of ownership from management and granting enterprises a list of “autonomous rights”;

(2) hardening of enterprises’ budget constraints through the reduction of fiscal subsidies, liberalization of prices and shifting bank credit to commercial terms;

(3) removal of social welfare functions, such as hospitals, schools, pension and unemployment liabilities, from enterprises’ balance sheets, as well as steps to reduce excess labor;

(4) recapitalization of accumulated enterprise debts;

(5) the provision of new financing for technical upgrading, improvement and expansion; and

(6) changes in enterprise ownership by sales, mergers, leasing, contracting, joint stock participation or, if necessary, liquidation and bankruptcy proceedings;

46. The “end goal” of the current reform strategy is an economy in which larger enterprises in “key” economic sectors are under state control and the remainder are either in another form of public ownership (see below) or nonpublicly owned. Both state and nonstate enterprises are to have independent management and are to operate according to market principles, although it is expected that some state sectors will benefit from natural oligopolies or barriers to nonstate entry. With a few exceptions, the state sector is expected to be profitable and to attract resources on a competitive basis, with little recourse to fiscal subsidies.

47. The emphasis on large enterprises and key sectors constitutes a substantial shift in SOE reform strategy. In contrast to earlier reform initiatives, which were aimed at improving the performance of the entire body of state enterprises, the current strategy emphasizes “downsizing” the overall scope of state activity while “concentrating” state resources and attention to those areas that can feasibly be under central control; where there is a perceived social need for state management (such as natural monopolies), where state intervention can exploit economies of scale; or where resource allocation represents a national development priority. The strategy is also based on the assessment that smaller enterprises have a disproportionately high share of losses and indebtedness.

48. Thus, the guiding principle determining how the various reform elements are applied to specific enterprises is to “seize the big and release the small” Smaller enterprises are encouraged to leave the state-owned fold, and, in accordance with (2) and (6) above; these enterprises have been handed over more or less completely to the localities for restructuring in ways the local authorities see fit. They are not to receive centralized financing for current working losses or new investment; where needed, however, elements (3) and (4) can be applied. Meanwhile, selected larger enterprises are to be kept as wholly or primarily state-owned; they are to be corporatized in line with (1) above, and “revitalized” according to (3), (4) and (5). Moreover, the state is actively engaged in making large enterprises “larger,” as a key part of the reform strategy is the fostering of large enterprise groups and holding companies along industry lines. In addition to promoting economies of scale and industry “rationalization,” this is thought to have the advantage of reducing the number of agents to be managed by the center. (The role of local governments in state enterprise management will apparently be phased out to a large extent, as it is felt that local autonomy over state assets has led to unnecessary duplication of projects and irrational production structures.)

Pilot programs

49. Not all enterprises have been included in reform efforts from the beginning; rather, reforms have been concentrated in a number of diverse pilot programs, of which there have been several in recent years. The most prominent of these are the following, which have been adopted by the State Council.

50. One-hundred-enterprise project to adopt a modern enterprise system. This comprehensive experiment involves 100 large and medium enterprises in 50 cities chosen by the State Council, as well as nearly 2,600 enterprises targeted by local governments. The primary aim is to convert these enterprises into corporate entities with strengthened management; at the same time, many of the other elements listed above are to be carried out, including the reduction of debt-asset ratios and excess labor burdens, the provision of funds for technical upgrading and the restructuring of social welfare obligations.

51. Enterprise restructuring and recapitalization in 58 pilot cities. This program, managed by city governments and involving enterprises chosen by them, includes both specific measures to lower debt-asset ratios as well as a general framework for enterprise restructuring. The former include a standard profit tax credit (reducing the tax rate from 33 percent to 15 percent), additional scope for local tax credits and exemptions, and accelerated annual depreciation deductions, all to be used for enterprise recapitalization. Restructuring measures include enterprise mergers, the creation of stockholding cooperatives and bankruptcies—which can only be carried out in pilot cities—as well as the divestment of hospitals, schools and other “nonproductive” social assets.

52. “Seizing” 1,000 large enterprises. In the current Five-Year Plan, the State Council has chosen to focus on 1,000 of the largest centrally administered state enterprises, which are considered to form the “main core” of the national economy (many are in key industries, such as shipping, petrochemicals and automobile production). These enterprises account for a significant portion of SOE assets and output. The primary aim is the revitalization of these enterprises through the provision of new financing both through traditional bank loans—now to be channeled through a “principal bank” system—and raising equity capital through stock issuance; the separation of government and social functions; and the provision of autonomous rights (including foreign trading rights).

53. The formation of 57 enterprise groups. This initiative predates the 14th Party Congress, but has been integrated into the subsequent reform framework. Enterprise groups are foreseen as large holding companies which will help achieve economies of scale in a number of industries, and play an instrumental role in the restructuring and corporatization of other enterprises (especially given the authorities’ preference for mergers over bankruptcies). Measures in this program are similar to those in the 100-enterprise program, with the addition of broader autonomy in trade and financing, and direct administration by the State Planning Commission.

54. This list is by no means exhaustive, as many localities have introduced their own reform initiatives, particularly in the context of the pilot cities project. In addition, there are a number of ongoing projects which preceded the State Council’s 1993–94 reform program, such as the 41-city “comprehensive reform’ experiment and the “stockholding system” project, both managed by the State Commission for the Reform of Economic Systems (SCRES). There have also been a number of State Council programs aimed at increasing the effectiveness of the current state asset management system, such as the “10,000 enterprise” project to carry out asset audits and the “1,000 enterprise” program to create enterprise supervisory boards.

Obstacles in the reform process

55. During the National People’s Congress in March 1997, the government announced increases in the scope of the major programs: the number of pilot cities has been increased from 58 to 110; there will now be 120 large enterprise groups compared to 57 last year; of the 1,000 large enterprises identified by the State Council, an additional 212 will join the “principal bank” system. Moreover, small enterprise reform has been judged a widespread success, with the majority of small SOEs undergoing restructuring.

56. An equally important measure of progress, however, is the success in overcoming a number of internal obstacles in the reform process. The first set of obstacles are policy-related; of these, the most traditional and fundamental has been the primary role of the state in every sector, and resistance to the idea of state assets being transferred even partially into nonstate ownership. As stated above, the boldest strides have been made with small enterprises, which from the outset of the 1993-94 reforms were earmarked to leave the state sector. At the same time, it was intended that the majority of these would become “internal” shareholding cooperatives, with assets owned by the enterprise workforce as a group. This is because these are considered to be a form of public rather than private ownership (this has in fact been the case, as suggested below).

57. The debate on the role of the state has especially affected larger enterprise reform. While there exists a “positive list” of enterprises to be “seized” to form the core of the state economy (e.g., the 1,000 enterprises identified by the State Council in the Ninth Five-Year Plan, and the 100 enterprises under the “modern enterprise” program), there has, however, not been a clear statement regarding the remaining medium and large enterprises (numbering over 10,000), which do not enjoy the same freedom to restructure as small enterprises. Views on the future of these enterprises vary. One view is that they will be fostered by regional and local governments. However, while many enterprises have in fact been targeted by localities for support, the most favorable policies, such as privileged access to credit, foreign trade rights and permission to publicly offer equity and debt instruments, are granted by the center. Another view is that they will indirectly become part of the state “core” as they are absorbed by state-supported enterprise groups or holding companies. Still others foresee these enterprises’ assets leaving the state sector through the creation of joint ventures or more informal restructuring means.

58. In the event, these issues may become less relevant over time, as the terms of the debate over the “core” itself are now shifting in favor of greater liberalization and nonstate participation. There is a growing perceived contradiction between exclusive state ownership of key industries and fostering rapid development in these industries, with the result that many sectors previously considered closed have been opened to some extent for domestic nonstate and foreign investment (for example, aviation, railways, power, financial services and various high-tech industries).

59. SOE reforms have also been hampered somewhat by the chosen mix of regional and central responsibilities. While localities have been quick to act when their interests are furthered—e.g. fostering nonstate and foreign-led economic development and rapid restructuring of smaller state enterprises—they have been reluctant to undertake reforms which carry potentially heavy local costs. Thus, separation of nonproductive resources such as excess labor or social welfare units has been slow while localities seek funds. Moreover, for sectors with overcapacity, there is always the hope that a wait- and-see strategy will pay off if other regions close enterprises first. Finally, in the case of larger enterprises, leaving the state sector entails a loss of effective control and with it the ability to extract resources (for this reason, regions are also reportedly resisting initiatives to create nation-wide state-owned industrial conglomerates).

60. As reforms gain momentum, they have quickly encountered a second set of obstacles already alluded to above, which can be summarized as the scarcity of economic resources. Principal among these are scarce fiscal resources, which are needed to separate social welfare spending, write off or restructure debts and provide support for unemployed workers. As a result, many enterprises are waiting to undergo bankruptcy proceedings, as banks are not able to finance debt restructuring and alternative employment opportunities are difficult to find (this has been less of a factor in the more dynamic coastal regions). A related problem is the lack of alternatives to traditional financing, as access to equity and bond markets is still limited to a select few (mostly larger state-owned participants in the above programs), while formal lending through the banking system is focused primarily on SOEs. This helps explain the emphasis placed on enterprise mergers as well as on large enterprises groups, as these are seen as a relatively low-cost means to internalize weak balance sheets and provide cross-financing.

61. As discussed below, the government has for the time responded with measures to alleviate these constraints. Regarding bankruptcies, the central government has increased the size of the state debt provisioning fund to Y 30 billion and local governments are actively creating re-employment training centers and other programs to promote labor mobility. Underlining these steps is a growing consensus that layoffs and unemployment are unavoidable, given the evident weakness of the state-owned sector. On the financing side, the government is slowly increasing access to stock and bond markets, and nonstate financial institutions, albeit still relatively small, are playing an increasing role in the economy.

E. Introduction of Corporate Governance Mechanisms

62. The traditional system of state-owned property management has proven problematic. There is no clear structure of ownership, and little separation between ownership and management functions; as a result, SOEs encounter political interference in their decision making. Most major decisions are undertaken in coordination with various agencies rather than solely on the basis of market criteria. Thus, for example, production decisions are coordinated with line ministries; capital construction and technical renovation investment is approved by central and local planning agencies; tax payments and profit transfers may still be negotiated with the Ministry of Finance as well as the local authorities; employment decisions are made in consultation with the Ministry of Labor. Moreover, broad “ownership by the people” does not easily allow for outside investment or fund-raising; in the case of foreign investment, for example, SOEs are generally required to set up joint-venture subsidiaries in order to attract capital.

63. To address these problems, the reform strategy entails the adoption of a “modern enterprise system,” to clarify ownership, separate ownership from management functions, and thus give incentives for the efficient operation of enterprises. Broadly speaking, the main elements are (i) clarification of the overall management of state assets; (ii) corporatization according to the Company Law passed in 1994; and (iii) the devolution of commercial decision-making authority from government agencies to enterprises.

Clarification of state-asset management

64. One original reform initiative was to formally transfer control of state enterprises to a state asset management administration; this administration, in turn, would oversee state-authorized investment and holding agents, which would be the actual “investors” in state-owned enterprises according to the Company law (such agents can include ministries and bureaus, holding companies, trust and investment companies, enterprise groups, etc). However, while a State Asset Management Bureau has been created, the State Council has chosen not to invest it with overall management functions; thus, management oversight continues to be carried out by various ministries, agencies and local governments, as before (although a few localities—most notably Shanghai—have created local asset management committees to perform this function).

Corporatization under the Company Law

65. With regard to corporate structure, the law provides for three broad types of incorporation: “standard” (multiple-ownership) limited liability corporations, limited liability joint-stock companies, and “wholly state-owned” limited liability corporations. Each of these corporate types is to have a board of directors representing ownership interests, a board of supervisors and a general manager responsible for day-to-day business decisions.17 While small enterprises can choose between incorporation under the Company law and other additional options (discussed in section J below), incorporation under the law is eventually to be required for all medium and large enterprises. The initial pilot “modern enterprise” program included 100 medium and large enterprises chosen by the State Council, as well as nearly 2,600 chosen by local governments.

66. The “wholly state-owned” form was included in the Company law primarily to insure that the state would have full ownership in certain “special” sectors (i.e., the law specifies that enterprises in these industries must become wholly state-owned companies; however, the State Council has not yet stated which sectors would be affected), while enterprises in other industries were expected to choose among the more standard forms of incorporation. However, of the 100 enterprises chosen by the State Council, 79 chose to incorporate as wholly state-owned companies. Of more than 2,000 enterprises corporatized by local governments, it is estimated that nearly half have chosen the wholly state-owned form.

67. There are three main reasons for this outcome: First, a number of companies corporatized in this manner have received “state authorization” to act as sole investors in other wholly state-owned companies, i.e., this form of corporatization gives them the right to effectively become state holding companies (in virtually every case this status was conferred by local administrations rather than by the State Council). Many more have incorporated as wholly-owned subsidiaries of these holding companies and enterprise groups. For example, of the 79 wholly state-owned companies corporatized under the 100-enterprise program, 10 are former line ministries which also “inherited” the SOEs under their control, and 29 are SOEs which had existing subsidiary companies; the other 40 had no subsidiaries at the time of incorporation, but may have taken them on since. In total, these 79 companies own roughly 1,000 additional enterprises, including many of the enterprises corporatized as wholly state-owned companies under local government programs.

68. Second, enterprises risk losing preferential tax treatment by becoming multiple-investor (and thus “nonstate”) entities. In particular, state enterprises in pilot cities are given tax rebates in order to reduce indebtedness (see below), which are not available to non-state enterprises; for enterprises urgently seeking capital, this rebate is said to have been very attractive.

69. Third, enterprises have had difficulty finding outside investors (whether state or non-state) in order to become standard limited liability companies—as these would generally be required to put in capital commensurate with their ownership share. This is particularly true in the case of the 100 pilot firms identified by the State Council, which have assets as large as Y 20 billion. In addition, outside investment generally requires the consent of the initial state investor (i.e. the ministry or local government agency which oversees the enterprise); the latter may be unwilling to relinquish effective control in this manner. Enterprise managers themselves often have close relationships with the relevant ministry or agency and are not willing to bring in outside overseers; indeed, many of the incorporated enterprises reportedly have general managers who also chair the board of directors. Finally, as there has been no final decision on those sectors which would formally require the wholly state-owned form of incorporation, potential investors may be wary about committing resources.

70. The broad preference for incorporation as wholly state-owned companies has brought criticism that there has been no real change, as enterprises are still “owned” by the same entities which administered them previously, and changes in management structure are not immediately evident. Given that the original intent was to allow multiple-ownership forms in order to encourage enterprises to adopt firm and transparent operating rules and help balance the decision-making process, the 100-enterprise pilot program (which was to have ended in 1996), has been extended, in order to review the corporatizaiton experience and decide whether to take further action regarding wholly state-owned companies.

71. With regard to the remaining enterprises incorporated under central and local “modern enterprise” programs, the majority have apparently incorporated as multiple-ownership limited liability companies. Here, the preferred strategy has been to create employees’ committees, which purchase a small amount of the company, with the remainder accruing to the state owner. There have been few cases of incorporation with outside (state or nonstate) investors, primarily for the reasons outlined above.

72. The limited liability joint-stock form has reportedly been less common; again, the main reasons is resistance from the enterprises themselves and difficulty in attracting outside investors (particularly given additional limitations on public listing approvals). As of end-March, more than 9,200 enterprises have incorporated as joint-stock companies, including roughly 5,000 former SOEs. However, this latter figure reflects mostly small state enterprises which have chosen to incorporate in this manner; the number of medium and large SOEs incorporated as joint-stock companies may be less than 1,000.

Devolution of decision-making authority

73. The initial 1993-94 reform documents specified a set of 14 “autonomous rights” to be eventually provided to all corporations, including the right to decide on production and pricing policies, the size and composition of new investment and the hiring and firing of labor, as well as the right to undertake foreign trade. To date, there has been substantial progress in all SOEs on the first of these (production and pricing), but progress on the remaining “rights” has been slow. Much of the emphasis in providing economic autonomy has been in large enterprise groups, as well as some of the larger enterprises under centralized programs. State-supported pilot enterprise groups, for example, are being put on roughly equal footing with provinces in terms of economic planning, in that they are listed separately in national investment, credit and external borrowing plans, and report directly to the State Planning Commission. They can also carry out foreign trade independently, have authority (like provinces) to undertake foreign investment for projects under $30 million, and can open their own financial subsidiaries for the purpose of raising capital. Of 57 groups, 49 had established subsidiary financial companies by end-1996, 29 were listed in national investment plan, and 20 had received permission to pay taxes as a unit.

F. Hardening of Enterprises’ Budget Constraints

74. Measures to tighten budget constraints come under two broad categories: First, the phasing out of implicit and explicit subsidization, including the reduction of fiscal subsidies, liberalization of prices, and shifting access to financial resources—in particular, bank credit—to commercial terms, with banks and firms carrying the risk for lending. Second, and perhaps most significant, allowing market discipline to force firms and labor to exit the marketplace when appropriate.

Reduction of implicit and explicit subsidies

75. Direct budgetary subsidies have been steadily reduced over the last decade, while prices for the vast majority of goods have been liberalized. Moreover, the earlier discussion suggests that prices which remain under central control have tended to be set to ensure greater enterprise profitability.

76. Focusing on these two indicators, however, does not give a full picture of the economic “playing field.” First of all, much of the influence on enterprises’ economic decisionmaking is apparently exerted at the local level rather than through central policy. There are many reports, for example, of off-budget profit transfers and informal levies; moreover, many apparently taxes still tend to be collected by negotiation rather than by reference to official tax rates, giving local authorities leverage in determining relative tax burdens (tax rebates under pilot programs are also a factor). The same is true with respect to pricing decisions; the fact that prices for many items are no longer controlled by the center does not exclude continued influence from ministries or local government agencies. Finally, localities have a good deal of autonomy in approving investment projects and allowing access to foreign investment funds below a certain threshold.

77. There is also the issue of access to bank finance. In the last few years, state commercial banks have explicitly been promised greater autonomy to provide credit on a commercial basis. On the other hand, banks have also been asked to support the working capital needs of medium and large enterprises within the framework of reform programs, and one purpose of the “principal bank” program is to ensure continued financial support for these enterprises. In aggregate terms, it is difficult to find evidence of reallocation of credit away from state enterprises, as lending to SOEs continues to make up around two-thirds of total formal lending in the economy. Indeed, smaller enterprises complain of losing traditional credit lines after restructuring, so that enterprise reform may initially have the effect of further concentrating credit in large state borrowers.19

Labor separation and bankruptcy

78. The twin issues of unemployment and enterprise bankruptcy are important for the Chinese authorities, as they involve not only potential claims on fiscal resources but also repercussions in other areas such as social stability and the banking system. Reflecting this, two very salient indicators of SOE reforms are the number of redundant workers released and the number of loss-making enterprises liquidated. On these accounts, there has been an acceleration in the last two years with respect to the labor force. On the other hand, while bankruptcies have also increased, their number remains relatively small, and bankruptcy proceedings have yet to be applied very much to medium and large loss-makers.

79. Separation of redundant labor. Labor force movements were discussed earlier; while estimates of the total pool of redundant workers (in primarily state but also nonstate enterprises) exceed 25 million, or some 15 percent of the urban workforce, the number of unemployed officially registered with the local authorities is much lower, increasing from 4.8 million in 1994 to 5.2 million in 1995 and 5.5 million in 1996. On the other hand, recent statistics on the number of official staff separations suggest that some 10 million have left their jobs since the beginning of reforms (the total figure would be higher if nonstaff separations were included), with one-third of these separations in 1996 alone.19 A portion of these workers—primarily those in the dynamic coastal regions—have found work in other sectors; many of the remaining unemployed depend informally on other family members for subsistence.

80. In addition, there are as many as 10 million workers who are not officially separated but are de facto unemployed or semiemployed, as their enterprises have either stopped or reduced production; this figure rose sharply during 1995 and 1996. Many of these workers are living on minimal stipends (e.g. RMB 100 to 200 per month); others may already have left for alternative work. The fact that these enterprises have not undergone bankruptcy or formal separation, however, suggests that alternative employment opportunities are not readily available. At the same time, the reportedly rapid increase in the number of these nonproducing enterprises in the last year or two attests to increasing unwillingness of the state to bail out loss-makers.

81. Local governments have been active in preparing for redundancies. Virtually every city now has an employment center which provides job listings and some counseling services (the Ministry of Labor reports over 4,000 employment services in existence in the country); most cities have retraining centers or programs. Surplus workers who have found employment in the services sector are being presented as models by the center and many regions. Specific initiatives vary widely; in Beijing, for example, the city government has plans to reserve 20,000 additional taxi licenses for former SOE employees. The Shanghai government provides preferential treatment to redundant workers who open private businesses. At the same time, there are reports from many regions that more profitable enterprises are being pressured—or enticed through fiscal subsidies—to absorb redundant labor from weaker SOEs.

82. Bankruptcy. With regard to bankruptcies, the data show an acceleration in 1996, albeit from a negligible base. The total accumulated number of bankruptcies for all enterprises rose from 1,700 in 1994 and 2,400 in 1995 and to nearly 6,300 in 1996. On the other hand, the last figure still represents only one percent of even the total number of independent accounting industrial enterprises alone, while one-third of the latter report losses (and perhaps half of these are “chronic” loss-makers). For SOEs, the bankruptcy figures represent a similar proportion: accumulated bankruptcies under the special pilot cities regime rose from slightly more than 100 in 1995 to over 600 in 1996, while “standard” bankruptcies under the Bankruptcy Law were perhaps twice as high; together, these again amount to one percent of industrial SOEs alone. It should be noted that for both state and nonstate enterprises, the bankruptcy figures reflect primarily small enterprises as there have been very few instances of formal large enterprise liquidation.

83. An obstacle to more rapid liquidation, as mentioned above, is the scarcity of fiscal resources. Under the existing Bankruptcy Law, the burden of unemployment—as well as any medical and education expenses which were formerly provided by the enterprise—is borne primarily by local governments, and the bankruptcy terms are considered unfavorable to creditors; as a result, neither are anxious to pursue bankruptcy procedures.20 Under these circumstances, many regions choose to let enterprises lie idle, continuing to provide for the workforce out of their own resources or, if necessary, through subsidization.

84. Under the State Council’s pilot cities program, special bankruptcy terms are provided for industrial SOEs. Proceeds from the liquidation of enterprise assets, and in particular from the transfer of land-use rights—are earmarked for unemployment compensation. At the same time, the State Council has set up a central loan loss provisioning fund for banks to draw on when writing off debts; the size of this fund was Y 20 billion in 1996 and has been increased to Y 30 billion in 1997. While these terms are aimed at easing the bankruptcy process and thus encouraging enterprises to exit, they are likely to be inadequate to deal with the potential costs involved. Enterprises availing themselves of this bankruptcy regime must show that they have either found new employment for their workers or have resources sufficient to provide them with a separation payment of three years’ salary; this has proven extremely difficult in many areas. Local governments still face the costs of assuming social services previously provided by the enterprise. Finally, the central provisioning fond is very small and many local governments have also set up reserve funds—reportedly totaling nearly Y 2 billion in Beijing and Shanghai alone—to help defray the costs of asset write-offs.

85. As a result, official policy during the last year has focused on the very strict supervision of access to bankruptcy funds, combined with continued support for mergers as an alternative to bankruptcy. A particular worry has been “false bankruptcies” where enterprises undergo formal proceedings, write off debts, and then start business again under new nominal ownership but with basically unchanged management and production structure.21

G. Divesting Enterprises of Social Welfare Burdens

86. Efforts to divest SOEs of their traditional social welfare burdens have two main components: first, the transfer of “nonproductive” social services units, primarily in housing, medical and education, from SOEs; second, the disposal of (generally unfunded) pension and unemployment liabilities.

Social services units

87. Unfortunately, there are no aggregate data on the outstanding number of social services units to be divested or the number of affected employees. The State Economic and Trade Commission (SETC) reports that in the pilot cities, 5,700 units (mainly hospitals and schools) were divested wholly or partially from enterprises and transferred to local governments in 1996, compared to 2,400 in 1995 and 1,700 in 1994. In total, the process involved nearly 1.5 million workers.

88. Again, an obstacle to progress has been the inability or unwillingness of local governments to bear the fiscal costs. As a result, the most common approach appears to be gradual divestment, with enterprises continuing to carry a part of the costs; indeed, in areas where large SOEs predominate, they are expected to share the cost. Some large enterprises are choosing a different reform path for social service units, particularly with respect to medical facilities, choosing to manage them as independent accounting entities, raising fees to generate income.

89. Housing reform carries with it additional difficulties, mainly in the form of competing claims on housing units, and progress is only gradual in this area as well (indeed, divestment apparently comes primarily with labor separations, as separated workers generally keep their housing regardless of whether it was initially provided by the enterprise or by the local government). There are plans in many areas to commercialize the housing stock, but this would require substantial adjustments in wages as housing costs are monetized.

Unemployment and pension liabilities

90. Policies relating to the accumulated stock of unemployment liabilities have already been mentioned. Nonbankruptcy labor separations generally entail these payments to be borne by enterprises, while in the case of bankruptcy separations, the costs are carried either by the enterprise or by the local government or a combination of the two, depending on the bankruptcy regime. The situation is similar for pension liabilities, which are normally carried by enterprises for nonbankruptcy cases, but can be taken over by local governments under bankruptcy proceedings.

91. In addition, central and local governments are actively reforming pension, medical and unemployment insurance systems, which will affect the future flow of liabilities. The main emphasis is on switching from unfunded (and often poorly-defined) benefits to partially-or folly-funded schemes, based on contributions from enterprises and employees as well as various levels of government. New medical and unemployment insurance systems are for the most part being introduced by localities (for example, medical insurance reforms are being carried out in over 50 pilot cities), while the central government hopes to complete plans for a national pension system, covering formal staff in urban areas, by end-1997.

H. Recapitalization of Enterprise Debt

92. One of the primary tasks of central reform programs—in particular, the pilot cities project and the “modern enterprise system” program, as well as numerous local initiatives—is to increase enterprises’ capital base and reduce their indebtedness. The data on SOE debt discussed earlier show that indebtedness exceeded 70 percent of total assets for SOEs as a whole at end-1995; over one-fourth of enterprises are estimated to have debts higher than total assets. According to Chinese authorities’ estimates, as much as half of current recorded SOE losses, and the varied profit performance of many additional state enterprises, are explained by a heavy debt burden.

93. The central reform programs contain the following avenues for debt reduction. First, in the pilot cities as well as the 100–enterprise project, state enterprises are eligible for a corporate income tax rebate (yielding a net tax rate of 18 percent instead of 33 percent) for the purpose of increasing equity capital; the funds received by the enterprises would help them correspondingly reduce bank borrowing. Second, enterprises acquiring other loss-making enterprises through mergers in pilot cities can be granted a write-off of overdue interest payments as well as a moratorium on current interest and principal payments (in the case of the 100-enterprise project, interest moratoriums can be granted “pending asset appraisal”). Third, the depreciation schedule has been adjusted for greater depreciation allowances. Fourth, certain state policy loans made through banks can be converted into state equity. Finally, interenterprise debt can be converted to equity, as can bank claims on enterprises which are acquired by trust and investment companies. In addition to these avenues, local governments are free to undertake their own initiatives (such as further tax breaks and the conversion of tax arrears into equity) as fiscal resources permit.

94. While there has been progress in reducing indebtedness, the process has been slow, as the authorities have been very cautious about large-scale write-offs. Estimates suggest that pilot cities succeeded in reducing debt-asset ratios of selected state enterprises by 3–4 percentage points in 1996, with the fastest moving areas such as Shanghai recording reductions of nearly 10 percentage points. By mid-1996, Y 24.2 billion of enterprise debt had been transformed into state equity in the form of an asset of the State Development Bank. In key industries such as coal, hydroelectric power and the military sector, all debt was apparently converted to state equity by end-1996.

95. In addition to reducing the outstanding stock of debt, the reform strategy also includes elements aimed at stemming the flow of new bank indebtedness. Medium and large enterprises which remain in state hands are to have greater access to nonbank sources of investment financing, including access to foreign financing through the creation of joint ventures, limited direct foreign investment into state firms, listing of equity shares on domestic and foreign stock markets, and issuance of commercial debt instruments (these initiatives raise issues of nonstate ownership participation in state enterprises, which are discussed in section J below). On the other hand, as argued in the next section, initiatives with regard to working capital and technical renovation financing seem to imply a continued concentration of formal bank lending to the state sector.

96. To date, access to debt and equity markets has been fairly limited. At end-1996, more than 600 SOEs, virtually all them large enterprises which fall under various “revitalization” initiatives, had listed on domestic A and B-share markets, with a few additional enterprises listed abroad, primarily in Hong Kong (the state continues to act as the majority shareholder in all but a handful of listed enterprises). Estimates of the amount of initial capital raised through equity issues ranges from Y 200 billion to Y 400 billion, or a small fraction of the outstanding stock of bank loans.22 A smaller group of state enterprises—again, chosen from among the larger and more profitable enterprises under reform programs—have issued commercial debt instruments. The Chinese Securities Regulatory Commission announced earlier this year that 500 pilot state enterprises which had not yet publicly listed on exchanges would be allowed to issue convertible bonds, albeit with an initial volume of only Y 4 billion.

I. Revitalizing Larger Enterprises

97. The current reform strategy focuses on key medium and large enterprises in those sectors which will form the “core” of a new, advanced and more efficient state economy. This “revitalization” program includes many of the elements outlined above, including corporatization, the removal of social welfare burdens and debt reduction. However, key aspects are continued provision of resources for working capital, technical upgrading and capital investment needs, and initiatives to restructure production in various sectors.

98. The discussion below shows that revitalization carried out in this manner entails centralization, as most formal channels to provide resources are the exclusive prerogative of the center, and restructuring initiatives tend to be aimed at recasting industries along national rather than regional lines. Localities are also active in fostering various “key” enterprises and industries, but are more limited in the resources they can provide, such as tax incentives and access to foreign investment funds.

99. Also, it is important to note that there is not yet a clearly identified scope for the new state economy. Although the number of enterprises currently supported under central government programs looks relatively moderate—a portion of the 1,000 enterprises identified by the State Council as “core” enterprises, 100 enterprises in the “modern enterprise system” project, 120 large enterprise groups—when current and planned subsidiaries, mergers and acquisitions are added, as well as enterprises supported by local governments, it is estimated that the vast majority of medium and large enterprises could fall under the broad coverage of the “new” state sector. This coverage would in all likelihood have to be significantly scaled back if the aims of strengthened management and oversight are to be achieved.

Resource flow

100. The resources to be provided to the revitalized state economy include bank credit, state investment funds and access to non-state equity and debt financing. With regard to the banking system, the main initiative is the “principal bank” program, involving mainly the 1,000 large enterprises identified by the State Council; its purpose is to ensure that these enterprises have continued access to bank lending as reforms progress. Under the program, enterprises sign a formal agreement with a designated “principal bank,” outlining their medium-term needs for working capital and technical renovation credits. The government may guarantee the credits extended by the bank and, in return, the bank is obliged to extend loans according to the agreements. For their part, signatory enterprises agree to channel their financial activities through centralized accounts, in part so that the bank can play a monitoring role. During 1996, 300 of the 1,000 enterprises had signed agreements with principal banks, and it was announced at the National People’s Congress in March that the number will be increased to 512 by end-1997

101. The authorities have announced their intention to concentrate the allocation of state funds into larger enterprises in certain sectors (primarily energy, raw materials extraction and processing, transportation and key high-technology industries) to upgrade their efficiency and increase competitiveness. As discussed in the previous section, approvals for public listing as well as the issuance of corporate debt are also actively used to support favored medium and large enterprises (and the financing of enterprise groups and holding companies).

Industry-level restructuring and industrial policy

102. A notable feature of the Chinese reform strategy is the emphasis on concentration of productive resources in key sectors through mergers and acquisitions, and the fostering of enterprise groups and holding companies. As noted earlier, this emphasis has been influenced by three separate considerations: first, declining SOE profitability is strongly correlated with increased competition within industries; moreover, unchecked and “irrational” regional investment policies are believed to have led to substantial overcapacity in a number of sectors, as well as a myriad of overly small producers.24 Second, enterprise mergers are seen as a low-cost means of consolidating weak balance sheets, reducing indebtedness and avoiding bankruptcy. Finally, the authorities are considering incorporating elements from the experiences in other Asian economies, including Japan and Korea.

103. Thus, a key part of revitalization is industrial consolidation through mergers and the creation of industrial groups. Also implicit in the strategy—although not clearly specified or agreed—are possible limitations on nonstate competition, possibly through the discouragement of domestic nonstate ownership (for example through the requirement in the Company Law that enterprises in certain sectors incorporate as wholly state-owned companies, see section E).

104. As noted above, many of the medium and large enterprises incorporated in the last three years have subsidiary companies; this process is further encouraged by privileges provided by central and local governments for enterprise mergers. The State Council has decided that overdue interest payments of loss-making merged enterprises in the pilot cities can be written off, with a moratorium on current interest and a five-year rescheduling of principal payments (unlike bankruptcies, the special incentives for mergers apply to nonindustrial enterprises as well). Many local governments have provided additional incentives in the form of tax breaks or promises to take over responsibility for redeployment of redundant workers.

105. In addition, the State Council is promoting the creation of large state-sponsored enterprise groups, organized along industry lines, the number of which has increased from 57 to 120 this year. These are to report directly to the State Planning Commission (SPC), rather than to other departments or local governments, in order to simplify and accelerate the approval process for various economic decisions; as outlined above, they are also provided with a number of privileged operating rights. Recent examples include the China Machinery Group, which was created early this year by merging 29 of the largest enterprises in the machinery branch; in the electronics industry, the branch ministry has chosen six leading companies to form as groups early this year, with the eventual goal of forming 30 competing large electronics groups which account for 70 percent of China’s electronics output.

106. Of great importance among these groups are the “state holding companies,” which the State Council has decided to create from former branch ministries. At present, there are three such companies: (i) China Non-Ferrous Metals Industrial Company; (ii) China General Aviation Industrial Company; (iii) China General Petrochemical Industrial Company. Currently, the Council is also considering the conversion of the steel and electricity ministries into holding companies.

107. At the same time, many other state and non-state enterprises are also pursuing industrial consolidation; by end-1996, more than 8,000 enterprise groups had been registered. By the same token, a number of large state enterprises are dealing with the consequences of chronic losses and irrational production structure in their pre-existing subsidiaries, which may well involve bankruptcy or other forms of asset disposal—i.e., the opposite of the consolidation tendency foreseen above.24

108. Revitalization efforts also extend to state-sponsored marketing and technical support. For example, the SETC announced in August 1996 that 20 large SOEs would be chosen to lead an industrial renovation program. The purpose of the program is described as making the enterprises more market-oriented, allowing them to invest funds to develop their own name-brand products which would be competitive in both domestic and overseas markets within the next 15 years. According to the SETC, the government will help many medium and large SOEs establish special organs for technological innovation in the next five years; priority will be given to 14 key industries (textiles, coal, power, shipbuilding, medical, building materials, transport, machinery, electronics, motor vehicles, petrochemical, steel, non-ferrous metals and light industry). Although the detailed content of the program is not yet clear, there will likely be financial support and preferential policies from the government, including tax-free status for certain types of equipment renovation.

J. Changes in Enterprise Ownership

Small enterprises

109. Small enterprises and local governments have been given wide freedom of choice on the channels of ownership change, as the possibilities include sale, merger, leasing, contracting, joint stock participation or, if necessary, liquidation and bankruptcy proceedings. The primary requirement is that the fiscal costs of such transactions are minimized, generally meaning that new owners should take over debts, as well as the redeployment or care of redundant labor—although localities are free to remove these burdens from the owners as resources permit (in the case of bankruptcy, the relevant arrangements are discussed in section F above). Unlike reform projects concerning large enterprises, ownership changes in small enterprises are not limited to pilot cities or programs. However, as discussed above, bankruptcy under favorable pilot project terms is limited to industrial state enterprises in the pilot cities; debt restructuring under mergers and other debt reduction initiatives are also limited to the pilot cities.

110. Small enterprise ownership reform has been the most active component of the SOE reform strategy. Since a key element of small enterprise reform has been to fully relinquish responsibility to local governments, it is also the most difficult component to assess, as aggregate statistics are rare. Nonetheless, reports from the pilot cities indicate that more than three-fourths of small enterprises involved have changed their ownership to date, and the process is expected to be completed by the end of 1997; restructuring outside the pilot cities is apparently very active as well. By far the most common form of restructuring has been to transfer full or partial ownership to employees, i.e., forming “internal stockholding cooperatives” as this is both the easiest procedure and keeps “socialist production relations” intact. In some cases, shares have simply been transferred; in others, employees put in funds to purchase an enterprise. The next most common restructuring method, for much the same reasons as above, is to lease the enterprises to managers.25

111. As a result, the number of restructurings involving outside investors have been relatively few, but reportedly increasing. In 1996, there were a few thousand reported mergers involving state enterprises in the pilot cities, and the majority of the acquisitions were small enterprises. Many cities have set up property rights “trading centers,” which allow ownership of shares in enterprises to be offered for sale; as of end-1995 there were 36 such centers, and the number has apparently doubled during 1996. There are also reports of tenders, auctions, and direct individual purchases.

Large enterprises

112. Ownership change in larger enterprises has been discussed in previous sections; to summarize, medium and large enterprises have not been allowed the same flexibility and range of options as small enterprises in determining ownership. The two main channels for nonstate participation in larger state enterprises are direct investment under limited liability incorporation and stock purchases of publicly listed companies (a third, the conversion of largest state enterprises to “internal” stockholding companies, was pursued before 1994 and is apparently still occurring in certain areas, but these companies are eventually to be reincorporated under the terms of the Company law).

113. Both channels have seen fairly limited use. With regard to incorporation with outside investors, experience under the “modern enterprise system” projects has shown that a majority of state enterprises have chosen incorporation as wholly state-owned companies, and many those which have chosen the limited liability form have given relatively few shares to internal employee groups. As discussed above, the primary impediments to greater non-state participation have been lack of outside investors, resistance by the original “owner” ministry or agency, and uncertainty as to the legal status of outside participation. With regard to public listing, the scale has been confined by the authorities’ cautious approach to capital market development. Moreover, only in a handful of cases, have these channels been used to transfer majority ownership to nonstate hands.

114. Nevertheless, there is forward momentum in the area of medium and large enterprise ownership. Subsequent rounds of incoroporation are likely to involve less “prominent” (and less profitable) enterprises and may see greater willingness to allow outside participation. The last two years have seen growing nonstate participation in “core” industries (such as aviation, raw materials and power generation) which had previously been considered reserved for sole state ownership. Quotas for public equity listing have been increased to include an additional 200 domestic and 50 foreign listings (including B shares) this year, and further increases are expected. There is reportedly a growing consensus for widening the scope of state minority ownership in larger enterprises. Meanwhile, as discussed above, there has been much greater activity in ownership transfers between state enterprises and institutions, in the form of mergers and the formation of enterprise groups and holding companies.

K. Conclusions

115. The need to reform SOEs remains one of the most pressing issues facing China’s economic policymakers. This is particularly true given the recent weakening in state-enterprise performance; and even more so in view of the close links between SOE reform and progress in other areas. For example, banking system commercialization is very closely linked to reducing current quasi-fiscal lending to support SOEs, as are initiatives to reduce the outstanding stock of nonperforming assets. Progress in developing domestic debt and equity markets, in order to promote economic growth and efficiency and reduce bank indebtedness, is also hampered. Finally, measures to strengthen budget revenue require reductions in subsidies and negotiated tax concessions that support poor state performers.

116. There is nonetheless increased momentum in most aspects of SOE reform. Perhaps more important, some of the key uncertainties with regard to the broad direction of reform appear to have been clarified. At the same time, much remains to be done, particularly in the areas of formally liquidating and releasing the assets of loss-making enterprises, reducing accumulated enterprises indebtedness, providing for the market-based allocation of resources and clarifying the ownership and management of larger state enterprises. In addition, the approach to reform of the largest enterprises needs to be clarified. In the past few years, high rates of economic growth and buoyant saving rates have allowed the authorities room to pursue a gradual approach, with pilot experiments and limited programs. The current favorable economic environment provides a “window of opportunity” to carry out bolder reform initiatives.

ANNEX I: Factors Affecting SOE Profitability

1. One of the key questions in evaluating SOE performance is the cause of the broad declines in recorded profitability in the state-owned sector over the past three years. Economic analysts and policymakers have focused on a number of different explanations. These include adverse movements in aggregate demand; increasing costs, including taxes and interest payments; increased competition from the nonstate sector; irrational production structures within state enterprises; shortages of credit and working capital; and recent accounting and policy changes. The potential contribution of each of these factors is examined below.

Adverse aggregate demand movements

2. The behavior of gross domestic product by sector and by expenditure category imply there has been only a moderate slowing of real GDP growth between 1994 and 1996. Moreover, SOE (and nonstate) profit ratios were much higher in 1990 than in 1995 and 1996, despite the fact that growth in the former period was much lower than in the more recent years. Thus, it would seem that profitability has declined by a substantially greater margin than would be expected given the recent slowdown in growth.

3. A similar finding holds when expenditure components are examined. The data show that gross domestic expenditure increased fairly rapidly during the last two years. At the same time, some of the recorded growth was due to inventory accumulation; when the latter is subtracted from total expenditure, it is clear that the growth in final demand for domestic goods slowed substantially between 1994 and 1996. This more rapid decrease might suggest that profitability would be affected; nonetheless, as with the GDP statistics, the real estimated rate of demand growth during this period was still relatively high, despite the fact that recorded profit ratios were more favorable in earlier periods.

Increased input costs, interest payments, taxes

4. Input prices. Another explanation for decreasing SOE profits is higher input prices, particularly for coal, petroleum products, grain, cotton, electricity as well as transportation. Prices for these basic goods and services under the planning system were held down to promote development of other sectors; however, as part of price liberalization, as well as a renewed emphasis on agriculture and basic infrastructure, relative prices in these sectors have tended to increase. Rising real wages have likely also increased costs, particularly in cities and the coastal regions.

5. On the other hand, all of these factors seem to have contributed primarily to a reallocation of profitability within SOEs rather than the across-the-board decline. The margin between revenues and costs for all SOEs has remained fairly steady over the last four years, and even rose compared to the period between 1985 and 1990. Meanwhile, as discussed earlier, profitability in basic industrial inputs sectors rose between 1990 and 1995, while that in final products industries fell—likely both as a result of relative price movement and the effects of real exchange rate appreciation, which raises real domestic input costs while holding down output prices in export and import-competing sectors (see below).

6. Interest payments. The estimated ratio of interest payable to gross output rose in 1994 and 1995 before falling in 1996 as a result of interest rate reductions. Rising interest payments would tend to decrease recorded profits (whether or not the end result was an increase in actual interest paid or in interest arrears).

7. Taxes. As discussed in the main text, tax liabilities as a percent of gross output have tended to fall over the last four years, so that rising taxes cannot be seen as contributing to declining overall profit rates. On the other hand, the net tax burden has clearly had an effect on the variability of recorded after-tax profits between sectors.

Demand and supply factors in specific sectors

8. The above discussion implies that, for individual industrial sectors, factors affecting the cost of and the demand for SOE products in those sectors have been more important than those which affect the economy as a whole. Sector-specific factors include the following:

9. Competition from other ownership forms. Most new non-state investment, by both domestic and foreign enterprises, has been in light industrial and final goods sectors (and in services such as restaurants and retail trade), and the growth of the non-state sector has been particularly strong since 1994. The Seventh and Eighth Five-Year Plans also saw an increasing amount of state investment in light industry and consumer goods; in addition, trade liberalization and external opening since the late 1980s have resulted in some import penetration, much of which has been concentrated in these sectors as well As a result of this increased competition, both SOE and nonstate profitability (and capacity utilization) in the affected industries would be expected to fall. Decreasing margins could also be expected to bite more heavily into SOE profits, as they tend to shoulder greater cost burdens than their more flexible nonstate counterparts, including medical and social security benefits and housing for their employees. Moreover, nonstate firms can adjust more flexibly to declines in demand, as state firms face constraints in shedding labor—as well as in closing their doors.

10. Irrational SOE investment. A related factor has been “irrational” SOE investment policy. As a result of growing local autonomy, particularly after 1991, many regions have pursued investment plans aimed at industries which intrinsically need a wider market to survive—with the outcome being many small producers with high overhead and low profits. For example, it is reported that of 200 motorcycle makers in China, all but 15 have an annual output capacity below 100,000 units. Of 700 mainland breweries, only 80 are capable of producing more than 50,000 tons of beer annually. Similar cases avail in automobiles, televisions and other consumer durables.

11. External conditions. Weak export markets for certain export goods, combined with real exchange rate appreciation, may have cut into exporters margins and contributed to slower export growth in 1996. The export decline in 1995 was particularly concentrated in textiles and in primary and primary processing sectors. Moreover, exports of goods of domestic origin tend to come from SOEs, while foreign-funded firms are relatively specialized in “processing” trade, which is less affected by domestic cost swings and real exchange rate movements.

Credit policy

12. The role of credit policy and “credit shortages” has been given much attention in the local press. While interest rates have become positive in real terms since 1995, real credit outstanding (and real investment spending) has risen strongly over the last two years. Thus, on an aggregate basis, it is difficult to argue that monetary policy has been exceedingly tight. In addition, state bank lending to SOEs as a percentage of total lending by all financial institutions remained fairly stable, declining only slightly from 66 percent at end-1994 to 65 percent at end-1996 (see Chart I.1).

Chart I.1:
Chart I.1:

China: Credits to SOEs & Other Credits

(In billions of yuan)

Citation: IMF Staff Country Reports 1997, 072; 10.5089/9781451807783.002.A001

Source: People’s Bank of China.

13. Credit data for individual enterprises and sectors are not available; however, movements to greater bank independence in loan allocation decisions on the one hand, together with the “releasing” of smaller state enterprises and increased pressure to support viable medium and large SOEs on the other, would be expected to result in reduced new credit flows to poor performers (in particular since, as shown above, many of these are small enterprises), while these enterprises (given relatively high debt-asset ratios) should also be affected most by the rising real interest burden.

Institutional and accounting changes

14. Recent statements by Chinese authorities have suggested that, while economic factors have certainly played a role, the downward trend in recorded SOE profits is overstated due to institutional factors, for example social security and medical reforms (which involve greater funding of these liabilities) and changes in pilot SOE accounting procedures which have given rise to higher depreciation charges. While it is not possible to directly estimate the effects of such changes, this argument has merit, given that declining profitability has reflected a growing gap between net sales revenues and profits—precisely the point at which charges such as depreciation and payments to social funds are deducted from income.

15. Changes in the tax system have also had an impact. For example, part of the sluggish SOE performance in 1996 was due to the reduction in the VAT rebate for exporters at the end of 1995, along with substantial delays in paying rebates in both 1995 and 1996. While these factors would not affect recorded profits, they would have a substantial impact on individual enterprises’ liquidity and operating conditions.

16. Finally, continued liberalization and the promotion of nonstate forms of ownership have resulted in SOE managers shifting profitable assets to other entities. Many SOEs have formed subsidiaries in the form of collectives or joint ventures, which have been historically subject to lower tax rates, higher depreciation rates and less interference from central and local authorities; shifting or selling assets of the SOEs at low prices to these subsidiary entities may have resulted in higher returns to the latter, while the parent SOE is left with the burden of excessive debt, surplus workers and retirees, with the resulting losses ultimately borne by the government and the banks.

Chart I.2.
Chart I.2.

China: Aggregate and SOE Real Credit Flows

(Percent)

Citation: IMF Staff Country Reports 1997, 072; 10.5089/9781451807783.002.A001

Sources: People’s Bank of China; and staff estimates.

References

  • G. H. Jefferson and T.G. Rawski, “Enterprise Reform in Chinese Industry,” The Journal of Economic Perspectives, Vol. 8, no. 2, Spring 1994.

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  • Perkins, F.C., “Productivity Performance and Priorities for the Reform of China’s State-Owned Enterprises,” Journal of Development Studies, Vol. 32, no. 3, 1996.

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  • Woo, W.T., Hai W., Jin Y and Fan G., “How Successful Has Chinese Enterprise Reform Been? Pitfalls in Opposite Biases and Focus,” Journal of Comparative Economics, 3, 1994.

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1

The term “country” as used in this paper does not in all cases refer to a territorial entity that is a state as understood by international law and practice. The term also covers some territorial entities that are not states but for which statistical data are maintained and provided internationally on a separate and independent basis.

1

This chapter was prepared by Mr. Anderson, the Fund’s Deputy Resident Representative in Beijing. Mr. Adams (ext. 36734) is available to answer questions related to the chapter before the Board meeting.

2

“State” entities are defined as those enterprises and institutions which are “owned” by the Chinese people as a whole. Although the lion’s share of such entities are administered by provincial and local governments, the State Council maintains ultimate control of their assets. A significant portion of the “nonstate” enterprises and assets discussed in this chapter are also public property, but their ownership (whether wholly or in part) traces to local governments at the village, township or city level (i.e., “collectively owned enterprises”). This difference is quite significant in practice, as the latter have not had the same access to state budgetary and financial resources as SOEs (i.e., their “budget constraints” have been harder); moreover, from the outset of reforms they have been granted much greater autonomy in most aspects of economic decision making, including the disposal of labor and capital. It should also be noted that a small but growing portion of “state” assets, including those of joint stockholding companies and joint ventures with foreign firms, are not included in the aggregates for state ownership defined in this paper.

3

Such institutions numbered 1.1 million in 1993, and accounted for more than one quarter of state employment and roughly 20 percent of total state-owned assets (Table I.1). A more recent survey of state administrative institutions with independent accounting systems (a subset of the above total) shows that at end-1995 there were 460,000 such institutions, again accounting for nearly 20 percent of state-owned assets.

4

Staff estimates based on adjusted employment data for agriculture and services.

5

One example, recently cited in the press, is Maanshan Iron and Steel, China’s sixth largest steel producer, which owns 11 kindergartens, 15 primary and high schools employing 1,500 staff, a hospital with 900 beds and 1,200 workers and more than 56,000 apartments (there are also ten schools in towns that mine Maanshan’s ore, a technicians’ school and a workers’ university).

6

The State Statistical Bureau reports that industrial SOEs with independent accounting systems, which have 43 million current employees, also have nearly 11 million retired workers with pensions totaling Y 6.4 billion. The ratio of retired to employed workers is likely to rise, as a portion of the current workforce is redundant and likely eventually to be released from these enterprises.

7

Enterprise size groupings are based on fixed asset and gross output statistics; size standards differ by industrial sector.

8

Based on end–1994 data.

9

Industrial enterprises with independent accounting systems have independent administrations, prepare their own income and balance sheets and maintain their own bank accounts. “Non-independent” enterprises are administratively part of either another state enterprise or a state administrative institution. At end–1995, there were 510,400 industrial enterprises with independent accounting systems at the township level and above, including 87,900 SOEs. Among the latter, 68,000 are independent legal entities, and 38,000 are “budgetary” enterprises which report monthly to the Ministry of Finance.

10

The tendency for SOEs to be located “upstream” is particularly clear in wood products, where SOEs account for 96 percent of output in logging, compared to 18 percent of output in timber processing.

11

The figure for SOE participation in light industry is very likely overstated, given that the data in Table I.3 do not include enterprises without independent accounting systems or below the township level (which account for more than one-third of total industrial output); most of these enterprises are nonstate-owned, and are overwhelmingly involved in light industrial activity. Adjusting for these enterprises could yield a figure as low as 15 percent for the total share of SOEs in light industry.

12

This has been the subject of a lengthy literature which uses growth accounting methodology to estimate total factor productivity growth in state enterprises. Jefferson and Rask (1994) find that annual TOP growth in SOEs was between 2 percent and 3 percent from 1980 to 1992, with Perkins (1996) quoting similar results for a sample of state enterprises during the same period. However, Woo et. al. (1994) argue that TOP growth in SOEs was in fact negative during the late 1980s. All of the above authors find that productivity growth in the nonstate sector has been higher than in SOEs.

13

In Premier Li Peng’s Government Work Report to the March 1997 Session of the Eighth National People’s Congress, the textile, coal, machinery, forestry and military production sectors were reported as currently undergoing significant difficulties.

14

While SOE indebtedness and losses are for the most part absorbed through the banking system, the relationship between losses and accrued taxes may help understand how recent fluctuations in SOE losses have been weathered. Since the recorded after-tax profit figures reflect accrued taxes due rather than actual remittances, the accumulation of tax arrears—or tax breaks provided by regional authorities—could imply that recorded losses overstate enterprises’ actual financial position. In 1996, estimated tax arrears were Y 20 billion, over one quarter of total SOE losses; there are no figures for tax breaks provided by central and regional governments. Interest arrears play a similar role, as estimates suggest that only slightly more than half of interest due by SOEs was paid in 1996.

15

This situation is roughly mirrored in inventory accumulation. For example, domestic press reports indicate stockpiles of 1.5 billion men’s shirts, 10 million watches, tons of cosmetics, 20 million bicycles, nearly 700,000 motorcycles and 120,000 cars, as well as millions of yuan worth of unsold household appliances.

16

SOE reform issues were highlighted in Premier Li Peng’s Economic Work Report of the Government at the Eighth National People’s Congress in March 1997.

17

The initial reform strategy foresaw the replacement of the “three old” (enterprise party committee, employees’ trade union, party youth league) with the “three new” (general manager, board of directors, supervisory board) in the economic process. However, a recent circular issued by the Chinese Communist Party Central Committee reasserts a strong role for enterprise party committees in economic decisions.

19

The authorities explain the approach by pointing out that the least profitable SOEs tend to be smaller enterprises in very competitive consumer and final goods sectors, while larger enterprises often occupy more profitable niches. Banks are, therefore, more willing to lend to larger enterprises. In addition, the promotion of industrial consolidation in large groups is one of the explicit aims of enterprise reform.

19

The limited role of bankruptcy in the labor separation process is shown by the fact that only 420,000 layoffs—a small fraction of the estimated total—occurred under the pilot cities’ bankruptcy procedures.

20

Only a tiny number of bankruptcies to date have been the result of a decision by banks to foreclose. Of 2,385 reported bankruptcies in 1995, only 47, or two percent, were a result of applications from banks, while last year the number was 72, or 1.2 percent of the total.

21

For this reason, the State Council recently announced the formation of a national structure to oversee bankruptcies (as well as mergers and reemployment initiatives), including the State Economic and Trade Commission, the State Commission for Restructuring of Economic Systems, the Ministry of Finance, the Ministry of Labor, the People’s Bank of China and the State Administration of State Property.

22

Total current market capitalization is much higher, reflecting large subsequent increases in share prices.

24

The automobile industry is an oft-cited example. Virtually every province has decided to promote automobile production as a “key” regional industry; as a result, China presently has 126 automobile manufacturing plants, most with an annual output of less than 10,000 units, so that China’s total automobile output in 1995 was only 1.5 million units, or less than 20 percent of the output of U.S. General Motors alone. In addition, there are more than 600 refitting factories and more than 4,000 spare parts factories. Current government plans aim to reduce the number of domestic plants from 120 to six, through reorganization and consolidation. The long-term goal is to further consolidate to three automobile “giants”.

24

As mentioned earlier, regions have also opposed a number of consolidation initiatives (recent examples include the automobile and television manufacturing industries), as they are hesitant to relinquish control over economic decisions as well as fiscal revenues.

25

In most of the shareholding cooperatives, local governments retain a minority—and in many cases majority—share of the enterprise, making these cooperatives conceptually similar to township and village enterprise (TVE) cooperatives. Leasing arrangements, as well, have local governments maintaining nominal ownership.

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Cover IMF Staff Country Reports
People’s Republic of China: Selected Issues
Author:
International Monetary Fund
Volume/Issue:
Volume 1997: Issue 072
Publisher:
International Monetary Fund
ISBN:
9781451807783
ISSN:
1934-7685
Pages:
157
DOI:
https://doi.org/10.5089/9781451807783.002
Chart I.1:

China: Credits to SOEs & Other Credits

(In billions of yuan)
Chart I.2.

China: Aggregate and SOE Real Credit Flows

(Percent)