Economics 110 Notes for April 18Th

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Economics 110 Notes for April 18th

1. The Enterprise (Political Model)

a. four constituencies – government, directors, workers, consumers

b. Government --- much greater role for local officials who got much of the revenues

and used them for investment and to start new enterprises. Officials had an

interest in the success of the enterprise.

1. Soft Budget Constraint

c. Enterprise Director – motivation to expand the enterprise.

d. Workers – employed for life (the iron rice bowl). There was no labor market at all.

Power came from their ability to control the intensity of their work.

1. Absence of material incentives made group norms more important

2. How wages were determined – Page 6

3. Goal was to maximize the wage bill – push to increase the number of workers

e. Reforms

1. Profit retention – for worker bonuses, collective consumption, investment

a. Profit contracting

2. See above plan production at free market prices + fixed quotas

3. Could import and export more outside of the plan

4. Enterprise director was given more power

5. Growth of urban and rural collectives (owned by workers who are responsible)

a. Very labor intensive (create employment)

b. Serve to enhance market competition

6. Township and Village Enterprises (TVEs)

7. Growth of Private Enterprises

8. Fixed labor contracts to replace employment for life

a. Chinas still has a large labor surplus – few have been fired

b. Wages and bonuses have been raised

f. Results

1. Helped effect an significant increase in productivity

2. shift from a sellers market to a buyers market

3. Explosion of investment spending – duplicative and inefficient – led to high

inflation rates

4. did not have a sufficient price reform --- production was distorted

5. Greater inequality

6. Greater dependence on world trade

7. corruption and nepotism

g. Subsidies still occur. Workers are still hard to fire. The legal system is very inadequate. Prices are irrational.

2. Chinese Trade to 1978

a. Trade autarky

1. China’s irrational prices undervalued agricultural products and overvalued

industrial products

2. Shortage of foreign exchange

3. Trade would make central planning difficult

b. Had state monopolies --- called Foreign Trade Corporations – separate producers and consumers

c. Table --- low percent of trade/GDP

1. Direction of Trade (table)

2. Earned foreign exchange supplying food products to Hong Kong

d. Currency was not convertible --- explain

e. Trade actually expanded in the 1970s, before 1978.

1. Nixon visit opened relations with the US

2. Japan became China’s leading trade partner

Add in Notes from Thomas G. Moore

3. The 1980s --- major expansion of foreign trade (data on Page 5 of Chapter). Trade averaged 35% of GDP each year since the mid-1990s, up from 13% in 1980.

a. Greater share of trade with the United States

b. Greater share is industrial products, especially textiles. Textiles are 25% of China’s exports and account for 10% of China’s overall output. Machinery and electronics are the other large export products.

c. Much larger number of Foreign Trade Corporations + some enterprises can now

trade directly

d. China joined the IMF and the World Bank (explain each). China joined the WTO

in 2000.

e. Decentralization led to an investment explosion (review investment hunger) which

led to trade deficits. These deficits were financed by reducing China’s foreign

exchange reserves and by borrowing from abroad.

1. The trade deficits forced the government to retrench, slowing economic growth.

Thus, opening to trade has increased macroeconomic instability.

f. Irrational prices in China lead to an irrational exchange rate. The yuan is

overvalued (causing Chinese exports to be relatively cheap and Chinese imports to

be relatively expensive).

g. Visit of Gorbachev in 1989 opened relations with the Soviet Union (Tienamen).

h. For a country of its development level, China is relatively open now; for

example, compared to India. By the early 1990s, the World Bank ranked

China in the top 1/3 in terms of openness.

i. China is now the leading recipient of FDI among developing countries. Foreign

owned companies account for 40%+ of China’s exports.

4. Trade Relations with the United States

a. Early on, China ran trade deficits with the USA, paying for them with foreign exchange earnings from Hong Kong. The USA exported mainly agricultural products and imported mainly textile/apparel.

b. 1979: China got MFN from the USA. Chinese exports to the USA increased greatly – in textiles and also in machinery and transport equipment. For awhile, oil was a major import from China.

c. Main issue has involved textiles. US textile industry is in decline as it is labor intensive and China has a clear comparative advantage.

d. Multi-Fiber Agreement --- to set a limit on textile imports (quotas)China responded with a major reduction in imports of American agricultural products

e. USA concern with human rights in China as part of MFN

f. The yuan is undervalued, as mentioned above. Pressure from the USA. The Chinese changed the yuan from 8.28 to 8.08 in 2005.

5. FDI in China

a. Became legal in China in 1982

b. Special Export Zones (SEZs) --- show map and see Page 12 of Chapter

c. Wages are higher than in other parts of China but lower than abroad

d. A portion of production can be sold inside China. Chinese tourists come to these areas to get foreign manufactured goods.

e. Benefits to China:

1. jobs, training, and technologies

2. foreign exchange

3. a place to test the economic reforms

4. helped facilitate the eventual reunification with Hong Kong

f. Much of the investment comes from Hong Kong and Taiwan

g. Problems of producing in these areas:

1. labor productivity is low

2. workers are undisciplined

3. support industries are often missing

4. bottlenecks from transport and electricity

Evaluation of Chinese Performance

1. From 1978 to 1987, China achieved the fastest doubling of economic output ever recorded. It then equaled the feat from 1987 to 1996. Growth has been at 10% per year.

In total, China is the world’s second largest economy. There was a major growth in industrial production, making China a semi-industrialized country.

a. Growth was extensive growth through 1976.

b. After 1978, much of the growth reflects increases in productivity

2. The number of people living in absolute poverty ($1 per day or less) fell by 200 million during the reform period.

3. Significant improvement in agricultural performance after 1979

4. High growth of investment spending. Review the incentives to increase investment.

a. Much investment spending is unproductive and excessive

5. Once they allowed population movement to the cities, China became a labor surplus economy. There is much urban unemployment.

a. There is also under-employment ---- over-manning especially in state enterprises

6. There has been considerable inflation. The inflation results from bottlenecks --- shortages of energy, transportation, raw materials, foreign exchange, etc.

7. High population – 1.3 billion

a. The one child family policy

b. Other family planning programs have been more successful

c. Birth rates are low in cities, constrained by inadequate housing and child care (explain why birth rates are so much higher in rural areas)

d. Effects – see article

8. GDP per capita has reached perhaps $3,000, compared to $40,000 for the USA. But it has approximately tripled.

a. Consumption per capita has been rising rapidly as well.

b. Severe housing shortages – 44% owned by enterprises, 25% is privately owned

1. Low rents due to government subsidy

2. Newer housing is in large high rise apartment buildings

c. Diet has improved --- food distribution was very egalitarian, although less so once

the communes were eliminated

9. Distribution of income

a. Had been extremely equal

b. Inequality has increased since the reforms – both personal and regional (SEZs)

c. Some in the “sideline occupations” have increased their incomes considerably

10. Social Welfare

a. High portion of the population are educated and literate

b. But there have been reductions in the % going on to higher levels of schooling as

incomes have risen from sideline occupations and the household responsibility

system

c. Health Care – record was remarkable under communism (See Chap 6, Page 8*)

1. Barefoot Doctors

2. Elimination of the commune – number of doctors, nurses, and barefoot

doctors fell dramatically

d. Importance of family obligations --- fewer than 20% qualify for a public pension

11. Economic Freedom --- lacking but increasing