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Political Economy of Corporate Governance of Chinese Firms

Political Economy of Corporate Governance of Chinese Firms. Chenggang Xu University of Hong Kong and SNU-WCU 11/06/2012. The Party and China’s Institution. The Communist Party of China (CPC) is the backbone of China’s institution

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Political Economy of Corporate Governance of Chinese Firms

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  1. Political Economy of CorporateGovernance of Chinese Firms Chenggang Xu University of Hong Kong and SNU-WCU 11/06/2012

  2. The Party and China’s Institution • The Communist Party of China (CPC) is the backbone of China’s institution • The Party controls all levels of governments through personel control • The legislator, People’s Congress (PC) at all levels of government, is controlled by the Party • Appointments of all important posts are controlled by the Party (e.g., CEOs of banks and large SOEs etc.) • Local governments controls economic resource • Party’s role in corporate governance of SOEs • Party’s role in corporate governance of private firms

  3. The Party and the private sector • Private sector takes off since the late 1990s, and soon becomes the driving force of China’s growth • The output share of private sector in national GDP has increased from 2.5% in1998 to 47% in 2009 • Silent large scale privatization since 1997 • During 1998-2005 private sector’s output was increased by 20 fold • However, the Party is losing control over private firms • In 1995 only 7% of private firms have party organization • the private sector’s share of CPC member further declined between 1997 and 2002 • The growth rate of the nationwide CPC members in reserve was negative in this period! A very serious matter to the party’s future

  4. Legal/institutional changes on private sector • As a response, the CPC constitution was amended in 2002 • In year 2000, Jiang Zemin, the Chairman of the CPC, declared that the CPC should legitimately recruit entrepreneurs at a large scale • Amendment to CPC Constitution in 2002: entrepreneurs are recognized as advanced productive force for the first time • Legal protection of private property rights: Amendment to the PRC Constitution, 2004 • As a result, 2003 is a turning point for the party to reverse the declining trend • Growth rate of CPC members in reserve was increased from -3% in 2000 and 0.5 in 2002 to 4% • The private sector’s share of CPC members was increased from 1.7% in 2002 to 3.1% in 2003 • In our sample, the share of party members among entrepreneurs was increased from 20% in 2000 to 41% in 2006

  5. Some basic questions to be addressed • The dynamics of the importance of the Party in private sector • Given the party is the dominant force in the national economy, • Do party-member entrepreneurs enjoy rents associated with their party-membership capital? • Associated with the change of the roles of the party in the private sector, what is the dynamics of rents enjoyed by party-member private owners? • What are the implications of political elites’ rents to social welfare? • With resource obtained under favorable conditions do they perform better than others?

  6. A summary of some basic findings • The party was losing ground in private sector when the sector was at a jump-start stage; but later regained control in this sector • From 1995 to 2000, the proportion of entrepreneurs who want to join the party declined sharply • The trend was reversed after 2005 • Political rent of party members is negligible when the party is losing • Firms owned by CPC or PC members do not obtain more resources than others before 2005 • Associated with the party’s regaining control, political rent becomes significant • Firms owned by CPC or PC members obtain significantly more land and bank loans than others after 2005 • Political rent does not contribute to productivity • With more scarce resources, CPC and PC member-owned firms do not perform better than the rest

  7. Entrepreneurs’ Perceptions on the importance of being a Party member to their economic status: significant only in 2010

  8. From political capital to economic capital: Monetary rents enjoyed by CPC/PC members • The changes in entrepreneurs’ perceptions on being a party member raise a question on the dynamics of benefits that party members may receive • No observable extra rents for party members in 1995 and 2000 • Firms owned by CPC or PC members were indifferent in borrowing bank loans from and others in 1995 and 2000. • Substantial rents enjoyed by CPC/PC members in 2006 and 2010 • Firms owned by CPC and PC members borrowed significantly more bank loans than those owned by non-CPC or non-PC members • Firms owned by CPC or PC members enjoyed significantly higher chances in obtaining bank loans than other firms

  9. From political capital to economic capital: Pary-member owners and access to land • No observable extra rents at earlier periods • Firms owned by party members and by others were indifferent in obtaining land in 1995 and 2000 • Both CPC and PC members enjoyed substantial rents in 2006 • For firms owned by CPC and PC members, the land value over total equity ratio is significantly higher than those of other firms in 2006. • PC-owned firms are associated with higher ratio of lands in 2010 though statistically not significant (with P-value at 0.12) • Plausible reason: land prices in 2010 were much too high that only very top elites would have chances to enjoy the rents

  10. Institutional impediments to entrepreneurship • The private sector is the major engine of China’s growth and entrepreneurship is the future of China • The share of private firms’ contribution to the Chinese GDP grow fast from zero in 1980 to more than half in 2011 • The picture in employment is even more striking, counted for 90% • But private property rights are still insecure, the government still controls critical aspects of production • Although entrepreneurs have obtain constitutional protections of their private property rights since 2004, arbitrary fees were still imposed to them; courts are not independent • The government controls the land, credits, and energy etc. • We discover that these institutional impediments affect entrepreneurs’ allocation of their time (efforts) substantially

  11. Contracting Institution & Work Time • China’s courts are not independent from the government • Evidence: Formal contracting institution in China discourages productive work • Ceteris paribus, entrepreneurs who had business disputes settled by the court chose to work less in total hours • They work less in management; • Their PR time is indifferent; but they spend more time in “study” • “Study” include political studies and the “party schools” • Evidence: Private settlement is less damaging • Ceteris paribus, entrepreneurs who had business disputes settled privately did not affect their total work time and management time • They spent more time in PR; but less time in study

  12. Political motive and political elites • In addition to weak property rights and contracting institution, there are other sever institutional constraints • e.g. government intervene allocation of capital, land, energy • Politically connected entrepreneurs are treated much better • Many entrepreneurs in our sample reported political motives • 45% entrepreneurs want to become a Congress member • 48% of them want to cultivate an intimate relationship with the government • Ceteris paribus, politically motivated entrepreneurs spend more time in PR; but indifferent in other working times • Ceteris paribus, PC-member entrepreneurs spent more time in PR • They have longer working hours; indifferent in other aspects • They counted for 19% of entrepreneurs in our sample

  13. Concluding remarks • When the private sector was unimportant, party-member entrepreneurs did not have rent-seeking opportunities • The impacts of the CPC declined in the late 1990s • Party-members’ political rents grow along with the growth of the private sector and the reform of the Party • The CPC reformed the Party by recruiting entrepreneurs: ‘Three Representatives’ • More rent-seeking opportunities become available • The political rents enjoyed by party-member entrepreneurs do not contribute to productivity/social welfare

  14. Concluding remarks (2) • Chinese entrepreneurs reduce their working hours substantially when the government violate property rights (e.g. impose fees arbitrarily) • A substantial percentage of entrepreneurial working time is allocated to non-productive tasks (PR time) to remedy the institutional obstacles

  15. Concluding remarks (3) • They waste more time in dealing with bureaucrats • When their contract enforcement involves the government • When they make losses • When they expand business; • When they involve M&A; or change corporate governance • When their R&D involves patents • Given the general insecurity of property rights, nearly half of the entrepreneurs in our sample have political motives • These entrepreneurs divert more time in PR than other entrepreneurs

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