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28 November 2012, Gateway House

What China learned from Russia

The Chinese have learned from Russia’s past mistakes at reforming state-owned enterprises (SOE), and some well-connected politicians have reaped the economic benefits that followed. Will the new administration in Beijing reform China’s SOEs or maintain the large role of government in industry?

Research Intern, Gateway House

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Now that the 18th Party Congress has come to a close and China’s new leaders have taken up their posts it’s time see whether or not they have the political capital and aptitude to implement the economic reforms that both economists and China’s own leaders recognize the country desperately needs. Unfortunately, General Party Secretary Xi Jinping, Premier Li Keqiang, and the other newly appointed members of top Party posts face a conflict of interests problem.

Over 70% of the Party’s top posts have been replaced and many of these new appointees are part of the so-called Princeling Faction closely associated with former General Party Secretary Jiang Zemin. This epithet is derived from the fact they are the sons, daughters, and relatives of the equivalent of Chinese Communist Party (CCP) royalty – former high-ranking Party officials. Over the years, they’ve used their privileged background and parents’ connections to get rich and soar to the top ranks of the Party. Now one of them, Xi Jinping, is in charge of the Party.

Xi and the other new leaders are tasked with reforming an economy that faces challenges that can no longer be overlooked – the slowest growth rates in years, rising environmental costs and their associated public protests, rising inequality, the lack of decent jobs for college graduates. Add to that a huge trade surplus, low consumption rates, overinvestment, increasing levels of municipal debt, and inefficient but powerful state-owned enterprises (SOE).

The Chinese leadership is well aware of all these problems but it doesn’t appear willing to tackle all of them.

In particular, is the need to reform SOEs, conspicuously absent from China’s 12th Five-Year Plan. The first recommendation of a 2012 report co-authored by the World Bank and the government of China called “China 2030” is the reform of SOEs. While China’s 12th Plan places a heavy emphasis on increasing consumption, innovation, boosting social equality, and implementing more environmentally-friendly policies, it side-steps concerns over the large role of government in industry, which the “China: 2030” report says is “likely to act as a constraint on productivity improvements, innovation, and creativity.”

Chinese leaders learned from Russia how not to privatize industry after Russia’s messy attempt with “shock therapy” and were able to successfully reform much of the state-owned sector in the 1990s, which resulted in a boon – economic growth. Now that it seems necessary again to reform SOEs to continue growth, why aren’t China’s leaders taking SOE reforms more seriously? Clearly, the status quo has benefitted them – and they don’t want too much to change.

Just look at how much wealth China’s leaders and their families have accumulated under the current system. Bloomberg reported last June that the personal investments of Xi’s family totaled $376 million dollars; most of this wealth is controlled by Xi’s older sister’s family. Although the report couldn’t trace any of the wealth or investments back to Xi himself, he still manages to send his daughter to Harvard for $60,000 a year. For reporting on the matter Bloomberg’s website was blocked in China.

Then in October The New York Times released a lengthy story on Wen Jiabao’s family wealth. His mother, 90-years-old at the time, had an investment in a financial services company worth $120 million while his family controlled assets worth at least $2.7 billion. The New York Times site was also blocked in China after publishing the story.

These are not just two isolated cases; rather they are symptoms of an economic system desperate for reform. Party members are able to use their positions and the privileges that come with it to place themselves at the center of lucrative business deals in a hot emerging market.

Not only have China’s leaders learnt from Russia’s mistakes at SOE reform, they also learned how to get rich through partial reforms. Like Russia’s oligarchs, some highly connected Party members took advantage of SOE privatization to grab immense benefits, while others used government-made market distortions to get rich from SOEs that still control the commanding heights of the economy.

The World Bank-Chinese Government report recognizes this problem. It states that these beneficiaries are “unlikely to surrender their privileged position easily, they are likely to be very influential, powerful, resourceful, and resolute in protecting their interests.” After looking at the list of new Politburo Standing Committee members, this seems to be the case.

Two of the more reform-minded members of the Politburo, Guangdong Party chief Wang Yang, and head of the CCP’s Organizational Department, Li Yuanchao, were overlooked for promotion to the seven-member Politburo Standing Committee. Another economic reformer, Wang Qishan, who did make it into the Standing Committee, was not tasked with any economic responsibilities.

Although Xi Jinping has been hailed a reformer based on his father’s history of supporting economic reforms and Xi’s own time spent as Party chief in the rich coastal provinces, it’s not clear yet whether or not he and his Party actually have the will to carry out such SOE reforms. Judging by the last Five-Year Plan and the new appointments to the Standing Committee, the prospects don’t look too good.

Spike Nowak is a Research Intern, Gateway House: Indian Council on Global Relations, Mumbai. He is completing a Master’s degree in International Relations at the Johns Hopkins School of International Studies in Nanjing, China.

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