China Economic Update: July 2016

Despite decades of change, China’s State-Owned Enterprises (SOEs) are a specific segment of the economy that still requires substantial reform.

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Taming the beast – the challenges of reforming China’s state-owned enterprises

  • Last month, we highlighted our concerns around the slow pace of China’s broad reform agenda since 2013’s Third Plenum. Despite decades of change, China’s State-Owned Enterprises (SOEs) are a specific segment of the economy that still requires substantial reform. While the role of SOEs has generally declined across recent decades, they still control a significant share of the economy – varying by sector – and have considerable financial and political influence, which poses challenges to the reform process.
  • The actual contribution of SOEs to China’s economy is somewhat unclear – with estimates that SOEs share of GDP ranging anywhere from 20% to 40% – however it is generally accepted that SOEs are a drag on economic growth, given institutionalised inefficiencies and the negative effects of barriers to entry for private firms.
  • Reforms to state-owned enterprises announced at the 2013 Third Plenum were relatively modest and somewhat inconsistent – with policy statements that noting that markets should have a decisive role in allocating resources, but that SOEs should continue to have the leading role in the economy.
  • As seen with a range of reforms and policy responses over the past two years, short term volatility and slowing economic trends can lead to backtracking on reforms in the interests of immediate growth.
  • From a purely economic perspective, further reform to SOEs is an obvious course of action to improve the performance of China’s economy – reflecting the inefficiencies, excess capacity and negative competitive impacts from their preferential arrangements with government and banks. However, this overlooks the social importance of SOEs – as major employers – and their political influence – being able to directly influence economic activity at the government’s behest, as well as a growing role in foreign political measures, such as ‘One  Belt, One Road’. These factors increase the likelihood that SOE reform will remain at best a slow and limited process.

For further details, please see the attached document: