Lecture Note: Can India catch up with China in manufacturing prowess?

Theme of the Note:

China has emerged as the world’s major exporter of manufacturing goods since 1990.
India is not yet a major exporter of manufactured products to the world. Significantly,
China’s industrial growth rate has been consistently higher than India’s by about one and
half times, and the gap seems widening. The world’s economic super power United
States (US) now feels that Chine will inevitably tilt global trade and technology balances
in its favor, ultimately becoming an economic, technological, and military threat to it.
Business and political leaders in the US now fear that China's growing share of world
exports, especially of high technology and industrial goods, signals the rise of yet another
mercantilist economic superpower in northeastern Asia.
In this context, this lecture note traces the factors explaining China’s higher productivity
and competitiveness in world market for manufacturing bases; and discusses the
sustainability of Chinese model of economic growth.

This lecture note was prepared by the Instructor (Sthanu R Nair, Indian Institute of
Management Kozhikode) for the sole purpose of student learning. It is nothing but proper
arranging/ordering of relevant parts from the sources indicated at the end of the note with
data/photo additions. Please do not circulate this note in any public platform or share to
others without the Instructor’s permission.

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1. India and China in the World Economy:

Today, China and India together account for 40% of the world’s population. Since
1980 Chinese economy has been growing at the average rate of over 9%. India is
following behind China, with an average growth rate of close of 6 per cent a year since
1980, with some evidence that growth is accelerating and can be sustained at 8 per cent a
year in the coming decades. Whereas China has emerged as a predominantly industrial
economy (share of industry in GDP was 46% in China and 27% in India), India became a
service economy (share of services in GDP was 41% in China and 67% in India). The
world’s economic super power United States (US) now feels that Chine will inevitably
tilt global trade and technology balances in its favor, ultimately becoming an economic,
technological, and military threat to it. Business and political leaders in the US now fear
that China's growing share of world exports, especially of high technology and industrial
goods, signals the rise of yet another mercantilist economic superpower in northeastern
Asia.

With huge population base, the two giant economies present a huge and fast
growing domestic market (demand side) for a range of goods and services, and thus
export opportunities for producers in the rest of the world. This is evident from the
growing share of China in world export of manufactures. The share is expected to rise in
the future, assuming of course, China’s rapid growth is not a bubble but will be sustained.
This means that foreign raw material suppliers depend to a greater extent on Chinese
demand. Any disruption in Chinese demand in the short-run can be costly for them. The
market potential of India and China is also evident from the large flows of FDI to these
countries, both for production for the domestic market, but also to use exports to the rest
of the world. The fact that India has attracted far less FDI, is not because of the lack of
potential opportunities in India, but largely because of policy hurdles and other
constraints on investment.

Besides being a major demand market, India and China influence world economy
as major exporters (supply side). Foreign users who depend on China’s exports of
goods/merchandise for a sizeable share of their total use, could be faced with the prospect
of having to search for alternative supply sources if Chinese exports are disrupted for

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whatever reason. According to Morgan Stanley, low-cost Chinese imports (mainly
textiles, shoes, toys, and household goods) have saved U.S. consumers (mostly middle-
and low-income families) about $100 billion dollars since China's reforms began in 1978.
U.S. industrial firms such as Boeing, Ford, General Motors, IBM, Intel, and Motorola
also save hundreds of millions of dollars each year by buying parts from lower-cost
countries such as China, increasing their global competitiveness and allowing them to
undertake new high-value activities in the United States. Similar argument holds for
India’s exports of services. Therefore, shocks to these two countries’ import demand (and
export supply) are sources of risk for foreigners.

All these simply imply that both India and China have become increasingly
integrated with the world economy. But China has gone much farther in this regard.
China has attracted and continues to attract far more foreign capital (FDI and FII) than
India. A major portion (above 70%) of foreign investment inflows into China consists of
FDI. In case of India, foreign investment inflows are mainly in the form of FII (above
70%).

2. Factors Explaining China’s higher productivity and competitiveness in world

market for manufacturing bases:

(i) China welcomed large-scale FDI:

In contrast to India’s ‘homegrown entrepreneurship dependent’ growth strategy,

China followed FDI-dependent approach. The differences in the strategy are functions of
history. China’s Communist Party came to power in 1949 intent on eradicating private
ownership, which it quickly did. Developments at the microeconomic level in China
reflect this historical factor. China has imposed substantial legal and regulatory
constraints on indigenous, private firms. The restrictions were designed not to keep
Chinese entrepreneurs from competing with foreigners but to prevent private domestic
businesses from challenging China’s state-owned enterprises (SOEs). The government
has ferociously protected SOEs from competition. Foreign investors have been among the
biggest beneficiaries of the constraints placed on local private businesses. Overtime the
government removed a number of sectoral and regional restrictions on FDI. This had
momentous implications for the China’s growth scenario. The creation of SEZs, which

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exempts foreign investors from regulation applicable elsewhere in China (particularly
relating to hiring and firing and foreign ownership), helped in attracting huge FDI into
China. Moreover, excellent infrastructure facilities, particularly power, road, and
communications also played a crucial role in attracting FDI.

(ii) Dominant role by Chinese Diaspora:

China has a large and wealthy diaspora that has long been eager to help the
motherland. Its money (in the form of FDI) has been warmly received. To overcome
rising wage costs domestically, to overcome limitations of domestic technology to
produce for the world market and to overcome growing competition from the other Asian
economies non-resident Chinese in Hong Kong, Macao and Taiwan invest in China.
Conscious of the absence of a strong domestic entrepreneurship, Chinese authorities have
been very hospitable to non-resident Chinese entrepreneurs.

By contrast, the Indian diaspora was, at least until recently, resented for its
success and much less willing to invest back home. New Delhi took a dim view of
Indians who had gone abroad, and of foreign investment generally, and instead provided
a more nurturing environment for domestic entrepreneurs. With the welcome mat now
laid out, direct investment from nonresident Indians is likely to increase. The Indian
diaspora has famously distinguished itself in knowledge-based industries, nowhere more
so than in Silicon Valley. Now, India’s brightening prospects, as well as the changing
attitude vis-à-vis those who have gone abroad, are luring many nonresident Indian
engineers and scientists home and are enticing many expatriate business people to open
their wallets. With the help of its diaspora, China has won the race to be the world’s
factory. With the help of its diaspora, India could become the world’s technology lab.

(iii) No protection for domestic industry:

China did not give protection to domestic firms, something both Japan and South
Korea did during their periods of rapid growth. Instead, it has allowed foreign firms to
develop new markets for their goods and services, especially high-value-added products
such as aircraft, software, industrial design, advanced machinery, and components such
as semiconductors and integrated circuits. Chinese domestic consumers act as a powerful
domestic coalition against protectionism. They, especially urban consumers, pride

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themselves on driving foreign-brand cars and using mobile phones and computers with
circuits that were designed and manufactured abroad. The result: in the Chinese market
domestic manufacturers of appliances, motorcycles and TVs, to name a few goods, have
been able to successfully compete with those from Japan, Korea, etc.

(iv) Critical role played by ‘Township and Village Enterprises’:

Most of the industrial units producing lower-end manufactures are not state
owned. Nor are they all owned by individual capitalists. A large proportion of China’s
explosive industrial growth took place in what are known as ‘Township and Village
Enterprises’ (TVEs). TVEs are collectively owned industrial enterprises, owned by the
respective township or village. Their surpluses accrue not to individual capitalists but to
the township or village authority. These TVEs, have a number of advantages. They are
located on land owned by the local authority itself, and thus do not have to pay any rent
for land on which factories are situated, resulting in a substantial price advantage. Also, a
part of China’s savings is held by TVEs, thereby lessening the dependence of the TVEs
on costlier bank credit for working capital. However, the TVEs cannot subsidise losses
through recourse to the public exchequer. They have to stand on their own financially and
cannot exist for a long while making losses.

What contributed to the success of TVEs? First, the dramatic and demonstrative
impact on the growth of the small and medium industries in rural areas was facilitated
through extensive decentralisation of power to regional authorities for improving
efficiency in the planning and utilisation of local resources and development of local
industries. Second, the local governments had a strong incentive to promote TVEs as
these contributed substantially to revenues which the local governments could retain for
themselves under the revenue sharing arrangements. Third, FDI came to be favoured in
the development of TVEs. The impressive development of TVEs was primarily due to
their connections to the international market. The presence of FDI became pervasive in
labour-intensive and export-processing TVEs such as electronics and
telecommunications, garments and footwear, leather products, printing and record
processing, cultural products and plastics. In the TVEs the areas of highest growth were
also the areas of deepest foreign penetration. The connection with FDI brought TVEs in

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competition with SOEs and stimulated the latter to increase productivity and unit scale.
Fourth, major agricultural boom coming in the wake of economic reform in agriculture,
with better prices and better land tenure, with the farmers acquiring fixed term land use
rights in the late 1970s and moving towards full property rights in recent years. For more
details see the Case Study on TVEs (at the end of this note).

(v) Export-led industrialization or Production for exports:

China followed a export-led growth model. Export units, in addition to catering to

the international market, produce for and compete in the national market as well.
Managers and workers from the export units also move on to set up other producing
units, taking their skills and production knowledge with them. Most of the lower range of
manufactures available in many parts of the world today carry the ‘Made in China’ label
– hall mark of China’s export-led industrialisation.

The policy of dualism in product quality played a significant role in promoting

Chinese products abroad. In China there are two sets of firms – one producing high
quality products and the other producing low quality products. A lot of shoddy goods are
produced in China, often with no attention to safety Standards. Firms producing poor
quality goods cater to the needs of the lower end of the market such as Nepal, Bangladesh
and India. Chinese experience shows that lower quality is not always a liability,
particularly when the trade-off is between quality and price. For example, in case of toys
they are anyway not going to remain useful for very long (whether it is because they
break or because children want something new) you do not need very high durability.

(vi) Higher labour productivity:

One of the factors contributing to China’s competitiveness is the dynamic

advantage of higher labour productivity. This is made possible by the following factors.

(a) The high level of education of Chinese workers. The virtually universal
literacy of Chinese workers enables higher productivity.

(b) The TVEs model does not lead to the same accumulation of profits in the
hands of a few individuals. Also the workers are not made to suffer the consequences of
adjustment, as in the usual privately-owned enterprises. As a result, workers would

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develop closer attachment with such enterprises which, in turn, stimulates higher
productivity.

(vii) Importance to agriculture:

China and India have taken different reform paths. China started off with reforms
in the agriculture sector and in rural areas, while India started by liberalizing and
reforming the manufacturing and services sector. These differences have led to different
growth rates.

By making agriculture the starting point of market-oriented reforms, a sector

which gave majority of the people their livelihood, China could ensure a widespread
distribution of gains and build consensus and political support for the continuation of
reforms. Besides, through favoured demand conditions, prosperity in agriculture
favoured the development of a dynamic rural non-farm sector (TVEs), which provided
additional sources of income outside farming. As rural incomes rose, the demand for non-
agricultural output increased proportionately. The rapid development of the rural non-
farm sector also encouraged the government to expand the scope of policy changes and
put pressure on the urban economy to reform as well, since non-farm enterprises in rural
areas had become more competitive than the state-owned enterprises (SOEs). The major
elements of farm sector reforms in China are:

(1) Individual farmers secured an incentive to produce more than their obligation to
plan, which they could sell in open market

(2) Land reforms (land distribution & tenure system, limiting the number of landless)

(3) Health and education provided free

(4) Heavy govt. investment in power

(5) Rural electrification

(6) State procurement system dismantled everywhere except for main grain-
producing regions

(7) Food rationing system was abolished in early 1990s

(8) Private agriculture trade promoted

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 Of these the measures 2, 3, 4 and 5 were initiated by China before the
introduction of economic reforms starting from 1978.

(viii) Absence of a land market:

Land is a collectively owned resource in China. There did not exist a formal or
officially approved land market up to the early 1990s. Any units in society, public or
individual, who needs land must obtain permission to the right of land usage from the
government. For instance, only the rights to the use of land are entitled to rural
communities, the rights to transfer and dispose of land are not, any allocation of farmland
lies in the hands of local community governments.

Thus, in China as a whole, land is not yet a commodity, not yet real estate. This
was a major advantage the country had in its march towards industrialisation (this is
especially the case of TVEs). Of course, a lease market is growing in China and this is
likely to put an end to the advantage it has in land not being a commodity.

(ix) Cheap capital:

Capital in China is substantially cheaper than in India. China’s savings rate is

more than 40 per cent compared to around 29 per cent for India. The savings are
deposited with the state-owned commercial banks in the closed financial system, which
has little autonomy but to follow political guidelines in its investment decisions. A part of
this savings is held in the TVEs, lessening their dependence on costlier bank credit for
working capital.

(x) “Trial and error” approach:

China follows trial and error approach in implementing reforms. The adoption of
new measures through experimentation rather than a predetermined blueprint increased
the likelihood of the success of reforms since it implied a “learning by doing” approach
or, in the words of Deng Xiaoping, one of “crossing the river while feeling the rocks”.
This was peculiar to the Chinese reform process in which the government made sure that
each new policy was field-tested at length and determined to be successful in selected
experimental districts before it could be applied nationwide and the next measure
introduced.

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 (xi) Centralisation of decision making:

In both Indian and China there was political will to carry out reforms, but in
practice outcomes were shaped by the different patterns of governance. India is a
“debating society” where political differences are expressed freely. Policymaking is
exposed to the pressure of various interest groups and there are long debates before
decisions are taken. The lengthy bureaucratic procedures, intended to ensure checks and
balances in the system, often delays decision-making and implementation. This exercise
is compatible with the needs of a free and dynamic polity but in practice is a key reason
for India’s slow pace of economic reforms.

China, on the other hand, is a “mobilising society” where decisions are taken
faster and state power is backed by mass mobilisation. As a result, implementation of
decisions is more effective although there is lack of more elaborate debate in China on
major reforms. Another key factor in the effective implementation of reforms in China
was the ability of the leadership to set both clear objectives and time frame for transition
to the reformed regime. This is made possible due to centralization of decision making.
On the other hand, in the context of a highly pluralist society like India, consent is more
difficult to achieve, and so neither clear objectives nor time frames for transition can be
set.

3. Future challenges facing China’s Growth Story:

The infirmities in China’s microeconomic, institutional and entrepreneurial bases

seem to raise many doubts on the sustainability of its superior performance. The
infirmities are as follows:

(a) Growth of labour and savings is expected to slowdown in future:

In China, the share in population of persons in prime working age (15-59) is

projected to fall to 53.3% by 2050 from the present level of 67.7%. Also the dependency
ratio is projected to rise, from 57% to 88% by 2050. Analysts say this is the outcome of
(a) draconian and coercive one-child policy instituted in 1979 and (b) decline in fertility
in the decade before. China’s high savings and investment rates are also unlikely to be

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sustained indefinitely into the future due to the expected fall in the working age
population.

But, India’s position on this front is more favourable than China’s. The share of
population in the age group 15-59 in India’s total population is projected to rise to 61% in
2050. Also dependency will fall slightly from 67% to 64% during the same period.
India’s saving and investment rates are likely to increase further for life cycle as well as
other reasons.

(b) Lack of efficient financial sector:

China doesn’t have a well-functioning and efficient financial sector consisting of

commercial banks, markets for debt, equity and insurance and a strong regulatory agency.
High domestic savings are deposited with the state-owned commercial banks, which has
little autonomy but to follow political guidelines in its investment decisions. Massive
investments in the public sector has not only promoted many commercially unviable
projects, but also created excess capacity, leaving the banking sector with a huge number
of nonperforming loans. Banking system managed to survive high NPA problem as (a)
the financial sector is still closed and (b) government repeatedly writes down bad loans
with fresh infusion of capital. As regards the other arms of the financial sector,
bureaucrats remain the gatekeepers, tightly controlling capital allocation and severely
restricting the ability of private companies to obtain stock market listings and access the
money they need to grow. These policies have produced enormous distortions while
preventing China’s markets from gaining depth and maturity

By contrast, India’s domestic financial system has far greater depth and wider
international linkages. This is despite the low gross domestic saving rate in India.
Though, like China, India’s commercial banking system is still dominated by public
ownership of nearly three quarters of its assets, nevertheless it has become more efficient
with increasing competition from dynamic new domestic private banks and also foreign
banks. India’s capital markets operate with greater efficiency and transparency than do
China’s. Indian stock and bond markets generally allow firms with solid prospects and
reputations to obtain the capital they need to grow.

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 (c) Neglect of indigenous domestic industry:

China’s export-led manufacturing boom is largely a creation of FDI, which

effectively serves as a substitute for domestic entrepreneurship. Few of the Chinese these
products are made by indigenous Chinese companies. During the last 20 years, the
Chinese economy has taken off, but few local firms have followed, leaving the country’s
private sector with no world-class companies to rival the big multinationals. China's
private firms are not yet significant global players. Despite more than two decades of
economic reform, China's leading domestic industrial and technology companies are still
primarily SOEs, which remain inefficient and dependent on government-subsidized
loans, and foreign firms.

India, on the other hand, developed a softer brand of socialism, which aimed not
to destroy capitalism but merely to mitigate the social ills it caused. For democratic,
postcolonial India, allowing foreign investors huge profits at the expense of indigenous
firms is simply unfeasible. It was considered essential that the public sector occupy the
economy’s “commanding heights” However, that did not prevent entrepreneurship from
flourishing where the long arm of the state could not reach. While China has created
obstacles for its entrepreneurs in the post-reforms period, India has been making life
easier for local businesses during the post-1991 reform period. As a consequence,
entrepreneurship and free enterprise are flourishing in India.

(d) Incredible legal system/rule of law:

China’s developing capitalism is not solidly based on law, respect for property
rights and free markets. The business climate in China remains capricious and often
corrupt. Local governments protect their own counterfeiting operations as a source of
local revenue. The Chinese government continues to be the policy maker as well as the
judiciary. As long as this continues there is no way the legal system will be credible.
China’s intellectual property right protections, although strong in theory, are in fact
impossible to enforce in much of the country.

On the other hand the property rights regime is firmly entrenched in India. The
protection of private ownership is certainly far stronger in India than in China. The rule
of law, a legacy of British rule, generally prevails. Moreover, India developed much

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stronger legal infrastructure to support private enterprise. India’s legal system, while not
without substantial flaws, is considerably more advanced. Corporate governance has
improved dramatically in India.

(e) Slow down in economic growth:

The first decade of the last century, with its relentless double-digit growth, may
well have seen the peak of China’s economic exuberance. Growth will inevitably slow
over the next decade, as China settles into its status as a middle-income country, and the
burden of caring for an ever larger number of elderly people in a slower economy may
make middle-class life far more uncomfortable. As a result of the impending slowing in
economic growth, the love affair between a communist party that calls itself the vanguard
of the proletariat and its actual, middle-class supporters is now under threat. The
government is struggling to shift China away from the current unsustainable model,
where growth is propelled by vast investment and export-led manufacturing.

(f) Sustaining urbanization:

China will have to work harder to sustain the urbanisation that has fuelled the
economy. China has succeeded in attracting underemployed young rural residents to
urban jobs. But the supply is beginning to slow. It would help if farmers could sell or
mortgage their rural land and use the money to help gain a stronger foothold in the cities.
But the government remains overly fearful of privatising farmland, partly for atavistic
fears of a destitute peasantry, and partly for ideological reasons.

Worse still, the system of household registration, or hukou, defines even long-
staying urban migrants as rural residents, cutting them out of housing, education and
other benefits (i.e. treating them as second-class citizens). No wonder that the migrants
are increasingly restive. Urban unrest has not become more common in China. If the
party is to keep the peace in cities and if it is to continue to attract migrants in sufficient
numbers, it needs to find ways to turn them into full-fledged city-dwellers, with the
consumer power to match.

Here it runs up against the middle class most directly. To give migrants the same
housing and other benefits as urban hukou holders, and to build a proper social safety-net

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will be expensive. And if more tax is the solution, then the middle class could well begin
demanding a greater political say.

CASE STUDY: Town and Village Enterprises in China

1. Concept and components of TVE sector:

The TVE sector comprises four types of enterprises: township enterprises,

village enterprises (called collective TVEs), enterprises owned by joint rural
households, and enterprises owned by single rural households or individuals or
private enterprises.

Township enterprises and village enterprises are collective enterprises owned by

all residents of the township or of the village. The joint household enterprises are owned
by a group of rural residents, which can be viewed as semi-collective enterprises. Only
the private enterprises are owned by private owners.

Among the four types of enterprises, TVE sector was actually predominated by
collectively owned enterprises [i.e. township enterprises and village enterprises] rather
than private enterprises in terms of contribution to the TVE sector’s output and
employment generation (but not in terms of number of units).

2. Property rights structure of collective TVEs:

The property rights and the governance of collective TVEs can be described as
two-tier principal-agent proxy relations (see Figure).

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 The Two-tier Principal-agent Relations in Collective TVEs

The community residents, as the nominal, or de jure (by right/according to law),

owners of a collective TVE (whose assets legally belong to the residents of the township
or the village), delegate the control rights (including the residual distribution rights)
in the firm to the community government1, who serves as the de facto owner of the
firm. In return, the community government assumes responsibility in the provision of
public goods and services, agricultural production support, local welfare, and capital re-
investment for the community residents. This completes the first-tier of principal-agent
relations.

The community government, as the principal, re-delegates at least part of the

control rights in the firm to the firm manager. In return, the firm manager receives
certain economic compensation through an operation contractual arrangement. The firm
manager thus has the obligation to remit profit, pay rents and fees to the community
government. The community government through the fiscal system will share the taxes
paid by the firm to the state as well. This illustrates the second-tier of principal-agent
relations in collective TVEs' organization.

The community residents enjoy the employment opportunities and income

increase provided by the firm.

1
Township government in a township enterprise case, or the village leaders in a village enterprise case.

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3. Contributions made by TVEs to China:

Township and Village Enterprises (TVE) sector has made incredible contribution
to China in terms of improvements in economic growth, output, employment, tax
revenue, and rural income.

TVEs have efficiently utilized local (rural) resources to provide employment

opportunities to rural surplus labourers. For instance, in 1978, the TVE sector hired
only 9.2 percent of rural labor and provided 7.0 percent of nationwide employment.
However, in 1995, these figures rose to 28.6 percent and 18.9 percent respectively.

TVEs helped to improve rural income through the spread of non-agricultural

rural economic activities. In 1993, 94 percent of rural per capita net income increase
was contributed by TVEs. In 1978, an average rural resident earned only 3 yuan of labor
income from enterprises, which accounted for 3.4 percent of his total labor reward and
2.3 percent of his net income. By contrast, in 1996, an average rural resident earned
311.51 yuan of labor income from enterprises, which was 69.1 percent of his total labor
reward and 16.2 percent of his net income.

The increase of rural income stimulated consumption demand thereby enlarged

domestic markets and stimulated economic growth. TVEs gross output value of industry
in 1978 accounted for less than 10 percent of the national gross output value of industry.
After only 17 years, it produced 56 percent of national industry output in 1995.

The TVE sector contributed only 4.2 percent of the total tax revenues in 1978,
but this contribution reached 21.6 percent in 1995.

4. Factors contributing to the success of TVEs:

(i) China’s market liberalization (especially product markets) has exposed

collective TVEs to market competition, and the competition gave firms incentives to
improve their efficiency.

(ii) With the award of more and more economic autonomies to local authorities as
part of economic reforms, many local leaders became actively involved in the initiation
and the development of TVEs.

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 (iii) Local community governments/leaders acted as a 'public entrepreneur',
which has clearly defined property rights, hard budget constraints, and strong incentives
to enforce improvement in efficiency in collective TVEs. Compared with other
transitional economies, the community governments/leaders functioning as the
catalyst rather than barriers is one of the most distinctive features in China's reform
practice. Their active and powerful role in rural enterprise development and
modernization is probably a unique experience among many developing countries. In
other transitional counties, local leaders tend more to be barriers to growth.

(iv) Local government leaders had strong incentives to launch and promote the
development of TVEs. The incentive structure for local leaders consisted of the following
elements:

(a) Government assigns growth targets to lower government authorities.

Assigned targets range from overall production value to per capita rural income,
sometimes even including growth rate in firm profit or exports.

(b) Local leaders have the obligation to fulfill the assigned targets to build up
their political image and ensure promotion. Under the cadre evaluation system in
China, local leaders' repute and likelihood for political promotion are determined by their
career achievements. Underperformers would be removed from their current positions
and relegated to lower ones. They could also be transferred to a remote and/or less
developed area if they were unable to achieve those targets. In short, they would 'lose
face and lose future' if such situation applied to them.

(c) Revenue incentive: The imperative of self-financing combined with the

overwhelming township government reliance on rural industry as a revenue source
created an incentive for township local leaders’ vigorously to promote the development
of rural firms. The township government must negotiate a multi-year fiscal contract with
the county government (the next higher level in the administrative hierarchy). According
to such fiscal contract, the township government as an agent of the central government
collected taxes from the enterprises and other entities under its jurisdiction and received a
share of the tax revenues it collected.

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 Performance Criteria for Township Leaders
(Qingyunpu Township, Jiangxi Province), 1993

(d) Personal Benefits: Local leaders receive a base salary from the state payroll.
In addition, there are various side-payments and personal benefits for local leaders that
became possible as a result of local TVEs development. The number one category of
such benefit is the privileged welfare program for local leaders funded by local
governments' revenue. For example, a township in Jiangsu had built a number of
townhouses at the cost of 140 thousand yuan each, exclusive of land costs. These
townhouses were sold to the major township leaders at the price of 20 thousand yuan
each in 1994. Another perk was travels. Many of the local leaders traveled all over the
country, even abroad, at the expense of the township governments or villages. Those
travels were in name of business trips, training trips, or research visits. Another category
is the possession of consumer goods produced by local TVEs. Two furniture producing
factories in the Hubei investigation site reported that about 10 percent of their output was
taken by local leaders, either from their own township and neighbor townships, or from
the City which is the direct higher authority of the township, at be1ow cost price. Yet
another category that incurs the most criticism is the side payment in the form of free
dinners and valuable personal presents, usage of luxury goods 'borrowed' from TVEs or
TVE managers, or even direct cash payments to the local leaders in exchange for favored
tax treatment, land or credit allocation privileges, raw-materials or energy provisions to

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the enterprises. Thus, more TVEs, particularly profitable TVEs, in a locality mean more
personal benefits through legitimate methods.

(v) The awareness of local leaders of their responsibility to stimulate

community/local income increase and improve local living conditions has led to their
active involvement in, and commitment to, the development of TVEs. Many local leaders
viewed the township enterprises or the village enterprises as their 'own enterprises' or
‘children'.

(vi) Competition among the local leaders: whenever leaders of a township or

village observed that their neighboring townships or villages had increased income
brought about by newly established enterprises, they simply launched enterprises of their
own to catch up with such income increase. A local leader expressed such a feeling in the
following words: 'when I saw many residents in our neighboring village had built new
houses, I was really ashamed. My fellow villagers elected me as the director, hence, it is
incumbent upon me to improve their life. I then made my mind and promised to set up
more and better enterprises in our village than our neighbor's.' Local leaders are desirous
of more funds to perform their functions.

(vii) Monitoring by local residents: As township and village are small

communities, the performance of both the firm and the local leaders are relatively easy to
be observed by local residents. This provides to some extent effective means to the local
residents in disciplining local leaders' behavior when deviating from the profit-
maximizing objective. Note that, in the absence of formal voting or election, local
residents may not directly exercise their control and regulate the behavior of the
community government leaders. Nor can they change the decisions made by local
leaders. However, local residents may 'voice out' when they are unsatisfied with the
performance of the community TVEs or local leaders. Such repeated 'voice' could
severely damage the reputation of local leaders, project a bad impression of local leaders
to higher authorities. Furthermore, it could cost the local leaders future promotion or even
current positions.

(viii) Easier access to land: Village leaders have the easiest access to land
because land is under their direct control. When a Villagers' Committee decides to launch

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a new village enterprise, it simply assigns a piece of land within the boundary of the
village farmland to this proposed enterprise. The peasant household that was previously
cultivating the land would be moved to other piece(s) of land, generally without much
ado. The village may provide the household employment opportunities in the firm as
compensation. Very few financial exchanges would be involved in such land acquisition.
When the higher levels of governments have their eye on land that is out of their direct
control to set up collective enterprises, they must negotiate with the community that has
the rights over the land. In most cases, the community leaders cannot refuse such
requisition, but would bargain for more favorable compensation.

Source: Hongyi Chen (2000): “The Institutional Transition of China’s Township and
Village Enterprises”, Ashgate Publishing Ltd, England.

Recommended Video Links

1) Why Chinese Manufacturing Wins (11.03 Minutes)
https://www.youtube.com/watch?v=E7Jfrzkmzyc

2) The Biggest Factory in the World (47.20 minutes)

https://www.youtube.com/watch?v=lKseBx1YPgo

3) Exploring China's technological revolution (24.30 minutes)

https://www.youtube.com/watch?v=kwD3MUtZxeE

4) Town and Village Enterprises in China (18.147 minutes)

https://www.youtube.com/watch?v=0pfK3Npc3mM
https://www.youtube.com/watch?v=XdKMyyqAufM

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 Sources used for preparing this Note
1) George J. Gilboy (2004): “The Myth Behind China’s Miracle,” Foreign Affairs,
Jul/Aug. Vol. 83, Iss. 4; pg. 33
2) D.N. Ghosh (2001): “Basis of China’s Competitiveness,” Economic and Political
Weekly, February 17.
3) D.N. Ghosh (2005): “FDI and Reform: Significance and Relevance of Chinese
Experience,” Economic and Political Weekly, December 17.
4) T.N. Srinivasan (2006): “China, India and the World Economy,” Economic and
Political Weekly, August 26.
5) R. Nagaraj (2005): “Industrial Growth in China and India: A Preliminary
Comparison,” May 21.
6) Yasheng Huang and Tarun Khanna (2003): “Can India Overtake China?,” Foreign
Policy, July/August.
7) Shenggen Fan and Ashok Gulati (2008): “The Dragon and the Elephant: Learning
from Agricultural and Rural Reforms in China and India,” Economic and Political
Weekly, June 28.
8) Bishwanath Goldar (2005): “Impact on India of Tariff and Quantitative
Restrictions under WTO,” ICRIER Working Paper No.172, November.
9) Prasad Ananthakrishnan and Sonali Jain-Chandra (2005): “The Impact on India of
Trade Liberalization in the Textiles and Clothing Sector,” IMF Working Paper
No.214, November.
10) World Trade Organisation: International Trade Statistics (Various Issues)
11) Samar Verma (2007): “Indian Textile and Clothing Industry: Economic Policy
Reform Experience During ‘ATC’ Period”, in India’s Liberalisation Experience:
Hostage to the WTO?, Edited by Suparna Karmakar, Rajiv Kumar and Bibek Debroy.
Sage India.
12) The Economist (2012): “China and the Paradox of Prosperity”, January 28-
February 3.
13) The Economist (2011): “Rising Power, Anxious State”, June 25.
14) Hongyi Chen (2000): “The Institutional Transition of China’s Township and
Village Enterprises”, Ashgate Publishing Ltd, England.
15) Howard E. French (2017): Everything under the Heavens: How the past helps
shape China’s push for Global Power, Alfred A. Knopf

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 Recommended Additional Readings
Jonothan Story (2010): China Uncovered: What you need to know to do business in
China, Pearson.
Chun Liao (2009): “The Governance Structures of Chinese Firms – Innovation,
Competitiveness, and Growth in a Dual Economy”, Springer.
Ashok Gulati and Shenggen Fan (2007): “The Dragon and The Elephant –
Agricultural and Rural Reforms in China and India”, New Delhi: Oxford University
Press.
“China After 1978: Craters of the Moon”, Essays from Economic and Political
Weekly, Hyderabad: Orient Blackswan Private Limited.
Tarun Khanna (2009): “Billions of Entrepreneurs – How China and India Are
Reshaping their Futures – and Yours”, Penguin Books.
Pallavi Aiyar (2008): “Smoke and Mirrors – An Experience of China”, New Delhi:
Fourth Estate.
Also see the readings uploaded in Virtual Classroom.

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