Lessons learnt – 40 years of reform and ‘opening‑up’

Since the period of reform and the ‘opening‑up’ policy was launched at the Third Plenary Session of the 11th Central Committee of the Communist Party of China (CCCPC) in 1978, China has undergone a 40-year transformation from planned economy to commodity economy to market economy. Remarkable achievements have been made during this process. The path of China’s reform has not always been smooth – it has undergone numerous difficulties – yet the pace of reform and opening‑up has never slowed.

The 19th National Congress of the Communist Party of China (CPC) marked the beginning of a a ‘new era’ of Chinese politics and power. President Xi Jinping declared: “China today is unprecedentedly close to the centre of the world arena. We are closer, more confident and more capable than ever before of making the goal of national rejuvenation a reality.” The road ahead is still full of challenges, but China remains determined to surmount them and succeed further.

As China celebrates the 40th anniversary of its period of reform and opening‑up, it is entering a critical juncture at which to build on past achievements and forge ahead. At this new historic starting point, it is essential for China to review and assemble its hard-won achievements in preparation for the upcoming expedition into new reforms.

Broadly, China’s economic reform originated in rural areas and moved to the cities, and from the economic field into other areas. This process can be divided into four distinct stages: objectives quest, framework construction, institutional improvement and new exploration.

Objectives quest – The inauguration of reform (1978–1992)

In this first stage, the socialist market economy was established. China initiated reform pilots, which were gradually extended by drawing on lessons from the past. China opened-up through establishing special economic zones and later allowed the outside world access to coastal areas, places along rivers and, finally, mainland China.

Framework construction – The initial establishment of the socialist market economic system (1992–2002)

Reform during this period included the following: 

• The new fiscal system focusing on the tax-sharing and turnover tax systems based on value-added tax being set up.
• The basic economic system, in which public ownership forms the foundation and various forms of ownership are developed together, was established.
• The dual-price system of means of production was cancelled, the prices of competitive goods and services better decided by the market, and the factor market was gradually formed.
• A pensions and medical insurance system that integrates social pooling with individual accounts was set up.
• Unemployment insurance, a social welfare system and minimum living allowance system for urban residents were all established.

Institutional improvement – Preliminary establishment of the socialist market economic system (2002–2012)

The 16th CPC National Congress in 2002 proposed the goal of completing the socialist market economic system by 2020, and the Third Plenary Session of the 16th CCCPC laid out a comprehensive plan for building a sound socialist market economy. The CCCPC summarised the strategic concepts of a scientific outlook on development and the building of a harmonious socialist society that would be the essential guiding ideology for reinforcing reform and opening‑up. Since then, China has thrust itself into a new era of perfecting the socialist market economy.

Characteristics of this period included the following: 

• Non-public sectors of the economy were boosted.
• The public financial system was continuously improved, and the investment system reformed.
• Further development of the factor market for land, labour, technology, property rights and capital occurred. 
• The market began playing a more decisive role in setting the prices of major resources such as water, electricity, oil and natural gas, and more individuals were covered by social security.

New exploration – Comprehensively deepening reform (2012–present day)

The new leadership core of the party was elected at the 18th CPC National Congress in 2012. Since then, the leading group for comprehensively deepening reform has held 38 meetings on such difficult or seemingly insoluble issues as the reform of the rural collective land system, the judicial system and the fiscal and taxation system. As a result of these meetings, a series of plans has been promulgated, such as the Opinions on the reform of pilot project of rural land expropriation, Entry into the market of collective operational construction land and homestead system, Pilot programme for establishing the People’s Court and People’s Procuratorate across administrative divisions, Opinions on further promoting the reform of the household registration system and the Overall plan for the deepening reform of the financial and taxation system, highlighting the courage of the new leadership in collectively tackling the conundrum of reform.

Five transformational advances 

The major achievements of the past 40 years of reform and opening‑up are primarily reflected in China’s five transformational advances: 

1. Shifting focus from the class struggle to developing the economy. 

2. Leading the transition from a planned to a market economy.

3. Moving China away from isolation or ‘cutting-off’ towards comprehensive opening‑up.

4. Propelling China from the rule of man to the rule of law. 

5. Changing peoples’ lives from poverty and underdevelopment to moderate wealth.

Lessons from 40 years of reform 

President Xi declared that “reform and opening‑up are the source of vitality for the progress of contemporary China, an important magic weapon for our party and people to keep pace with the times, and the only way to go if we want to uphold and develop socialism with Chinese characteristics”. China has accumulated a great deal of valuable experience from these 40 years of reform:

• Emancipating the mind and pushing for theoretical innovation. Since the period of reform and the introduction of the opening‑up policy, China has expanded its theory of the socialist market economy through policies and strategies, including the Third Plenary Session of the 11th CCCPC’s proposals for reform and opening‑up in 1978, the 14th CPC National Congress in 1992 and the Third Plenary Session of the 14th CCCPC defining the socialist market economic system in 1993. The 15th and 16th CPC National Congresses in 1997 and 2002, respectively, made further theoretical contributions on major issues such as the strategic adjustment of the state-owned economy, reform of the state-owned asset management system, the status of the non-public sectors of the economy and income distribution. Since the 18th CPC National Congress – especially at the Third Plenary Session of the 18th CCCPC – China has further clarified the decisive role of the market and has decided to reinforce the reform to extend its scope in the allocation of resource dimensions to new heights.
• Firmly adhering to market-oriented reform. Forty years of reform and opening‑up has seen continuous consolidation of the market’s position as the prime mover in allocating resources. It is precisely this adherence to market-oriented reform that has inspired the tremendous vitality of the country’s innovation and entrepreneurship – and China’s economy has increased exponentially. The contribution of private enterprise to the economy has grown from 0% of GDP to more than 50%. In terms of innovation, the number of private-sector patent applications is nearly twice that of state-owned and collective enterprises – all of which are the result of a market economy. 
  
  In the era of big data, which can make planning more scientific, the growing role of the market economy needs to be steadfastly preserved. The difference between a planned and a market economy is not about planning – in a market economy, companies with well-planned agendas are more likely to overcome fierce competition. The fundamental difference is the determinant of resource allocation, administrative or market power. Big data cannot make people more creative or motivated – a market has to be a free market if successful imitation and creativity are to flourish. 
• Adopting flexible reform methodology and overall planning. Typically, China runs pilot projects before similar trials elsewhere, which summarise the findings and lessons learned. Risk is managed effectively while successful experience is dispersed nationwide. This methodology, as well as the exploration of new developmental and institutional mechanisms, must be retained in the new era of continued and reinforced opening‑up and reform. 
  
  Reform needs to be expanded more systematically and efficiently and must commit to synergetic development. China must maintain the balance between ‘breaking the old’ and ‘establishing the new’. It needs to establish new mechanisms that comply with productivity while eliminating the obstacles rooted in its institutions. China will stress the importance of co-ordination and co-operation in overall planning, and seize opportunities to achieve major breakthroughs. Opening‑up is the application of reform, so both strands must be mutually reinforcing. In this new stage of improving the socialist market economic system, co-ordinated development and planning become increasingly important because the reform of the economic, political, cultural and social systems are more interconnected. The leading group for deepening the reform was established after the Third Plenary Session of the 18th CCCPC, and was divided into four groups specialising in economics, democracy and law, culture and the social system. It has created favourable conditions for the overall co-ordination of the reform.
• Striking a balance between reform, development and stability. Reform is a powerful stimulus to economic and social development because the system it engenders is a fundamental guarantee of sound, rapid, long-term economic and social benefits, and the basic safeguard of social stability. At the same time, development and stability build the basic foundation for continuing reform. Handling the relations between reform, development and stability requires further orderly reform and opening‑up, organically steadying the intensity of reform with the pace of development and the affordability of the society, advancing reform to development on the premise of maintaining stability, and boosting social stability through reform and development.
• Enlightenment of values as much as methodology. Reform is for the people, by the people – and the fruits of reform should be shared by the people. China must commit to the principle of putting people first and improving their livelihoods. It should combine efficiency with social fairness by solving the problems that most concern the vital interests of the people, while striving to balance the interests of all parties to achieve social fairness grounded in economic development. Citizens should enjoy the fruits of reform and development through the proper handling of various interests to achieve social harmony and improve livelihoods by institution-building.
  
  Fairness should be reinforced in the market economy. The 18th CPC National Congress proposed: “We must ensure that all kinds of ownership economy make equal use of the factors of production in accordance with the law, participate in market competition fairly and be equally protected by the law.” The 18th CPC National Congress addressed the importance of good governance: “The core issue of economic system reform is to deal with the relations between the government and the market.” Good governance creates a market environment that provides high-quality public services and dispenses social justice. If enterprises are unable to use the factors of production equitably and equally, protected by the law, they will not have access to fair competition. A credible and fair judicial system can effectively settle common disputes among transaction subjects and restore market order. However, the legal rights of China’s private enterprises and private non-listed companies in particular are poorly protected by the law, so we must create a just business environment to protect their enthusiasm for innovation and investment.
• Deepening reform in an all-round way in the new era. The CCCPC’s Decision on major issues concerning comprehensively deepening reforms, adopted at the Third Plenary Session of the 18th CCCPC, has created the blueprint for China to comprehensively push for reform and opening‑up in the new era. In the spirit of this decision, major breakthroughs have been made in market-led resource allocation, and notable progress was achieved in supply-side reform. The increasingly efficient and powerful market has gradually replaced the planned economy as the primary means of allocating resources. 
  
  Since the 18th CPC National Congress – the first to be held after the Great Recession and the first to deal with its aftermath – the Chinese economy has been confronted by new challenges such as continuing reconstruction, rising trade protectionism and a new world economic order. Meanwhile, domestic land and labour prices continue to rise. As the economy is more tightly constrained by resources and environmental preservation efforts, the traditional economic development pattern and structure in China needs to be readjusted. The Chinese economy is facing a dilemma of maintaining steady growth while trying to carry out structural readjustment. Under such a ‘new normal’ of economic growth, the government has clearly made a timely decision on supply-side reform. 
  
  Supply-side structural reform consisted of cutting overcapacity, reducing excess inventory, deleveraging, lowering costs and strengthening areas of weakness. In 2016, coal production capacity was cut by more than 290 million tons and steel by over 65 million tons. China’s economy has rejected the old model of development with unwavering determination. The focal point of supply-side structural reform is to refine relations between government and market – which are key to economic reform and structural change. Since the 18th CPC National Congress, the State Council has discarded much administrative approval that may lead to rent-seeking: 618 approval items have been cut or delegated and 283 items designated by the central government to local areas have been cancelled. Investment projects that need to be approved by the central government have been reduced by almost 90%. Of pre-approval items in industrial and commercial registrations, 87% were transformed to post-approval or called off. Reform that aimed to “streamline administration, delegate more powers, improve regulation and provide better services” became more effectively implemented. Since the 18th CPC National Congress, these great strides to eliminate unnecessary procedures for administrative approval have revitalised the market economy and marked a major breakthrough in reform.

Areas awaiting reform

Four major areas are yet to move ahead with reform:

1. State-owned enterprises (SOEs). The reform of SOEs has undergone a long period of experimentation, seeing SOEs shift from a decentralised system to ‘tax for profits’ to a contract system and finally to a joint-stock system combined with a modern corporate system. However, SOE reform must proceed in tandem with general economic reform. To this end, China must adhere to the basic rules of the economic system and allow full development of the positive role played by various ownership holding enterprises – public ownership should be dominant, and the various economic sectors must develop side by side. SOE assets have reached RMB144 trillion – one-seventh of the national total – with taxes paid making up around one-fifth of the national fiscal revenue.

2. Upholding the corporate system. The combination of public ownership and the market economy is unique to the endeavour of socialism with Chinese characteristics. China must unswervingly follow the 10th Five-Year Plan’s call for reform of the economic system: “clearly established ownership, well-defined power and responsibility, separate government administration from enterprise management”. China will thoroughly implement the ‘three major shifts’ – from business law to company law, from enterprise-based management to capital-based management and from a state-owned system to a joint-stock system.

3. Taxation reform. Local enterprises with high debt pose a potential threat to China’s financial security, forming an important reason for deleverage. Although local debt poses no direct threat yet, no clear local financial solution exists because of the mismatch between the routine fiscal power in China’s taxation system and the smaller amount of direct tax and larger amount of indirect tax to the local government. The need for a breakthrough in the fiscal and taxation system is clear from the following aspects: 

• In 2015, China’s GDP was CNY67.6 trillion and its fiscal revenue CNY26.67 trillion – a macro-tax burden of 39.4%. This burden is one of the heaviest in the world, around 10 percentage points higher than that of developed nations. High governmental administrative costs increase the burden on enterprises, thus affecting their development. 
• The cost of governance – taxes paid by the general public – is higher than in other countries, partly because the Chinese government has also assumed the responsibility of investment. However, its investment efficiency is doubtful, and its behaviour does not conform to the requirements of the Third Plenary Session of the 18th CCCPC to allow the market to play a decisive role. On the basis of the Constitution, administrative reform entails constraining the government’s revenue and expenditures and increasing public scrutiny while balancing fiscal and administrative power between the CCCPC and local governments. 
• Since the 18th CPC National Congress, for the CCCPC, with President Xi at its core, a priority has been improving the livelihood of the people – government should ensure the people benefit more. Compared with other countries with macro-tax burdens exceeding 30%, there is still a long way to go in terms of social welfare expenditure. Fiscal reform should neccesitate administrative streamlining and delegation of government powers, so that tax revenues can be efficiently collected from and benefit the people. In this way, reform can win widespread support. 

4. Regulatory reform for an online future. China must identify the government’s role in the internet age. The most important feature of economic and social development since the 18th CPC National Congress has been the advent of the internet and mobile internet. As of January 2017, the number of citizens that use the internet, ‘netizens’, in China totalled 731 million, of which 695 million were mobile internet users. The internet has had a huge impact on economic and social conditions, such as triggering the meteoric rise of e-commerce platforms such as Alibaba and JD.com, which has driven the decline of physical retail outlets – especially in apparel and small commodities. Many of these new forms of business are not covered by China’s earlier regulatory systems. 

This situation challenges the regulatory concept and capacity of governments. Under conservative regulation, rivals could surpass China in new internet developments, but weak supervision will lead to regulatory arbitrage such as illegal fund-raising, which will adversely affect the economic order. Judiciously balancing the regulation of new forms of commerce in the internet age remains an important test for governments now and in the future.

The government should also enhance regulation and supervision in antitrust laws. A side effect of the internet age is the increased number of monopolies, yet this is an era of intelligent manufacturing that breeds numerous, incessant innovative ideas. Sustainable economic development depends on this creativity so, in order to protect it, it is essential to strengthen the protection of patent and non-patent intellectual property rights and reduce the damage that monopolies can inflict on innovation. Special emphasis must be placed on enhancing antitrust efforts and strengthening protection of intellectual property rights and all other innovative ideas.

This article is part of The IFF China Report 2018, which draws mainly on content provided by China-headquartered think tank, the International Finance Forum, and is published in association with Central Banking.