Who Has the Emperor`s Clothes? Economic Relationship between the Central and Local Governments in Mainland China

Abstract

In the case of a centrally planned socialist economy, a distinction should be made between administrative decentralization, which is an intrasystemic adjustment of the plan, and economic decentralization, which is an intersystemic reform of the institutional structure that transforms the coordination and control mechanisms from a planned to a market economy. The economic changes in mainland China since 1979 have been of the latter, systemic kind. Reform of the fiscal system has increased the taxation and expenditure powers of provincial and lower-level governments as well as initiated a continuing transition from direct administrative command to indirect central and local macroeconomic guidance, within an environment of market or near-market prices and more diversified (but not fully privatized) property forms. However, banking reform has lagged behind other structural changes. As a result of cannibalization by a large, still growing (in absolute terms), and largely unreformed state-owned industrial sector, long-term prospects of overall reform are being threatened.