China's rapid ascent is the result of the expanding role of the market and the rise of private businesses.

Private enterprise, not state control, 

is driving China’s rise

by Nicholas R. Lardy, Peterson Institute for International Economics

Private companies now account for two-thirds of employment in China, and the growth in output of private businesses since 2008 has averaged 18%, twice the pace of expansion of state businesses. Nicolas Lardy at the Peterson Institute for International Economics robustly challenges the prevailing view that the state continues to drive the rise of China and calls for more enterprise in the services sector.


There is no shortage of critics who confidently attribute China's rise to state intervention in the economy. But the ranks of policymakers and commentators decrying Beijing's brand of state capitalism are wrong—and, worse, they risk provoking short-sighted and counterproductive responses.

The reality is that China's rapid ascent is the result of the expanding role of the market and the rise of private businesses. Such companies now account for more than two-thirds of output, up from nothing when reform began in 1978, in an economy that has expanded 25 times in real terms. They account for almost all jobs growth in the same period and are leading contributors to export growth.
The reality is that China's rapid ascent is the result of the expanding role of the market and the rise of private businesses.

State companies' shrinking role has been particularly rapid in manufacturing, which opened up to private businesses in the 1980s. State enterprises' share of output in the sector is a fifth compared with four-fifths in 1978. Conventional wisdom says state industrial companies have enjoyed a resurgence since the onset of the global financial crisis. In fact, the growth in output of private businesses since 2008 has averaged 18 percent, twice the pace of expansion of state businesses.

Underlying the poor performance of state industrial companies is low productivity. Most investment is financed with retained earnings—so private industrial companies, with a return on assets more than twice that of state companies, can expand faster. This is reinforced by the increasingly commercial conduct of mostly state-owned banks.

China's industrial policy is perhaps exemplified best by the state-owned assets supervision and administration commission, created in 2003 to oversee the largest state-owned nonfinancial enterprises. Critics say it favors state companies to try to strengthen national champions. But this has failed: The return on assets of Sasac's companies has plummeted since 2007 and is now below half their cost of capital.

The disparity is evident even in the steel industry, identified by Sasac as one in which Beijing was to maintain relatively strong control. This seemed an easy task in the mid-2000s, when state companies produced half of all steel output and their efficiency matched that of private companies. But when annual growth in output fell to an average of 9 percent after 2006, compared with its average pace of more than 20 percent earlier in the decade, state companies' returns fell sharply. By 2012 they were in the red, and their share of production had fallen below a third. In contrast, the return on assets of private steel companies rose after 2006, reaching a peak of more than 10 percent in 2011 before declining slightly. With private steel companies investing more than twice as much as their state counterparts, their rising output share will continue.

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