Corruption in China: Has it become systemic?

Asian Survey

Volumn 36, Issue 8, 1996, Pages 741-756

  Root, Hilton ^a,b,c  

^a STANFORD UNIVERSITY   (United States)

^b STANFORD UNIVERSITY   (United States)

^c ASIAN DEVELOPMENT BANK   (Philippines)

Author keywords

[No Author keywords available]

Indexed keywords

EID: 0009110135     PISSN: 00044687     EISSN: None     Source Type: Journal    
DOI: 10.2307/2645436     Document Type: Article

References (40)

1. As markets expand, China requires intermediaries to bring together buyers and sellers and solve the problem of asymmetric information that bedevils asset markets. When specialized intermediaries do their job well, they reduce adverse selection problems between savers and entrepreneurs by transmitting accurate information about investment opportunities. This transmission, however, requires overcoming the moral hazard that arises between the intermediaries and their clients: when intermediaries play a substantial role, they acquire important information about the participants in asset markets. Typically, such intermediaries will have more information about their clients than intermediaries who, without access to such privileged information, offer their clients service of lower value. As a result, clients may not easily change networks or contacts should the intermediary fail to provide optimal services. Because the client's intermediary will undoubtedly be cognizant of this, he can easily take advantage of his client. At present, the moral hazard is only partly overcome because intermediaries often possess privileged information by virtue of links to government officials. These officials are not explicitly accountable to the legal system. See Joseph E. Stiglitz and Andrew Weiss, "Credit Rationing in Markets with Imperfect Information," American Economic Review, 73:5 (1995), pp. 912-27.
2. When Huaneng Power made its pitch to U.S. investors, the presence of the Chinese prime minister's son, Li Peng, on the management board was emphasized (The Economist, no. 12 [1994], p. 26).
3. One U.S. businessman was detained without charge when his Chinese partner requested the return of his investment in a joint project. The American was held in a detention center run by his partner's brother-in-law after being arrested by his partner's friends. See Louise do Rosario, "Risky Business: Does China-Style Disorder Lie in Store?" Far Eastern Economic Review, 26 January 1995, p. 20.
4. Japan Times, "Jiang Hits Military Corruption," January 9, 1995, p. 3.
5. The Chinese Securities Regulatory Commission estimates that five hundred brokerage firms were operating but that only three hundred were registered (Financial Times, April 11, 1994).
6. The Economist, "Asian Finance: Survey," November 12, 1994, p. 26.
7. Hilton L. Root, The Fountain of Privilege: Political Foundations of Markets in Old Regime France and England (Berkeley: University of California Press, 1994). See also Joseph E. Stiglitz, "The Role of the State in Financial Markets," in Proceedings of the World Bank Annual Conference on Development Economics, 1993 (Washington, D.C.: World Bank, 1994), pp. 19-52. Although the personalized character of the system limits financial liquidity by limiting contracts to personal networks, the present system is efficient, taking into account the Communist Party's preference for giving up as little control as possible. The party does not want to give equity in the state to intermediary bodies that can then broker the nation's debt independent of party control. An alternative might be the creation of a parliament to create equity, but it cedes control of the firm (i.e., the nation's economy) to shareholders, a solution called for by China's National People's Congress. To avoid giving the reforming Central Bank too much autonomy, the National People's Congress called for tightened government supervision. The Central Bank, it argued, should report on issues such as money supply and credit balance to the legislative body to assure effective supervision. To distance itself from provincial-level political interference, the Central Bank is being requested to no longer engage in commercial or policy lending (International Herald Tribune, December 28, 1994, p. 13).
8. Hilton L. Root, The Fountain of Privilege: Political Foundations of Markets in Old Regime France and England (Berkeley: University of California Press, 1994). See also Joseph E. Stiglitz, "The Role of the State in Financial Markets," in Proceedings of the World Bank Annual Conference on Development Economics, 1993 (Washington, D.C.: World Bank, 1994), pp. 19-52. Although the personalized character of the system limits financial liquidity by limiting contracts to personal networks, the present system is efficient, taking into account the Communist Party's preference for giving up as little control as possible. The party does not want to give equity in the state to intermediary bodies that can then broker the nation's debt independent of party control. An alternative might be the creation of a parliament to create equity, but it cedes control of the firm (i.e., the nation's economy) to shareholders, a solution called for by China's National People's Congress. To avoid giving the reforming Central Bank too much autonomy, the National People's Congress called for tightened government supervision. The Central Bank, it argued, should report on issues such as money supply and credit balance to the legislative body to assure effective supervision. To distance itself from provincial-level political interference, the Central Bank is being requested to no longer engage in commercial or policy lending (International Herald Tribune, December 28, 1994, p. 13).
9. Hilton L. Root, The Fountain of Privilege: Political Foundations of Markets in Old Regime France and England (Berkeley: University of California Press, 1994). See also Joseph E. Stiglitz, "The Role of the State in Financial Markets," in Proceedings of the World Bank Annual Conference on Development Economics, 1993 (Washington, D.C.: World Bank, 1994), pp. 19-52. Although the personalized character of the system limits financial liquidity by limiting contracts to personal networks, the present system is efficient, taking into account the Communist Party's preference for giving up as little control as possible. The party does not want to give equity in the state to intermediary bodies that can then broker the nation's debt independent of party control. An alternative might be the creation of a parliament to create equity, but it cedes control of the firm (i.e., the nation's economy) to shareholders, a solution called for by China's National People's Congress. To avoid giving the reforming Central Bank too much autonomy, the National People's Congress called for tightened government supervision. The Central Bank, it argued, should report on issues such as money supply and credit balance to the legislative body to assure effective supervision. To distance itself from provincial-level political interference, the Central Bank is being requested to no longer engage in commercial or policy lending (International Herald Tribune, December 28, 1994, p. 13).
10. David Wall, "Special Economic Zones in China: The Administrative and Regulatory Framework," Journal of East Asian Affairs, 7:1 (winter/spring 1993), p. 39.
11. Ibid.
12. Ibid., p. 45.
13. Futures contracts have little effect when products (e.g., coal, chemicals, agricultural products) are allocated by government rather than by market forces.
14. Wall, "Special Economic Zones in China."
15. Ibid., p. 58.
16. Susan Shirk, "Playing to the Provinces: Deng Xiaoping's Political Strategy of Economic Reform," Studies in Comparative Communism, vol. 23 (1990), p. 230.
17. Melanie Manion, "Corruption by Design: Bribery in Chinese Enterprise Licensing," manuscript, Faculty of Social Sciences, Lingnan College, Hong Kong, 1994.
18. An additional problem is that entrepreneurs are no longer sure whether a bribe here reduces the need to provide a bribe there. See Andrei Shleifer and Robert W. Vishny, "Corruption," Quarterly Journal of Economics, 58:3 (1993), pp. 599-617.
19. The practice has become so widespread that, in March 1993, Vice Premier Zhu Rongji criticized vice-ministers and deputy bureau chiefs who became managing directors of companies established by their government agencies without first retiring from their positions. See John P. Burns, The Chinese Communist Party's Nomenklatura System (Armonk, N.Y: M. E. Sharpe, 1989).
20. Steven N. S. Cheung, Will China Go Capitalist? An Economic Analysis of Property Rights and Institutional Change (London: Institute of Economic Affairs, 1982).
21. Manion, "Corruption by Design."
22. Joseph Kahn and Marcus W. Brauchli, "China's Communists Seek a New Rule: Fearing Irrelevance Party Tries to Inject Itself into Business World," Asian Wall Street Journal, 19:79 (December 20, 1994).
23. Instead of laws, administrative policies supervise the market. Administrators are thus able to add additional expenses and uncertainties to the investment environment. However, contracts and economic rights require administrative backing in the absence of explicit property rights.
24. Edgardo Campos and Hilton L. Root, The Key to the Asian Miracle: Making Shared Growth Credible (Washington, D.C.: Brookings Institution, 1996).
25. Burns, The Chinese Communist Party's Nomenklatura System.
26. A single cadre personnel file owned by the party moves with a worker from one position to another. Party core groups are organized in most government or mass organizations. The nomenklatura system offers further control to the party over all leadership positions. See Burns, The Chinese Communist Party's Nomenklatura System. In Singapore, where party and bureaucracy are sharply bifurcated, being a member of parliament or a party member is a handicap to promotion within the civil service.
27. John P. Burns, "Civil Service Reform in China," Asian Journal of Political Science, vol. 2 (December 1994), pp. 44-72.
28. Campos and Root, The Key to the Asian Miracle.
29. Asli Demirguc-Kunt and Vojislav Maksimovic, "Capital Structures in Developing Countries," Policy Research Working Paper 1320 (Washington, D.C.: World Bank, 1994).
30. Ibid.
31. Without a stock market in which company shares are openly traded, the value of a company's assets are difficult to price. Stock markets do not replace banks but take a burden off the banks. Firms still finance projects through banks, but the existence of a stock market helps the firm accurately price and diversify risks. A developed stock market would also increase borrowing in the form of bonds, commercial paper, and bank debt. See Asli Demirguc-Kunt and Ross Levine, "Stock Market Development and Financial Intermediary Growth: A Research Agenda," Policy Research Department Working Paper 1159 (Washington, D.C.: World Bank 1993). For the opposite point of view, see Stiglitz, "The Role of the State in Financial Markets," pp. 19-52. Equity markets are an extremely costly way of raising funds, as the transaction costs amount to 25% of all new investment.
32. Without a stock market in which company shares are openly traded, the value of a company's assets are difficult to price. Stock markets do not replace banks but take a burden off the banks. Firms still finance projects through banks, but the existence of a stock market helps the firm accurately price and diversify risks. A developed stock market would also increase borrowing in the form of bonds, commercial paper, and bank debt. See Asli Demirguc-Kunt and Ross Levine, "Stock Market Development and Financial Intermediary Growth: A Research Agenda," Policy Research Department Working Paper 1159 (Washington, D.C.: World Bank 1993). For the opposite point of view, see Stiglitz, "The Role of the State in Financial Markets," pp. 19-52. Equity markets are an extremely costly way of raising funds, as the transaction costs amount to 25% of all new investment.
33. The ratio of deposit money-bank credit to GDP is an indicator of (1) the size of the banks in the economy, (2) the ratio of deposit-money bank credit to bank credit plus central bank credit as an indicator of the importance of banks relative to the Central Bank, (3) the ratio of nonbank financial intermediary assets to GDP as a measure of the importance of financial intermediaries other than banks in the economy.
34. In 1995 the Chinese suspended new listings on the A-share markets to promote price increases, but the tonic had only a brief effect when Shanghai's shares crashed 40% in two days in October. Foreign confidence in the B markets are sagging, and recent scandals have hurt Chinese shares being traded overseas.
35. Large-scale corruption emerged in China about 1984 and 1985. See Steven N. S. Cheung, "Economic Interactions: China vis-à-vis Hong Kong," manuscript, School of Economics and Finance, University of Hong Kong, 1994.
36. The center still directly controlled the appointment of key provincial posts but not the lower levels. See Peter Cheung, "The Case of Guangdong in Central-Provincial Relations," in Changing Central-Local Relations in China (Reform and State Policy) (Boulder, Colo.: Westview Press, 1994), p. 223.
37. When the Chinese firm Unipec lost a fortune on its foreign exchange and swap positions, company officials repudiated responsibility. The firm now claims its trading was unauthorized, although carried out by top executives. Lehman Brothers claims the firm made money from foreign exchange trading in 1992 and 1993, but the suspicion is that the profits were used to play financial markets abroad. When assets are traded overseas, their path back to China is difficult to follow. Domestic assets are often converted into foreign assets rather than returned to deal with the liquidity crunch at home. The Japanese have also registered complaints that loans made to Chinese firms are not being paid back (Economist, November 19, 1994, p. 87).
38. "The Constitution still empowers the central government to intervene in local affairs as long as it sees fit, but it fails to provide a clear and authoritative power map." See Cheung, "The Case of Guangdong in Central-Provincial Relations," p. 209.
39. Moreover, the party is nominally entitled to approve every decision in every social unit of more than ten people.
40. Ramon H. Myers, "The Socialist Market Economy in the People's Republic of China: Fact or Fiction?" manuscript, Hoover Institution, Stanford University, 1994.