2013-09-15

Chinese Capital Destruction

The Hidden Losses of SOEs
But there’s another way that state-owned assets are stripped away that causes much bigger losses, but receives much less attention. Scholars call this "systematic loss" (体制性流失), referring to assets being poorly managed because of the overall system. This includes reasons like poor accountability, perverse incentives and a lack of competition.

Systematic loss isn’t new. During the massive restructuring of state-owned enterprises more than a decade ago, there was much discussion about how to balance the two kinds of loss. Transactional loss could be addressed through better supervision mechanisms, but it’s difficult to avoid systematic loss if the entire system isn’t changed.
I've written before about the end of the reform process in 2005. There were plans to allow foreigners into the A-share market, with the main goal that a foreign presence would force market discipline on the state-run sector. The insiders did not want to have their power restricted and when they saw their opening, they put the kibosh on the reforms.

But systematic loss can’t simply be accounted for by macroeconomic factors. The assets of COEs together total over 30 trillion yuan. According to a conservative estimate by a source from SASAC, the inefficiently used assetsheld by these COEs account for about 1 percent of that, or at least 300 billion yuan.

These funds have gone to waste for years, yielding less than the interest on a bank deposit. Production equipment that some COEs have spent big on has been sitting idle and generating no economic output whatsoever. But these kinds of losses are difficult to discover and quantify. And unlike corruption and other transactional losses, it’s hard to figure out who’s to blame.
300 billion yuan is a very low ball figure. The number is probably a few times that today, although that is still a relatively small number against the entire Chinese economy. However, capital goods seemingly productive today will become unproductive if the economy slows or sinks into a full blown recession. A stress test of those assets would likely come back with a much higher figure.

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