Competition Policy, Corporate Saving and China’s Current Account

1. Competition Policy, Corporate Saving and China’s Current Account Rod Tyers College of Business and Economics Australian National University Funding: ARC Discovery Grant No.DP0557885 Institutions: CBE, CCER at Peking University, Hong Kong IMR Comments and discussions: Feng LU, Justin Yifu LIN, Ling HUANG, Miaojie YU and Yongxiang BU Research assistance: Pingkun HSU at the ANU and Liu LIU at the CCER

2. Plan • Oligopoly rents, saving and rapid growth • Corporate, national saving and the current account • Excess saving and China’s “growing pains” • Modeling competition policy, saving and the current account • Policies to moderate the gross saving rate • Public SOE dividends • Fiscal expansion • Privatisation • Policies to reduce oligopoly rents • Price regulation • Anti-trust policies

3. Oligopoly rents and rapid growth • Fernald and Neiman (2006): oligopoly rents helped concentrate income, raise saving and accelerate growth in Hong Kong, Korea, Singapore and Taiwan • China’s growth has surged since its WTO accession in 2000 with average GDP growth rates similar to those of Korea at its peak • Lu et al (2008): find substantial oligopoly rents in China’s petroleum, metals, transport and telecommunications, all of which are dominated by SOEs • Kuijs (2006): coincidental rise in corporate (mainly SOE) saving to 20% of GDP in 2005

4. Real GDP growth rates, %/yr

5. “Excess” savings? • Gross saving > 50% GDP, higher than needed to finance investment, yielding CA surplus of up to 10% of GDP • High household saving rates • China’s household saving rates are high at 25-30% • Decline in SOE employment • Competing permanent income, life cycle hypotheses • Modigliani and Cao (2004) • Permanent income story is strong • Horioka and Wan (2007) • Support for both the permanent income and life cycle hypotheses • Persistence is strong • At 20% of GDP, corporate saving is extraordinarily high

6. Saving and the current account • Expenditure on GDP: Y = C + I + G + X - M • GNP is Y + N, where N is net factor income from abroad • Disposal of GNP is Y + N = C + T + S • where S = SH + SC is total private (household + corporate) saving • From these it follows that CA = X – M + N = SH + SC + (T - G) – I = SD - I

7. Gross domestic saving and investment%GDP

8. Household saving rates, survey data

9. Savings components, flow of funds

10. Taiwanese saving

11. Growing pains and excess saving • New income retained in the urban and corporate sectors • Consumption share of GDP falling • Unequal distribution of the fruits of growth • Rising saving–investment gap (CA surplus) • Protectionist backlash in trading partners • Capital controls require that CA surplus exits as reserves • Sterilisation requirements now exceed PBC and commercial bank capacity • This distorts the balance between nominal appreciation and inflation in favour of inflation

12. Declining consumption share

13. Addressing excess saving • Policies to reduce total saving • State SOE dividends (increased corporate taxation) • Fiscal expansion (temporary reduction in government saving) • Privatisation (reduction in corporate saving rate) • Policies to reduce oligopoly rents • Price cap regulation • Anti-trust policies • Analysis requires an economy-wide model with imperfect competition

14. Modelling • Comparative static general equilibrium model with oligopoly • Genesis: Harris (1984), Horridge (1987), Gunasekera & Tyers (1990), Golley (1993), Rees (2004), Tyers (2005) • 18 sectors, 5 primary factors: capital, skilled labour, unskilled labour, land and other natural resources • Firms in all sectors interact on prices with propensities to collude represented by conjectural variations parameters • Home products in each sector are differentiated by variety • Home products are imperfect substitutes for foreign products, which are assumed homogeneous • The economy is “almost small” – fixed import prices but foreign substitution drives export demand

15. Pricing behaviour • Each firm supplies a differentiated product, so prices to max profit: • The trick is to know the elasticity of demand, which depends on elasticities of substitution, firm numbers and conjectural variations: • Firms are identical in each sector and μ=0 indicates non-cooperative Nash, μ=1 indicates full cartelisation • Elasticities differ according to the source of demand, so

16. Modelling – macro extensions • There is a capital goods industry that services investment • Open capital account • Fixed household saving rate • Fixed sector-specific corporate saving rates • FDI inflow and ΔR outflow depend on home and foreign real rates of return • Investment driven by the Q-related ratio of the rate of capital return and the financing rate, r, which satisfies the above

17. Model database • National and government accounts, balance of payments and inter-industry flows: GTAP VI (2001) • Flows and parameters capturing imperfect competition: • pure profits: China Statistical Yearbook data on profits and business taxes combined with PBC data on financing rates facing each sector for 2005 • “effective” firm numbers, conjectural variations: judgements based also on China Statistical Yearbook firm numbers and industry concentration for 2005 • Initial varietal elasticities of substitution: literature and calibration • fixed cost shares of revenue: literature and calibration • Calibration steps: • initial elasticities + effective firm numbers + conjectural variations → mark-ups • mark-up margin – pure profit → fixed cost • check fixed cost shares against data and judgement • revise elasticities as necessary

18. Pure profits by industryca 2005

19. Policies to reduce saving* • Public SOE dividends • Corporate tax rates on accounting profits increased by • 10% (petrochemicals, coal, electricity and telecommunications) • 5% (steel, transport, electronics and retail trade) • Fiscal balance maintained at constant G by reducing tax rate on production labour income • Privatisation • sc→0 in all industries • All profits are returned to households as dividends * See paper for fiscal expansion as a temporary measure

20. Short run effects of saving policy shocks% changes

21. Policies to reduce oligopoly rents • Price cap regulation • Medium run closure, shock: mark-up → P=AC in all sectors • Capital stock held constant • Anti-trust policies (free entry) • Long run closure, shock: pure profits ↓ 30%* in all sectors • Capital stock expands at constant external rate of return *At 100% new entries would be extremely large in very profitable industries

22. Effects of competition policy shocks% changes

23. Effects of competition policy shocksChanges in % of initial GDP

24. Conclusions – saving reduction Public SOE dividends • raise consumption and reduce the imbalance only slightly • turn domestic demand inward, reducing elasticities and raising oligopoly rents • do not foster further growth Privatisation • substantially raises consumption and eliminates the imbalance • turns domestic demand inward, again reducing elasticities and raising oligopoly rents • no GDP or employment gain, investment and growth reduced

25. Conclusions – competition policies Price cap regulation • raises consumption and more than eliminates the imbalance • reduces costs throughout the economy, depreciating the real exchange rate and boosting GDP and export growth • real wages rise substantially • sectoral redistribution favours less labour-intensive industries • services sectors are larger and more competitive Freer entry • entry is substantial (25% more firms) raising fixed costs and reducing production scale • national capital stock larger with more foreign ownership and repatriated profits • modest rise in consumption and reduction in the imbalance • reduced investment due to lower real capital returns with larger K • large increases in real wages and rents • sectoral restructuring again reduces labour intensive activity • GDP and exports modestly higher but GNP smaller