Economic Reform in China
When PRC was found in 1949, Chinese political leaders had to choose a development strategy for rapid and direct realization of a strong, independent nation. They chose the heavy-industry-oriented strategy. But this conflicted with China’s economic reality - Scarcity in capital endowment. To solve the problem, institutional arrangements were made to lower the barriers to heavy-industry development artificially by lowering price of capital, foreign exchange, energy, raw materials, agricultural produce, and labour. As a result, a macro-policy environment with distorted price was formed.
Chinese leaders chose the heavy-industry-oriented ...view middle of the document...
Thus China had to adopt a low-exchange-rate policy. To lower the cost of heavy industry, a policy of low nominal wages and low prices for energy and raw materials and a policy of low prices for agricultural products and other essential goods and services were introduced. For example, the uniform wage system was implemented for many years.
2. The Planned Resource-allocation System
Since the government needed to created an order of priority for industrial development, it had to replace the market mechanism with a planned resources-allocation system. The first step is the establishing an administrative institution of the financial sector. PBC (the People’s Bank of China) became the country’s centre for cash, clearance, and credit, and overall responsibility for financial transactions. All deposits had to be delivered to the head office and loans were granted according to quotas which were determined by the head office
Second is to establish a management system for foreign trade and exchange - the foreign exchange rate was suppressed below the equilibrium level. This had two consequences: export was unprofitable and high demand for imported products.
The national planning administration controlled four aspects of foreign-trade activities: it imposed an I/E permit system to strictly control I/E, controlled foreign exchange, stipulated private I/E enterprises and foreign-funded companies, and imposed protective tariffs and a quality inspection system on I/E commodities
The third step is establishing a system to manage materials. The State Planning Commission was established to allocate important materials across the country. Materials are clarified into 3 categories: materials under the unified allocation of the state, materials under allocation by state industrial ministries and commissions under the State Council, and materials under the allocation of the local administration.
Finally, China established a monopoly over the purchase and marketing of agricultural products.
As a result, low-price compulsory procurement policy ↓farmer’s incentive to produce and then lower production and led to the establishment of the People’s Communes in 1958.
Whole-industry joint state-private ventures began in 1956. Former private owners lost their right to manage their own enterprises. Private enterprises became virtually state run. SOEs were deprived of any autonomy. All production materials used by SOEs were supplied by the government through planning, and all their output was sold to and allocated by the state.
Next comes the collectivization of agriculture through the People’s Communes. The socialist transformation in agriculture completed in 1956. The proportion of peasants participating in agricultural cooperatives jumped from 14.2% of the total in late 1955 to 80.3% in early 1956 and rose to 96.3% in December of the same year.
3. Economic Performance before Reform
First, China’s economic...