The Contradictions of China's Political Economy
Charles W. Freeman III
Charles W. Freeman III is a Senior Fellow with the Brookings Institution and a Senior Advisor to the Center for Strategic and International Studies.
The central conclusion of Nicholas Lardy's compelling new book, Markets over Mao: The Rise of Private Business in China, that the state-controlled sector has been much less important to China's economic development over the past 30 years than the nonstate sector should not be much of a surprise to long-time China watchers. As early as the late 1990s, Chinese economists and other scholars, particularly in Shanghai, were quietly positing that firms in the nonstate sector were contributing as much as 70% to Chinese economic output and were operating more than twice as efficiently as their state-controlled counterparts.
Yet even many Chinese scholars and business people have suggested that the success of private Chinese business has come in spite of official government policy rather than as a natural result of that policy. According to this narrative, the private sector has faced a gauntlet of official challenges, ranging from political favoritism of state-owned enterprises (SOE) to restrictions on credit and other financing opportunities to limitations on market access across provincial lines. Lardy's careful analysis debunks the underpinnings of this narrative and documents the evolution of China's economic and regulatory environment into one that has increasingly removed obstacles to the growth of the Chinese private sector.
Foreign and Chinese analysts frequently fall into the trap of trying to pigeonhole the Chinese economy into a framework that accounts for China's Communist Party–dominated political system. The language of China's “socialist market economy” and the post–financial crisis effort by many Chinese to define a “China model” presume the centrality and dominance of the state sector in the economy. Indeed, China's most recent constitution, adopted in 2004, recognizes the contribution of the nonstate sector but firmly establishes the preeminence of the state-owned sector.  While official emphasis on the role of SOEs may be more than lip service, however, and Lardy describes the political backdrop that continues to motivate support for a strong state sector (pp. 145–51), his analysis demonstrates the systematic removal over 30 years of the advantages previously enjoyed exclusively by SOEs.
Conventional wisdom has held that the administration of Hu Jintao and Wen Jiabao, from 2002 to 2012, witnessed a retrenchment and renaissance of state-owned interests after the whirlwind of market-oriented economic reforms that culminated in China's entry into the World Trade Organization in late 2001. Lardy presents compelling evidence that even this period of relative quiet in China's economic reform period did not alter the fundamental shift toward private-sector dominance (pp. 48–58). That shift appears to be accelerating with the emphasis on the “decisive” role of the market that emerged from the Third Plenum of the 18th Party Congress. The proposed changes that emerged from the subsequent Fourth Plenum to make the government less focused on approving or denying private economic activity than on ex post facto regulation seem further aimed at bolstering the interests of the private sector. 
President Xi Jinping's twin emphases on reducing the role of the state in economic decision-making and consolidating political control can be confounding to outside analysts of China's political economy. Can the political role of the state be strengthened even as the state further reduces its direct leverage on the country's economy? Is one aim a precursor for another? As Lardy documents, much of China's economic success has come along with, if not because of, a retreat of the state and the party from a controlling role over nonofficial decision-making. Reasserting some aspects of that control for political purposes, including the preservation of party primacy, may be difficult to square with efforts to liberalize the economy. Efforts to restrict access to global data networks for political auspices, for example, are one such measure that may reduce the competitiveness of the Chinese economy.
There are other examples of strong, nonpluralist governments successfully overseeing market-based economies, but none have the size and economic complexity of China. Much of the political rhetoric in Xi Jinping's China harkens back to a far less liberal time in China's economic history. However, for those analysts postulating a return to greater centralized control as a result of Xi's political strategy, Markets over Mao is an important counterpoint.
For the foreign business community trying to understand its role in Xi's China from the competing economic and political signals, Lardy's analysis is both hopeful and sobering. The emphasis on building a competitive, market-based business environment and enhanced role for the private sector is cheering. Still, there are signs that removing the advantages of SOEs and conferring them on private sector companies does not mean all private sector companies are created equal. There is an undoubted streak of nationalism to current Chinese policymaking, and while the Chinese government may be embracing private enterprise, it is far from clear that foreign enterprises will be swept up in that embrace.
Foreign companies have frequently pointed to industrial policies emerging from the National Development and Reform Commission (NDRC) and other planning agencies in China as evidence of continued state interference in China's market, particularly since China's entry into the WTO. Lardy correctly points out that many of these policies have not been successful (p. 57). To the extent these policies have been aimed at supporting inefficient state-controlled enterprises, however, a shift in policymaking designed to support the Chinese private sector may yield more success. That in turn could embolden further industrial policymaking that might limit competitive opportunities for foreign companies in China's marketplace. One can point to new evidence of procurement policies, subsidies for domestic innovation, anti-monopoly policies, and other measures to support that concern.
As Lardy suggests, however, U.S. companies are not without advantages in their home market, including the receipt of national and local subsidies (p. 35). They may now be facing increasingly efficient, globally oriented private Chinese competitors who are receiving a variety of support mechanisms in their home market. Xi Jinping's vision of a “Chinese dream” clearly includes private Chinese entrepreneurs. Will foreign companies be able to share in that vision?
 Chapter 1, Article 7 of China's Constitution reads as follows: “The State-owned economy, namely, the socialist economy under ownership by the whole people, is the leading force in the national economy. The State ensures the consolidation and growth of the State-owned economy.” Constitution of the People's Republic of China, chap. 1, art. 7 (amended 2004), http://www.npc.gov.cn/englishnpc/Constitution/node_2825.htm.
 The development of a “negative list” approach to permissible economic activity that first began to coalesce in the context of the negotiation of a U.S.-China bilateral investment treaty has been broadly accepted at the national, provincial, and local levels in China as a model for new investment approvals.