Sunday, 16 September 2012

Beijing has to reform its loss-making state-owned firms

Analysts say Beijing has to take its loss-making state giants in hand before their declining productivity threatens growth in the next decade


Guanyu 道 said...

Beijing has to reform its loss-making state-owned firms

Victoria Ruan in Beijing
12 September 2012

Analysts say Beijing has to take its loss-making state giants in hand before their declining productivity threatens growth in the next decade

The Chinese economy’s state-owned giants - dubbed “the elder sons of the republic” for always getting the best share of everything - have gone from strength to strength in the past decade.

Seventy-three mainland companies - 68 of them state-owned - made it onto Fortune magazine’s Global 500 list of the world’s biggest corporations last year, up from just 11 in 2003 and outnumbering Japanese companies for the first time.

State-owned China Petrochemical (Sinopec), China National Petroleum Oil Corporation (CNPC) and State Grid are now ranked among the top 10.

It’s a success story that seemed impossible just 15 years ago - when thousands of the mainland’s state-owned enterprises, known as SOEs, were on the brink of bankruptcy.

Overseas media reports then were dominated by talk of how the “economic dinosaurs” could collapse overnight, putting millions of people out of work, sparking widespread social unrest.

The transformation since then has been remarkable, but some critics have pointed out that the SOEs’ revival was largely based on preferential policies, massive subsidies and market monopolies.

They benefit from lower borrowing costs, easy access to land and other resources, and the power to set prices.

In some sectors, such as oil and gas production, they have squeezed out virtually all private competitors.

Nominal and real profits of the state-owned enterprises [1]

But researchers looking behind the decent numbers on the SOEs’ books warn that many state giants are loss-making machines that waste resources and distort the market.

And their declining productivity may threaten the government’s goal of sustainable growth for the next decade.

Debate on whether a major overhaul is needed has intensified in the run-up to the Communist Party’s 18th national congress, which will put in place a new team that will lead the country for the next 10 years.

Sheng Hong, director of the Beijing-based Unirule Institute of Economics, a private think tank, said: “Each year, many trillions of yuan have been unfairly allocated to monopolistic state enterprises. They have taken up huge amounts of resources, land and loans, but have operated at low efficiency.”

Senior research fellow Bo Zhiyue from the National University of Singapore said the mainland’s SOEs “have become too big and too profitable, without bringing additional benefits to the state and its people”.

Government agencies have tried to put a positive spin on things in recent years, praising the progress made in trimming the number of SOEs and increasing the role of private investment.

The State-owned Assets Supervision and Administration Commission (SASAC), set up in 2003 to oversee the sector, said the number of central-government-owned enterprises dropped to 117 this year from 196 when it was established.

And the SOEs’ share of the overall economy has also shrunk, according to the National Bureau of Statistics.

The bureau said that the state sector accounted for 28.8 per cent of the mainland’s fixed-asset investment last year, down from 43.4 per cent a decade ago. It also said that state-owned industries accounted for 26.2 per cent of total output.

But other figures from the bureau paint a different picture, with SOEs’ shares of the coal, power, oil, gas, water and transportation equipment sectors ranging from 40 per cent to 95 per cent last year.

The state’s continued hold on key industries can be traced back to SOE reform initiated by former premier Zhu Rongji in the late 1990s.

Faced with the monumental task of improving economic efficiency and maintaining social stability, Zhu closed many small, unprofitable government companies but kept the large, important ones.

Guanyu 道 said...

His reform was said to have driven some 20 million SOE employees out of work, but it also breathed new life into the mainland’s economy. Many of those laid-off workers found new jobs in fast-growing private firms.

While many observers have praised Zhu’s reform as a bold move that spurred the rise of private businesses, Sheng said Zhu’s policy of “seizing the big and letting go of the small” also enabled some SOEs to gain monopolies in sectors such as oil.

Since taking over from Zhu in 2003, Premier Wen Jiabao has repeatedly pledged to overhaul the state enterprise system, with the phrase “deepening SOE reforms” appearing every year in his annual report to the National People’s Congress.

But for all his words, few real measures have materialised. At his last annual press conference as premier in March, Wen acknowledged the resistance and challenges he faced.

“For any reform to succeed, it needs the consciousness, support, enthusiasm and creativity of the people,” Wen said.

“This is not an easy thing, but the reform can only go forward.”

But others argue that SOE reform sometimes looks more like it is moving backwards.

Professor Xu Chenggang, a University of Hong Kong economist, said a government policy rolled out in recent years to retain state control over certain strategic industries had further consolidated the state’s monopolistic powers.

In 2006, Beijing identified seven strategically important sectors - including defence, coal and civil aviation - where the state would retain “absolute control”. In “pillar” sectors, such as car-making, steel and chemicals, the state also retained strong influence, the World Bank said.

In its China 2030 report issued in February, the World Bank urged Beijing to increase competition in all sectors, including the strategic and pillar industries.

The SOEs’ profitability, while improved, remained “well below” that of companies not controlled by the government, it said.

A Unirule report issued in July last year said that the SOEs’ average annual return on equity was 8.16 per cent between 2001 and 2009 - lower than the 12.9-per cent average of non-state enterprises.

Even so, the SOEs’ “real performance” may be much worse, the report said, estimating that state-owned companies may actually have incurred losses of 1.7 trillion yuan (HK$2.08 trillion) during the period in question after excluding various preferential policies and subsidies.

The report said SOEs could borrow from banks at a real interest rate of 1.6 per cent, while the market rate was 4.68 per cent.

From 2007 to 2009, SOEs received fiscal subsidies of about 194.3 billion yuan, and their tax burden is much less - averaging 10 per cent compared with 24 per cent for private enterprises.

Apart from that, SASAC also injected 16 billion yuan of capital into two airlines, five power generation groups and two power grid companies during the period, the report said.

Many independent researchers have called on the government to raise the dividends that SOEs should pay to the state, tax more of the SOEs’ profits, cancel their privileged access to resources, and remove barriers to the entry of private enterprises.

Xu said there was also a need to reform the mainland’s land ownership system.

“Chinese law doesn’t allow private ownership of land,” he said. “This alone is going to determine the power of the state, the power of the government.”

But any attempt to change the system will be met with stiff political resistance, given that government officials hold huge entrenched interests in the SOEs.

Nearly a third of the 183 officials at vice-ministerial level or above have worked in SOEs, Unirule said, while about 115 senior executives at 47 SOEs have backgrounds in government. The close connections between the SOEs and government bodies may also have contributed to loose supervision of the companies’ operations.

A number of high-profile scandals involving senior managers of the SOEs have surfaced in recent years.

Guanyu 道 said...

In 2004, China Aviation Oil’s Singapore subsidiary was discovered to have lost US$554 million in derivatives trading. An investigation into the case resulted in the unit’s chief Chen Jiulin, once known as “the king of aviation oil”, being sent to jail.

In 2009, the former chairman of state-owned oil giant Sinopec, Chen Tonghai, was given a suspended death sentence for corruption. He was convicted of taking 195.7 million yuan in bribes for helping others seek illegal interests in company operations, land transfers and contracts.

“The case for reform is urgent,” the World Bank said in its China 2030 report, outlining six priority reforms China needs to tackle, including overhauling the SOEs and improving energy efficiency. The report was a joint project with the State Council’s Development Research Centre.

The World Bank said in the report: “China could postpone reforms and risk the possibility of an economic crisis in the future - or it could implement reforms proactively. Clearly, the latter approach is preferable.”

The European Union Chamber of Commerce in China recently made a similar call.

“As the next five years will be critical, China’s leadership transition provides an ideal opportunity for these bold steps to be taken,” the chamber said in its annual China position paper.

“Incremental and piecemeal reforms must give way to urgent and comprehensive reform.”

The chamber’s president, Davide Cucino, said it would not be a question of whether the new leadership had “the strength” to carry out reforms - they might simply have “no choice”.