China’s Transition from a Centrally Planned Economy
to a Market Economy:
(“Global Economics” – Chapter
Commanding Heights” – Chapter #7)
#18
and
“The
Present state of People’s Republic of China:
 Population = 1,330,141,295 (roughly 20% of World
population; over 4.25 times the population of the U.S.)
 Life Expectancy at Birth: 74.51 years
 Geographic Area = 3,705,407.36 square miles (U.S.
has a geographic area of 3,794,100.43 square miles)
 Per Capita GDP (PPP) = $6,546.30
 GDP Growth Rate = 9.65%
 Inflation Rate = –0.7%
 Unemployment Rate = 4.3%
 Gini-Coefficient = .47 (just above U.S. value of .45)
 International trade in 2009: exports valued at $1.204
trillion and imports valued at $954.3 billion (ranked 1st
in exports and 3rd in imports)
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Tremendous economic growth began in 1978, when
economic reforms were first put in place to move China
back toward the market
 Annual GDP growth rate of 9.6% is highest in the
world over past two decades => Per Capita Incomes
doubled between 1978 and 1987 and doubled again
between 1987 and 1996
 Much of this growth was in the “Pearl River Delta”
region of the “Guangdong Province” (in the southeast
part of China along the South China Sea) => “Pearl
River Delta” grew at a rate of 17.3% per year from
1978 to 1993
The person responsible for much of the economic reform
and growth in China since 1978 is Deng Xiaoping – before
discussing the influence of Deng, it is helpful to have some
historical background…
Civil War in China immediately following the end of WWII (actually, an “on-again-off-again conflict” from 19271950), ended with the triumph of Communists over
Nationalists
 Nationalists had control of Taiwan; Communists had
control of mainland China (i.e., the “People’s
Republic of China”)
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1952-1959: Communists implemented “Soviet Style
Command Planning”
 industry and commerce nationalized; investment in
heavy industry; land seized from landlords and wealthy
farmers
 greater difficulties of coordinating economic activity in
china than in USSR: population of China was 4 times
greater than USSR; communications and transportation
infrastructure much less developed
 historically China had much more “regional selfsufficiency” => potential gains from centralizing the
economy are difficult to grasp
1958-1961: The “Great Leap Forward”
 Mao Zedong’s (leader of China from 1945-1976) plan to
“harness the ideological fervor of the Chinese population
to the task of raising industrial output.”
 Communes established throughout China (each averaged
5,000 households) as the new form of economic
organization – money replaced with “work points”
 Agricultural production “collectivized” – decisions about
crops and techniques were made centrally, without
regard to local conditions; total output “shared among
workers,” not based upon worker productivity (absence
of incentives and a “free rider” problem)
 Focus on “rural industry” – attempt to increase steel
output through increased production in “backyard steel
furnaces” (output of these small-scale furnaces was
inferior to large-scale furnaces)
 Proved to be a “great leap into disaster” and “did nothing
to advance China’s economy”
3
1966-1970: The Cultural Revolution
 Movement launched by Mao Zedong to rid China of
“liberal bourgeoisie elements” and to continue
“revolutionary class struggle.”
 Chinese society turned upside down – bureaucrats,
planners, and technocrats were “stripped of their
authority and sent off to the countryside for ‘political
reeducation’…”
 Many argue that the true intent was to solidify Mao’s
political control after the disastrous effects of the failed
“Great Leap Forward”
1978-1993: The First Phase of Reform
 Following Mao Zedong’s death in 1976, Deng Xiaoping
emerged as the de facto leader of the Communist Party
and China (Deng would essentially be in power from
1978 through the early 1990’s)
 In December 1978 he “launched the modern period of
reform, moving China away from a planned economy
and toward a market one.”
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Agriculture Reform:
 Reforms began in 1979 to alter the “collectivized
system” instituted in the 1950’s and 1960’s
 Central argument: productivity could be increased by
simply providing “economic incentives” for households
 Created the Household Responsibility System (HRS):
 large plots of collectively owned land leased to
individual households for a fixed period of time (1540 years, depending upon type of crop)
 quota or target level of output established for each plot
– production above the target could be kept by the
household, either consumed or sold in the marketplace
(either at “free prices” or state controlled prices)
 by 1984: 93% of China’s cultivated land was managed
under the HRS
 output increased by more than 50% in next 16 years
 by 1993 price controls in grain markets were eliminated
in about 80% of the country => prices now determined
by Supply and Demand
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Reforming State-Owned Enterprise:
 The large “State Owned Enterprises” (SOE’s) that
existed in China before economic reform were very
inefficient
 Iron Rice Bowl – jobs within SOE’s were often referred
to as an “iron rice bowl,” because of their security,
steady income, and steady benefits
 metaphor: if a clay or porcelain rice bowl were
dropped it would shatter – in contrast, an iron rice
bowl can be abused without becoming damaged (e.g. –
an employee with an “iron rice bowl job” could make
many mistakes without being fired)
 Reforms tried to replicate the “Household Responsibility
Reforms” used in the agricultural sector in the industrial
sector => the Contract Responsibility System (CRS):
 a target level of output or quota was established for
each enterprise – output above the quota level could
be sold by the enterprise in the marketplace
 by 1988: 90% of all SOE’s were operating under CRS
contracts
 CRS did reintroduce “incentives” and did lead to a
sharp increase in industrial output
 Difficulty: each contract was “individually
negotiated,” giving enterprises incentives to waste
resources negotiating for “more inputs” and “lower
quotas,” so that they could easily exceed the stated
goals (i.e., “rent seeking behavior”) => did not work
as well as HRS system did in agricultural sector
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“Special Economic Zones” (SEZ’s) – a geographical
region in which the behavior of enterprises is constrained
by fewer restrictions than in the rest of the country.
SEZ’s in China:
 First established in 1979
 Much of the economic growth in Guangdong Province
was in SEZ’s
 “Outward looking orientation” – served as “export
processing zones,” that acted as “magnets” to draw in
foreign investment
 Enterprises in SEZ’s had tremendous freedom regarding
investment and trade decisions and faced much lower tax
rates (0% or 15%, as opposed to 55%)
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General reasons for establishing SEZ’s:
1. If a region is dependent upon a declining industry, then
new industries can be attracted by the incentives that
result from SEZ status
2. SEZ’s would tend to result in a “density of industrial
activity,” which is desirable if there are “economies of
scale” (i.e., “declining average costs”) with respect to the
provision of supporting infrastructure and services
3. Increase the realization of “economies of agglomeration”
(Economies of Agglomeration – benefits that firms
obtain when locating near each other) [e.g., justification
for technology parks and cities]
4. Government can restrict economic policies/reforms or
activities to a limited geographical region for
environmental concerns or to try out new policies before
generalizing them (the latter was particularly relevant in
the case of China – government used SEZ’s as
laboratories in which policies could be tested)
** Reason 4 was most important in China; Reasons 2 and 3
were minor rationales; Reason 1 not relevant to China **
Criticism of SEZ’s – such special provisions may not
generate new economic activity, but rather may simply
move economic activity from one region to another in an
inefficient manner (thus, decreasing social welfare)
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Unique Characteristics of Chinese Economic Reform:
 Gradualism – reform along a path of
“experimentation,” moving slowly forward only in
areas where policies had been seen to work.
 Partial Reform – willingness to create situations in
which reform is “incomplete” (and does not move
entirely “to the market” – e.g., the HRS and CRS),
thereby introducing incentives without completely
altering the environment in which individuals must
make decisions
 Decentralization – weakening of central control over
the entire economy, giving provincial authorities the
flexibility to make pragmatic decisions within their
own jurisdiction
 Economic
Liberalization
without
Political
Democratization – in China economic freedom has
emerged ahead of political freedom; with less political
freedom there was greater social stability and
suppression of dissent, providing a solid platform for
growth and attracting foreign investment
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The Chinese approach to reform during this period led to
the
emergence
of
“Socialism
with
Chinese
Characteristics”
 1984 onward: debate shifted away from Marxism to a
discussion of “how to create a market economy”
 Central question (again): what is the proper relationship
between government and markets?
 Overall strategy was to “develop a ‘socialist market
economy’ in which the assets of much of the industrial
sector are owned by the state, but in which the primary
functions of coordination are performed by the market”
(a model quite similar to that of France or Britain preprivatization)
Success of economic reform => avoided a sharp
contraction in output, surge in inflation, and increased
unemployment (which characterized many economies that
attempted “shock therapy”). Possible reasons:
 China was much less industrialized (and more
agricultural) and less reliant on international trade when
economic reform began => so, disruptions caused by
“adjustments in prices” and “adjustments in
employment” had less substantial macroeconomic
consequences
 Chinese approach to reform was much different than the
“shock therapy” approach that was tried in many other
countries (such as Central and Eastern Europe).
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Overall impact of economic reform and Deng Xiaoping:
 Per Capita Incomes doubled between 1978 and 1987
and doubled again between 1987 and 1996 (it took the
U.S. 50 years and took U.K. 60 years to double their
Per Capita Incomes)
 “In instituting reforms with such effect, Deng did
something that no one else in history has
accomplished – he lifted 300 million people out of
poverty in just two decades.”
Year
1981
1984
1987
1990
1993
1995
1997
1999
2001
2003
2005
2007
2009
Real GDP
Per Capita
$285.16
$435.71
$621.28
$796.11
$1,182.95
$1,513.68
$1,848.99
$2,163.00
$2,614.88
$3,217.46
$4,064.34
$5,389.22
$6,546.30
Annual
% Increase
13.55%
17.95%
12.93%
6.30% [lowest rate of period]
15.20%
12.05%
10.12%
8.29%
9.99%
11.70%
12.46%
15.67%
9.65%
*** “Double Digit” increase in 21 of the 29 years
between 1981 and 2009 ***
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