China Lags On SOE Reform Goal – Analysis

By Michael Lelyveld

After two years of preparation, China’s new reform plan for its vast state-owned holdings has received poor reviews, dimming hopes for one of the government’s critical economic programs.

The 20-page plan issued last month by the Communist Party of China (CPC) Central Committee and the State Council, or cabinet, seeks to revitalize the sprawling state sector with opportunities for private and possible foreign investment.

The blueprint could potentially force changes at 155,000 state-owned enterprises (SOEs) belonging to China’s central and local governments, ranging from hydropower producers to hospitals.

SOE reform is seen as a crucial task for the government to promote economic growth. Estimates of the state sector’s share in China’s gross domestic product (GDP) run from one- third to nearly 40 percent.

While SOEs enjoy a privileged status and access to bank loans, they have fallen behind the private sector in terms of growth, productivity and efficiency.

In a report on the plan, the official Xinhua news agency described the state sector as “torpid.”

In the first seven months of the year, SOE profits fell 2.3 percent to 1.4 trillion yuan (U.S. $219.9 billion), Xinhua said. SOE assets have been valued at 105.5 trillion yuan (U.S. $16.5 trillion).

The reform is meant to “make such companies stronger and better helps (sic) to strengthen the economy, beef up defense capabilities, enhance national cohesion, as well as raise China’s status internationally,” the State Council said on its website.

“At the same time, it should also be made clear that state-owned companies are complementary with that of other types of ownership,” the government said.

The program would divide SOEs into for-profit companies and those “dedicated to public welfare,” suggesting that sectors such as education and health care would be allowed to run at a loss.

Commercial enterprises would be “market-based,” more professionally managed, more efficient and capable of operating as “fully independent market entities.”

Sectors including shipping, telecommunications and banking would be open to private investment under a “mixed ownership” concept that the government has been promoting heavily for over a year.

Mixed ownership would be spurred with mechanisms such as share sales and share rights swaps. The government has set a target date of 2020 for achieving “major reforms in key areas,” state media said.

But the stock market fell sharply in trading sessions after the guideline was unveiled, in part due to disappointment with the long-awaited plan, according to both the foreign and state-controlled press.

The Wall Street Journal called it a “modest fix to China’s brand of state capitalism,” while the official English-language China Daily said it “looks too broad to brush out problems.”

Main concern

A key concern is that the program would effectively expand the state sector rather than shrinking it by trying to draw in private capital and pushing mergers and acquisitions.

The approach is consistent with reports over the past year that the government wants to create a “national champion” in the oil industry by merging state companies to compete with international majors.

“The government should nurture a group of SOEs that are creative and can face international rivals by that time (2020),” the program said.

But the guideline’s goals are also riddled with contradictions that seem likely to frustrate its competitive goals.

SOE boards would be given more decision-making powers and intervention by government agencies would be forbidden, Xinhua reported.

But in a subsequent report, the agency made clear that the Communist Party, if not the government, would stay in control of the companies through management appointments.

“The guideline stressed the principle of the CPC in charge of executive selection in SOEs,” it said.

In a telephone briefing by the National Bureau of Asian Research during President Xi Jinping’s recent visit to the United States, China economist Nicholas Lardy at the Peterson Institute for International Economics said the message on reform was deeply mixed.

“The program that came out … was the typical conflicted document that had a few good things in it and then quite a few things that … seemed to be moving in the wrong direction,” Lardy said.

The guideline has also been criticized for its lack of specificity.

“The program is so comprehensive and so general, if not philosophical, that putting it into practice still requires a series of subsidiary programs,” China Daily said.

Although Premier Li Keqiang has praised the merits of the program, it seems unlikely that its cool reception could have come as a surprise.

“I don’t think they could possibly have imagined that this was going to energize anyone,” said Derek Scissors, an Asia economist and resident scholar at the American Enterprise Institute.

“This is not a sign of anything positive whatsoever and I don’t think anybody in the government thinks that,” Scissors said.

Government and party officials have been working on the SOE document ever since the CPC’s Third Party Plenum outlined its sweeping series of reforms in 2013, but the outcome suggests that entrenched state sector interests prevailed over reformers in the prolonged policy struggle.

“They had the battle and the conservatives won,” Scissors said.

Never in the cards

Although officials have made clear since the plenum that mass privatization was never in the cards, the latest plans “are mostly about defending the status quo,” the Financial Times said.

Still, the government’s push has been driving some activity among the SOEs.

Last month, China National Offshore Oil Corp. (CNOOC) said it is forming a joint venture with MSP/DRILEX Inc., a private company based in Shanghai, for deep-water exploration, Xinhua reported.

China National Petroleum Corp. (CNPC) plans several partnering steps, including an offering to investors for 49 percent of its Xinjiang oilfields, the news agency said.

On Sept. 30, the Ministry of Finance also announced a 180-billion yuan (U.S. $28.3-billion) fund with 10 state-owned lenders to support public-private partnerships (PPP).

The move followed the ministry’s listing of 206 PPP projects valued at 659 billion yuan (U.S. $103 billion), Xinhua said.

Such opportunities may be a long way from a full opening to private investment or privatization of SOEs, but they may allow the government to claim that its program is a success.

“The best that can be said on SOE reform is that it’s going to depend very much on how they carry out this program.

If they emphasize the liberalizing aspects of it, it could have a positive effect,” said Nicholas Lardy.

“If they emphasize bigger is better and consolidation, then it’s likely to move in the other direction,” he said.