Learning Mandarin: Chinese School - China's capitalist state needs reward

CHINA / Foreign Media on China

China's capitalist state needs reward
By Andy Mukherjee (Bloomberg)
Updated: 2006-04-27 10:05

China's state-owned enterprises had a combined profit of 628 billion yuan
($78 billion) last year, slightly more than General Electric Co. has
earned in all of the past five years combined.

While GE shareholders received about $40 billion, or 52 percent of the
company's total earnings, as dividends, the Chinese government got a big
zero.

Last year was no fluke. Since 1994, state-owned enterprises affiliated
with the federal government haven't paid any dividends even though many
of them have benefited handsomely from China's emergence as a
manufacturing powerhouse.

This ``no-dividend'' strategy is being pursued not only by the 169
federally controlled companies, whose profit rose almost 28 percent last
year, but also by most of the 138,000 enterprises administered by
provincial and municipal governments.

In a nutshell, the state in China isn't getting a return on the capital
that it has deployed to provide jobs for some 43 million people. This is
damping China's aspiration to realign the focus of economic growth from
exports and investments to domestic consumption.

When the majority shareholder doesn't have to be paid a share of the
profit, it becomes a lot easier for managers to reward themselves with
excessive corporate perks.

"Within-firm allocation of capital does not receive the same scrutiny as
channeling it via the financial sector," the World Bank's China office
noted in its recent quarterly update on the economy.

Distortions

A captive source of money also leads to serious macroeconomic distortions.

Take, for example, the government's plan to discourage the building of
another wholly unnecessary steel plant amid a nationwide glut. A
government diktat to banks asking them not to finance such a project
won't have the intended effect as long as managers in state-controlled
firms decide to build the plant anyway with internal accruals.

As Raghuram Rajan, the chief economist at the International Monetary Fund
in Washington, pointed out in a speech in November, "it is unlikely the
chairman of a state-owned corporation will prefer to return cash to the
state via dividends rather than retaining it in the firm, particularly
when banks are under orders to restrain credit growth."

State-owned company profits represented 3.3 percent of China's gross
domestic product and 20 percent of the government's fiscal revenue last
year, according to the World Bank.

Getting some of the money out of corporate treasuries and into the
government's coffers will be a key plank of what economists have
identified as the most-populous country's biggest challenge -- a
"rebalancing" of its growth model.

Overinvestment

"For the past 27 years, China's remarkable growth story has been built
largely on a foundation of resource mobilization -- powered by the
recycling of a huge reservoir of domestic saving into exports and
investment-led growth," Morgan Stanley Chief Economist Stephen Roach said
in an April 24 report. "This strategy has now outlived its usefulness."

Investment threatens to exceed 50 percent of China's GDP, from about 45
percent in 2005, he said.

"In their earlier heydays of economic development, this ratio never got
much above the low-40 percent range in either Japan or South Korea,"
Roach said.

China's recently enacted 11th Five-Year Plan aims to improve the quality
of economic growth by paying more attention to the environment, which has
been severely damaged by reckless exploitation, and to the inequitable
distribution of income.

A clear dividend policy would go a long way toward bringing about the
desired rebalancing of the economy.

A Dividend Policy

"Probably the most effective way to change the composition of demand
towards consumption is to move ahead on a dividend policy for state-owned
enterprises and to ensure that the revenues go through the overall
budgeting process, so that they can finance reforms in education, health
and social security," the World Bank said in its quarterly report.

In recent months, policy makers in China have been vocal in demanding a
change to the no-dividend practice.

"Owners have the right to receive dividends," Zhou Xiaochuan, the
governor of the Chinese central bank, said in a speech in Beijing in
December.

Getting to exercise this right, however, won't exactly be a cakewalk for
the government. Even in the case of a state-controlled company whose
shares are publicly traded, the government doesn't receive any of the
distributed dividends, which accrue to a holding company.

Although it's fully state-owned, the holding company doesn't release any
of the dividends it receives into the exchequer. Instead, it retains the
cash for acquisitions, expansions or for spending on other subsidiaries.

Long March

The Chinese government appears to have made up its mind: The no-dividend
practice must go.

The Finance Ministry has devised a plan for state-owned companies to
share profits with the government, the South China Morning Post reported
in February.

The Finance Ministry, however, is just one of the actors in this theater.
An important question is how the State-Owned Assets Supervision and
Administration Commission, the shareholder agency of the government,
responds to any proposal that foresees all the dividends -- and the power
that goes with the cash -- being passed to the Finance Ministry. Won't
SASAC, as the commission is known, want to retain at least one share of
the proceeds before passing on the rest to the Finance Ministry?

The intra-government issues will, hopefully, get solved for the sake of
the larger interest. If the Chinese government can spend its dividend
booty on, say, paying higher wages to underpaid teachers in rural areas,
it will be taking a much- needed first step in what seems to be a long
march to sustainable growth.

Saturday, December 22, 2007

Chinese School - China's capitalist state needs reward

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