How “New SOEs” Come of Age: Four Decades of China’s SOE Reform
Abstract: China’s complex and twisted journey of SOE reform over the past four decades is an unprecedented transformation in its history and is at the center stage of its economic reforms. Over the past four decades, SOEs transitioned from being affiliates of a planned economy to “new SOEs” as modern enterprises under the market economic system. This journey can be roughly divided into the following four stages: the reform to expand SOE autonomy during 1978-1993, the reform to create a modern enterprise system during 19932003, the reform to create a new system for the administration of state assets during 20032013, and the new era of classified SOE reform since 2013. After the four stages, China’s SOE reform has made tremendous achievements, particularly since the 18th CPC National Congress. With policy readiness for SOE reform in the new era, reform should be carried out in a comprehensive and systematic manner for different types of SOEs in the future.
Keywords: SOE, four decades of reform process, next step of reform, classified SOE reform
JEL classification code: L22
DOI: 1 0.19602/j .chinaeconomist.2018.01.03
Since China’s reform and opening-up in 1978, reform of state-owned enterprises (SOEs) has been considered a central link in China’s economic reform. The key to creating a socialist market economic system with Chinese characteristics lies in fostering micro-level market entities that operate and make decisions independently to pursue their own development and are responsible for their own profits and losses. Hence, how to transform SOEs from government affiliates under the traditional planned economic system into independent modern enterprises compatible with the market economic system,
1 i.e. “new SOEs” has become a critical task in China’s economic reform. For China as a large socialist country with its industrialization process far from being complete, this is an unprecedented, explorative task, both theoretically and practically. Not only does it require transcending ideological barriers and integrating SOEs with the market economy, but it also has to overcome legacy problems and difficulties at the practical level to come up with creative reform solutions and explore various reform modes.
After four decades of SOE reform, the operating mechanism of SOEs has been transformed: Most SOEs have carried out corporatization and shareholding reforms and initially created modern
enterprise systems with improved governance structures, thus transforming from traditional state-run enterprises under the planned economy into “new SOEs” under the market economic system. Significant improvements have been made to the economic structure where the state sector of economy held sway under the planned economy, a structure that has been replaced by the mixed sector of economy where dominant public ownership co-exists with other ownership systems. SOEs have achieved tremendous development, as embodied by the emergence of “new SOEs” that have become key drivers of China’s rapid growth. The success of gradualist SOE reform lies at the heart of China’s experience of economic development. In retrospect of the four decades of SOE reform, it should be recognized that the achievements of China’s SOEs are hard won and have experienced a complicated and twisted journey that can be divided into the following four stages: the period of devolution during 1978-1993, the period of institutional innovation during 1993-2003, the period of SASAC administration during 2003-20132, the period of classified reforms from 2013 till now. These four stages correspond to reform tasks in the context of different historic circumstances with different priorities to address the primary contradictions and problems facing reforms at various levels.
2. Period of Devolution: 1978-1993
Before 1978, SOEs (more commonly referred to as state-run enterprises back then) used to be production units responsible for executing government planning tasks under a highly centralized planned economic system. As government affiliates, SOEs did not have any autonomy and completely relied on government planning and administrative allocations for human, financial and material resources and production and sales activities. This led to a serious disconnect between production and demand, which disincentivized enterprises and dampened productivity. Fortunately, the Third Plenary Session of the 11th CPC Central Committee in 1978 unveiled the reforms of devolution for SOEs. This period of reform lasted for about 15 years from the beginning of reform and opening-up in 1978 and ended upon the Third Plenary Session of the 14th CPC Central Committee in 1993, which announced the goal of SOE reform to establish a modern enterprise system. In this stage, the primary task of reform was to give autonomy to SOEs and explore the separation between corporate ownership and operation; it was to help SOEs escape from the fetters of obsolete concepts and behaviors under the planned economic system, adapt to a commodity-based business environment, and complete corporatization reform.
2.1 Theoretical Research
In fact, the economic community had discussed the issue of expanding SOE autonomy before reform and opening-up in 1978. In 1956, Gao Shangquan complained that enterprises were given too little autonomy yet were answerable to too many authorities. In 1961, Sun Yefang unequivocally pointed out that matters within the scope of simple production ought to be decided by enterprises themselves and the State must refrain from intervention3. After the Cultural Revolution, a watershed event was the publication of a special commentator article “Practice Is the Sole Criterion for Testing Truth” by People’s Daily in May 1978, which originally appeared in Guangming Daily. This article sparked a nationwide debate on practice, rather than theory, as the sole criterion for testing truth, and began to emancipate people’s mind from old ideological doctrines. In this debate, economists also extensively discussed a host of issues including distribution according to labor, the issue of “productivity as the foremost priority”, production and exchange of commodities under the socialist system, together with the law of value. They also conducted in- depth theoretical analysis of the flaws of state- run enterprises under the traditional system. Among numerous studies, Jiang Yiwei creatively put forward
the “enterprise standard” theory, which became an important theoretical basis for the devolution of corporate power. In June 1979, Jiang Yiwei published “Discussions on the Enterprise Standard Theory” in Economic Management Monthly, which mentioned the “enterprise standard” theory for the first time and published the Enterprise Standard Theory in the founding issue of China Social Sciences in January 1980. Jiang Yiwei believed4 that unlike a centralized system where the whole country, or its individual localities with devolved power, operates as a single economy with centralized internal management and accounting, the “enterprise standard” refers to a system where enterprises operate as basic economic units with independent operation and accounting. The “enterprise standard” theory can be summarized as follows: First, independent enterprises are the basic units of the modern economy, including the socialist economic system; second, enterprises have both rights and obligations; third, enterprises should pursue their own economic interests and share their profits and losses with employees; fourth, instead of intervening in the daily operations of enterprises, the State should supervise and guide enterprises through macroeconomic regulation. Theoretical innovations made by economists like Jiang Yiwei have academically paved the way for SOE reforms.
2.2 Reform Experience
The period of devolution for SOEs during 1978-1992 can be further divided into the following stages: increase of autonomy during 1978-1984, implementation of the contract responsibility system during 1984-1989, and reform of the corporate operation mechanism during 1989-19925.
In October 1978, the State Council approved pilot programs to increase autonomy for six local staterun industrial enterprises including Chongqing Steel Company, Chengdu Seamless Steel Pipe Factory, Ningjiang Machine Works, Sichuan Chemical Factory, Xindu County Nitrogen Fertilizer Factory and Nanchong Steel Mill, which unveiled SOE reform. These pilot programs allowed enterprises to retain a small portion of profits and distribute bonuses to employees. In February 1979, Sichuan Province issued the Opinions on Pilot Programs to Increase the Autonomy and Accelerate the Development of Local Industrial Enterprises in Sichuan Province, which covered 100 industrial enterprises. In May 1979, the former State Economic and Trade Commission carried out pilot reforms to increase autonomy for eight enterprises in Beijing, Tianjin and Shanghai, including Capital Steel Company, Beijing Qinghe Woolen Mill, Tianjin Bicycle Plant, Tianjin Power Plant, Shanghai Diesel Engine Plant and Shanghai Turbine Plant.
In July 1979, the State Council issued five policy documents to increase the autonomy of enterprises including the Regulations on Increasing the Autonomy of Operation and Management for State-Run Industrial Enterprises, which stipulated the rights and obligations of enterprises as relatively independent commodity producers and operators. These rights included the rights of production planning, product sales, profit distribution, labor employment, use of funds, foreign exchange retention and fixed asset ownership. The pilot programs of reform were carried out for 1,590 enterprises in 26 provinces.
In September 1980, the State Council approved comprehensive implementation of the reform to increase corporate autonomy for all state-run industrial enterprises starting 1981, allowing enterprises greater decision- making autonomy with respect to human, financial and material resources and production and sales activities. To ensure the collection of fiscal revenues from enterprises, Shandong Province took the first step of requiring enterprises to submit a certain amount of profits to the State, allowing them to retain surplus profits, i.e. the profit contract system. The contract system and the rules to increase corporate autonomy developed into the key elements of the industrial economic responsibility
In October 1981, the former State Economic and Trade Commission and the former State Office for Economic Restructuring issued the Opinions on Implementing the Industrial Economic Responsibility System, which propelled the swift implementation of the industrial economic responsibility system on a nationwide basis. By the end of 1982, 80% of intra-budgetary state-run industrial enterprises had implemented the economic responsibility system and 35% of enterprises in the commercial sector had followed suit6. The system can be divided into the following types: first, profit retention; second, profit and loss contract responsibility system; and third, tax payment as replacement of profit submission and self-responsibility for profits and losses.
In May 1984, the State Council enacted the Interim Regulations on Further Increasing the Autonomy of State-Owned Industrial Enterprises, which relaxed restrictions on enterprises from 10 aspects, including production and operation planning, product sales, pricing, procurement, use of funds, production, organization, human resources, compensation and joint operation. In October 1984, the Third Plenary Session of the 12th CPC Central Committee established the status of enterprises as independent economic entities responsible for their own profits and losses, marking the end of the reform to increase corporate autonomy.
Deepening reform to increase corporate autonomy incentivized enterprises. Yet due to the impossibility of setting an absolutely scientific and fair amount for profit submission, enterprises were given uneven profit submission burdens and the stability of state fiscal revenues could not be guaranteed. At the beginning of 1983, the State Council decided to cease application of the economic responsibility system based on profit sharing and to implement “profit for tax” reform. In 1979, “profit for tax” reform was piloted in some state-run enterprises in Hubei, Guangxi, Shanghai and Sichuan. As of January 1, 1983, the first round of “profit for tax” reform had been rolled out for all large and medium-sized staterun enterprises with profits at the tax rate of 55%. As of January 1, 1985, the second round of “profit for tax” reform had been initiated to regulate the relationship between state-run enterprises and the government through classified taxation including product tax and capital tax. However, the two rounds of “profit for tax” reform confused the roles of the State - whether the State represented the government or asset owners - and discouraged enterprises with exorbitant taxes.
Meanwhile, some enterprises and entrepreneurs achieved widely publicized successes by implementing the contract responsibility system. In this context, the contract responsibility system received renewed attention in 1986. In March 1987, the Resolutions of the Fifth Session of the Sixth National People’s Congress called for implementation of the contract responsibility system under the principle of appropriate separation between ownership and operation rights. In 1988, the State Council promulgated the Interim Regulations on the Contract Responsibility System for Industrial Enterprises Owned by the People, which further regulated the contract responsibility system. In 1989, the enterprise contract responsibility system further improved. In this stage, two other reforms also made progress: First, since October 1984, the SOE leadership system was reformed to enhance the general manager responsibility system and reduce interventions by the Party in the daily operations of SOEs; second, proactive efforts were made to consolidate SOEs and create corporate conglomerates during 1986 and 1988.
Despite its initial successes, the flaws of the contract responsibility system became increasingly apparent after 1989 due to its lack of standardization and instability, resulting in falling corporate profits. After 1989, the Chinese government expended tremendous resources to clean up companies with malpractices and chain debts. In this context, SOE reform focused more on the separation of ownership and operation rights. The Eighth Five- Year Plan for National Economic and Social Development
adopted at the National People’s Congress in April 1991 stipulated that the goal of transforming the enterprise operation mechanism was to separate government functions from enterprise management, separate ownership rights from operation rights, explore various forms for the realization of public ownership and create a vibrant SOE management system and operational mechanisms. In July 1992, the State Council enacted the Regulations on the Reform of Operational Mechanisms for Enterprises Owned by the People, which stipulated 14 rights of autonomy for enterprise operation. In this stage, the enterprise operation contract system continued to improve. At the end of the first round of contracting in 1990, the number of intra-budgetary industrial enterprises exceeded 33,000, accounting for 90% of all contracted enterprises. The second round of contracting was initiated since the end of the first quarter of 1991. The reform also explored various forms of operational mechanisms such as leasing and shareholding systems. In particular, after the opening of the Beijing Tianqiao Department Store in July 1984, the number of enterprises that tried pilot shareholding programs increased to 3,220 in 1991 and 3,700 in 1992, including 92 listed on the Shanghai Stock Exchange. This has formed a solid foundation for creating a modern enterprise system in the next stage.
3. Period of Institutional Innovation: 1993-2002
The second period was characterized by decade- long institutional reform from the 14th CPC National Congress in the early 1990s to the 16th CPC National Congress at the dawn of this century. In October 1992, the 14th CPC National Congress officially established the goal of institutional economic reform to establish a socialist market economic system. In 1993, the Third Plenary Session of the 14th CPC Central Committee adopted the Decisions on Matters Concerning the Creation of A Socialist Market Economic System, which set a clear direction of China’s SOE reform to develop a modern enterprise system with explicit ownership, clear rights and responsibilities, separate government administration from enterprise management and science-based management. In this stage, the goal of reform was to guide SOEs in establishing a modern enterprise system and associated capital and ownership concepts compatible with market-based economy. The reform introduced market-based competition in the state sector of economy, allowing some loss-making SOEs to exit the market in order to improve the quality and competitiveness of SOEs and avoid excessive burdens on public finance.
3.1 Theoretical Research
In this period, the focus of theoretical research shifted from the relationship between government and enterprises to the internal systems of SOEs and the functions of the state sector of economy as a whole. The goal was to identify the directions of reform based on modern enterprise and ownership theories. First, theoretical studies focused on ownership theories and the nature and forms of realization of a socialist market economy, calling for the development of a dominant public ownership system coexisting with other ownership systems and introducing the concept of a “mixed ownership system”. Second, studies concluded that China must enhance the dominant position of the state sector of economy, promote state capital flow and restructuring and create a level playing field for various sectors of the economy with different ownership systems. Third, based on their research on modern enterprise theories, including unlimited companies, limited companies, shareholding companies, shareholding limited companies and listed companies, scholars concluded that the shareholding system is the primary form for the realization of public ownership and that SOEs must proactively carry out the reform of shareholding companies. Fourth, studies on modern ownership theories attempted to combine Western ownership theories with China’s SOE reform, thus triggering protracted debates on a host of questions concerning SOE ownership. Finally, clear ownership was identified as the first characteristic of the modern enterprise system.
In 2003, the Third Plenary Session of the 16th CPC Central Committee noted that the creation of
a modern property rights system with explicit ownership, clear rights and obligations, strict ownership protection and smooth operation was essential to improving China’s basic economic system and served as an important foundation of the modern enterprise system. Fifth, based on in- depth discussions on modern corporate governance and incentive theories, scholars unraveled the characteristics of the modern corporate governance structure and ways to create effective incentives and restraints for corporate management under the guidance of the principal-agent theory, so as to transition from the general manager responsibility system to a modern corporate governance structure with checks and balances among shareholders, board directors and management team. Sixth, scholars carried out in-depth studies on modern capital market theories and found that the multi-tiered capital market that came into shape played an effective role in facilitating SOE mergers, reorganizations and bankruptcies..
3.2 Reform Experience
In this period, SOE reform was carried out to (1) create a modern enterprise system for individual enterprises throughout this stage of reform and (2) implement strategic restructuring of the state sector of reform as a whole since 1996.
After the Third Plenary Session of the 14th CPC Central Committee in 1993, the focus of SOE reform shifted towards creating a modern enterprise system. In November 1994, the State Council approved the pilot program of the modern enterprise system for 100 enterprises. In addition, 2,343 additional local enterprises carried out the pilot program. By 1997, 93 out of 100 SOEs completed corporatization reform, including 17 with diversified shareholders. Among local pilot enterprises, 1,989 completed corporatization reform and transformed into 540 shareholding companies, 540 limited liability companies and 909 solely state-funded companies. Of them, 71.9% created board of directors, 63% created board of supervisors and 61% had general managers appointed by the board of directors.
After the 15th CPC National Congress in 1997, the central government called for initially creating a modern enterprise system for most state-owned large and medium-sized key enterprises in about three years. By the end of 2001, a total of 3,322 enterprises out of 4,317 key enterprises had completed corporatization reform, as shown by an NBS survey. Of them, 74% opted for equity diversification rather than exclusive state ownership7. During 1994-1997, the State launched a host of other reform initiatives such as the pilot program to: improve the capital structure for cities, encourage SOE mergers and bankruptcies in pilot cities, reduce state debts and separate the function of enterprises to run community services, reduce headcount and increase efficiency, re- employ laid- off workers, enhance internal management, roll out Handan Steel’s experience of science-based management, explore effective ways for the management of state assets, create companies with state controlling shares, introduce additional pilot programs for corporate conglomerates, invigorate state-owned small enterprises, etc. After 1997, the central government launched a three-year reform to help loss-making SOEs achieve profitability. In addition to the restructuring of sectors like textiles, coal, metallurgy and building materials, “debt-toequity” reform was implemented on a full-scale since the second half of 1999 to ease the debt burden of enterprises and help them achieve profitability. Meanwhile, greater efforts were made to reform social security systems including pension, unemployment and healthcare and re-employ laid-off workers.
The principle to strategically adjust economic layout of the state sector of economy by invigorating large enterprises while relaxing control over small ones was highlighted on different occasions, including the Fifth Plenary Session of the 14th CPC Central Committee in September 1995, the Report of the 15th CPC National Congress in 1997 and the Fourth Plenary Session of the 15th CPC Central Committee in 1999. The Fourth Plenary Session of the 15th CPC Central Committee noted that the state sector of economy must control sectors related to national strategy, sectors of natural monopoly, sectors
that provide important public goods and services, as well as pillar industries and backbone enterprises in high-tech industries. By 2002, the 16th CPC National Congress stressed that the central government must fulfil the responsibilities of capital contributor on behalf of the State for large SOEs, infrastructures and important natural resources involving national economic lifeline. Under this principle, the layout and structure of the state sector of economy constantly improved with increasing vibrancy, control and influence. Moreover, these strategic adjustments also paved the way for reforming the administrative system of state assets.
4. Period of SASAC Administration: 2003-2012
The third period was the decade between the creation of the State Assets Supervision and Administration Commission (SASAC) in 2003 after the 16th CPC National Congress and the convening of the 18th CPC National Congress. In this stage, tremendous progress was made in the system of state assets and the reform of SOEs with the objective to maintain and appreciate the value of state assets for SOEs under the supervision of SASAC, a single authority that replaced previous inefficient bureaucracies for the administration of the state sector of economy. In October 2002, the 16th CPC National Congress called for unswervingly developing the public sector of economy and supporting the non-public sector of economy. In particular, positive progress was made in adjusting the layout of the economy and reforming the administrative system of the state sector of economy.
4.1 Theoretical Research
In this stage, scholars investigated specific questions concerning the reforms of SOEs and the state sector of economy. First, scholars carried out further studies on the shareholding system and reached a consensus on the importance of developing mixed ownership and turning the shareholding system into a major form for the realization of public ownership. Second, extensive studies were carried out to investigate how state capital could contribute to the strategic areas of national security and economic lifeline. Third, scholars extensively discussed the problem of involving multiple government agencies in the administration of state assets and how enterprises should be incentivized under the new system where SASAC was in charge of personnel, administrative affairs and assets. Fourth, in the reform of monopolistic sectors, theoretical and empirical studies were carried out to answer such questions as how to relax control, increase market competition in monopolistic sectors and propel the reforms and restructuring of sectors like telecom, electric power, railway and civil aviation. Fifth, ownership reform aroused extensive debates on whether ownership reform and especially management buyout (MBO) caused the loss of state assets and should thus be deemed privatization. These debates delayed property reform yet also increased its standardization and improved the regulatory system.
4.2 Reform Experience
Following the reform directions identified by the 16th CPC National Congress, SOE reform in this period made the following progress. First, the system for the management of state assets was transformed. The new system for the management of state assets followed the principle of “state ownership and multi-tiered representation” with central and local governments respectively creating institutions for the supervision and management of state assets. The reform brought personnel, business affairs and assets under unified management and aimed to separate government administration from enterprise management and ownership system from operation rights to ensure independent enterprise operation. The State Council enacted in May 2003 the Interim Regulations on the Supervision and Administration of State-Owned Assets of Enterprises and enacted in 2006 the Interim Measures for the Guidance and Supervision of Local State-Owned Assets. By the end of 2006, China created institutions for the supervision and administration of state-owned assets at central and local levels and introduced
over 1,200 regulatory rules and provisions concerning the management of enterprise property rights, enterprise assets and financial supervision, performance evaluation and compensation system for enterprise managers, as well as legal affairs management. In 2007, the State Council promulgated the Opinions on the Pilot Implementation of State Capital Operation Budget, which marked the initial creation of the state capital operation budget system. Second, the adjustment of the layout and structure of the state sector of economy made positive headway. The restructured assets of some mega-large SOEs went listed overseas and numerous large and medium-sized SOEs conducted reforms to separate primary business from auxiliary business and restructured. At the end of 2006, the State Council and SASAC promulgated the Guidelines on Propelling the Adjustment of State Capital and the Restructuring of SOEs, which identified the key areas and restructuring objectives for the development of central SOEs.
The 17th CPC National Congress further called for improving the layout of the state sector of economy through corporate shareholding reform, which increased the concentration of SOEs. By 2006, the number of state-owned industrial and commercial enterprises reduced to 119,000, about half the number in 1998. The number of central SOEs reduced from 196 in 2003 to 112 in 2012. Third, SOE reform continued to deepen in monopolistic sectors and a few monopolistic sectors dominated market competition. For instance, after the creation of the State Electric Power Supervision Commission in 2010, the State Grid Corporation, China Southern Power Grid and five power generation groups were separated from the National Power Corporation. In 2003, 93 airports were under the management of local governments and the nine aviation companies and service companies of the National Civil Aviation Administration of China (CAAC) were reorganized into Air China, China Southern Airlines and China Eastern Airlines and three service companies. In 2007, civil aviation administration was separated from industrial supervision. Fourth, further progress was made in the shareholding reform of SOEs and mixed ownership sector of economy.
By 2012, there were 9,012 shareholding industrial enterprises and 65,511 limited liability industrial companies in China, while industrial enterprises with mixed ownership accounted for 26.3% of the total number, 44.0% of total assets, 38.8% of revenue from primary business and 41.8% of the profits of large industrial enterprises. By the end of 2012, central SOEs and their subsidiaries introduced private capital to develop mixed ownership enterprises, which accounted for 52% of all enterprises. There are a total of 378 central enterprises and listed companies controlled by their subsidiaries and listed companies with non-state-owned equity accounting for over 60% of all listed companies8.
5. Period of Classified Reform: 2013-2017
The 18th CPC National Congress marked a brand-new chapter of classified SOE reform. According to the principles adopted by the Third Plenary Session of the 18th CPC Central Committee and the Guidelines on Deepening SOE Reform promulgated by the CPC Central Committee and the State Council in September 2015, SOEs are classified into public-interest SOEs, commercial SOEs with primary business in fully competitive sectors and commercial SOEs with primary business in important and critical sectors. Different types of SOEs will be subject to different mechanisms for the supervision of state assets, mixed ownership reform schemes, corporate governance mechanisms and strategic adjustment of the state sector of economy. In this stage, SOE reform must follow such classification.
5.1 Theoretical Research
As China’s economy entered the new normal, the following four questions must be answered regarding how SOEs should come to terms with a sophisticated market economic system. First, under the socialist market economic system, what should be the functions and layout of the state sector of
economy? Is there any need for dynamic adjustment? Second, compared with the unitary state system under the planned economic system, what is the main form for the realization of the state sector of economy under a market economic system? What is the appropriate form of ownership structure for SOEs? Third, given its significant size, what type of administrative system should be created for the state sector of economy under the market economic system? Fourth, for enterprises as the micro-level entities of the state sector of economy, what kind of governance structure and operational mechanism should they possess in order to stay competitive under a market-based economy? Based on the Resolutions adopted at the Third Plenary Session of the 18th CPC Central Committee, academia has reached a consensus on the following: Based on the dominant role of public ownership and the state sector of economy, theoretical studies should define the functions of different SOEs and state capital operation should serve national strategic objectives, provide public services, develop forward-looking strategic industries, protect the environment, support progress in science and technology and ensure national security; develop a mixed ownership economy as a major form for the realization of the state sector of economy; improve the administrative system of state capital and enhance the supervision of state assets; improve the modern enterprise system of SOEs and develop a corporate legal person governance structure with coordinated operation and effective check and balance. The above statements have identified major tasks for the reform of the state sector of China’s economy for the new era. Implementation of these four reform tasks and specific reform initiatives will ultimately help form the state sector of economy with “new SOEs” as the mainstay. These new SOEs will become increasingly integrated with the sophisticated socialist market economic system where market holds sway in resource allocation.
5.2 Reform Experience
Since the Third Plenary Session of the 18th CPC Central Committee, the progress of SOE reform is reflected in the promulgation of the Guidelines of the CPC Central Committee and the State Council on Deepening SOE Reform on September 13, 2015 and supporting documents afterwards, which formed a “1+N” policy system (see Table 1). This marks the inception of an institutional framework for deepening SOE reform in the new era on all fronts.
First, the central government started to define and classify the functions of SOEs and promulgated the Guidelines on the Functions and Classification of SOEs in December 2015 and the Implementing Scheme for the Functions and Classification of Central SOEs in August 2016. Most local governments started to define the functions of SOEs and formulated measures for the classified supervision of SOEs.
Second, the restructuring and reorganization of central SOEs rolled out. Since the 18th CPC National Congress, SASAC has propelled the restructuring and consolidation of 28 central SOEs and the number of central SOEs under SASAC supervision has been adjusted to 99. Since the second half of 2016, central SOEs accelerated the reform to internally compress their management hierarchies and will achieve the objective of reducing the number of legal person entities by 20% in three years, so as to reduce the number of management hierarchies for central SOEs from 5 to 9 hierarchies to 3 to 4 hierarchies or fewer.
Third, institutional reform for the supervision of state- owned assets advanced steadily. Since October 2015, the State Council promulgated the Opinions on Improving the Management System of State-Owned Assets, which put forth principles for the transition of SASAC functions, reform of licensed state capital operation system, improvement of the allocation and operational efficiency of state capital and coordinated implementation of supporting reforms. After one year and a half, the State Council promulgated the Scheme of SASAC for the Transition of Functions to Focus on the Management of State Capital, which marked the transition from the management of enterprises to the management of state capital. In addition, China also carried out a host of pilot programs for state capital investment and operation companies.
Fourth, steady progress was made in mixed ownership reform. In September 2015, the State Council
promulgated the Opinions on the Development of Mixed Ownership for SOEs and the Guidelines on Encouraging and Standardizing SOE Investment Projects and Introducing Non-State Capital, both of which were drafted under the National Development and Reform Commission’s leadership. In 2016, the State Council promulgated the Interim Measures for the Equity and Dividend Incentives for StateOwned Technological Enterprises and the Opinions on the Pilot Program of Employee Stock Ownership for Mixed Ownership Enterprises with State Controlling Shares. By the end of 2016, mixed ownership enterprises accounted for almost 70% of central SOEs and their subsidiaries and 47% of provincial SOEs and their subsidiaries. Individual reforms were also carried out in key sectors including petroleum, electric power, telecom and national defense. In September 2017, the mixed ownership reform program of China Unicom was officially implemented.
Fifth, the modern enterprise system kept improving. SOEs enhanced Party development. For instance, all central SOEs have written Party development requirements into their articles of association. The recently enacted Guidelines of the State Council General Office on Further Improving the Legal Person Governance Structure of SOEs called for initial completion of corporatization reform of SOEs before the end of 2017. By 2020, solely and wholly state-funded companies must create board of directors whose external directors constitute a majority. Currently, 83 out of 102 central SOEs have created standard board of directors; 88% of provincial SOEs have organized board of directors with 13.1% of enterprises whose external directors constitute the majority. Lastly, SASAC devolved decision-
making power, management recruitment power, performance evaluation power and other important powers such as employee compensation and major financial matters to SOEs with standard board of directors to help these enterprises improve market-based operational mechanism.
6. Next Steps of SOE Reform: Braving the Challenges
The Report of the 18th CPC National Congress has unraveled the directions of SOE reform in a new era. The Third Plenary Session of the 18th CPC Central Committee further depicted a complete and detailed blueprint for SOE reform. In September 2015, the Guidelines of the CPC Central Committee and the State Council on Deepening SOE Reforms and relevant supporting documents created the policy system for SOE reform. In its next step, SOE reform must make substantive progress based on its guidelines, reform blueprint and policy system. Yet, it is by no means easy to accomplish the reform.
As mentioned in the Book of History, Yue Ming, a Chinese classic, “Knowing what to do is not difficult; doing it is”. The difficulty of SOE reform is compounded by the following problems. First, the objectives of SOE reform need to be further clarified. Although the Third Plenary Session of the 18th CPC Central Committee identified the objectives of SOE reform, these objectives need to be further clarified due to some changes in the current stage. SOE reform should not only increase the strength and competitiveness of SOEs themselves but should also create a level playing field for the economy as a whole, which may only be accomplished by deepening SOE reform and strategically adjusting the state sector of economy. Second, both an overarching framework and pilot programs are essential for any reform initiative to succeed. Although the Third Plenary Session of the 18th CPC Central Committee established the framework and objectives for SOE reform, the implementation is far from desirable. A fault tolerance mechanism is not yet in place to allow the trial and error of reform. Third, incentives and restraints for SOE reform are not in perfect balance, making reforms difficult to implement. Fourth, the pilot programs of SOE reform should become more systematic. Pilot reform programs were carried out for individual central SOEs and are not systematic. Any reform initiative must be comprehensive and individual pilot reform programs cannot prove the success of reform. In order to remove the barriers to implementation, SOE reform must adopt the following principles:
First, SOEs must be classified and such classification should be released to the public. Compared with the previous three stages, SOE reform in the new era must be based on the classification of SOE functions. The lack of clarity in those functions presented a conflict between the for-profit and publicinterest nature of SOEs, thus distorting SOE behaviors. For instance, SOEs were blamed by the public when they made profits and also blamed for losses. At the theoretical level, the roles and functions of SOEs in China’s socialist market economy must also be clearly defined. In fact, the lack of classification of SOE functions has become a critical barrier to the implementation of SOE reforms. The classification of SOEs is essential to accomplishing the reform tasks identified by the Third Plenary Session of the 18th CPC Central Committee.
Based on the guidelines on SOE reform, SOEs may be classified into public- interest SOEs, commercial SOEs with primary business in fully competitive sectors, as well as commercial SOEs with primary business related to the sectors of national security and economic lifeline. Different types of SOEs should be subject to different mechanisms for the supervision of state assets with different requirements on state shareholding ratios and corporate governance mechanisms. Since most SOEs have a mixture of the above three types of business, the functions and classification of SOEs must be determined through the strategic adjustment of state capital. Specifically, an administrative system for the management of state capital should be established to realize the reasonable flow of state capital through state capital investment companies and operation companies. This process is also linked with mixed ownership reform. Different types of SOEs require different governance, supervision and administration mechanisms regarding the formulation of strategic planning, business performance evaluation, selection
of capital operation model and recruitment of personnel to enforce more precise and effective classified supervision.
Second, overall coordination is essential to SOE reform. Reform tasks and policy measures must be coordinated for the implementation of SOE reform given the complexity of reform. Reform initiatives must be carried out in a systematic and coordinated manner, including the definition of SOE functions, the strategic restructuring of the state sector of economy, mixed ownership reform, the creation of state capital management system, as well as the further improvement of the modern enterprise system. For instance, creating an administrative system that focuses on the management of state capital must be coordinated with the strategic restructuring of the state sector of economy and the reforms of SOEs in monopolistic sectors. The most critical reform task is to reorganize state capital investment companies and operation companies; such reorganization must be based on a combination of administrative reorganization and capital market mergers and reorganizations.
The goal is to bring the state assets scattered in various sectors and enterprises under the possession of these state capital investment companies and operation companies, which is also a process of strategic adjustment for the layout of state capital. Hence, the creation of state capital investment companies and operation companies must be in sync with the mergers and reorganizations of SOEs. The significance of corporate M&A and restructuring is reflected in the following aspects: to promote the flow and appreciation of capital through equity operation, value management and market entry and exit. On the other hand, investment and financing, industry cultivation and capital integration will promote industrial agglomeration, transition and upgrade and optimize the layout of capital - this is the very purpose in creating state capital investment companies and operation companies. The reorganizations of some central SOEs were not carried out in sync with the creation of state capital investment companies and operation companies, making it likely for future reorganizations to be carried out once again.
In creating state capital operation companies and investment companies, attention should also be given to coordination between reform policy and competition policy to create an effective market structure. It is not that the fewer SOEs in specific sectors, the better or vice versa; otherwise it will either cause monopoly or excessive competition among SOEs. The mergers and reorganizations of SOEs and the adjustment of the layout of state capital must be conducive to forming economies of scale and a competitive and efficient market structure to address overcapacity, an outstanding contradiction facing China’s economy. In this sense, there should be an overall planning for the layout of the state sector of economy to guide the coordinated implementation of SOE reforms in accordance with the requirements of the new normal in the 13th five-year plan period (2016-2020). The ten SOE pilot reforms launched by SASAC cannot be carried out for individual SOEs. For pilot enterprises, even if their performance improves with only one pilot reform program implemented, it is hard to say that such improvement owes to such reform. Each pilot SOE should implement integrated reforms.
Third, SOE reform must make breakthrough in key areas. In the process of SOE reform, it is critical to make breakthroughs in two types of sectors: first, SOE reform in sectors with overcapacity such as coal and steel; second, SOE reform in sectors of natural monopoly including petroleum, telecom, electric power, civil aviation and railway. Not only are these two types of sectors under a great deal of public attention, but they are also of great significance to creating a level playing field and supporting economic development in the new normal. For the first type of sectors, reform is of great importance to resolving overcapacity, clearing zombie companies and withdrawing the state sector of economy from these sectors; resolving these problems is a critical task for supply-side structural reforms and their success largely determines the optimization of the state sector of economy and the overall transition and upgrade of the economic structure.
For the second type of sectors, their natural monopoly is mainly reflected in the network processes. Reform should open these sectors, excluding their network processes, to non-state enterprises and carry out strategic restructuring and mixed ownership reform of SOEs in these sectors. The goal is to develop a
pattern of business operation with apparent primary business and open network and effective competition for sectors of natural monopoly. Most of these sectors are fundamental sectors with tremendous effects on overall economic efficiency. The success of these reforms is of decisive importance to forming an environment of fair competition based on market economy, lowering the cost of downstream industries and developing the real economy. Breakthrough in the reform of these two types of sectors is a basic hallmark of substantive progress of SOE reform in the new era. Despite tremendous complexity and difficulties, progress must be made with great determination. Otherwise, SOE reform cannot be deemed as having made substantive progress.
Fourth, government institutional reforms must be deepened to propel SOE reform. Despite the readiness of SOE reform policies, implementation of the reform has yet to make real progress due to lagging reform of government administrative system. Implementation of SOE reform strategies requires the government organizational structure to be improved and even restructured. Therefore, the current priority is to deepen the administrative system reform in order for the powers of SASAC to be devolved to state capital operation companies and investment companies to incentivize and empower SOE reform and create a fault tolerance mechanism.
Fifth, some misperceptions must be corrected in order to propel mixed ownership reform. It must be recognized that mixed ownership enterprises are the majority of “new SOEs”. Although the Third Plenary Session of the 18th CPC Central Committee called for developing a mixed ownership economy and improving the policy system for mixed ownership reform, misperceptions about the theories and practices of mixed ownership reform still exist9. For instance, mixed ownership reform was often equated with equity diversification reform; emphasis was placed on simply increasing the number of shareholders, failing to realize that mixed ownership must be a diversification with shareholders of different nature. Others regard mixed ownership reform as the loss and even privatization of state assets and thus oppose the reform. In fact, mixed ownership reform of SOEs may not necessarily result in the loss of state assets. What is important is to ensure fair procedures and transaction, open information and strict enforcement of law. Loss of state assets can be prevented with standard operation and approval procedures, complete pricing mechanism for state assets, the well- functioning role of third- party institutions and audits, and effective discipline inspection and internal employee supervision. In the implementation of mixed ownership reforms, it is important to continuously improve the legal system and create an effective corporate governance structure.
7. Concluding Remarks
China’s SOE reform has gone through almost four decades. After the four decades of theoretical research and practice, China’s SOE reform and development have made brilliant achievements, giving rise to a large number of “new SOEs”. Among the Global 500 companies in 2017, 109 are based in the Chinese mainland, including 64 SOEs and 48 enterprises under the SASAC. However, these enterprises still may not meet the criteria for world-class enterprises. Therefore, China’s SOE reform must continue to deepen in order to meet the requirements for socialist market economic system. With increasing experience of China’s SOE reform over the past four decades, China has creatively combined the basic principles of Marxism with the implementation of SOE reform and selectively drawn upon international experiences and lessons to develop a gradualist SOE reform methodology with Chinese characteristics10. Foreseeably, a group of world-class “new SOEs” will emerge in China with the deepening of SOE reform and these “new SOEs” will make great contributions to making the Chinese dream come true
Source: Yu Jing, Huang Qunhui: “Deepening SOE Reform in the New Era: Progress, Problems and Suggestions”, Journal of the Party School of CPC Central Committee, October 2017.