The Productivity Effects of Decentralized Reforms: An Analysis of the Chinese Industrial Reforms

Reform aimed at decentralizing ownership and control rights seems to work when it creates incentives for managers and employees to learn and to work hard - for example, by decentralizing the right to control wages, make production decisions, and appoint new managers. The empirical literature on the effects of ownership has not distinguished between the effects of ownership and the effects of control. It has also generally ignored the dynamic effects of various ownership and control rights. Using a rich set of panel data about changes in China's state-owned enterprises, Xu examines the static and dynamic effects of decentralizing ownership and control rights. He finds that productivity and growth rates improved significantly when reform improved the incentives for managers and employees to learn and to work hard - for example, by decentralizing the rights to control wages, make production decisions, and appoint new managers. Increasing profit-retention rates and adopting performance contracts - conventionally viewed as the most important reforms for China's state enterprises - did not improve productivity much. Overall, decentralization accounted for at least 42 percent of productivity growth in Chinese state enterprises in the 1980s. Much of that gain came from improvements in the growth rate of productivity rather than in improved levels of productivity. This paper - a product of the Finance and Private Sector Development Division, Policy Research Department - is part of a larger effort in the department to understand the limits between the organization of a firm and economic performance.