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Abstract
China’s more than ten thousand economic zones, while similar in some respects to those found elsewhere, exhibit various unique features. In most developing economies, zones are the responsibility of the central administration and are designed to promote exports or foreign investment. In contrast, the Chinese zones are built and run by local governments and need not involve foreign investment or exports. We argue that the Chinese zone policy is best understood as part of a drive for economic reform, and that its unique features serve to defuse potential resistance from local cadres, whose interests are not served by reform.
Notes
1. In this paper, we define zones in the broad sense given by Ge (Citation1999). This includes economic and technological development zones.
2. The OECD (Citation1996) finds that at least 73 developing countries have established economic zones. Madani (Citation1999) surveys the huge literature on zones. Zones are sometimes called Export Processing Zones, EPZs.
3. Gregory and Harrison (Citation2005) study how similar forces operated in the former Soviet Union.
4. Our approach has common features with agency theory where government policies are administered by mid-level bureaucrats. The government tries to design institutions that provide the bureaucrats with the correct incentives to implement the policies decided on by the center. See Dixit (Citation2008) for an overview of the implications of this literature.
5. These officials are either members of the party or closely connected to the party. As discussed in Huang (Citation1996), the party dominates the cadre appointment and promotion process. Manion (Citation1985) provides a good account of these management practices.
6. In China, the power of party cadres can be traced back to 1949 when the central government empowered cadres with control of economic resources at the local level. In addition to administrative duties, cadres also make investment decisions. Their unique position brought substantial rents (see Sands Citation1990, Oi Citation1995 and Morduch and Sicular Citation2000).
7. Sands (Citation1990) argued that reforms typically made bureaucrats better off. A survey in the late 1980s found that more than 50,000 types of charges were imposed by local governments with at least twenty billion Yuan extracted a year (see Zhang 2000).
8. For a city-level project outside of a zone it is not unusual for firms to require as many as 1000 different stamps for approvals and permits (see Zhang 2000).
9. The success of Chinese reform depends critically on the transformation of cadres from political managers to policy entrepreneurs (see Fan and Grossman Citation2001).
10. If the will of the center could be effectively imposed on the cadres through monitoring and party discipline, agency issues would not arise and administrative transparency could be achieved nationwide by decree. This approach would be preferable to reform confined to economic zones because it would reform all economic activity, not just that occurring in the zones. That wholesale reform is not observed, as well as casual observation on the ground, suggests that the agency issue matters for China.
11. The cadre is present for both periods so there are no problems with time horizon. Borrowing the terminology of Olsen (1993) the cadre is a ‘stationary bandit’ and as such would like to encourage efficiency in production. As we shall see, the problem arises without a zone because the cadre is not able to commit to efficient policies.
12. As mentioned, the zones have clearly defined rules that are implicitly enforced by the central government. Thus, they reduce the cadres’ rent-seeking opportunities. Outside the zones, however, the power of cadres is much less constrained not only because the enforcement of law is weak but also because the central government lacks independent monitoring agents to evaluate cadres’ behavior (see Huang Citation1995).
13. New investments are not limited to foreign firms. They also arise from domestic firms that choose to locate in the zone. Indeed, most investment in the zones appears to be from Chinese nationals.
14. Agarwal and Mitra (Citation2010) examine the role of government policy for trade and investment in East Asia. They find no evidence for causality between openness and domestic investment for China between 1960 to 2004. Like much existing work, these researchers measure openness as the share of trade to GDP. We, however, show that the institutional feature of Chinese economic zones may better explain why, even if overall investment is unchanged, the allocation of investment by cadres can improve with zones.
15. Our results are also an example of a more general result established by Dixit (Citation2008). In our case, the central government wishes to reform without seeking transfers from the private sector of the cadres. Dixit shows that benevolent governments can obtain a larger provision of public goods even with rent-seeking bureaucrats.
