Capitalism With Chinese Characteristics: State Enterprise Reform Through Massive Theft

August 7, 2016 Updated: August 14, 2016

Parts one and two of this series were published previously.

The privatization process of China’s state-owned enterprises (SOEs) has been a process of building a capitalist economic system. Different methods of privatization lead to different forms of capitalism. At the end of 1997, Zhu Rongji launched SOE reforms. This policy was called “Seizing the Big and Letting Go of the Small.”

“Seizing the Big” meant maintaining control over SOEs that owned large-scale assets and those related to national interests in finance, energy, electricity, telecommunications, transportation, and so on. After restructuring, these enterprises were allowed to list on stock exchanges, and they could sell part of their shares to Chinese citizens and foreign investment. However, the state still owned the majority of shares—meaning that the government continues to “seize” these companies.

“Letting Go of the Small” meant allowing privatization of small SOEs and those with serious losses, so as to rid the government of the burden. The consideration for privatization of small and medium-sized SOEs was who would buy them and in what way. In those days, the average monthly salaries of SOE directors and managers were only a few hundred yuan. Even the red elite and their relatives did not have significant financial assets.

The approach the Chinese Communist Party (CCP) came up with was to order SOE managers to get bank loans and use the SOEs as collateral for “buying” state property. It then allowed the managers to re-register the SOEs in their names or in the name of a family member. Then, as business owners, they would use business funds to repay the private loans.

Another approach used was for SOE managers to force employees to purchase a part of the business. Employees had to use their family savings to buy into the company in order to keep their jobs. But employees were not allowed to get involved with the transfer of business assets. They were forced to supply funds so that the managers could get ownership of the business.

At the same time, the authorities allowed families of those in power to acquire shares in large listed enterprises through their personal networks. They received free shares and made huge profits when stock prices went up.

Two Privatization Phases

China’s privatization began in the second half of 1997 and was basically completed in 2009. In 1996 China had 110,000 SOEs, and at the end of 2008 there were  9,700 left, including partially privatized large SOEs with the government owning the majority of shares. Privatization was divided into two phases.

The first phase, from 1997 to 2001, was the privatization of small and medium-sized SOEs. Most of these enterprises were privatized by SOE directors and managers.

I analyzed 130 cases of privatization from 29 provinces and summed up several typical tricks and the darkness of the process as part of the research for my dissertation. Their approach was usually to deliberately understate the net assets of the enterprise. Managers then bought the business, using business funds or loans from banks or private borrowers, and registered the company in their own name or a relative’s name. Finally, with the new business owner’s identity, they would pay back the borrowed funds with income from the enterprise. They basically paid little to nothing for these SOEs.

Buildings in the abandoned Qingquan Steel plant, which closed in 2014 and became one of several so-called zombie factories, in Tangshan, China, on Jan. 26, 2016. (Kevin Frayer/Getty Images)

The second phase, from 2002 to 2009, was partial privatization of medium and large-sized SOEs. The approach included listing SOEs after restructuring, managerial ownership transfer, demutualization of workers, foreign joint ventures, and joint ventures with private enterprises. Because these enterprises owned large-scale assets, management could not afford to take on ownership all by themselves. They usually used business funds to buy shares and distributed shares to management cadres, as well as to officials and families who helped approve the listing, forming a common interest group. These SOE cadres and government officials became owners, general managers, or board members of medium and large-sized listed companies without any cost to themselves, and they became wealthy.

According to data from two nationwide sample surveys, about 50 to 60 percent of China’s privatized or semi-privatized enterprises are owned by enterprise management teams. Approximately 25 percent of the buyers were investors from outside of the enterprises; less than 2 percent of shares are held by foreign investment; and less than 10 percent of enterprises are co-owned by management and workers. The management does not allow employee shareholders to be involved in asset managements and transfers.

This type of privatization is equivalent to workers paying management to own the enterprises. This “SOE reform” could be called public robbery and distribution of assets among corporate management, local government officials, and the children of officials. In any case, the authorities cannot legitimately justify this predatory behavior. Open disclosure would lead to public outrage. Therefore, the government does not allow domestic media to discuss privatization, and Chinese scholars are not allowed to research the privatization process.

Workers’ Social Benefits Dropped

From 1998 to 2003, when the red elite misappropriated SOEs on a large scale through privatization, the authorities deliberately closed the Administrative Bureau of State-Owned Property for six years during the crucial climax of privatization, to provide convenience to the red elite. Although in 2003 the bureau was restored, it rarely investigated state-owned asset misappropriation.

Between 1997 and 2005, large-scale labor conflicts took place across China sparked by misappropriation of public assets related to privatization. The government basically stood with management because officials also benefited from privatization. During China’s privatization, the original welfare system based on SOE collapsed. Many companies gave workers very little money and drove them away.

At the time, the CCP used propaganda that laying off SOE workers was a necessary sacrifice of the reform. The government did not want to build a unified unemployment benefits system for those workers and tossed the problem to the management teams. If the head of the company did not want to pay, the government did not intervene. Thus the CCP shamelessly shirked its responsibility to provide social welfare to the workers.

Demolition workers take a rest after cleaning up an abandoned building at the Shougang Capital Iron and Steel Plant in Beijing on May 28, 2015. (Greg Baker/AFP/Getty Images)

By contrast, during Russia’s privatization process, the social welfare system still functioned, and some unemployed workers were able to receive a minimal amount of social welfare. The Russian government never implemented the forced layoff policy and used tax incentives to encourage companies to retain workers. Employees owned about 40 percent of the privatized enterprises.

Compared to the privatization of Central European countries and Russia, the privatization in China was the most unjust and the most ruthless. Clearly, the economic restructuring under an autocracy can disregard social justice without fear of electoral pressure. To the elite, this model is naturally more desirable, but the sentiment among the general public is probably the opposite.

Some Western scholars are of the opinion that the authoritarian communist regimes were good for economic restructuring and economic development, because they were able to overcome resistance from the people, and China was often cited as their best example. However, the privatization process in China demonstrates that a totalitarian government tends to ignore social justice, deprives people of their rights and interests, and make arrangements in favor of the ruling elite.

Dr. Cheng Xiaonong is a scholar of China’s politics and economy and is based in New Jersey. He is a graduate of Renmin University, where he obtained his master’s degree in economics, and Princeton University, where he obtained his doctorate in sociology. In China, Cheng was a policy researcher and aide to the former Party leader Zhao Ziyang, when Zhao was premier. Cheng has been a visiting scholar at the University of Göttingen and Princeton, and he served as chief editor of the journal Modern China Studies. His commentary and columns regularly appear in overseas Chinese media.