Unraveling the mysteries of China's foreign trade regime : a view from Jiangsu Province

F Policy Research WORKING PAPERS Trade Policy Country Economics Department The World Bank November 1991 WPS 801 Unraveling the Mysteries of China's Foreign T rade Regime A View from Jiangsu Province Arvind Panagariya Proposed reform targets for China's foreigr trade. Policy Research Working Papers dissemtna:c the findings of work tn progress and encourage the exchange of ideas among Bank staff and aU others interested in developmntm issus 'Ihese papcrs, distnbuted by uhc Rescarch Advisory Staff, carry thenames of the authors, reflect only theirviews,andshould beausd and citedaccordungly 'Ihefindings, interprerauons,and conclusionsaretheauthor'own. 1heyshould not be attributed to the World Bank, its Board of Diructors, Lis managemcnt, or any of its member countries  Pollcy Research Tradg Policy WPS 801 This paper- a product of the Trade Policy Division, Country Economics Department -is pan of a larger effort in the Bank to understand the international trade regimes of centrally planned economics. Copies are available free from the World Bank, 18 1 8 H Street NW, Washington DC 20433. Please contact Dawn Ballantyne, room NI10-025, extension 37947 (27 pages). November 1991. Panagariya describes briefly the evolution of * At the national level, liberalizing trade, China's complex foreign trade regime, paying expanding direct export rights, further rationaliz- special attention to the implementation of ing the foreign exchange retenticn system, national trade policies at provincial and city extending the agency system to exports, and levels. This is important for understanding eliminating the discrepancy between domestic developments in China's extemal sector because and export prices. provinces camne to enjoy a high degree of au- tonomy in the 1980s. Jiangsu, one of the fastest * More selective targeting of sectors for growing provinces in China, experienced rapid export and greater willingness to exit when a growth in exports. target sector appears to be the wrong one. Assum:ng that China will move toward a * Allowing town and village enterprises to market economy only gradually, Panagariya operate as freely as possible, removing barriers proposes piecemeal reform of trade policy as to interprovincial trade and mobility of labor, most desirable for improving efficiency and and encouraging the ornmation of industry fostering competitior.. Among reforms he groups only up to the point that they do not proposes: acquire monopoly power. The Policy Research Working Paper Serics disseminates the findings of work under way in the Bank. An objective of the series is to get these findings out quickly, even if prcscntations are less than fully polished. The findings, interpretations, and conclusions in these papers do not necessarily reprcscnt official Bank policy. Produced by the Policy Research Dissemination Center  Table of Contents Evolution of China's Foreip Trade Regime ..1............................ Institutions ............................. 4 Trade Policies .............. 8 Other Policies Affecting Exports ............................. 11 Sugge&tions for Further Refbrms .............. ............. 20 *The findings, interpretations, and conclusions in the paper are entirely mine. They do not necessarily represent the views of the World bank, its Executive Directors or the countries they represent. I am indebted to Christine Wallich for many helpful discussions and to Jaime de Melo, Peter Harrold, Donald Keesing, Fernando Montes-Negret and Wendy Takacs for comments on an earlier draft.  Unraveling the Mystries of China's Foreign Trade Regime: A View From Jiangsu Province This paper provides an analytic discussion of China's complex foreign trade regime anel suggests policy reforms. The papc;r pays special attention to the implementation of national trade policies at provincial and city levels. This is important for understanding developments in China's external sector because, during 1980s, provinces have cor.e to enjoy a high degree of autonomy. I draw specific examples at provincial and city levels from Jiangsu province and Wuxi city. Jiangsu is one of the fastest growing provinces in China; it has also experienced a rapid growth in exports during the past 10 years.' The paper is divided into five sections. In Section 1, a brief history of the developments in China's foreign trade regime is provided. In Section 2, I discuss the major institutions responsible for China's foreign trade. In Section 3 and 4, I outline trade policies other policies affecting fLh.1gn trade, respectively. In Section 5, some policy reforms are suggested. 1. Evolution of China's Foreign Trade Regime2 During the three decades following the founding of the People's Republic of China (PRC) :n 1949, a guiding principle of China's economic strategy was self reliance. Trade was relatively unimportant and grew rather slowly. Trade flows were controlled through a centralized planning system under the Ministry of Foreign Trade (MI). All trade was conducted by 12 centralized Foreign Trade Corporations (FTCs) organized along product lines and having branch offices in the main provinc-'s producing or utilizing their products. 'The paper is based partially on a mission to Jiangsu during the month of September 1990. "Ihis section is based inter alia on the following sources: the World Bank, China: External Trade and Capia, 1988; World Bank, China: Between Plan and Market, 1990, Denny, David L., "Provincial Trade Patterns," China Business Review, September-October 1987, pp. 18-22; Ross, Madelyn C., "Foreign Trade Offensive," China Business Review, July-August 1987; pp. 30-35, Ross, Madelyn C., "Changing the Foreign Trade System," China Business Review May-June 1988, pp. 34-36; and Leung, Wayne, "Consolidating Decentralization," China Trade Renor, pp. 6-7.  Starting in 1978, China began to open its economy to foreign trade. Three major turning points can be identified. First, in December 1978, China launched its open-door policy as a part of the overall ecowomic reform program. Second, in September 1984, the report on the Reform of the Trade System was adopted. Finally, in 1988, China adopted the Plan for Restructuring the Foreign Trade System. These changes led to an increase in China's exports-to-GDP ratio from 4.6% in 1978 to 12.7% in 1989. The country's share in world exports grew from 0.8% to 1.7% over the same period. In the following, I describe these reforms in some detail. Developments During 1979-1984. In July 1979, China enacted the "Law of the PRC on Joint Ventures Using Chinese and Foreign Investment". This law permitted foreign investment in China for the first time since 1949. In order to attract foreign investrnent and boost exports, four Special Economic Zones (SEZs) (Shenzhen, Zhuhai, Shantou and Xiamen) were established in 1980-81. This was followed by the opening of 14 coastal cities and the island of Hainan in 1984.3 Several developments took place during the period 1979-84. Branch offices of FTCs became relatively independent, provinces created their own FTCs to deal with specific foreign trade needs, and line ministries established their own FTCs to engage in trade in their products. In 1979, a system of foreign exchange retention rights at the f-;vincial and etterprise level was instituted. Import licensing, accompanied by decentralization of licew aig-autherity, was also introduced. These c4anges led to a decline in the volume of trade controlled by the Ministry of Foreign Economic Relations and Trade 3rhe SEZs and open coastal cities are aimed at attracting skills, technology and foreign capital into China. They operate under the so-clled "open policy" which gives them greater autonomy in managing foreign investment than the rest of China. This paper does not focus on issues of foreign investment. For details on incentives to foreign investment in the SEZs and open coastal cities the reader should consult the World Bank, China: Extermal Trade and Cpital, pp. 264-267. 2  (MOFERT) through the FTCs and their branches from 89% in 1981 to 72% in 1984.' The share of FrCs controlled by provinces and line ministries increased correspondingly. Developments During 1985-87. In September 1984, the State Council approved the report submitted by MOFERT on Reform of the Foreign Trade System. The general thrust of this report was towards a transfer of power from the center to lower levels of administration. The report recommended that FTCs be made independent of their administrative departments and be given full authority to carry out all day-to-day functions related to trade. Subject to the approval by MOFERT, large production enterprises could be allowed to handle foreign trade themselves. Tihe report also recommended the adoption of agency system under which FlCs were to become passive agents of enterprises and handle exports and imports for a service charge leaving enterprises responsible for profits and losses. The September 1984 report formed the basis of subsequent trade reforms in China. Various changes recommended by the report were not implemented immediately, however. Indeed along the way there were reversals involving recentralization, followed by further attempts at decentralization, and recentralization once again. Changes made as result of the 1984 report loosened considerably MOFERT's control over imports and led to a sharp increase in trade deficit. Alarmed by this, foreign trade officials reimposed many central controls. For example, types of activities in which FTCs could engage and their ability to compete against one another came under a more strict control of MOFERT. The system of licensing became more elaborate than before. A large number of export and import items were placed under direct control of MOFERT.5 In spite of these reversals, the general direction of China's foreign trade policy towards ezDx[L exansio did not change. In particular, China targeted certain sectors for lateral economic cooperation 'MOFERT was created in March 1982 by combining the Ministry of Foreign Trade, Ministry of Economic Relations with Foreign countries, Import Export Commission and Foreign Investment Control Commission. 5For further details, see the article by David L. Denny mentioned earlier. 3  among enterprises to boost exports. This cooperation, discussed later in greater detail, took the form of Production Networks for Export (PNEs) and export associations. Developments During 1988-to-dat