The Chinese authorities are starting to turn to and encourage private investments in strategically important industries. Why is this new stage of liberalization for China so important, and how far is Beijing willing to go?

In late spring of last year, the State Council of China, followed by the Commission for the Supervision and Management of Public Companies, announced that this liberalization will affect some of the economy’s key sectors. Among these are some of China’s most important financial areas: the sectors in which power structures still control the majority of its property, such as electric power and the oil/gas sector, and the finance, telecommunications, education, and health industries. Private investors will be able to participate in the restructuring of state companies – in exchange for money or private assets from them, the investors will receive blocks of shares, convertible bonds, or other forms of compensation. The state companies should welcome the investors’ participation in their IPOs, while public shareholders selling their stakes in companies should not discriminate against private buyers.

So far, the Chinese officials have disclosed very few details regarding the upcoming changes. But it is known that one of the first sectors that will be opening for private capital is the railroad sector. Private investors, as a result, will be able to participate in the financing of the monorail’s construction in the city of Wenzhou – the total cost for this project is estimated at $1 billion. Similar attempts will most likely be made in other regions as well: the lack of funding to the railway network, as well as its unprofitability and debt burden, are all serious problems for China.

The fact that reforms will also be taking place in the financial sector is also significant, because the state’s weight in that sector is one of the highest. According to the explanations published by the Commission on Banking Regulation, private investors, through the use of various mechanisms, will e able to penetrate the capital of credit organizations, trust, and leasing companies. There will also be a reduction, from 20% to 15%, in the minimum share capital requirement for the key co-founder of an agricultural bank, as well as the simplification in the procedure of converting microfinance firms into banks.

Breaking the “Second Wave”
Chinese authority representatives repeatedly emphasis that the recently announced measures are part of a strategy aimed at supported the economy, which has been exhibiting more and more troubling signs in recent months. World Bank experts predict that China’s GDP will fall to 8.2% this year, its lowest rate in 13 years. And the annual growth of investment in its fixed assets, during the first five months of 2012, is down to 20%, the lowest China has seen in a decade.

The fight against signs of the second wave of the crisis is occurring on every front. Since last November, the People’s Bank of China has already reduced the reserve requirements three times, and in early June, it reduced the official interest rates for the first time since the end of 2008. But the monetary stimulus is obviously not doing enough for the economy. That is why the government has significantly accelerated the approval of certain infrastructure projects and allocation of public funds to budget programs. It has also promised to continue reducing taxes. At the same time, Beijing clearly does not want to make the same mistakes from 2008, when the $600 billion stimulus package caused a speculative spiral in property prices. This unpleasant side effect occurred partially because investors simply didn’t have any attractive alternatives for investing their funds.

Will It Be Enough?
China needs this private initiative for other reasons as well, not just opportunistic. According to various estimates, the companies that are owned, directly, or indirectly controlled by the state account for 30-50% of China’s entire GDP. Private businesses can only dream about the special benefits these companies receive: cheap and abundant loans, artificially low prices for land and energy, insurmountable obstacles for their competitors trying to obtain state contracts, and so on. And the public sector became the main beneficiary of the incentive programs deployed by the government at the peak of the crisis. All this allows state companies not only to survive, but to receive huge profits as well. On the other hand, investment capital returns in the public sector have been, and have remained, much lower than in private business, an inefficiency that fundamentally weakens the Chinese economy. According to calculations made by David Dollar, who works for the World Bank, and Shang Zig Wei of IMF, if the distribution of investments were not so distorted in the state companies’ favor, China’s GDP could be as high as it is today with an 8% reduction in the accumulated capital it has today. That is, it would be possible to redirect a significant proportion of the resources at their consumption (see – raising people’s living standards) without any losses in the country’s economic dynamics.

There are, however, some serious doubts that these deep, structural reforms, or even the dismantling of China’s state capitalism, will take place, mainly because this would require political will. And the leaders of the Communist Party of China have not expressed the slightest interest in giving up the state’s dominance in key sectors. Economists point out that many of the announced measures have already been officially declared, but none of them have led to any practical results. Since 2009, for example, the Chinese have been trying, unsuccessfully, to stimulate the legalization of the financial sector’s shadow side, which is the main source of loans for small businesses. Access to the electric power sector was formally opened to private investors back in the 90s, but it has not yet led to a noticeable shirt in the structure of ownership. Obviously, the state-controlled monopolies will not give up their areas of influence without a fight, and their resistance will be hard to overcome. After all, man of these companies are run by authorities from the Chinese government.

Text: Anna Kim