• Wed
  • Dec 24, 2014
  • Updated: 2:09pm
BusinessChina Business
REFORM

Inefficient SOEs lack profit focus

Earlier reforms failed to address the core problem of low productivity among SOEs

PUBLISHED : Friday, 04 April, 2014, 1:14am
UPDATED : Friday, 04 April, 2014, 5:15am

Chinese state-owned enterprises may still be making profits but they continue to be a drag on the economy's overall productivity.

An SOE-driven investment spree in the wake of the global financial crisis in particular is hindering productivity growth, necessitating their reform to revive the slowing economy.

"The stimulus and loose credit policies of the last few years have eased the budget constraints for well-connected firms, such as those in the state sector, and many of them have responded by boosting output rather than maximising profits," said Mark Williams, chief Asia economist at London-based research institute Capital Economics.

The gap between the return on assets ratio between SOEs and their non-SOE rivals has been widening as a result, from 2 percentage points in 2007 to 5.5 percentage points in 2012, data from Standard Chartered Bank shows.

"SOEs tend to be less efficient in any given sector," Williams said. "They also dominate in some sectors where profitability is low or has been eroded by overcapacity."

Data from the National Bureau of Statistics show profits in state-owned industrial firms fell 0.2 per cent in the first two months of this year while China's overall industrial profits grew 9.4 per cent. SOEs have underperformed the wider industrial sector in nine of the past 13 years in terms of profit growth.

Beijing initiated SOE reforms in 1980s but made substantial progress only after the 1997-1998 Asian financial crisis when the then premier, Zhu Rongji, laid off hundreds of millions of workers and allowed management teams to buy out state firms on the brink of bankruptcy.

But the reforms failed to address the core problem of low productivity. Preferential access to capital and land guaranteed by Zhu's reforms only made things worse, with inefficient use of resources.

"The reform was not thorough, and that's why we are talking about deepening reforms now," said Wang Jun, a senior researcher with the China Centre for International Economic Exchange.

Wang worries it is hard to crack the entrenched interest of the government as well as the management teams although the roadmap is clear; gradually dilute state control in SOEs by ushering in private investors.

"It's very difficult. Any successful reform of an SOE will tend to be a stand-alone case," he said.

Investors, however, are excited about the government's decision to inject assets of state-owned giant Citic into its Hong Kong-listed subsidiary in a deal valued at about US$36 billion. The government has made clear that it wants to cut its stake but remain the largest shareholder.

"If mixed ownership is to become effective, the government will need to give investors a greater say in management decisions and, ideally, encourage a gradual state exit from underperforming firms," said Williams.

The SOE watchdog has been endorsing a state exit from non-strategic sectors since 2006 but the government has so far refused to surrender control, leading to a growth - rather than a reduction - in the proportion of state-controlled assets in non-strategic industries, he said.

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singleline
Over-indebtedness per se isn’t a problem.
It only shows that their businesses are highly geared, so long as they earn enough to repay the debts.
But China’s corporate debt is 3.4 times her EBITDA, compared with South Korea’s 2.8 times, Malaysia’s 1.5 times, Singapore’s 1.9 times, and Thailand’s 2.1 times.
In general, the repayment problem is serious if the ratio is more than 2 times.
So, the patient requires more and more transfusion of blood (in the form of bank loans and local government subsidies), increasing further their debts, and becoming ultimately a vampire enterprise.
With too many zombie enterprises, the country will become the next 2-decade-lost Japan.
(From ‘Goodbye, World’s Factory’)
singleline
According to the latest estimates, the total government debt in China (central and local, explicit and implicit) ranges from 45 to 78 percent of the country’s GDP, compared with Germany’s 89%, US’s 106%, OECD’s average 108.8%, and Japan’s 219.1%.
Relatively speaking, China’s government debt is still small and controllable.
What’s worrying is the corporate debt, whose estimates in 2013 range from 105.4 to 117 percent of GDP.
China’s enterprises, with the support of the local governments, are still able to obtain loans, even given their ugly balance sheets.
Overinvestment causes overcapacities, and rising debts.
singleline
'The government called on China Development Bank, the country's largest policy bank, to set up a body to issue specialized home-financing bonds to support shantytown reconstruction and other infrastructure development.'
(From 'China Stimulus Puts New Focus on Growth Target', WSJ)
I'm glad to hear of this kind of credit development in China.
It's even better that these long-term relatively-low-yield bonds can be traded actively in the secondary market, with their prices guided by the market yield curve.
singleline
China's local governments also occupy a lot of policy-banks’ loans, at least in the past.
The deep development of the municipal bond market in the country should no longer be delayed.
China’s local governments (and indeed any other governments in the world) seldom face the problem of solvency, only that of liquidity.
It’s just a problem of maturity mismatch --- their short-term 1-to-2-year policy-bank loans (or shadow-bank loans) should be replaced by longer-term (say, 20-year) municipal bonds.
A government seldom ‘repays’ most of their debts, she just needs to roll them over.
The local governments are always supported by the full faith and credit of the central government. They both have the unique power to levy taxes on her citizens.
The so-called local government debt crisis in China (and Hong Kong's future budget-deficit crisis for that matter) is no crisis at all.
It simply shows that in China, the development of the financial markets (in particular, the bond market) (greatly) lags behind that of the real economy.
singleline
Some inefficient SOEs, suffering from low productivity and excess capacities, have to rely on the policy banks to help roll over their debts,
thereby occupying most of the banks’ lending fund,
while at the same time starving the much-more-efficient SMEs of the loans they sorely need.
In China, 'intra-national' bills of exchange become prevalent nowadays among the SMEs, as a form of substitute money,
showing that there is something (seriously) wrong with China’s present credit system.
(Chinese readers: ****cn.wsj.com/big5/20140404/bch073721.asp?source=whatnews)
The too-high borrowing rate in the shadow banking market doesn't really help the SMEs.
Borrowing from abroad is at odds with China's capital-control objective.
So, either the policy banks should lend more to the SMEs,
or they should securitise some of their present loans to release more fund to be relent to them,
or more private banks have to be established to serve the needs of the market,
or the corporate bond market has to be greatly overhauled (together with a genuine market-determined yield curve, well-established credit-rating agencies, and bankruptcy laws) to serve the needs of the SOEs,
thereby releasing some of the funds which are now occupied by them and which are used simply to roll over their not-very-good loans.
Those funds should have been used to support the real-economy activities.
 
 
 
 
 

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