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The incomes from interest and dividend payouts represent the incomes derived from the savings set aside by households in previous years. That Shanghai's property income is so low indicates that there is a very low savings rate.
Shanghai reduced state-sector employment while imposing restrictions on the private sector. A plausible explanation is that Shanghai restructured its SOEs to maximize the tax and income gains from the SOEs. The purpose of laying off SOE workers was to reduce the cost base of supporting the struggling SOEs and the purpose of restricting competition from private-sector firms was to raise the revenue base of the remaining SOEs.
One is that Shanghai started out as a leader in patents in the 1980s but ended as a laggard in the 1990s. The other is that Shanghai was showered with resources from the central government. With massive investments, a world-class infrastructure, and substantial FDI inflows, Shanghai does not seem to have much to show in an area that increasingly matters in China's competitive economic landscape – the ability to innovate and to upgrade technology and products.
Hu and Jefferson (2006) note “a patent explosion” in China since 2000. The fact is that Zhejiang and Guangdong experienced a patent explosion at least 10 years earlier.
In the first three decades of the 20th century, Shanghai was the major business and financial hub of Asia, similar to or even more significant than the role of Hong Kong today. It was the home of the country's largest textile firms and banks and the founding venue of a number of firms that are still major MNCs in the world today.
Industrial policy always favors big, incumbent firms and in Shanghai, the large firms are not only subsidized, but also the small entrepreneurial businesses are restricted in terms of their access to market opportunities.
The most plausible explanation is that Shanghai restricts its household businesses to the lowest value-added activities. It is not economics, it is policy.
There is an important distinction between being inventive and being innovative: Inventions are acquisitions of capabilities without reference to their underlying market value; innovations are acquisitions that are motivated by a realization of market values (Iacopetta 2004).
In one respect, Shanghai is fundamentally different from – and superior to – the former Soviet Union: Shanghai is open to FDI. So, the question is not whether it matters to have entrepreneurs but whether it matters not to have indigenous entrepreneurs. The answer is still yes, although the reasoning is a bit more complicated.
Shanghai residents to have the highest wage level in the country. The average Shanghainese are the richest proletariat in the country but among the poorest capitalists in the country.
Urban control of the rural economy was tightened during this period under the doctrine of “rural–urban planning integration.”
The Shanghai model has four integral components. The first is a highly interventionist state. The quote from former Party Secretary Chen Liangyu at the beginning of this section reveals this aspect of Shanghai. The second is a systematic and deep anti-rural bias in its economic policies. The third component is a biased liberalization in favor of foreign capitalists at the expense of indigenous capitalists. The fourth component is that Shanghai was favored by the central government and might have been showered with massive resources. The components of this model together produced rapid GDP
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The other mechanism was a systematic push to eliminate all vestiges of those extant features of the city considered to be backward by the policy elites. These included those small and informal market activities that were a ubiquitous sight in urban China in the 1980s – food and vegetable stalls operated by peasants at the intersections of cities and the countryside. In the first half of the 1980s, many spontaneous marketplaces had sprung up in various neighborhoods in central Shanghai, hawking goods ranging from vegetables and eggs to small-scale industrial goods, as detailed in a
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In 1991, the Shanghai municipal government issued an order – known as policy document No. 287 – banning products of private businesses from being stocked in “large and famous department stores” located on Nanjing Road and Huaihai Road (Wu Xiaobo 2006, p. 109).
Governments at both the central and local levels showered expensive policy resources to attract foreign investors while systematically restraining the business opportunities of indigenous entrepreneurs. Government officials, when pressed for an explanation, often equate their policies with the investment-promotion programs in some of the market economies. The analogy is completely false.
Favoring foreign capitalists is often justified by the rationale that foreign capitalists bring financial resources and technology. This reasoning lacks both conceptual and empirical support. Economic research shows that technology transfer occurs in a competitive business environment. Restricting indigenous entrepreneurs curtails competition.
In the Shanghai sample, the majority of firms – 64.8 percent – sold their products locally, as compared with 35.7 percent in the Shenzhen sample.
In the Shanghai sample, 48.8 percent of the firms sourced products from the SOEs, compared with 28.9 percent in the Shenzhen sample.
In the 1980s, Shenzhen was always on the margins of Chinese politics and was often mired in political controversy.
That the Shanghai model is not dynamic suggests that the city might have been subsidized.
Because of its privileged position in Chinese politics in the 1990s, Shanghai was able to amass a huge amount of financial resources supplied from the rest of the country. These resources were then invested in modern infrastructures and luxury-amenity facilities and, importantly, they were used to finance very generous tax and other benefits conferred on foreign firms.
The SEZ designation of Shanghai was fiscally costly to the central government in a way that Shenzhen's was not. This is a second difference between Shanghai and the first-generation SEZs – the central government may have poured massive resources into Shanghai and taxed other regions of China to finance this resource transfer. In fact, one could reframe Deng's remorse as follows: The opening of Shanghai would naturally have to follow the opening of the other SEZs because the first-generation SEZs generated the resources to finance Shanghai.
Of the six Shanghai firms, three were connected to real estate and construction, the most political sector in the Chinese economy.
So China is capitalistic, as I point out in the first chapter of this book, but it is capitalistic in a particular way. It is crony capitalism built on systemic corruption and raw political power. Property rights are not secure.
There has been a sharp decline in self-employment businesses since the late 1990s. In 1999, the number of self-employment businesses in the urban areas stood at 31.6 million, but in 2004, it had declined dramatically to 23.5 million, all during a period of a seemingly urban boom. The reason was the rising and exorbitant fees levied on such self-employment businesses. The situation improved slightly in 2006. As of June 2006, the number of urban self-employment businesses was 25.1 million.4
The first section of this chapter assesses the welfare impact of the policy reversals in the 1990s. Probably the most tangible evidence of the adverse effects of the policies of the 1990s is the sharp rise in illiteracy in China, all of which most likely took place in rural China.
One of the strengths of China is its geographic heterogeneity. Although the country as a whole moved toward a statist version of capitalism in the 1990s, some regions continued with the economic model of the 1980s. One of the most famous and most successful regions is Zhejiang province.
Normatively, some believe that democracy is a luxury good, which a poor country like China cannot afford. Positively, democracy is viewed as a constraint on economic growth. It slows down decision making when decisiveness is most needed to jump-start economic development.5 Increasingly, this view that poor countries are faced with a Faustian political and economic choice is being contradicted by the very country that supposedly supplied the clearest evidence in favor of this hypothesis – India. India has begun its own economic takeoff as its GDP has grown above 8 percent for a number of years.
The lesson from this emerging economic miracle is that “soft infrastructures,” such as financial and legal institutions, are more important than hard infrastructures for economic growth.
Many view the Chinese economy as another East Asian economy. I dispute this perspective and show that the East Asian economies, notwithstanding the high levels of industrial policy interventions, were far more privately owned than China is today.
GDP, along with personal income, grows rapidly under entrepreneurial capitalism. Under state-led capitalism, GDP may still grow very fast but personal income lags.
In their book, India: Economic Development and Social Opportunity, Jean Drèze and Amartya Sen (1999) highlight a critical reason why India lagged behind China in the initial phase of economic development – India's highly inadequate and inequitable provisions of health care and educational facilities. The “social backwardness” of India prevented broad and effective participation in economic and political activities even when the opportunities for such participation presented themselves (as when the country moved toward a market economy and was a democracy).
Social opportunities – defined as the arrangements a society makes for education and health care – interact with economic growth both as a precondition and as an outcome.
Sen (1999, p. 45) presents a sharp contrast between two types of high-growth economies. In one, as exemplified by South Korea and Taiwan, high economic growth was accompanied by an expansion of social opportunities. In the other – for example, Brazil – GDP per capita experienced fast growth but without the comparable success in raising the levels of education and basic health care. Clearly, economic growth itself does not automatically expand social opportunities.
Details matter. Local governments in China often automatically register school-age children as enrolled in schools. But we know very little about the actual attendance of these enrolled students, especially in the rural areas. It is almost certain that local officials falsified their educational data.
In 2000, the county government certified that schools in the region had successfully met all of the targets of “nine-year compulsory education.” One of the targets was to achieve a dropout ratio below 3 percent. But, in 2003, a journalist discovered that only 3,000 students took the graduation examination in the junior secondary schools of Wei county.
In other words, the decline in the enrollment rate in the early 1980s was due to the rising opportunity costs of education. But the rising opportunity costs were not a binding constraint on education. The main effect was a delay in education rather than forgoing education altogether, especially forgoing basic education.
This is the critical difference with the 1990s. In the 1990s, the actual costs of education rose substantially. High actual costs of education are prohibitive (absent of financing intermediation, which rural China does not have) and they force those who cannot afford it to forgo education altogether.
In the 1960s and 1970s, China was out-performing Indonesia and Malaysia by a substantial margin in reducing child mortality under the age of 5. In the 1980s, China began under-performing against Malaysia; then, in the 1990s, it was under-performing both Malaysia and Indonesia.
the 1990s, the mortality rate for boys under the age of 5 declined by 2.3 percent a year on average, but the mortality rate for girls under the age of 5 rose by 0.5 percent a year. The World Bank report does not go into detail to explain these differential effects, but one fact identified by the report is that China was charging for immunizations in the 1990s. An explanation could be that the rising immunization costs have forced rural households to choose between boys and girls in allocating the shots.
In the 1980s, although the burden of financing was shifted from the community to individuals or households, the Chinese state was not profiting from the provision of health care. In the 1990s, the government-run hospitals and their doctors began to increase charges for hospitalization and outpatient visits and for prescription drugs.
Economics, John Stuart Mill famously stated, is the study of “the sources and conditions of wealth and material prosperity for aggregate bodies of human beings.” “Aggregate” is the key operating word here because it gets to the heart of why economic growth matters. Economic growth matters because growth improves the welfare of the majority of the population. It is not sufficient that growth benefits only a few elitist members of the society.
The “good” and “bad” mechanisms for income disparities lead to an observationally identical result – a rising Gini. We do not know which set of factors is behind the rising income disparities or which set of factors is more important.
A simple, although crude, way to distinguish between the economic incentive story and the anti-competitive story is to assume that 100 percent of the income disparity in the United States is the result of market incentives. Under this assumption, the Gini coefficient of the United States can serve as an upper threshold between the “good” and the “bad” mechanisms for income disparity. It is an upper threshold because in the United States, racial discrimination and the political power of big business can also be construed as obstructions to economic opportunities.
I adopt the estimates provided in Khan and Riskin (2005) who directly compared the Gini coefficient for China with that of other countries, including the United States. According to them, the recent Gini coefficient for the United States is 40.8. If this is the threshold, China crossed it sometime in the early 1990s. China's Gini was 38.2 in 1988 and 45.2 in 1995 (Khan and Riskin 1998). In 1980, China's Gini was 28 (Khan and Riskin 2001
Rural entrepreneurship was found to increase within-rural income inequality but it decreased rural-urban income inequality. Their analysis shows that within-rural inequality contributed very little to China's overall income inequality, whereas rural–urban income differences had a huge effect.
The economic incentive story is most compatible with rising income disparities at the individual level – such as educated individuals earning more than uneducated individuals – rather than at the group level, especially groups of individuals with incidental characteristics (e.g., place of birth or race).
Sachs does not recognize the distinction I make in Chapter 1 between the personal security of a proprietor and the security of her property.
Among Chinese policy makers as well as among Western observers in the 1990s, there was an obsession with the supposed growth-boosting effects of foreign direct investment (FDI).
The leaders of Shanghai routinely highlighted the number of Fortune 500 MNCs making investments in the city, not the growth of household income, as their achievement. For many years, Western analysts habitually wrote off the economic prospects of India simply because that country was unable to attract FDI.
