Empire of the state

Ten years ago, state-owned enterprises (SOEs) were an enormous burden on China’s government. Most were losing money or just marginally profitable. Beijing vowed to turn them into profit-making businesses within three years, laying off thousands of workers and closing loss-making operations.

The efforts largely paid off. While some SOEs continue to struggle, others have become star performers. In 2007, SOEs earned a record profit of US$243 billion, and their total assets soared to US$4.95 trillion.

Dominant players

But it can also be argued that this profit has been earned at the expense of the private sector. Backed by favorable state polices and easy access to capital, SOEs have carved out positions of dominance in key industries ranging from telecommunications to transportation and utilities to finance. 

The new Anti-Monopoly Law is designed to end this kind of dominance. But the way in which the law allows the government to protect certain companies at its discretion speaks volumes for how SOEs have worked to remain at the top of the pile.

"There’s no clear definition for the so-called ‘lifelines of national economy and national security’ in the Anti-Monopoly Law," said Li Shuguang, a professor at China University of Political Science and Law in Beijing. "This has effectively exempted SOEs from the monopolization list."

Li believes that any company that controls more than 20% of a certain market should come under scrutiny, regardless of its ownership.

Meanwhile, private enterprises, which contributed 60% of China’s GDP in 2006, are losing ground. According to Han Kang, vice director of the China National School of Administration, a training center for government officials run by the State Council, assets held by SOEs are now twice the size of privately held ones.

"To ensure a healthy market environment, the government should act to break the monopolization of SOEs, except for some vital areas, and allow private enterprises more room to maneuver," said Han.

He says the gap will widen should the government fail to intervene.

However, the monetary tightening measures of the last 18 months have pushed many private enterprises into more difficult positions.

Export-oriented companies are being squeezed at both ends of the business cycle, with higher operating costs and falling sales revenues. At a time when they need extra capital, these companies are shunned by banks, which prefer to lend to SOEs.

In Zhejiang province, where the private sector thrives, many enterprises have been forced to turn to illegal private financing, where the lending rate can reach as high as 20%.

"Since 2003, the government has adopted several rounds of macro-control policies. SOEs are always the winners during such periods because they can get cheaper loans from banks," said Han. "Small and medium-sized private enterprises are normally the first firms that fail because of lack of liquidity or other problems."

The metals sector is often one of the first and hardest hit during a period of macroeconomic cooling. Government measures tend to target China’s volatile property market, which leads to a reduction in demand for construction materials. According to Liu Xiabo, an independent business analyst, many private operators have tried to challenge SOE metals monopolies only to get caught on the wrong side of a macro policy shift.

Jiangsu-based steel maker Tie Ben ceased production in 2004, leaving US$1.4 billion in equipment to stand idle. Around the same time, Shanghai-listed Baosteel, the largest state-owned steel maker, entered a US$949 million joint-venture project.

Also in 2004, East Hope Group, a company owned by entrepreneur Liu Yongxing, spent US$2.9 billion on  aluminum projects in a bid to break Aluminum Corp of China’s (Chinalco) hegemony. Chinalco responded with a round of aggressive domestic acquisitions, effectively pushing East Hope to the margins of the industry.

At present, SOEs account for over 80% of the revenues and profits at China’s top 500 enterprises. The profit of the 100 leading private operators is only about one-tenth that of the 149 centrally administrated SOEs.

Li Rongrong, chairman of the State-owned Assets Supervision and Administration Commission (SASAC), has pledged to push ahead with reform and reduce the number of SOEs to 100 or less by 2010.

But this hasn’t silenced the critics.

"If you view reducing the number of centrally administrated SOEs as a benchmark for SOE reforms, you might be wrong," said Chen Zhiwu, a professor of finance at Yale University’s School of Management. "What matters more is the asset volume." 

Skilled lobbyists

Vested-interest groups, including employees and executives of SOEs, are eager to hold on to the rewards that have come with the SOE dominance.

According to local media reports, state monopolies in electricity, telecommunications, petroleum, finance and tobacco employ about 8.3 million people, close to 8% of China’s total urban workforce. But this 8% accounts for 55% of the country’s total payroll. The average salary of employees at state-owned monopolies is more than 14 times the country’s average.

According to Liu, the independent business analyst, SOE lobby groups now wield an unhealthy degree of influence over government policy.

"Some scholars claim that the current economic policies have been kidnapped by these vested-interest groups," said Liu. "This is a very dangerous trend. Private companies have no way of competing in such an environment."