The Economics of Mao’s China
Planning and Markets
Michael Smitka
Washington & Lee University
Economics 286, Spring 2001
Overview
• Logic of Formal Planning
• Problems and politics of planning
• Topics for later in term (or from texts from
previous terms)
• Price Reform
– Agriculture First
– Dual Track System
• Jean Oi and World Bank 2020
– Rural Success
– Looming crisis
Logic of Formal Planning
• Genesis
– USSR outperformed the US 1930-1950
– KMT (Chiang Kai-shek) was trained in
Moscow, had already nationalized industry!
• Materials Balance
– Calculate inputs needed to obtain target output
– Iterate to get consistent & feasible plan
– Update on an annual and then a 5-year basis
Contrasts of plan and market
• Role of Markets
– Emphasis is on physical quantities - prices are
largely irrelevant
– Markets discouraged except for discretionary
consumer goods
• Role of Money (What is “money”?)
– Unit of account but
– Not means of exchange
– Thus not a store of value
Problems of Formal Planning
• Incentives:
– Labor mobility is discouraged
– Career is thus within the firm / bureaucratic
• Bureaucratic Games: budgeting
– Ratchet effect: success doesn’t pay
– Micawber effect: but don’t fail, either!
The Economics of Scarcity
• Budget constraints are “soft”
– Micawber effect again: hoard goods!
– Firm structure also reflects
• Vertical integration
• Exacerbated in China by local autonomy
• Ditto due to local self-sufficiency ethos
• True of China also?
– Much less articulated economic structure
– Constraints on size of urban sector
Kornai: bureaucratic games pervasive
• Excess demand is thus pervasive
– Hence “fixers” are needed to get goods
– Also inefficient firms are allocated
comparatively more resources, not penalized!
• Planners know this
– Use of “taut” budgets / hard-to-achieve targets
– Tolerance of high inventory levels
– Experience and competence make a big
difference (as in any business context!)
Input-Output Planning
• Planners gain technical knowledge, esp.
within their sector / ministry
• Hence they can predict inputs needed to
gain desired outputs
• But aggregation issues: an increase in steel
targets shifts ore demand and railroad needs
and hence steel demand
• Maintaining consistency - material balances
- is a real challenge
Matrix Algebra
• The final equation lets one check for
consistency
• But it also permits optimization
– Convert to an inequality
– This defines a convex set and the system thus
has a clear maximum
– Linear programming permits solutions
• Optimization however has numeric limits
– In the sophisticated USSR, only 1000 goods...
Formal Procedures
• Mathematical models help - and in Russia
were used
• Each industry is a row in a matrix, with
inputs needed per unit of output
• Matrix algebra then makes it easy to
calculate total needs and check for
consistency
• Input-output analysis permits optimization
Planning in Action
• Technical Change and Coordination
– Vertical structure:
• Change requires getting different Ministries to agree
• Few rewards for improving a good
– Bias towards large projects
– Easier to expand than to change
• Diminishing returns set in quickly
– Economic development relies on investment, not
productivity
– Bias toward heavy industry and tangible goods over
consumer goods and services
Planning is Inexact
• Fragility: Plans are never perfect
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Annual cycle does not guarantee timely inputs
Mistakes are amplified / cascade to other firms
Hoarding is necessary
Hence “fixers” are necessary, even desirable!
What is “corruption”??
• Disaggregation
• Even with supercomputers, only 10,000 goods
• System must grant discretion to operating level
Planning is Political
• Bureaucrats decide goals, not consumers
– Emphasis on what is tangible
• Guns and tanks are good
• Consumer goods are bad
• Services (especially merchants) are parasitic
– Emphasis on big over small - easier to manage
Planning games, continued
• Bureaucrats: power!
– Nomenklatura
– Infighting has huge social & economic impact
• Great Leap Forward & Cultural Revolution ...
• “Taut” plans can backfire
– Ambitious targets counter political games
– But infeasible targets generate chaos
• Hence an investment and inventory driven business
cycle! -- instability just like in market systems?
Reforms
• “Big Bang” versus “Gradualism”
– Partly political imperative in CSIS
• Political reform came first
• No ability to wait or control economic reform
– Planning system collapsed with no coordinating
institutions (markets!) to replace it
• In China, markets developed first
– Reforms to economics institutions followed
– Only now are political reforms underway
Genesis of Reforms
• Initial post-Mao policies had focused on
lots of big-ticket projects, as in the USSR
• To speed up growth, these were to use
foreign technology
• How to finance? –– export oil!
• But oil prices fell…..and the fell further
• End result: crisis
China versus USSR
— Further Comparisons —
• In Russia, large state-run enterprises
dominated the economy
– Agriculture was less important
– Planning was far-reaching & centralized
• In China, agriculture was central
– Industry & urban areas were less important
– Planning was decentralized
– Planning applied only to key commodities
End of this Section
• Subsequent slides examine:
– Reform process
– Issues from a book by Jean Oi used in previous
terms