Dameisha Forum/Forum Opinions/Follow the Right Track and Carry on with the SOE Reform

Follow the Right Track and Carry on with the SOE Reform

Author: Source: Date:2017-09-01
Honorable guests, good morning. I rarely appear in public after I stepped down, as I no longer hold the position and have spent most of my time in college. I have worked for 42 years in my life: 18 years in corporates and 24 years in the government. I hope that my experience would bring some insights, and I also wish that more outstanding entrepreneurs will be found in China. There are less real entrepreneurs in China than before. Without an abundance of accomplished businesses - which started with entrepreneurs -China will never become a modernized superpower.

Review of the 32-year SOE reform
Allow me to reflect on our heritage, as it has been 37 years since the beginning of the Reform era, or 32 years if we consider state-owned enterprise (SOE) reform, initiated during the third plenary of the 12th CPC Central Committee. We have gone through a long way, and I believe we should look back and evaluate the experience.

The third plenary of the 12th CPC Central Committee was held in October 1984. It is the first session that systematically deploy China’s economic system reform. The Decision on Economic System Reform (the Decision) in China was released in the session. It stated that SOE reform was the core of China’s economic system reform, yet later this voice faded. To tell you the truth, it is still the core even it is not highlighted. SOEs will develop fast if they are well operated, or the SOEs will suffer otherwise. The Decision was made in October 1984, and it stated that “unsettled dsitrubtion of duties between government and SOEs, fragmentation of management system, and overly rigid control by the state on SOEs have led to diminished vitality within the SOEs and state-owned sector, which were supposed to play a much active role. The vitality of business comes from white-collars and blue-collars, and their enthusiasm, wisdom and innovation”.

The message in the Decision released 32 years ago is still considered accurate. Why do we need SOE reform? To invigorate the businesses. Therefore, despite your comments on SOEs and the state-owned sector, my criterion for both is its vitality. The focus was accurate and it remains to be right today.

I was appointed as a factory director in 1984. I had worked 18 years there, started as a worker and reaching the top. My career began under the guidance of the Decision and I was the first factory head that followed the factory director accountability system in Wuxi. Frankly speaking, the SOE reform initiated by Deng Xiaoping was closer to a Party committee accountability system, which led to the factory director accountability system. The factory director accountability system was not effective, and the head of Party committee keep sending me notes, suggesting that this arrangement was better to be discussed at Party meetings. I was a highly recognized employee with 18-year experiences in the factory, and therefore they send me notes rather than calling me out. Do you know what I realize after 18 years? I believe that the accountability is the critical, everyone has to be responsible for what they do no matter who they are (secretary, factory director, chairman, etc.). No accountability means no performances from the enterprises.

What happened after the nine years of exploration since the “Modern Enterprise System”(MES) was initiated as the goal of SOE reform in the third plenary session of the 14th CPC Central Committee in November 1993? I believe it was a critical session as it settled the direction. SOEs would not be managed well if the MES was not set up.  It is a necessary condition, but also has certain prerequisites. Less than three years after we mentioned that, the Enron Corporation went bankrupt in America. Enron followed the MES, right? It did. Why did such an excellent group, with a MES, collapse as well? The reason was the board’s ineffective performance. It is the same case for the Lehman Brothers. That is why MES is merely the necessary condition, and there also exists sufficient condition. Richard Fuld, Chairman and President of Lehman Brothers, was nice and I missed him a lot. The State-owned Assets Supervision and Administration Commission of the State Council (SASAC) was founded in 2003 and Fuld was willing to offer help during his visit in 2005.  He learned that SASAC was fresh, and was short of money and talents. He said that he can provide training. Years later, the Lehman Brothers fell. The group went from its trough to its peak under his leadership, yet it fell in an instant, and it was due to the inadequate MES. The system should be effectively operated. The stock market always tries to push the stock price higher, which sometimes forces corporates to cook the books. Enron and Lehman did just that and they fell eventually.

SOE managers must remember the four points below to deliver solid performance regardless of governmental or corporate entities: clear clarification of ownership; explicit distinction between rights and liabilities; separation of administration and business; and scientific management. My experiences tell me that these four points do stand. The ownership of SOEs then was not clearly defined, and therefore it was the top priority. Now the top priority is probably the separation of administration and business, or else the business would never go well. I suffered from it during my 18 years in the factory. Those who oversaw review and approval were irresponsible. I was responsible for two infrastructure projects with an investment of more than CNY 30 million. We have adjusted everything from the technology to the project nature, and it took 8 years to receive the approval to launch the project . What company could earn money if a project approval lasts 8 years?

I was later appointed as the Deputy Director of the State Development Planning Commission (SDPC). Qingtai was the Deputy Director of State Economic and Trade Commission (SETC). Each project received an investment of over a million RMB while none of them succeeded when I was in office. For instance, the breakout of protests among workers of Dayukou Project in Hubei as they didn’t to receive their wages, was due to ambiguity of responsibilities. I think we should learn from our experience, and some of which were specific to China; we should also respect the business rules prevailing in the world and enforce the MES. A handful of unprofitable companies were selected after the third plenary session of the 14th CPC Central Committee as the pilots for MES, but no progresses were seen afterwards.

Because of an inadequate MES, little progress were made despite our efforts. On the other hand, China was quickly opening up. Since the third plenary session of the 14th CPC Central Committee, SOEs have started to compete with township enterprises, and later foreign ones, joint ventures, and private companies. The government was said to have favored SOEs, but flowers would not fare well in a greenhouse and there must be competition. SOEs have made progress under the leadership of SASAC, I would like to express my gradtitude to private companies, and cooperative joint ventures, etc. SOEs can only reach the peak in the competition with outstanding rivals.

Nine years later when the then Premier Zhu Rongji came to power, SOEs were facing a more difficult situation. Qingtai oversaw and administrate the SOE reform, and 2/3 of them were in deficit. In 1998 the total profit of 250,000 SOEs was only 214 million, equal to a small share of today’s profit of central enterprises in a month (around over 120 billion per month). It was tough. I once accompanied Vice Premier Wu Bangguo to visit Guizhou Machine Tool Co., Ltd. We visited a local family with 8 family members living on the pension of the retired 78-year veteran cadre: the man’s daughter, her husband, and their child, plus the man’ son, his wife and their child were all dependent on the old man’s pension. I felt miserable, and so did the Vice Premier. What would happen to the family if the old man passed away? The Factory Director received a salary of only RMB 150 every month, and was in deep trouble to pay the wages to the workers. Other regions were in similar situations. Secretaries of provincial Party Committee, governors of provinces, and mayors were struggling to pay the wages to the employees. SOEs were challenged under intense competition. Premier Zhu had a hard time in his five-year term because of the stagnated SOE reform, low government revenue, and the opposition rising from the layoff program he initiated. The government was dragging the SOEs behind, and I think it should be solved as soon as possible. SOEs shall be competing with foreign companies, and JVs. Free movement of labor should be permitted as well. The labor force has now doubled, and I suggested a 50% layoff. However, this proposal was not approved given that social stability was a priority. Yet it was understandably hard to compete with strong rivals in global market with such a huge burden.

Premier Zhu has dedicated his time and efforts to carry on with the reform. As he said, “I will quit office if the deficit lasts for another three years”. It was such a hard time. Reform proceeded, and half of employees in governmental entities were laid off within three months. Things would not have gone well if the nine industrial ministries were not terminated, as the problem of fragmentation would retain if sub-SASACs were set up under the State Council’s SASAC. Premier Zhu’s decision to terminate the nine industrial ministries has centralized the functions to the SETC. One layer was removed successfully during such a difficult time. I started my career as a worker. I understand the life of having both parents and children to feed. Some people lived such a difficult life for 5 years and others for 8 years, and how can you expect them to stay in a company that can’t pay them? I was once a child in poverty with low self-esteem, so are the children of these families. We were reluctant to lay off workers, but it must be done if the SOEs were to be revitalized. Hence I proposed to remove the labor burden for the sake of the industry. I reported to Premier Wen Jiabao on this and he asked for a figure. The figure would be 25.6 billion per SASAC’s estimation. Premier Wen asked where the money came from, and I suggested to increase the tax revenue of 120 billion each year, reserving10 billion per annum for three years. The Premier sent me to the Finance Minister for further consultation, who eventually turned me down. You see, revenues flew into the Ministry of Finance will never flow out again. The issue was brought up again a few years ago, and to resolve it at that time would require more than 120 billion. I guess even 160 billion cannot fix it right now.

Separation of administration and business as the key of MES
My view is that the reform shall be conducted strictly adhering to the principle. Separation of administrative and business activities is the key. We made a lot of efforts over the past 18 years, and we are at the dead end. Why is that? Efforts mean nothing if the system stays the same. Therefore, I still hold that the principles set for the reform on state-owned asset system in 2002 were the right steps forward, for they came from domestic and overseas experiences.

I was once given a subject, and was required to finish it with my team. To be honest, I did not want to take it. If I were to take on the project, I would not avert the reality or debates mentioned earlier. It sounded great to work on this subject matter, but it would all be in vain if it is not going to be implemented. Thus, I would have to focus on the reality I mentioned. I just finished this project, and the findings will be published soon.  With the institutional reform started in 2002 and data collected thus far - what we do was not theoretical analysis but demonstration based on empirical evidence–what can be concluded? On one hand, it is about the system,with the research on Efficiency and SOE Reform. SOEs are often regarded as enterprises with low efficiency. We are not avoiding this talk—so how efficient are they, and what shall we do if they are inefficient? I am confident with the solution that are illustrated in my book, Respect the Rules: Doing Business in China. All enterprises must adhere to market principles, Lehman Brothers and Enron fell exactly because they did not comply with market principles. Businesses will expand if it follows the principle -regardless of its ownership -,and SOEs do not necessarily perform badly. I once asked a group of professors and tutors during a presentation that if they can guarantee that a company will absolutely prosper. There are private enterprises shuting down every day, and neither shutdown nor open for businesses is a bad thing. Those that doesn’t survive the market economy and the modernization trend shall be forced out. It is also the case for SOEs. For our research project, we conducted quantitative analysis with three indicators –total productivity of all factors, total capital contribution ratio, and industrial value-adding rate, using data released by central enterprises since they are relatively reliable. According to our analysis, the productivity of central enterprises climbed from 32% to 40% after the MES reform (2004-2014), 30% of which came from institutional changes. This indicates that the reform has been effective. To find out the relationships between SOE’s ownership structure and their efficiency, we did quantitative analysis with the data from the World Bank’s investigation on Chinese enterprises. The result shows that a SOE is most efficient when the state holds around 30%-50% of its shares, followed by an ownership ratio of less than 30%. The lowest efficiency comes from absolute state ownership. By now I can say that SOE reform must firmly maintain its direction and go on.

President Xi mentioned two principles in the SOE Party building session: with one being the party leadership over the SOEs, and the other being the MES. MES has two notable areas: there must be a separation of administration and business, and the corporate governance issues must be straightened out. They are the necessary conditions.

Therefore my topic today is about Firmly uphold the direction. The word “firm” rather than “loose” is the key. Second is to carry on conscientiously with no flamboyance, delivering incremental results every year and significant progress every three years. The central enterprises saw an average growth of nearly 20% per year from 2003 to 2012. State-owned asset, sales, ROA and profits would grow if you follow the right way. As I spent the time reviewing what happened in the past, the principle of “Firmly Uphold the Direction and Conscientiously Carry on the Reform” has been elaborated.

Rongrong LI is the vice president of CCIEE and former director of SASAC.

Speech delivered at the Forum on Reform and Development of SOEs of the 3rd Dameisha China Innovation Forum.  Opinions expressed here belong to the author and do not necessarily represent the position of SZIDI.