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Kornai and China part 2 Where does China fit within Kornai's System Paradigm?

posted 18 May 2012, 09:17 by heiko khoo   [ updated 18 Feb 2013, 12:17 by Admin uk ]

Where does China fit within Kornai's System Paradigm?  By Heiko Khoo   Kornai’s Assessment of Contemporary China      

This chapter reviews contemporary Chinese political economy using tools developed by Kornai in ‘The Socialist System’. Although his recent writings on China are not extensive, he has applied his methodology to define its systemic character (Kornai, 2008).    

I review this assessment and the data that informs it, subjecting his conclusions to critical examination. Then, I attempt to locate the main features of Chinese reality within the wider spectrum of his reform socialist model.[1]


Research Questions


A study of China in the light of Kornai’s Socialist System needs to address the following research questions.


1.                    As the primary factor used to identify a socialist system is monopoly control by the Communist Party, how does the Chinese Party’s endurance fit within his theories?

2.                    The predominance of public property is given as the second characteristic of socialism. This poses theoretical and empirical questions. What defines ‘predominant’ ownership? Which ownership form is predominant in China? What forms of public ownership exist there and how influential is private ownership?

3.                    The third characteristic of socialism is the predominance of bureaucratic coordination. What is the scope and power of bureaucratic coordination in present-day China? What influence does the planning system retain?

4.                    In the sphere of economic appearances how does China resemble the features and regularities of reform socialism? Are factor markets free or bureaucratically controlled? How does the banking sector allocate credit? Do soft budgets predominate in the state sector? Do tendencies towards increased lobbying power by workers reveal themselves in China? Do firm managers in the state sector look primarily to vertical or horizontal relationships?

Kornai defines China’s transformation in the light of three lines of causation; rule by the Communist Party, the dominance of public ownership and bureaucratic coordination.


  1. As the CPC remains in power, and this feature is defined as the central motive force of the socialist system, Kornai’s model is confronted by a fundamental dilemma. He rejects the idea that China remains socialist, resolving this contradiction by proposing that the party has radically changed. The name remains communist but the content is capitalist (Kornai, 2008:58-59). Kornai argues that the party underwent a metamorphosis, in which, the other two main lines of causation, public ownership and bureaucratic control, were also transformed (Kornai, 2008:147-50).
  2. He notes that public ownership has radically declined and private ownership now predominates. ‘The first characteristic of capitalism –a dominant role for the private sector –either applies or is near to applying.’ (Kornai, 2008:148). The OECD statistics presented by Kornai, reveal that 60% of the value added to the national economy, derived from the private sector in 2005 (Kornai, 2008:149). As we shall see, there are problems with adopting these statistics as the criteria to define the relative weight of ownership forms. In addition, by applying the more wide-ranging methodology that Kornai developed in The Socialist System, I will attempt to contextualise the hierarchy of ownership and power in contemporary China. This will provide a more precise picture of the relative weight and influence of the private and public sectors. 
  3. The dominance of market price transactions is cited as evidence that the ‘second characteristic of the capitalist system –predominance of market coordination –clearly applies.’ (Kornai, 2008:148). Although, significant emphasis on planned prices is a feature of bureaucratic coordination, generic bureaucratic prices were not the definitional determinant of the dominant mode of coordination.[2] Kornai suggests that market socialist experiments in the reform era attempt to adjust prices by market methods, whilst maintaining bureaucratic coordination and control over factor prices (Kornai, 1992:525). His contention was that bureaucratic coordination within a market socialist environment distorts true price signals, as it operates through soft budget constraints and maintains the close relationship between the party, bureaucracy, public banks, publicly owned companies and other state entities (Kornai, 1992:512-27).


Kornai proposes that the transition from socialism to capitalism is complete when the following ‘necessary and sufficient’ conditions apply;


  1. “A dominant role in ownership relations for private ownership, with public ownership present in at most a subordinate, auxiliary role.
  2. A dominant role in the coordination of activities for the market, with centrally directed, bureaucratic coordination present in, at most, a subordinate, auxiliary role.
  3. No political power standing against capitalism, private ownership and the market. These institutions are either supported actively, or, at least, treated in a benevolent, ‘friendly,’ neutral manner.”[3] (Kornai, 2008: 126).


Kornai defines China as capitalist as he believes that all three conditions apply. I will critically evaluate this contention and show that China is more appropriately located within the reform socialist definition.



Rule by the Communist Party of China


Kornai points to contradictory observable facts. ‘The Chinese Communist party retains a monopoly of power in China, which to that extent remains a Communist Country.’ (Kornai, 2008:198). Official declarations proclaim adherence to Marx, Engels, Lenin, Stalin and Mao, however, anti-capitalism is expunged from political practice. Membership of the Communist Party is open to capitalists and there is increasing interpenetration of the leading stratum with business interests. This takes the form of functionaries, or their families and friends, directly engaging in business activity or utilising positions to promote it. Capitalists are permitted to assume positions of authority in the state, party and bureaucracy. The new stratum that supports and promotes capitalism ‘is developing before our eyes’ and the party is ‘advancing steadily’ in the direction of capitalism (Kornai, 2008:148-50).

However, Kornai does leave scope for doubt about the extent of capitalist transition in China. He describes China’s directional trajectory as ‘towards pro-capitalism’ (Kornai, 2008:152), and appears even more circumspect here: “There is a change of system taking place (my emphasis) in that vast country of 1.3 billion people. Will there be an uprising, bloody clashes, or a civil war claming millions of victims? Or will it occur peaceably? So far the latter seems more likely, for one reason, because the Communist cadres do not oppose the spread of capitalism. On the contrary, they are seeking their share of the profits. Party secretaries appropriate some or all of the factory assets. Municipal firms fall under the control of mayors. Sons and daughters of generals study at expensive business schools to prepare them for high positions in business. This is all rather repulsive, but has the advantage that the Communist party becomes the quartermaster instead of the enemy of capitalism. It is an immoral process, but it disarms the resistance of the old lords to the new system, giving them an interest in its prosperity” … “What if those old cadres were excluded from business and political life? That could easily warn the Chinese Communists away from peaceful transition. Then instead of surreptitious introduction of capitalism, they might prefer unbridled oppression and resistance to the change of system.” (Kornai, 2008:145-6). [4]


Ideologies of Socialism -Kornai’s View


Kornai identifies four ‘pure interpretations’ of the term ‘socialism’; that of Karl Marx, the Walrasian, the Leninist and the Social Democratic model. Then he compares contemporary China to these models with the following outlines.


  1. Karl Marx’s Socialism


Marx’s theory of socialism is not a blueprint, and is constructed by a negation of elements of capitalism.

a. In politics. A rejection of bourgeois democracy, support for a dictatorship of the proletariat and in ‘utopian’ phases, he argues that the state will wither away. The transitional period between capitalism and communism is of an unspecific duration run under a dictatorship of the proletariat (Kornai, 2008:49).

b. Ownership relations. Marx argues that that new state will ‘wrest by degrees, all capital from the bourgeoisie’ but he gives no timetable. Kornai claims, that Marx does not distinguish between big and small capital as the target for his attack on capitalism (Kornai, 2008:50).

c. Coordination. Marx sees the market as the manifestation of anarchy and claims it leads to waste. Socialism is to be based on rational conscious coordination of the productive forces, and labour allocation will be superior to the labour market. His ideas are not incompatible with a central plan, however the market cannot be the central coordinator of this form of socialism, as this contradicts the spirit of Marx (Kornai, 2008:50-51).

d. Ideology. Marx did not suggest that there should be any new ideology for socialism (Kornai, 2008:51).


2. Walrasian socialism


Oscar Lange’s vision of socialism is a system based on public ownership of the economy, or the dominant part of it, or one where the public sector is perfectly isolated from the rest of the economy. However, it is an economy where coordination would be organised via market exchange.

Kornai argues, that complexity of knowledge and information requires ‘decentralised incentives for gathering and applying knowledge’ and that only markets combined with private property automatically unify such information (Kornai, 2008:52). He claims that the incentives and sanctions needed to minimize costs or maximize profits would not be applied to public firms.

Without a market friendly environment, political and ideological hostility to genuine decentralization pushes the market into black and grey areas, instead of acting as the fundamental coordinator and integrator (Kornai, 2008:51-3).


3. Leninism


This ‘classical socialism’ is characterised by a Communist party monopoly of power. It is a system with public ownership of nearly all means of production and there is a confrontational attitude towards private ownership. It is a command economy coordinated by bureaucratic planning. The ‘Marxist-Leninist’ ideology is hostile to capitalism, private ownership and the market (Kornai, 2008:53-5).




4. Social Democracy


Social Democracy is based on parliamentary democracy and accepts defeats at elections. It supports some level of nationalisation but does not reject the dominance of private ownership. The market coordinates the economy and the state is redistributive. This ‘welfare state’ seeks the profound reform of capitalism, but not its overthrow. This ideology has cut its former links to Marxism (Kornai, 2008:55-7).


  1. Chinese Socialism


Kornai draws the following conclusions when comparing the above socialist models to that in contemporary China:


  • Marx’s: Marx’s opposition to the market and private property leads Kornai to reject any association between Marx’s vision of socialism and contemporary China (Kornai, 2008:58).
  • Walrasian: Oscar Lange’s model was one in which productive assets are under public ownership but coordination is by the market. Kornai believes that the extent of private ownership in China negates any viable comparison between China and this model (Kornai, 2008:58).
  • Leninist: As the Communist Party maintains its classical form: it retains its totalitarian nature and political monopoly, and represses opposition, thus in this respect, it is Leninist.  The party has changed its ideology by adopting a positive view of capitalists, private property and the market. However, Kornai argues that, “the ownership structure has undergone fundamental changes, in which the state-owned sector has given up its leading role. The role of bureaucratic coordination and central management has been drastically reduced and largely replaced by the market. The result is far from a classical socialist system, and fairly close to a typical capitalist system.” (Kornai, 2008:58-9).
  • Social Democracy: Kornai argues that the political system of competitive elections is missing in China and is rejected as a model. In addition, the welfare rights that used to exist in China have been diminished in order to increase competitiveness, improve the fiscal balance and the efficiency of the private sector. Inequality is increasing and society is moving towards a Manchester or Latin American model of capitalist exploitation (Kornai, 2008).


It is not clear why these four ‘pure models’ of socialism are used as comparators with respect to China, nor why possible hybrid combinations of these ‘pure models’ are not considered to be valid tools to comprehend Chinese reality. What is most surprising is that Kornai makes no attempt to fit China into his own model of reform socialism, an omission that this chapter seeks to rectify.


Ownership and Control of the ‘Commanding Heights’


Kornai identifies a predominance of the private sector in the Chinese economy based on the proportion of value added to GDP. He takes this as an indication that the ‘first characteristic of capitalism –a dominant role for the private sector – either applies or is near to applying’ (Kornai, 2008: 148-9). 


The state owned enterprise is at the core of Kornai’s political economy of socialism. It is ‘the first and most important property form’ of the socialist system. It occupies what Lenin called the ‘commanding heights’ “the positions that allow the other, non-state sectors of the economy to be dominated: mining, energy production and manufacturing, transport, domestic wholesale trading, foreign trading, banking and insurance. On the other hand, agriculture, retail trading, and other services to the general public, do not qualify as ‘commanding heights,’ and although state firms appear in them, other property forms occur alongside and may even predominate.” (Kornai, 1992: 71).


Recent research indicates that firms at the commanding heights of the world economy exercise ‘network control’ ten times greater than the proportion of wealth that they own. Of 40,060 Transnational Corporations (TNCs) the top 737 hold 80 percent, and the top 147 ‘super-entities’ hold 40 percent, of the control over the economic value of all TNCs. Financial intermediaries were found to make up 75 percent of the top 147 (Vitali et al., 2011: 6).


I shall argue that Lenin’s theory concerning the decisive importance of ownership and control over the commanding heights of the economy[5] was correctly identified by Kornai as the primary determinant of the dominant form of ownership of the means of production. Indeed Vitali’s work confirms both Lenin’s and Kornai’s analysis of the significance of the commanding heights, particularly in the context of the modern world economy. In this respect the early thoughts of Engels on the question of Communist economic strategy are also of interest.[6] It appears that although Marx and Engels’ objective was to abolish private property and this was a ‘cornerstone of the ideology’(Kornai, 1992: 444-5), a subtlety in their tactical approach is evident as early as 1847. In Lenin we find significant flexibility, in 1917 for example, he argued for minimal nationalisation - of the banks, insurance companies and large-scale syndicates - as the effective means of controlling the economy. [7]

Under Kornai’s model of socialist political economy the Communist Party government and its organs of power and influence, control leading publicly owned financial institutions and a comprehensive range of state enterprises. This enables the state bureaucracy to mobilise these resources to implement their plans. In these circumstances the economic power derived from ownership and control of the commanding heights is likely to be more concentrated and amplified than Vitali’s model of ‘super-entities’ suggests.


Let us look the at extent of public ownership of the ‘commanding heights’ of the economy in China: 


The state sector in China is divided into three parts.

  • State owned enterprises (SOEs) run by the State-owned Assets and Supervision Administration Commission (SASAC) under the State Council.
  • SOEs run by local SASAC’s under lower government tiers.
  • SOEs controlled by other SOE owners and enterprises that are owned and controlled through SOE subsidiaries.


The national SASAC was formed in 1999 it now supervises 121 Central State Owned Enterprises (CSOEs). It has its origin in the mid-1990s when Asset Management Companies (AMCs) were formed by China’s four state owned commercial banks in order to off-load bad loans. AMCs were supposed to make SOEs act in a more market responsive fashion.

Defining the Commanding Heights in China


Figure 1 shows the degree of concentration of capital in the hands of the largest 150 companies. According to the Economic Census in 2008,[8] there were 4.95 million registered corporations in China with total assets of 207,800 billion yuan (including domestic, Hong Kong, Macao or Taiwan invested (HKMTI), and foreign.) The assets of the largest 117 state owned companies within the top 150 firms are equal to 41.2 percent of China’s total corporate assets.

Figure 1

The above chart shows the assets of China’s largest 150 companies (as measured by revenue) Here ‘CSOEs’ refer to central state owned enterprises; ‘State’ refer to state enterprises owned by local government or state institutions; ‘Unclear’ refer to firms where I was unable to ascertain the predominant ownership status; ‘Private’ are firms which are predominantly privately owned. The data is from 2010 and was published by[9] and the All China Federation of Industry and Commerce.[10] The combined assets of these 150 companies make up 84 percent of the largest 500 companies.  See appended excel sheet.


In 2006, the Chinese government published a list of ‘strategic’ industries that it considers vital to national or economic security and that will remain permanently in state hands. They are defence, power generation and distribution, oil and petrochemicals, telecommunications, coal, aviation and shipping. In 2007, the list was extended to include shipbuilding, metalwork and construction. Fifty non-financial enterprises are deemed strategic and act as the commanding heights of the state sector. Provincial governments use the same terms of reference as the central state to define those enterprises that must be in state hands (Chan, 2009).


The state will also retain significant or absolute control over those sectors defined as ‘pillar’ and ‘basic’. These are machinery, automotive, IT, construction, steel, base metals, chemicals, land surveying, and R&D. Other sectors in which significant ownership stakes and control are to be maintained include, trading, investment, medicine, construction materials, agriculture, and geological exploration (Mattlin, 2007). In addition the government is increasing its share ownership in those sectors it deems as ‘key’ and ‘pivotal’, but the definition of these categories is fuzzy and is subject to political and bureaucratic pressure.


Although foreign mergers and acquisitions are allowed to encroach on state ownership, and the purchase of existing enterprises holds an attractive appeal for foreign investors, blocks on foreign investment outside the least prioritised sectors are commonplace. Even where local bureaucracies favour such outside investment, central bodies, particularly the Ministry of Commerce, (MofCom) flexibly interpret their definition of the importance of those companies in order to block mergers and acquisitions. The criteria for MofCom to review potential monopoly dangers are set at a relatively low benchmark, and are defined in terms of assets, revenue and market share, or by the number of enterprises in which investors hold stakes, resulting in greater restrictions on foreign investment and increasing selectivity over project approvals (Mattlin, 2007).


The Invisible Hand of the State


In the late 1980s, some advocates of market socialism in Hungary, Poland and China proposed the creation of stock markets where the shares of public enterprises could be bought from the state by various public entities. This was intended to foster greater fluidity and flexibility of response to market impulses. Kornai predicted that such firms would not change their behaviour as ‘there cannot be a real market in capital without capitalist private owners.’ (Kornai, 1992:503-4).


When stock markets were formed in Shanghai (1990) and Shenzhen (1991) there was a rapid decline in the state shareholding of listed companies. However, the fall in state ownership directly corresponded to a rapid rise in institutional ownership by the state. This transfer of shares did not change the quantity of state ownership at all (Wang et al., 2011).


Privatisation was never state policy but widespread insider privatisations of small SOEs reduced the total number of SOEs from 250,000 in 1995, to 127,000 in 2005 (Mattlin, 2007: 25). However, according to Wang it is “naïve to view the state as simply having divested itself from ownership of the state sector. Virtually all of the figures that scholars and the popular press have picked as evidence of the declining role of the state, relates to the decline in state shares but ignores the rise of institutional shares.” (Wang et al., 2011: 9). In 2004, the state was the largest shareholder in 70 percent of listed non-financial firms, which are commonly defined as private companies (Kyle, 2011: 10).


The transformation of SOEs into share-holding firms took several forms, shareholding cooperatives, jointly owned enterprises, limited liability corporations and limited shareholding corporations. These firms held over 50 percent of capital assets and generated 35 percent of national sales. They replaced SOEs as the dominant public sector employers in the interior of the country. These hybrid forms were supposed to operate under hard budget constraints (Lin and Hu, 2011: 725, 728).


State ownership is masked in shareholding companies resulting in a general underestimation of the extent of public ownership. It is also common to ignore the role of the state in joint ventures with foreign invested enterprises (FIEs), and in those cases where state enterprises acquired FIE status by registering outside the mainland in order to gain access to FIE concessions. Indeed, even nominally private companies may conceal significant state share ownership.[11] 

The widespread underestimation of the influence of state ownership in the economy is not simply a question of misidentifying concealed public ownership relations, but also of understanding the ‘dynamics of control’ exercised by organs of the party and state (Kyle, 2011: 25).


The above chart elaborates the overall networked chain of command over urban state owned and state controlled enterprises. The organisation department of the Communist Party appoints the heads of the SASAC and the top 50 centrally managed SOEs. Most leadership positions in SOEs and banks are also party appointments. The SASACs appoints the managers and supervises SOEs at a national and local level (Kyle, 2011: 72-76). SOEs also exercise control over Limited Liability Companies and Shareholding Companies through dominant share ownership. State banks provide credit to SOEs at a national and local level, as well as to Limited Liability Corporations, Shareholding Companies and Urban Cooperatives.


The dominance of state ownership in contemporary China may be minimized if one considers the total economic activity of the nation rather than the activity of the commanding heights. Huang believes that the key issue to define ownership is control rights. Who can appoint the managers, dispose of the assets and determine the strategic direction of the firm? This ownership definition is hard to discern from the datasets used to assess the ownership of Chinese industrial enterprises. The Organisation for Economic Co-operation and Development (OECD) produced a widely cited study of the extent of private ownership in China’s industrial firms, but the interpretation of their results is sharply contested. Huang pinpoints the categorisation of legal person shareholding firms as problematic. If one accepts that they are private, then the foreign and indigenous private firms share of China’s industrial profits was 28.9 percent in 1998, and 71.2 percent in 2005. If legal person shareholding firms are not counted as private, then foreign and indigenous private firms share of China’s industrial profits declines to 17.6 in 1998, and 39.8 percent in 2005. (Huang, 2008:14-16)


As regards GDP similar problems exist when trying to identify what exactly is a private or state owned firm in China. A recent comprehensive survey by Andrew Szamosszegi and Cole Kyle (Kyle, 2011) adopts a stance similar to Huang (2008), claiming that the state sector is far more influential than the previous consensus believed. This chapter agrees with their view, however, here, the emphasis is placed on the multi-spectrum character of party control and we pay less attention to the statistics than to the hierarchy and mechanisms of control.


Kyle notes that: “The observable SOE sector under reasonable assumptions accounts for nearly 40 percent of China’s economy. Given additional information on the prevalence of SOE ownership in China’s capital markets, anecdotal and observed data on the prevalence of SOE ownership among LLCs and other ownership categories, and the SOE role in roundtripped FDI, it is reasonable to conclude that by 2009 nearly half of China’s economic output could be attributable to either SOEs, SHEs, and other types of enterprises controlled by the SOEs indirectly. If the output of urban collective enterprises and the governmentrun proportion of TVEs are considered, the broadly defined state sector likely surpasses 50 percent.” (Kyle, 2011: 25)


In China a large proportion of the workforce is employed in non-socialist sectors, how does this fit with Kornai’s system? To answer this we can look at the USSR prior to 1928. Then, the overwhelming majority of the Soviet population lived and worked as peasants in non-socialist employment relations.[12] Kornai describes the forcible collectivisation of agriculture in the USSR, that began in 1928, as a key transition to the classical system from the “revolutionary-transitional’ era.  Prior to this “the dominant property form in agriculture was the small family undertaking that employed no outside labour on a regular basis. In addition, there were small private agricultural undertakings employing outside labour, but not in large numbers. According to Marxist classification the former are small commodity producers and the latter capitalist farms.” (Kornai, 1992: 77) Kornai notes that Yugoslavia and Hungary did not forcibly collectivise these sectors and this is cited as evidence that these countries never established a pure classical system. Thus reform socialism and the pre-classical transitional revolutionary system share a common characteristic – that a significant or even large majority of the workforce may be employed in non-socialist or capitalist sectors of the economy.  In the 1980s, agricultural reforms rapidly transferred the majority of China’s workforce to private agricultural employment - a situation analogous to the USSR in 1927. (Kornai, 1992:436)

Employment of urban workers by registration status

SOEs account for 28 percent of formal urban employment identified by the NBS for 2010, this means that informal employment of migrant workers is excluded. But the data also excludes SHEs as well as other mixed enterprises where SOEs are controlling shareholders which would significantly increase the role of the state in employment.[13]


The specific nature of China’s hierarchy of authority - deriving from the combination of Communist Party rule of the state and public ownership of the commanding heights of the economy - concentrates and multiplies the power and control over all the non-state sectors of the economy and wider society. This power multiplier stems from the totality of instruments at the disposal of the party. The leadership of the banks, judiciary, education, police, secret police, army, mass media, government officials, trade unions, youth organisations, national minorities and religious groups etc. are all vetted and selected by the Communist Party. Thus, deemphasising the issue of whether the majority of GDP derives from the state or the non-state sector or whether the majority of workers work for the state sector - as the definitional determinant of the system –is entirely consistent with the method used by Kornai to define systemic power relations in his socialist model.


Kornai questioned the viability of attempts to rationally combine bureaucratic and market coordination, as one of the system specific features of reform socialism is that horizontal coordination remains subordinate to indirect vertical dependence. Although ‘manager’s dress, vocabulary, and demeanour begin to resemble those of his or her Western counterpart’, these managers lack the identification with the profit motives of owners that capitalism produces. Their positions are dependent on evaluation by their superiors in the bureaucratic administrative hierarchy (Kornai, 1992: 504-5). As we shall see this remains true in contemporary China.


In corporations predominantly owned by central or local government or by state entities, the leading executives are appointed by party and government agencies. They are civil servants whose roles are often rotated between public industry and government positions. Managerial ownership stakes remain insignificant and managerial remuneration is modest. ‘Almost all of China’s largest and most powerful corporations are still in this category.’ (Walder, 2011b:31).


Kornai saw reform socialism as generating an environment where managerial control over the workforce weakens. Protests and strikes by workers become more commonplace, and are even tolerated, and official trade unions become more assertive. The loosening of control over ideology and state enforcement means that local party and trade union branches do not automatically side with the managers. Workers begin to act more boldly and engage in protests and strikes. Such discontented workers are now more capable of convincing superior bureaucratic powers to dismiss errant managers. In order to avoid this fate, populist managerial tendencies become more commonplace. Managers may act as ‘representatives’ of the workforce vis-à-vis superior authorities (Kornai, 1992: 469-70).


The dynamics and effects of pressure brought to bear on the authorities by subaltern groups demanding their rights, will be will addressed in a separate chapter. Nevertheless the process described by Kornai is clearly evident both in increased labour unrest, and in pressures that he defined as a tendency towards ‘self-management’, which weakens the control of managers over workers in publicly owned firms (Chan, 2005 , Philion, 2009).


Organs of the Party and State


Kornai’s theory that China has transformed into a capitalist system clashes with his earlier theory that the Communist party in power represents the deepest core of the socialist system. He accepts that “the Communist party still holds its political monopoly and the party-state has unrestricted totalitarian power. There is no legally permitted political competition between parties or ideologies; any opposition, dissent or truly independent, (sic) is repressed.” (Kornai, 2008: 58). However, he believes that the transformation in the ownership structure and the rise of market coordination has produced a system ‘fairly close to a typical capitalist system.’


Kornai says that the party’s embrace of the market and private ownership illustrates its abandonment of ideological adherence to Marxism-Leninism (2008:58-60). I shall return to the question of Marxist ideology, political reform and the CPC later in this thesis. Here, I seek to make the case that public ownership (not private ownership) and bureaucratic coordination (not market coordination) still predominate in contemporary China. If this contention is correct, then Kornai’s view, that the CPC is a capitalist party, does not conform to his analytical system.


It seems logical that the influence of the bureaucratic state should decline when the market mechanism replaces planning as the central coordinating force, but the reform era witnessed a major expansion in the number of officials on the government payroll from 20 million in 1990 to over 46 million in 2004. The fixed asset investment of the state apparatus as a proportion of GDP in 2002 was as high as in the early reform years. The expenditure exceeded that of either agricultural fixed asset investments or educational fixed asset investments that year (Huang 2008: 167-8). 


The executives of the top SOEs and banks are appointed by, and beholden to, the Central Organisation Department of the CPC. This means that the goals of the state override shareholder value and the pursuit of profit maximisation (Kyle, 2011: 3). The Central Organisation Department (COD) recruits, appoints, evaluates, promotes and removes, party and governmental officials at central, regional and provincial levels. The COD also operates through party committees at all levels of society. The COD keeps detailed files on all employees of the party, government, state enterprises, the judiciary, the mass media, and state entities and institutions. This facilitates universal control over personnel of the state. In addition the personnel files of urban workers employed by the state are stored under party control and are universal, secret and intrusive. Employment transfer is dependent on file transfer, which acts as a critical mechanism of control. Similar organisational supervision and control also extends to large private sector entities where party committees exist. However, in private and foreign owned entities the personnel files are less critical and the party may operate under the auspices of a trade union (Lin, 2011:72-3).


State organisations and work units in China are hierarchically ranked according to military principles, a practice that continues from ‘classical socialism’ (1949-1978). Personnel transfers use organisational and authority rank as the criteria to determine transfers, rotations and promotions within the state. Such transfers span politics, economics and state institutions. This generates loyalty to the party and state rather than to one’s particular employment, shareholders, or private interests (Lin, 2011:76). The upper levels of the hierarchy are all political positions. The central party and state vertically controls local government through their power to set objectives and targets, and through more direct intervention to remove anyone displaying disloyalty or too much independence (Lin, 2011).


Reform Socialism and Planning in Contemporary China


The ‘perfection of control’ is a tendency within reform socialism that seeks to amend and adjust the mechanisms of bureaucratic coordination, whilst leaving one party rule and the dominance of public property intact. It involves reshaping organisational control by function or location, or by centralisation and decentralisation. Public firms are reorganised into ever-larger units and computer models are devised to improve control systems (Kornai, 1992: Chapter 17).


Kornai believes that the complexity of millions of transactions in a national economy make calculations to effectively regulate and plan impossible. He argues that only the free market can carry out these functions, which it does automatically. This is a contention that one might question in today’s networked economy, and that has previously been challenged on non-technological grounds[14] (Lange et al., 1938, Stiglitz, 1996). However, we are not seeking to establish the validity or error of his claim, but to identify if Kornai’s description of reform socialism fits contemporary China.


The perfection tendency may involve reducing the quantity of planning indicators and placing greater emphasis on a smaller number of objectives, concentrating on quality not quantity, separating targets from past performance and concentrating on net production. The self-interest of decentralised bureaucratic entities comes into conflict with the central bureaucracy. To eliminate this imperfection the central bureaucratic apparatus reasserts its authority and control, tightens discipline, and centralises coordination and command. The identification of corporate ‘profits’ as the primary target indicator produces the superficial impression of a radical shift towards capitalism. However, Kornai believes that without decentralisation, free entry and free competition, profits are not a defining characteristic of capitalism (Kornai, 1992:Chapter 17).


Since 1953, China’s planning system operates through five-year plans. Originally, the plan directed state owned companies in production decisions and government ministries were responsible for each sector of the economy. After 1978, when non-state competition was permitted, planning was subsumed under the ambit of ‘reform’ and ‘development’ leading to the creation of the National Development and Reform Commission (NDRC) in 2006. The Central Committee of the Communist Party drafts Five Year Plans (FYP), which are then amended and adjusted under the control of the NDRC before approval by the National People’s Congress (Chow, 2011: 1-2).


The various bureaucratic entities that were combined to form the NDRC are steeped in a culture, habit and outlook, which allots the primary role to planning and a supplementary role to markets. The NDRC is composed of an amalgam of bureaucratic administrative organs directly inherited from the history of central planning. They set the targets and the State Council, through its ministries and offices, is tasked with implementing them. (Chow, 2011: 5-6)


The 12th FYP concerns nearly every aspect of society, agriculture, industrial upgrading, service sector expansion, regional and urban development, energy and environment, education, science and technology, people’s livelihood and welfare, the management of society, promoting socialist culture, perfecting reform, advancing the open door policy, promoting democracy and socialism, establishing a harmonious society and strengthening defence. The document outlines guiding concepts and directions and the means of executing them (Chow, 2011: 2-3).


The objectives of the FYP are defined through numerical targets. These include the following categories: total GDP and per capita GDP; the increase in the service sector as a percentage of output and employment; expenditure on research as a percentage of GDP; the rate of urbanisation; total population; reducing energy usage and carbon emissions; the quantity of cultivated land; years of schooling; the extent of urban employment and unemployment, insurance and disposable income; rural health coverage and net income. The objectives are designed to rally support behind the realisation of these targets (Chow, 2011: 3-5).


The direct control of the economic resources of state-owned enterprises is the primary means by which the plan is realised. In addition, monetary and financial policies encourage non-state entities to help achieve planning targets using interest rates, subsidies, tax breaks, government procurement and contracting policies. Party secretaries at all levels of society are directed to ensure the Plan is realised, and government agencies at all levels must implement the Plan under the direction of Party organs (Chow, 2011: 7).


A review of the current 12th Five Year Plan (FYP) for 2011-15 provides insight as to the influence, character and extent of planning in contemporary China’s political economy. In the plan, the SASAC identified key sectors for supportive government intervention including strategic and emerging industries. This entails the assimilation of imported know-how and its transformation into emulation and innovation. This policy is consolidated through state sector investment, regardless of whether this takes place at the expense of private sector competitors. Competitive capacity in global terms is facilitated by preferential state support though such methods as credit policy, tax preference and state procurement policies (Kyle, 2011:2).


In many ways the 12th FYP closely resembles Kornai’s description of the attempt to ‘perfect’ planning under reform socialism. It claims to be based on ‘scientific development’ and promotes a government led ‘informationisation’ strategy (Kornai, 1992: Chapter 13).


Its targets for social policy are overwhelmingly state driven policies aimed at expanding public sector control over housing, healthcare and education. Compulsory ‘binding targets’ to be attained by 2015 in these sectors include:

  1. An increase of urban residents enrolled in the basic pension scheme from 257million to 357 million
  2. Building 36 million apartments for low cost rental to low-income groups.[15]
  3. Basic urban and rural medical insurance enrollment is to increase by 60 million. The percentage of state payment is to exceed 70 percent.

Binding targets for environmental protection include:

  1. A 16 percent reduction in energy consumption per percentage of GDP
  2. A 17 percent reduction in CO2 emissions per percentage of GDP[16]


Naughton (2011) argues that the overall trajectory from the early 1980s was towards capitalism, but a policy shift to the left took place in 2003 under the leadership of Hu Jintao and Wen Jiabao. The shielding of state owned enterprises from privatisation, and the vast expansion in state provision of education, healthcare and housing, shows this. “Much health service provision, pharmaceuticals, and education, as well as a significant slice of housing, are now to be provided directly by government agencies without regard to market forces.” (Naughton, 2011: 323).


Industrial policy contained in the 12th FYP seeks to support ‘Strategic Emerging Industries’. These industries are biotechnology, new energy, high-end equipment manufacturing, energy conservation and environmental protection, clean-energy vehicles, new materials, and next generation IT.  The 12th FYP envisages an expansion of these industries from between 2-4 percent of GDP in 2010, to 8 percent by 2015, and 15 percent by 2020. If this is realised ‘they will be large industries driving the whole development process’ (Naughton, 2011:325).


Naughton sees the shift in China’s orientation as a major gamble on a ‘new model’ arguing that the previous long-term trajectory was characterised by a gradual but ever increasing market and private ownership based economy.[17] Naughton argues that China now stands uniquely alone amongst developing countries in having carried through a significant shift away from the market and towards state interventionism following the world financial crisis of 2008-9 (Naughton, 2011:328).




Kornai observed that price policy in reform socialism could vary significantly, from country to country; Yugoslavia had few controls over prices, whereas in the USSR they were ubiquitous. Reform of prices alters the coordination mechanism but does not in itself transform it. China moved from a dual track pricing system in the 1980s to one where market prices came to govern between 87 and 97 percent of production (Kornai, 2008: 148-9, Kornai, 1992: Chapter 22). Kornai cites this as proof that the market is the main coordination mechanism in China.


However, Kornai also claims that “the economic administration in all reforming countries tries to exempt factor prices from the trend towards deregulation and keep tight control over the setting of them. This effort succeeds to the extent that allocation of the factor concerned remains under the influence of bureaucratic coordination.”(Kornai, 1992: 518). By factor prices he means the price of capital, labour and land. These factor prices -for interest on bank credit, wages, land and rent -are shaped by administrative controls in China, although extensive grey markets exist alongside bureaucratically determined prices. I provide an overview of the administrative influence on finance and land here, and I will approach the question of wages in a separate chapter on labour and labour relations.





Financing the Commanding Heights


The Ministry of Finance (MOF) was responsible for the collection and allocation of all financial surpluses prior to 1979; the People’s Bank of China (PBC) was its sole bank. SOEs budgets were part of the state budget and the PBC was the accountant and cashier of SOEs. SOE reforms led to the restoration of four state-owned commercial banks. Reform permitted bank lending related to increasing deposits, and the stock exchanges in Shanghai and Shenzhen became sources of direct finance for listed companies and banks. Now state enterprises use profit retention, stock markets, banks and financial intermediaries (e.g. state owned insurance companies, investment companies and leasing companies) as sources of finance for state enterprises. The government restricts financial markets through controls over entry into the banking sector, restrictions on stock exchange listing and by interest rates (Lin, 2012:185-6).


Given the fact that SOEs are ‘not completely market based, liberalising the financial market would have greatly increased their capital costs’ (Lin, 2012:208). The financial system is treated as an instrument of state policy. Stock exchange listing is too costly for small and medium sized private sector companies[18] and SOEs receive 80 percent of bank loans. Therefore the development of the private sector is ‘crippled due to the lack of a normal financing channel’ (Lin, 2012:209). 


Land and Private Property


Land in urban China is owned by the state and rural land is collectively owned.[19] Land usage rights may be leased for profit in designated urban areas, but the same practice is illegal for rural leases from village collectives. The control of land is a major source of contemporary capital accumulation both by state entities and by private individuals and companies. Urbanisation leads to battles between contending users and claimants to land usage rights. Forced evictions and conflicts about land seizures are common sources of urban and rural unrest. The process of urbanisation is created by and creates; local state planners, landlords, financiers, builders, and an ever expanding urban state apparatus. Local leaders seeking land rents as revenue sell real estate projects in which rising property prices are used as indicators of success (Hsing, 2010:6-10).


The conflicting claimants to the control rights over land usage are territorially divided; this generates three primary levels of intra-state land disputes. 1. Between municipal governments and state entities such as SOEs, universities, the military etc. in the major cities. 2. Between urban and rural governments at the fringe of the expanding cities. 3. Between township and village governments at the rural fringe (Hsing, 2010:15, Huang, 2008). Huang believes that land grabbing may fundamentally undermine the faith of rural entrepreneurs in the security of property rights. On the one side, land grabbing is certainly a lucrative means for bureaucrats to transfer public resources to private hands through corrupt property deals. On the other, it also involves state bureaucracies extending the wealth, power and reach of the urban state. To a significant degree this conflict determines who owns China.




Kornai identified investment hunger and forced growth as system specific attributes of socialist political economy. They are driven by the perceived need to rapidly overcome economic backwardness and catch up with the advanced capitalist countries. All levels of the bureaucratic apparatus promote rapid expansion to increase their sphere of power. Whereas the rapid development of capitalist firms is restrained by personal risk, under socialism, this constraint does not exist. Socialist investment hunger is only constrained by fear of sanctions for making mistakes and restrictions on resource allocation (Kornai, 1992: 160-63).


Fixed investment may be the most appropriate means for determining the influence of the state sector because it reveals the forces determining the direction and orientation of the economy.  (Huang, 2008: 20-22). This view is reinforced by data on the share of state investment in a variety of sectors.


“In the majority of industries, the SOE/SHE (State Holding Enterprise) share exceeds 50 percent, as does the median share.” (Kyle, 2011:15). “SOEs and SHEs account for the majority of investments in most major sectors of the Chinese economy.”

This chart records the percentage of total investments in fixed asset in China in 2009 by ownership registration. National Statistical Yearbook 2010[20] The segments on the left of the chart are composed overwhelmingly of state owned or controlled entities, as Limited Liability Companies, Joint Ventures, Shareholding companies, Collective and Cooperative firms are all dominated by public sector ownership or control. These companies are often defined as capitalist enterprises and many do have significant private equity stakes, but most of these nominally private entities, are either majority owned by state entities, or have very significant state or state institutional ownership stakes. Such mixed ownership companies have expanded rapidly since 2001, and by 2008 held “half of the country’s total capital assets and generated over 35 percent of the national total sales income” (Lin and Hu, 2011: 728) Thanks are due to Xu Chenggang for  pointing to the need for greater clarity on this issue.


The Relations to the Private Sector


Kornai’s description of the development of the private sector in reform socialism involves the spontaneous development of private enterprises where the hostile environment of classical socialism is reduced or eliminated. The bureaucracy supports the private sector because it improves supplies and eases shortages and can reduce social tensions (Kornai, 1992:431-5).


However, the bureaucracy also relates to the private sector in an obstructive fashion. It governs the public sector from within, and the private from without, and this private sector autonomy is difficult for the bureaucracy to stomach. Resistance to private enterprise is a spontaneous and natural reaction of the bureaucracy in defence of its power and ideology (Kornai, 1992:450-1).


The bureaucracy fails to adequately guarantee the security of private property and controls access to all manner of permits and licenses. Restrictions can be placed on the size of firms and the sectors that are open to the private sector. The legal infrastructure is not designed to serve the enforcement of private contracts and leaves few avenues of redress against the state itself. Taxation can be arbitrary, and bureaucratic control over access to credit, materials and state procurement orders, act as severe constraints on private sector development (Kornai, 1992:451-4).


In academic and policy debates on the speed of systemic transformation during the 1990s, Kornai maintained that the transition must be organic (Kornai 2008:79), and argued that the design and implementation of comprehensive reform, requires experimentation and institutional transformation, whilst maintaining a broad constituency of support. Thus, ideally, such changes would impose a minimal negative impact on living standards (Kornai 2008: 80, 160-1).


Kornai argues that an organic and gradual economic transformation from socialism to capitalism has occurred in China. This was characterised by an evolutionary development towards private sector domination, stemming from the dynamic nature of entrepreneurial drives, which, encircled and outperformed the state sector (Kornai, 2008).


The main spheres of economic activity of private sector enterprises described by Kornai in 1992, were small scale, although medium and large private enterprises did exist at that time, particularly in China.


In the ideological sphere the growth of private enterprise evokes a crisis under reform socialism, in which pragmatism clashes with socialistic and anti-capitalist tendencies, provoking deep-seated reactions from broad sections of the population and within the ruling party (Kornai, 1992:444-47). Let us see if this description corresponds to the observable processes in China.


Private ownership restrictions were first relaxed in 1982, and the 15th Party Congress in 1997, declared the private sector to be an ‘important component of China’s socialist market’. The proposals were the subject of negotiation, dispute and sharp conflict. This reached a peak in 2005, when Gong Xiantian, a professor at Beijing University, publicly criticised the law in an open letter, which gathered support from thousands of prominent figures, including scholars, retired officials, and military generals, all opposed to a watering down of socialist property law. This furious public debate caused the legislative process to be temporarily suspended and further amendments were incorporated to deflect leftist concerns (Lee, 2010:37-40). In 2004, a constitutional amendment recognised private property, and in October 2007, the Real Property Rights Law was finally passed.


Although, in theory, the party-state could have simply imposed a new law, it engaged instead in a prolonged process of complex negotiation and debate. Indeed, the process to prepare the 2007 law began way back in 1993. There was a long and complex process behind the passing of the 2007 law, which reveals that the CPC, the government, state and general public, retain an ambivalent and conflicting relationship to the fundamental underpinnings of capitalist property relations (Lee, 2010).


The pressures to introduce legal protection for private property came from various sources. Foreign investors and states sought guarantees for the security of their investments. Domestic private enterprises developed into a significant part of the national economy, and their owners could be more readily co-opted in a legal environment that was friendly to private property. The Marxist ideological framework, within which the state operates, required some form of adjustment that would strike a balance between stability and legitimacy (Lee, 2010:29-31).


The private sector in China developed in an environment that was hostile to it, and access to critical inputs remains restricted by the in-built bias towards SOEs, and by the exclusion of the private sector from access to resources allocated by plan. Indeed, private sector firms often fear expropriation. However, discrimination against the private sector by local government is more pronounced in those areas where SOEs predominate in the local economy. An IMF study found that private enterprises were 90 percent self-financed, and a Chinese Academy of Social Studies survey in 2003, found that fees extracted by local government, consumed 70 percent of private enterprise profits, and this does not take account of the cost of approvals, permits and associated ‘red-tape’ (Kung, 2011).


Huang (2008) provides considerable empirical evidence that the gradualist and evolutionary interpretation of the development of Chinese capitalism is flawed. He locates the dynamic entrepreneurialism within the largely private, rural Township and Village Enterprises (TVEs) of the 1980s. During the 1990s, the repression of rural capitalism saw village level democratic control transferred to higher levels of power and to expanding, unelected, bureaucratic organs functioning at the township level.


Private financing and state funding of private enterprises was repressed and a general policy bias towards urban state-owned and controlled sectors prevailed. Although private TVEs flourished in the 1980s, the supportive environment that fostered such entrepreneurial dynamism was systematically undermined. In the 1990s, private companies were starved of finance and larger-scale collectivist TVEs, under the dominance and control of local government, were supported with finance and policy initiatives designed to produce paper viability (Huang, 2008:133-174).


Thus, TVEs were originally the foundation for rural capitalism in the 1980s but were forced back under government control by the repression of rural finance to private sector TVEs. This entailed a return to promoting cooperative firms with private revenue rights, which functioned under effective government control (Huang, 2008).


Huang contrasts Zhejiang province to Shanghai in order to reveal the difference between policies supportive of capitalist dynamics in the former, and an urban statist policy in the latter. Half of the largest private companies in China are located in Zhejiang province, whereas Shanghai exhibits Soviet characteristics -a dominance of state ownership, heavily restrictive entry into indigenous private sector activity and an industrial policy driven by state intervention. Huang sees the repression of small scale and labour intensive entrepreneurship, and the promotion of urbanisation centred development on a national basis, as an emulation of the ‘Shanghai model’ (Huang, 2008:175-232).


The Steel Industry in the Reform Era


Walder’s (2011a) study of the Chinese steel industry provides an overview of the development and character of this sector of the economy. The Chinese leadership rejected privatisation of large state owned firms but permitted and encouraged the privatisation and merging of small and medium sized state owned firms. This led to expansion of the size and influence of the largest state owned companies.


From the 1950s onwards steel was a model industry at the core of the planned economy, the most famous companies, Anshan, Ma’anshan, Benxi, Wuhan and Capital Iron and Steel were embryonic socialist citadels, providing a universal welfare state for employees and their families from company revenue. In the 1980s reform in the steel industry took the form of greater managerial autonomy over marketing, production, investment decisions and expansion plans, and provided profit retention opportunities. Despite expanding demand, the burdens of non-core costs made it difficult for steel giants to compete with a myriad of newly formed small steel mills, which were established by local governments with lower costs and newer technology. By the mid 1990s, the steel giants were increasingly in debt and reliant on state subsidy. Similar processes applied in other large-scale state-owned sectors of the economy.


The state increased the size of these giants by mergers and separated core business from welfare obligations and other activities through a process of corporate reformation. State sector employment declined radically but output rose rapidly, increasing 8 fold from 1989, producing 495 million metric tons in 2007[21] (Walder, 2011a:2-8). A radical shedding of labour took place and was accompanied by rapid output growth in the late 1990s.[22] Employment in the largest 80 steel companies continued to fall but at a slower rate, declining from 1.85 million in 2001, to 1.6 million in 2007 (Walder, 2011a:9).


However, the state reasserted direct control over these enterprises by mergers and restructuring, segregated the core enterprise activities from other obligations, increased fixed investment and even compelled the largest private steel company to merge with a state company. The controlling shares of 9 of the 10 largest companies were held by SASAC.


Restructuring provoked a wave of worker unrest in the mid 1990s, which was most militant in those towns dominated by steel enterprises. The workers generally demanded adequate compensation and pensions, but in the sharpest conflicts, they mobilised local people against officials and breeches of the law, and in some cases this led to violent conflicts.


Large state owned steel enterprises are not the nurturing ground for a new bourgeoisie, in the sense that they do not manufacture oligarchs from surplus value. Some wealthy private steel barons used their former employment and connections, to branch off and make money from their relationships with local government. However, no steel magnates made their money from within state owned enterprises (Walder, 2011a:11-13).


State owned steel firms in China operate as arms of the party-state. In this respect, they have changed very little in their essence from classical socialist firms. State ownership power is cemented through controlling the board of directors and appointing the leading executives. The share owning system in China prohibits trade in over 50 percent of the shares of state enterprises, which are non-convertible. Thus market valuation of such companies based on shares is ‘fictional’ as it cannot be used to determine real value.  


Communist Party appointments to run state-owned steel giants are ubiquitous and make the corporate leadership entirely dependent on the party. Indeed such corporate executives generally transfer to posts in senior party and government positions. They hold considerable leverage power, as such giant entities produce significant lobbying weight within the party and bureaucracy at the highest levels. This greatly increases their capacity to extract soft-budget loans and credits compared to before. Giant state enterprises have been ‘lavished with financing-especially since 2008-and similar credits are not available to domestic private firms.’ (here:Walder, 2011a:18). Walder sees such large state owned corporations, as political and economic projects in the much the same way as Anshan Iron and Steel was regarded as a model state project in Mao’s time (Walder, 2011a:14-18). 


Joint Ventures in the Automotive Industry


At the start of the reform era ‘developing the productive forces’ replaced ‘class struggle’ as the primary policy objective. Government entities made more autonomous decisions, which included increasing the range and volume of automotive production. Markets emerged with the relaxation of central planning; for example taxis were in high demand after taxis firms were first permitted. Localised incentives stimulated the proliferation of automobile factories. This led to the creation of some weaker local manufacturers. 


In 1994 the automotive industry was designated by the government to be one of the ‘Pillar Industries’. The fact that 10,000 parts and components make up a motor vehicle, means that the industry can shape the fate of enterprises in metallurgy, chemistry, coal, light industry, electronics and textiles etc. and this encourages specialisation and coordination in these sectors.


Development policy at the highest level of state planning decided on a long-term plan to consolidate and unify large-scale automotive producers, to advance component and product development capacity and promote car ownership. It envisaged a foundation stage of local development from 1994-6, large-scale groups and backbone enterprises with R&D capacity were to be created by the year 2000, and rapid development with a target output of 6 million vehicles per year, was set as an objective for 2010. Foreign investments in joint ventures with state owned enterprises increased when China joined the WTO in 2002, and the industry witnessed rapid growth rates of 38.8% in 2002 and 36.7% in 2003. In 2004 output grew to 5 million units (Holweg, 2005:11-15). ‘China supplanted the U.S. as the world’s largest auto market after its 2009 vehicle sales jumped 46 percent’ to 13.6 million units,[23] and vehicle manufacturing reached 13.79 million units.[24]


The automotive industry is dominated by joint ventures between foreign companies and state owned enterprises that produce 90% of passenger vehicles. However, large state owned enterprises have formed vast enterprise groups through share ownership mergers and acquisitions, including overseas activity. The Chinese government at national level regulated production from the 1950s onwards, although local governments also supported their own automotive champions. This delayed market responses such as consolidation and regrouping until recent times (Holweg, 2005:21-23).


Zhejiang’s Private Sector Model


Within Huang’s philosophy the city of Wenzhou is a role model, ‘the bastillion of Chinese capitalism’. Wenzhou’s entrepreneurs not only created the modern city of Wenzhou and partly financed its infrastructure, they also dominate European markets for garments, shirts, and cigarette lighters. Wenzhou’s capitalists can make or break real estate markets and emerged almost entirely from indigenous, small-scale, self-employed businesses (Huang, 2008:58).

The Wenzhou model represents industrial production of specific items based on clusters of thousands of (mainly) family firms engaged in labour intensive activities. For example, Wenzhou’s footwear industry is the world’s largest, producing 835 million pairs of shoes. Local SOEs and TVEs engaged in shoe production before 1979, acted as the seed factories spawning a proliferation of private companies engaged in all the subcontracted operations required to produce and finish products for domestic and international markets. The local government provided a facilitating environment by creating specialised markets in the city and instituting strict quality control measures to enhance Wenzhou’s shoemaking reputation (Xu, 2009:13-16).


Puyuan in Zhejiang province is the centre of China’s cashmere sweaters industry. A study by Xu & Zhang (2009) shows that it employs 70,000 people and produces 60% of the cashmere sweaters in the country. They mostly work for small companies employing less than 12 people, engaged in family weaving workshops, sweater shops, working as yarn dealers, or in printing and ironing workshops, or as independent drivers. There were 12,477 people employed in medium sized enterprises, 11,905 in 121 integrated firms, 3,072 in 42 finishing factories and 1,150 in 23 dyeing factories. Local government is involved in quality control issues, provides an important public training programme and created a large industrial park, which provides tax breaks, and low cost land and credits, but mostly supports the larger integrated companies (Xu, 2009:10-13).


The primary characteristic of these private sector industrial clusters is that they are composed of small and medium sized enterprises. These operate on a family business model with low cost of entry at the basic level, due to relatively low capital start up costs.  




Kornai set out to identify and isolate the essential features of socialism by a study of various countries, in which he abstracts the essential and necessary features of the system. One of the greatest strengths of Kornai’s ‘Socialist System” model is its clear method for systemic identification. Many analysts of China are flippant in their use of such systemic terminology as capitalism, socialism, or communism; Kornai is not.


This chapter makes a comparison between Kornai’s general method for classifying socialism and his specific statements on China. To facilitate this I presented the overall framework of Kornai’s reform socialism model in the first chapter. His method of analysis describes the inner workings and dynamics of transformation in the system. He elaborates the idiosyncrasies, contradictions and incoherence that penetrate the system as reforms take root. Notwithstanding this, he recognised that some countries were able to sustain reform socialist combinations for decades before facing revolutionary change.


This chapter looks at the functioning of Kornai’s three core lines of causation in China, public ownership, Communist party rule and bureaucratic coordination. I addressed each of these spheres in some detail.


The importance of public ownership of commanding heights of the economy is emphasized as the primary lever of economic power. In order to clarify the meaning of Kornai’s concept of the predominance of public ownership, I have drawn on Vitali’s study on the global concentration of economic power and reinforced the relevance of this by reference to Lenin’s definition of the commanding heights. This should help to clarify the scope for variability in ownership relations that might fit within Kornai’s concepts of the revolutionary-transitional era and reform socialism. By these means we can apply Kornai’s method to identify if the minimal necessary and sufficient conditions required for this core systemic feature - public ownership of the commanding heights of the economy – apply in China today.


The methods by which public ownership of the commanding heights is concealed are explained, and the continuing control exercised by the Communist Party is detailed. There are two interconnected spheres where Kornai believes that this has radically changed. The first is the penetration of capitalists into the party and the second is the ideological tolerance of private property. In this chapter I take the view that the penetration of private property was accepted only after a long and bitter conflict and that this reveals that the party is not yet ideologically conquered by capitalism. Similarly, the fact that significant numbers of capitalists are party members is not sufficient evidence that they control party policy or orientation. Whilst official policies are not overtly hostile to capital, the actual economic system certainly has an inbuilt inherent systemic bias towards public sector enterprises.


I have sought to explain the dynamic of economic planning under China’s Five Year Plans; which focus on state enterprises, banks, and government institutions as the agencies to implement targets and objectives. Although market prices play a far larger role than in any previous socialist system, it is clear that factor prices for land, labour and capital continue to be deeply influenced by state policy. The state determines the overall direction of the national and local economy through the Five Year Plan. A colossal mobilisation of resources is undertaken to attain planning targets that are not market determined, and indeed, which bureaucratically generate markets. Thus, it may be said that Kornai’s concept of bureaucratic coordination of the economy remains predominant in China, despite its specific deviations from other reform socialist models.


Kornai’s writings on contemporary China draw premature conclusions about the extent of systemic transformation towards capitalism. A significant body of current research on Chinese political economy questions to what degree China can be said to have transitioned. When this research on present-day China is dovetailed into Kornai’s original model of reform socialism, it produces a very close match to this ‘genetic code’. This reinforces the strength of the original reform socialist model elaborated by Kornai.


Contradictory systems coexist in Chinese ‘reform’. The natural self-reproductive and self-expansionist dynamics of capitalism, and the natural self-reproductive and self-expansionist dynamics of socialist political economy, are both present. As Kornai revealed in his original model, reform socialism is characterised by such inner contradictions. China’s system of political economy remains dominated by the party, the bureaucracy and public ownership.


The key distinctions between Kornai’s original model and China today are: the greater role for the market and private ownership than in previous reform socialist experiments: and the prolonged and exceptionally rapid rate of economic growth, which, has enabled the Communist Party to ameliorate many of the conflicts that confronted other reform socialist states.


This comparison between Kornai’s model of reform Socialism and China leads me to ask the following research questions. Is the coexistence of capitalist dynamics within reform socialist China a viable and enduring system for economic development? Or is China’s success due to some unique combination of chance factors? How does the process of urbanisation and industrialisation generate the expansion of state owned assets and the consequent reproduction of the system? Do the processes of revolutionary transition towards socialism necessarily produce classical socialism? And do the processes away from the classical socialism necessarily produce capitalism? What role does ‘class formation’ and ‘class conflict’ play in shaping the specific nature of the system? What is the affinity, if any, between the New Economic Policy in USSR of the 1920s and the Chinese model of political economy? How does the Soviet debate on industrialisation relate to China?

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[1] Special thanks are due to Janos Kornai for taking the time to read an earlier draft of this document and providing his encouragement, views and feedback, and to his colleague Xu Chenggang for his challenging critical comments on key issues.

[2] In Yugoslavia “the bulk of prices for products and services were freed at the earliest phase of the reform process and the area where administrative prices apply remained narrow.” (Kornai, 1992 :514)

[3] This argument permits a Communist Party to be in power under capitalism provided it is not actively hostile to private property. It appears to be a definition specifically designed to permit the Chinese and Vietnamese examples to fit this model.

[4] The meaning and result of this process of ‘immoral’ accumulation and of capitalists entering the party is debatable; as Kornai explains, it is part of an unfinished process. Are the capitalists taking over the party or is the party taking over the capitalists? Kornai argued that the balance of social forces would determine this question. If public opinion finds expression in a form that opposes such ‘illegal’ accumulation, then the Party elite may lean towards traditional methods of rule - in which bureaucratic privileges and power are not dependent on accumulating private capital to become capitalists, but rather on – exploiting their control and use of public property, and even expanding such public property at the expense of capitalist property. The existence of capitalists inside the Communist party does not automatically mean that the party is a capitalist party.

[5] Lenin elaborates his New Economic policy as one in which the following balance of economic forces exists. (1922)

“7. What is the plan or idea or essence of NEP?

(α) Retention of the land in the hands of the state;

(β) the same for all commanding heights in the sphere of means of production (transport, etc.);

(γ) freedom of trade in the sphere of petty production;

(δ) state capitalism in the sense of attracting private capital (both concessions and mixed companies).”

[6] In part 17 Engels writes:  “Will it be possible for private property to be abolished at one stroke?

No, no more than existing forces of production can at one stroke be multiplied to the extent necessary for the creation of a communal society.

In all probability, the proletarian revolution will transform existing society gradually and will be able to abolish private property only when the means of production are available in sufficient quantity”.


Here Lenin emphasises the concept of needing to control the banks and other key sectors of the economy. “Modern capitalism, under which the banks dominate production, has carried this interdependence of the various branches of the economy to the utmost. The banks and the more important branches of industry and commerce have become inseparably merged. This means, on the one hand, that it is impossible to nationalise the banks alone, without proceeding to create a state monopoly of commercial and industrial syndicates (sugar, coal, iron, oil, etc.), and without nationalising them. It means, on the other hand, that if carried out in earnest, the regulation of economic activity would demand the simultaneous nationalisation of the banks and the syndicates.”





[11] For example Wangke is China’s largest real estate company and it is a private company, but its largest single shareholder is a government entity (Walder 2010: 33). Huawei is a private company, but one whose ties to the military and ambiguous relationship to share issuance and recordkeeping, make its credentials as a fully private company at the very least questionable (Huang 2008: 10-12).

[12] Soviet statistics show a total national employment of 73,836,000 of which 59,623,000 worked in agriculture in 1926-7, Soviet Union Information Bureau, Washington D.C. 1929.

[13] Data from the NBS

[14] This was Kornai’s view in 1992, before the widespread proliferation of networked computers and devices, in which intelligent feedback systems linking consumer purchases and the global production chain were developed. 

[15] To contextualise this figure the total housing stock of Germany is 40 million (2008)

[16] From the translation of the 12th FYP by the European China Trade Project.

[17] Naughton ignores the issues concerning institutional state ownership discussed in this chapter and therefore his view of the gradually declining role of the state is coloured by this.

[18] The cost of listing a company is about $3 million US a sum beyond the reach of most Chinese private SMEs. (Lin 2012:214)

[19] PRC Constitution Article 10. Land in the cities is owned by the state. Land in the rural and suburban areas is owned by collectives except for those portions which belong to the state in accordance with the law; house sites and private plots of cropland and hilly land are also owned by collectives. The state may in the public interest take over land for its use in accordance with the law. No organization or individual may appropriate, buy, sell or lease land, or unlawfully transfer land in other ways. All organizations and individuals who use land must make rational use of the land.


[21] China is the world’s largest producer, the figure was four times that of its nearest rival Japan. (Walder 2009:8) According to the China Iron & Steel Association ‘China's crude steel output reached a record high of 627 million tons in 2010 after the industry's average annual growth rate slowed to 12 percent from 2006 to 2010, compared to 22.6 percent from 2001 to 2005’. Xinhua, April 30, 2011 Accessed 12 Jan 2012

[22] Capital Iron and Steel shed 40 percent, Ma’anshan shed nearly 50 percent, Anshan’s labour force of 210,000 in 1975 was reduced to 166,000 by the end of the 90s. (Walder 2009: 8) 

[23] China Ends U.S.’s Reign as Largest Auto Market Bloomberg January 11, 2010 (accessed 19.40 11 Jan 2012)


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18 Feb 2013, 12:17