China: Building “Capitalism with Socialist Characteristics”

The new government nationalized the country? s banking system and brought all currency credit under centralized control. It boosted government revenues by collecting agricultural taxes. Industry and commerce was under control of the state. Wages were calculated under the principle of “ to each according to his needs”. By 1969 the power passed to the CCP, led by Deng Xiaoping, a pragmatic man who determined pragmatic policies to work and determined to bring china back from the devastation. • Reform in the countryside: Deng allowed farmers to produce on their own and sanctioned the sale of surplus production.

Also, due to the shortage of food, he encouraged the one child policy. As a result, China? s rate population growth slowly began to subside. China created four “special economic zones” (SEZ) and by this welcomed investment, attracted potential investment with tax incentives, foreign exchange provisions and a decided lack of regulation. China also opened some coastal cities to foreign trade. All these reforms began to open China up to the outside world. • Rural industrialization and enterprise reform: At that time the state determined prices, input & output and retained any profits form enterprises.

But in 1983, the government introduced a variant of responsibility system making the enterprises free to run their business (managers could set wages, make investment decisions and retain profits). This was clearly making China a more market-oriented country. By the establishment of township and village enterprises (TVE? s), villages raised money to fund everything. TVE? s grew competitive with each other and became very successful, reinvesting their profits to fund growth. The state started using the “dual-price system” in industrial products. So the enterprises

were still required to sell their quota of production to the state at state-fixed prices, but they could also sell any excess production into the open market. This brought corruption since the easiest route to profits lay in using fixed-price inputs to manufacture goods sold at market prices. The economy did grow but so it did the inflation (prices in some cities increased more than 30%). To fund the expansion TVEs and SOEs were borrowing a lot form local financial institutions. At the end, central authorities froze credit issued by the state banks.

Government agencies tightened administrative controls on imports and credit, cut state investment expenditures, raised interest rates and devalued the currency by 21%. The economy cooled down and the inflation fell to 2%. REFORM IN THE 1990s The 1990s consolidated China? s reform efforts and firmly set the course for a capitalist market economy, still with socialist characteristics. One main objective of the government was to establish a new system for national taxation to allow the centre both to increase its revenues and enhance its control over provincial authorities ?

“divided tax system” which redesigned all categories of taxes as central, local or shared. This classification eliminated the category of extra budgetary revenues and quickly increased the centre’s taxes. The government also begun to adjust its dual exchange rates to exchange their foreign exchange receipts at a “market “rate. China also accelerated the process of privatization. China? s restructuring in 1990? s was gradual (not like in Russia and parts of Eastern Europe). Only a small part of firms were privatized and the state remained a major shareholder in the largest and most important firms.

THE NEXT WAVE In 2003 political leadership had been passed to Hu Jintao. Internationally, China was playing an important role; it was the third largest exporter. In terms of economic and political terms, China was still a much developing country. The banking sector remained tied to the state and capital markets were thin. The state-owned banking system remained unreformed. China needed a financial liberation in order to proceed with the next step. China was facing a big pressure from USA because of the exchange rates. The Yuan was undervalued, contributing to China?

s persistent current account surpluses and it? s steady build-up of foreign exchange reserves. Also, the growing concern that growth in China was no longer evenly distributed. Gini coefficient was 0. 4 and this was a challenge as the ideology of China was committed to equity. This could therefore threaten China? s stability. In order to achieve the 8% growth China had to liberalize the financial sector and allow a real capital market to grow. At the same time, they had to ensure that the liberalization of the financial sector didn? t let loose a chain of other, undesired effects. • Reforming Banks

There were no investment banks in China, no credit rating agencies and only a weak network of freestanding credit unions. Each township had its own rural savings and credit cooperative, which extended credit to local farmers and TVEs. In 1990s the state slowly and gradually started the reform of banks. They eliminated all quotas on banking credit and restructured their own internal management systems. Provincial banks where replaced with greater regional offices. At the same time the government established four new assets management companies. These were joint stock companies in which the government held 100% of the shares.

As a result of these measures, operating profits at the major banks started to point upwards. Although one of the goals of banking system was to sell shares of the cleansed banks to strategic and foreign investors, the steps were minimal. The AMCs were still owned by the state, and foreign participation in the banking sector was slight. • Revaluating the Yuan China? s currency was undervalued by 30%-35% and this for USA, was contributing China? s growing current surplus with USA. But China maintained that a fixed Yuan was crucial to China? s growth and stability. • Dealing with inequality China was worried about the growing inequality issue.

In 1970 Gini coefficient was 0. 21-0. 24. It was a very poor country but a relatively equal one. By 2005, Gini coefficient was 0. 4-0. 5 and small segments of rural poor were experiencing real decline in income. The persistence of communism made these gaps particularly tough to explain. In 2004, the abolition of agricultural taxes served to redistribute income away rom the wealthier towards the poorer interior regions. By 2005, central authorities planned to provide a basic standard of living allowance for low-income urban citizens and to create unemployment insurance for certain classes of employees.

They intended to create health and pension insurance programs, and to revitalize the country? s aging system of social security. If China really wanted to attack inequality, it would have to engage in a massive program of redistribution, building an administrative infrastructure along the way and almost certainly slowing growth in the process. If by contrast would rather continuing growing, it would have to continue moving toward the market and accepting the inequalities. CONCLUSION: IMPORTANT POINTS TO HAVE INTO CONSIDERATION So, in November 2005 China issued the 11th five-year plan in order to touch the fiscal situation, it?

s current account surplus and it? s desire to equalize rural and urban incomes. The plan? s objective was to continue growing at 8% per year by increasing the Government spending and try to tilt its expansion away from exports and imports. • China is the fastest growing country in the world- high economic growth. • Population of 1. 3 billion- is the most populated country (but India is catching up). During Mohs time it was considered that the more people the better – “A child has to arms to work”- However, after this they put a limitation of one child per family. (4-2-1)= 4 grandparents, 2 parents and one child.

As a conclusion of this nowadays several problems with the pensions exist. This is something that not only China will suffer but also countries like Germany, Spain, Japan, Italy, UK, US or Greece will suffer. However, due to the “ one child policy” in China, this country will be the first one to suffer these pension challenges. • Nowadays is the 2nd largest economy in the world. The crisis has accelerated the process as during the past years China has grown. But exists other reasons why China will become the largest economy in the world G-7 (US, Japan, Italy, Canada, France, Germany and UK)

G-8 (+ Russia) G-20 (include all the emerging countries such as Brazil, India, Mexico, etc. ) G-2 (US and China) • China surpasses both European Union and United States in total GDP ($1284 in 2005) • Current account surplus in 2005: $70billion. This is a fundamental reason for currency to appreciate. • There are lots of inequality problems – Urban (castal) VS. Rural area • China is not a homogeneous country so this makes it difficult to control. • China is considered to be one of the most capitalized countries in the world.

It is considered an industrial powerhouse (moved from low wages sectors such as clothes or agriculture to a more sophisticated production such as computers, drugs, cars) • China has had an economic reform and a limited political reform. It followed a gradual reform (reforms)- pragmatic approach. • Social stability is one of the most important values. • It? s a communist state – the state and the party were central players in nearly all aspects in China? s economy, guiding a development trajectory labelled as “capitalism with social characteristics”.

• China has inflation problems- “ imported inflation”. Every depreciation/devaluation generates imitation (“imported inflation”) because imports are more expensive. • Financial system: There are limited bank operations in China. It? s important to differentiate between foreign investment and portfolio investment. In foreign investment there are regulations but once you have the acceptation you can invest in whatever. • Exchange rate policy: In the past China had a dual exchange rate and nowadays is semi-fixed. But how this change happened? Imagine a trade market between $ countries and China (yen).

China fixed the price above the equilibrium level, making the $ very expensive and the yen cheap. ? X>M and Chinese products become cheaper. What China is doing is promoting growth ? Y=C + I + G + X? -M? This obviously was a pressure to the rest of the countries because this makes Chinese products very cheap. They export a lot but don? t import, as with this situation the other products of other countries are more expensive. This brought up a big debate so they put a little ban by decreasing the fixed exchange rate in 2007. Afterwards, the crisis started and the fixed it again. The problem with this is that it creates corruption.