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The economics of institutional reform and development in China Gérard Roland UC Berkeley Lecture 1. The Chinese Miracle. Stylized facts and puzzles. 1. Introduction • Chinese growth since the beginning of the reform process in 1978 has been very impressive. Three decades of very high growth in a country of over a billion inhabitants is akin to an economic “miracle” and is one of the most important economic events since England’s industrialization. • Real GDP grew at an average rate of more than 9% during 30 years. • Real GDP per capita at more than 8%. • Consumption at nearly 8%. • Foreign trade as a % of GDP from less than 10% to more than 60%... Table 2. Growth of various indicators. Fixed telephone (million) Mobile telephone (million) Auto production (million) Passenger cars per 1000 pop Urban housing per person (m2) Super highway length (km) 1978 - - 0.15 - 6.7 - 1985 3.12 - 0.44 - 10.0 - 1990 6.85 0.018 0.51 - 13.7 500 1995 40.71 3.63 1.45 1.33 16.3 2,100 2000 171.53 84.53 2.07 2.93 20.3 15,300 2003 271.60 269.95 4.44 5.41 23.7 29,700 2005 July 337.44 363.17 5.07 (2004) 6.96 (2004) - - Source: Qian-Wu (2005) Table 3. Evolution of employment. Non-agricultural employment (million) Total Industry Service 1978 118.35 69.45 48.90 1985 159.16 103.84 55.32 1990 222.15 138.56 83.59 1995 276.34 156.55 119.79 2000 330.99 162.19 168.80 2003 359.00 160.77 198.23 Source: Qian-Wu (2005). Table 4. Rural poverty reduction. Chinese national standard World Bank standard ($1/day) Poverty population (million) % of rural population Poverty population (million) % of rural population 1978 250 30.7% - - 1990 85 9.5% 280 31.3% 1993 75 8.2% 266 29.1% 1996 58 6.3% 138 15.0% 1998 42 4.6% 106 11.5% 2002 28 - 88 - Source: Qian-Wu (2005). • While the growth is impressive, not everything is rose. • Income inequality has increased and many social problems, environmental problems. Figure 3 China: SO2 Levels in Major Urban Areas, 1980-2004 with international comparisons 0.45 Ambient SO2 milligrams per cubmic meter 0.4 0.35 Major City Maximum 0.3 Tokyo City Center 1965 0.25 0.2 Seoul 1990 0.15 New York City 1972 0.1 Major City Average 0.05 0 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 Figure 4 Trend of Primary Labor Force Share vs. Urban TSP Concentration 0.5 0.4 China Annual Average for 30+ Cities 1986-2003 Tokyo 1966-1997 0.3 Seoul 1984-1998 0.2 Kitakyushu City 1959-2003 0.1 0.0 60 50 40 30 20 10 Primary sector labor force share (percent, with strong downward time trend) 0 Ambient TSP milligrams per cubic meter 0.6 Table. Income and consumption inequality. Gini coefficients 1988 1995 2003 National 0.39 0.44 0.45 Rural 0.32 0.38 0.37 Urban 0.23 0.28 0.32 Source: Qian-Wu (2005). Consumption inequality 1991 2003 Richest 20% to poorest 20% 2.02 3.95 Richest 10% to poorest 10% 2.42 5.66 Puzzle 1. China’s transition success. • This impressive high growth period is the result of the transition process from socialism to capitalism. China’s performance during the transition period is much better than that of other transition countries. Why did China do so much better than other transition countries? China has high growth. Other transition countries had output fall and decline! R e a l G D P tr e n d s i n tr a n si ti o n e c o n o m i e s a fte r l i b e r a l i z a ti o n 180 160 140 G D P in d e x 120 100 80 60 40 20 C h in a 1 9 8 3 = 1 0 0 P o la n d 1 9 8 9 = 1 0 0 0 1 2 3 4 5 6 n u m b e r o f y e a r s a f t e r lib e r a liz a t io n 7 8 9 R o m a n ia 1 9 8 9 = 1 0 0 L a t v ia 1 9 9 0 = 1 0 0 R u s s ia 1 9 9 1 = 1 0 0 Differences between China and other transition countries. • 1) China started off poorer. • Sachs-Woo, 1992: Being an agricultural economy, China was facing the classical problem of development (transfer of rural labor force to urban industry) whereas other transition countries were facing issue of transfer of labor from SOEs to private sector. BUT … • .. Other countries have been facing classical problem of development and have not had success. • …While some “convergence à la Solow argument” may apply, it does not explain why East European countries had an output fall and long decline in the nineties. Still leaves open issue of why China did better than other transition countries. China started off poorer. • Blanchard- Kremer, 1997. China had less complex economy. More complex economies with institutional weaknesses should have larger output fall. • China did not have any output fall. Does not explain either lack of any output fall or high growth. Differences between China and other transition countries. • 2) China did not introduce democratization • Little academic work on this but much journalism. Issue nevertheless quite crucial. • Main argument is that absence of democracy gave the Chinese government more freedom of maneuver to introduce painful reforms. • Ironically, reforms were less painful in China compared to countries that democratized. • Moreover, countries that democratized less or had antidemocratic backlash have tended to do less well (former CIS countries had longer output fall). • TO SUMMARIZE: China’s transition success not clear in view of the overall transition experience. Puzzle 2. High growth despite relatively low quality of institutions. • China represents a puzzle for the new mainstream view in economics according to which quality of institutions is a main factor explaining high growth and differences in development. (Hall and Jones, 1999; Acemoglu, Johnson and Robinson, 2001). China does not rank highly in terms of institutional comparison. Table. Freedom house index of political freedom and civil liberties. 1990 2000 2003 PR CL Status PR CL Status PR China 7 7 N Free 7 6 N Free 7 6 N Free Czech - - - 1 2 Free 1 2 Free Hungary 2 2 Free 1 2 Free 1 2 Free India 2 3 Free 2 3 Free 2 3 Free Mexico 4 4 P Free 2 3 Free 2 2 Free Peru 3 4 P Free 3 3 P Free 2 3 Free Romania 6 5 N Free 2 2 Free 2 2 Free Russia - - - 5 5 P Free 5 5 P Free Singapore 4 4 P Free 5 5 P Free 5 4 P Free Ukraine - - - 4 4 P Free 4 4 P Free Source: Qian-Wu (2005). CL Status Table. Rule of Law Index. Country/Region 2004 2002 2000 1998 1996 Singapore 95.7 92.3 98.9 99.5 99.4 Hong Kong 90.3 84.7 90.4 90.8 90.4 Japan 89.9 88.3 90.9 90.3 88.0 Hungary 78.7 77.6 78.6 76.2 75.3 South Korea 68.6 76.5 73.8 76.8 81.9 Malaysia 64.7 67.9 71.1 76.8 82.5 Turkey 54.6 53.1 59.9 65.9 58.4 Thailand 51.7 60.2 69.0 69.2 71.1 India 50.7 55.6 62.0 67.0 56.6 Romania 48.3 52.0 51.9 49.7 44.0 Brazil 46.9 45.9 53.5 56.8 46.4 Mexico 45.9 47.4 46.0 40.0 54.2 China 40.6 48.5 48.7 52.4 37.3 Peru 31.9 36.7 38.5 37.3 40.4 Russia 29.5 21.4 18.7 22.7 19.9 Ukraine 23.2 21.4 26.2 23.2 28.3 Source: Kaufmann et al. (2005). From Qian (2005). Table. Ease of Doing Business. Country/Region Ranking Singapore 2 Hong Kong 7 Japan 10 Thailand 20 Malaysia 21 South Korea 27 Hungary 52 Peru 71 Mexico 73 Romania 78 Russia 79 China 91 Turkey 93 India 116 Brazil 119 Ukraine 124 Source: World Bank 2006, Doing Business report. From Qian (2005). Table . Regulatory quality. Country/Region 2004 2002 2000 1998 1996 Hong Kong 99.5 89.3 98.4 98.4 98.9 Singapore 99.0 99.0 100.0 100.0 99.4 Hungary 86.7 84.2 88.2 88.0 74.6 Japan 83.7 78.1 81.8 69.0 82.3 South Korea 71.9 75.5 69.5 58.2 78.5 Mexico 68.0 66.8 76.5 75.5 74.0 Malaysia 64.5 69.4 64.2 70.1 82.9 Brazil 58.1 63.3 64.7 57.1 60.2 Peru 57.1 62.2 73.3 81.5 76.2 Thailand 51.2 64.8 77.5 56.0 69.6 Romania 49.8 55.1 35.8 58.2 30.4 Turkey 48.8 55.6 55.1 80.4 71.3 China 35.0 37.8 36.9 42.9 47.0 Ukraine 33.5 27.0 11.2 17.9 23.8 Russia 30.5 43.4 5.3 31.5 31.5 India 26.6 43.4 38.5 41.8 44.2 Source: Kaufmann et al. (2005). From Qian (2005). Table . Corruption perceptions. Country/Region 2004 Rank 2004 Score Finland 1 9.7 Singapore 5 9.3 Hong Kong 16 8.0 Hungary 42 4.8 Mexico 64 3.6 Thailand 64 3.6 Peru 67 3.5 China 71 3.4 Turkey 77 3.2 Romania 87 2.9 Russia 90 2.8 India 90 2.8 Ukraine 122 2.2 Source: transparency International. GDP per capita (PPP$) Figure. Institutional quality and GDP per capita. 18000 15000 12000 9000 BLR RUS 6000 KAZ TKM AZE UZB TJK UKR GEO CZE SVK HUN EST HRV POL LTU BGR LVA ROM KGZ CHN ARM VNM SVN 3000 MDA 0 -15 Qian (2005). -10 -5 0 5 10 Institutional Quality Index • • • • China’s institutional quality, corrected for income per capita is not that low. There have been significant improvements since the beginning of the reform period on the legal and political front. Still, the coexistence of strong growth and weak institutional quality is a puzzle. How to explain high growth despite low quality of institutions in comparison to international norms? Possible answers we will investigate: 1. Transitional institutions were created at different points during the transition process that were very imperfect but helped move the reform process forward and thus operate large scale resource reallocation and creation of markets. 2. Meritocratic administration fundamental in explaining sustained growth. • Success in transition and in growth are linked but useful to look at them separately. High growth presupposes successful transition but successful transition does not automatically imply high growth. Explaining the growth success • Lecture 2. We will look at the basic sources of growth over the last decades to understand better the anatomy of growth in China and see what the macro-indicators tell us. Traditional growth analysis will give us anatomy of growth but will not give us detailed causes of the Chinese success and we will need to dig in more deeply in understanding the causes and consequences of the institutional changes associated with China’s transition process. Explaining the transition success. • Lecture 3. Chinese gradualism. Experimental approach to reforms and flexibility of administrative organization played a very important role in a) getting reforms started, b) providing flexibility for reversal in case of failure. Chinese M-form organization made experimentation much easier since it could be done at a small scale without disturbing the rest of the economy. Chinese gradualism was criticized in the 1980s but proved more successful than East European “big bang” approach. Explaining the transition success. • Lecture 4. The dual-track approach to price liberalization. Price liberalization at the margin helped prevent the output fall, protected existing rents and acted as Pareto-improving reform. Was criticized for some of the rents it generated. Represents a general political economy device for creating reform without losers. Explaining the transition success. • Lecture 5. Fiscal decentralization and incentives of bureaucrats. Reform of organization of government and provision of incentives to bureaucrats played important role in creating support for growth. Local and provincial governments became interested in promoting reform and growth. Explaining the transition success. • Lecture 6. Meritocracy and yardstick competition. Leaders with more success in growth got faster promotion. Organization of government facilitates yardstick competition. Promotion within government administration a strong incentive for elite members.