State and Private Economic Sectors Align

This structure explains why China, a socialist country, has the world’s most rapidly growing private sector. China affirms the dominance of its state sector, but whereas in the West state and private companies are seen as counter-posed, in China, for the structural reasons given, they are seen as complementary.

This economic structure of China has produced the greatest economic growth in world history. As Nicholas Lardy, one of the chief U.S. writers on China’s economy, recently summarized: “China’s growth since economic reform began in the late 1970s is unprecedented in global economic history. No other country has grown as rapidly for as long.”

China’s economic structure reinforces the world’s most dynamic private sector. While the state should not own companies in sectors dominated by small-scale competition, and in China it does not, this does not mean such companies do not require the state. Economic theory shows an efficient competitive market requires preconditions – perfect knowledge of market conditions, simultaneous price adjustments, minimal or zero transport costs etc. But these require real material underpinnings to be realized, and much “infrastructure” actually consists of structures required for efficiently functioning competitive markets – transport, information technology standards and structures, wholesale markets etc. Frequently, due to their high costs, these are monopolistic and consequently best supplied by the state. Therefore, even in sectors where the state should not own the operating companies, the state is required to create conditions for effective market functioning.

The same applies where research requires huge expenditures. To take a graphic example, it is a myth that the foundations of the information technology revolution, the cutting edge of U.S. industrial innovation, were developed privately. They were created by the U.S. state. As Martin Wolf, chief economics commentator of the Financial Times, put it reviewing Mariana Mazzucato’s The Entrepreneurial State:

 “All the technologies which make the iPhone ‘smart’ are… state-funded ... the Internet, wireless networks, the global positioning system, microelectronics, touch screen displays and the latest voice-activated SIRI personal assistant. Apple put this together, brilliantly. But it was gathering the fruit of seven decades of state-supported innovation.”

Regarding financing of private companies, in China, the state monopoly of large-scale banks reduces the cost of capital for productive companies. In the West, high risk strategies, rational for “too big to fail” private banks, mean their assets are deployed in areas offering the highest returns and which therefore typically have the highest risk – derivatives trading, interest rate arbitrage etc. These can be undertaken on a large scale because fatal losses will be borne by tax payers. This has the effect of concentrating profits into the private financial sector. To attract savings for extremely profitable high risk activities, high deposit interest rates can be offered. Due to such pressure interest rates for supply of capital to productive companies is sharply raised. China, in contrast, by control of interest rates and restrictions on high profit but high risk financial operations, ensures a lower cost of capital for productive companies.

By providing both a cheaper supply of capital, plus superior infrastructure, China’s economy creates particularly favorable conditions for development of productive private business. By seeing state and private sectors as complementary China has produced economic growth never achieved by Western economies. It is also why socialist China has the world’s most dynamic private sector.

John Ross is a senior research fellow at Chongyang Institute for Financial Studies, Renmin University of China. From 2000 to 2008 he was director of economic and business policy in the administration of Mayor of London Ken Livingstone. He previously served as adviser to several major international mining, finance and equipment manufacturing companies.