Capitalizing China

Capitalizing China

by Joseph P. H. Fan, Randall Morck

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ISBN-13: 9780226237268
Publisher: University of Chicago Press
Publication date: 11/23/2012
Series: National Bureau of Economic Research Conference Report
Sold by: Barnes & Noble
Format: NOOK Book
Pages: 368
File size: 21 MB
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About the Author

Joseph P. H. Fan is professor in the Department of Finance, codirector of the Institute of Economics and Finance, and deputy director of the Center for Institutions and Governance at the Chinese University of Hong Kong. Randall Morck is the Stephen A. Jarislowsky Distinguished Chair in Finance and University Professor at the University of Alberta Business School and a research associate of the NBER.

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Capitalizing China

The University of Chicago Press

Copyright © 2013 National Bureau of Economic Research
All right reserved.

ISBN: 978-0-226-23724-4

Chapter One

The Governance of China's Finance

Katharina Pistor

1.1 Introduction

This chapter discusses the governance of China's finances. It starts from two basic premises: first, that governance of finance can take multiple forms; and second, that the adoption of governance techniques that are common elsewhere does not necessarily imply that they will replace alternative modes of governance already in existence or designed to complement such techniques. Instead, adopting widely accepted governance techniques may serve to signal compliance but disguise the real allocation of control rights and their usage. Distinguishing between real and nominal governance requires closer inspection of governance regimes that transcends formal checklists, and instead probes more deeply into the configuration of power and influence and the channels through which such power is exercised.

This contribution suggests that China has largely mimicked formal governance regimes common in Western market economies. However, this regime remains largely incomplete as control rights that flow from equity positions are partitioned among different stakeholders. The chapter therefore explores an alternate mode of governing finance, namely human resource management (HRM), which uses control rights over the career path of top-level financial cadres. The importance of HRM for governing China's economy, including its financial system, is well understood within China. Outsiders, however, are more focused on governance structures that resemble those they are familiar with. Therefore, these are the primary addressees of this contribution. To document the extent of HRM in China's system of financial governance, this chapter makes use of a newly created database of current and previous top-level administrators and board members in key financial organizations to suggest that their career path through China's financial system is far from random; instead, financial cadres tend to be extensively groomed at different financial organizations within the state apparatus before they were appointed to financial intermediaries with greater formal autonomy, such as commercial banks. Based on secondary sources the chapter asserts that HRM is conducted by China's Communist Party (CCP) and that its reach and sophistication has increased rather than decreased over time. Indeed, one could argue that HRM has become a substitute to direct state control, which was still pervasive in China until the end of the 1990s, and a complement to the new rule-based formal mechanisms of control. The CCP's control over HR management intensified as the state apparatus loosened its direct control over the financial system, separated out different regulatory functions from the central bank's unitary system of control, and sold important stakes in formerly state-owned banks to nonstate, including foreign, investors. The HRM appears to work effectively for China's domestic system as a means for maintaining control over and stabilizing the financial system. Yet, it remains to be seen how effective it can be employed for governing China's exposure to global finance.

The chapter is organized as follows. Section 1.2 describes the formal changes in China's financial system over the past decade and asks whether the system of controls thus established has given rise to a coherent governance regime. Section 1.3 describes an alternate governance regime, one that relies less on formal mechanisms of control and instead uses controls over the careers of individuals who serve in the financial system, both in government agencies and in prominent financial intermediaries. It uses secondary sources to sketch the evolution of this system over the same period during which China introduced legal and regulatory means of governance. This evidence suggests that it would be wrong to assume that the withering away of direct state control of China's finances has set the country on a path toward convergence with standard formal governance regimes found in the West. Against this background section 1.4 presents data on patterns of China's human resource allocation within China's financial system. The data are comprised of information on 155 persons who occupy positions as top administrators at regulatory agencies, including China's central bank, as well as positions on the management or supervisory boards of major financial intermediaries. The chapter employs simple network analysis to show that most of these office holders either occupy important positions at other financial organizations concurrently or have held such positions prior to their current one. The pattern of affiliation that emerges from these personal ties differs from the pattern of hierarchical control rights that follows from the formal lines of authority. Network analysis reveals the centrality of organizations and individuals within China's HRM governance regime. However, our data also suggest that the number of people occupying management or supervisory board seats at major financial intermediaries relative to nonaffiliate board members is declining at intermediaries with more diversified ownership structures and greater exposure to global markets. This raises the question whether China will be able to rely on HRM as a key component for governing its financial system as more entities diversify globally—a topic that will be discussed in section 1.5. Section 1.6 places China's governance of finance in comparative perspective by drawing parallels, but also distinctions, to France and Japan. Section 1.7 concludes with some normative considerations about this particular regime of financial governance.

1.2 The Formalization of China's Financial System

China has been widely criticized for postponing reforms of its financial sector until well into the late 1990s—with some observers arguing that this failure might derail the success of China's economic reform project (Lardy 2002). However, over the past decade China has made major strides in overhauling its financial system. Today the financial sector's formal governance regime resembles in many aspects that found in developed Western market economies and can be described in conventional functional terms as follows: the Peoples' Bank of China (PBOC), China's central bank, is charged with monetary and exchange rate policies. Several new regulatory agencies were established, such as the China Banking Regulatory Commission (CBRC), which exercises oversight over China's banking sector; the China Securities Regulatory Commission (CSRC), which overseas stock exchanges and regulates the issuance and trading of securities on these changes; and the China Insurance Regulatory Commission (CIRC), which overseas the insurance sector. Formally, the PBOC and the three major regulators are subordinate to the State Council, the country's executive with the top officers at each of these entities having vice-ministerial status in China's bureaucratic hierarchy. As elsewhere, a single bank can simultaneously be subject to oversight by more than one regulatory agency: the PBOC window guidance policy, the CBRC for prudential supervision, and the CSRC's enforcement of securities regulations. China instituted these changes before the problems of a functional division of labor among different financial regulators became apparent in the context of the global crisis. Notably, China had an intensive debate about whether carving out functional regulators from the unitary structure of the PBOC was the right way to go before CBRC was established in 2003, or whether it would be preferable to retain consolidated oversight and control over the financial system. In fact, PBOC has continued to be involved in key areas of banking supervision, not the least the preparation of BOC, CCB, and ICBC for their initial public offerings in 2005 and 2006 (ACFB 2007)—and presumably in other strategic decisions as well.

China has also begun an ownership transformation of the largest banks in the country, including three of the "big four" (ABC, BOC, CCB, and ICBC) as well as of other banks, such as the Bank of Communications (BComm), and China Development Bank (CDB). Cumulatively these banks control about 70 percent of China's bank assets (ACFB 2007). However, none of these banks have been fully transferred to private ownership. Table 1.1 details the stakes held by the five largest owners of those banks that are publicly traded and for which, therefore, ownership data are publicly available. Consistent with the capital structure of these banks, equity stakes are designated as A or H shares indicating whether they are traded on the Hong Kong Stock Exchange (H shares) or on one of the major domestic exchanges (A shares).

As can be seen, government ownership is fairly centralized in the hands of Central Hui Jin Investment Ltd. (hereinafter Hui Jin) and the Ministry of Finance (MoF) as the largest blockholders. Hui Jin and MoF are by no means the only state entities with substantial ownership stakes. Others include the National Council of the Social Social Security Fund (NCSSF), which holds as much as 15.3 percent in H shares in ICBC. Moreover, several state-owned enterprises hold sizable stakes in these companies.

The role of more than one state or state-controlled entities as the dominant owner of China's banks is noteworthy, because their coexistence obfuscates the state's use of ownership as a means of controlling them. For wholly state-owned enterprises in the nonfinancial sector the new Law on State Owned Assets (SOA Law) resolves the potential conflict among several state-controlled entities in the exercise of ownership rights, such as the election of management and supervisory board members by delegating this task to a single agent: the State-owned Asset Supervision and Administration Commission (SASAC). However, this law does not apply to financial companies. Instead, for the financial sector China has invented a new version of the famous separation of ownership and control first described by Berle and Means (1932); namely, the separation of the right to appoint the officers and board members of financial intermediaries from the economic costs and benefits associated with holding shares in such entities.

For purposes of illustration, take the example of Hui Jin, which next to the Ministry of Finance is the most important shareholder of China's dominant banks. Hui Jin was established in 2003 as a subsidiary of the State Administration for Foreign Exchange (SAFE), which in turn is an administrative agency subordinate to the PBOC. Hui Jin was authorized by the State Council—that is, by China's executive—to make "equity investments in major state-owned financial enterprises, and ..., to the extent of its capital contribution, [to] exercise the rights and perform the obligations as an investor on behalf of the State in accordance with applicable laws." In 2007, Hui Jin, which is organized as a limited liability company, became a wholly owned subsidiary of China Investment Corporation (CIC), China's newly established sovereign wealth fund. To this end, MoF issued special treasury bonds that were used to acquire Hui Jin from PBOC; subsequently Hui Jin was transferred to CIC for a price of US$70 billion; that is, almost one-third of CIC's initial capital of US$200 billion (Martin 2008). As the parent and sole shareholder of Hui Jin one would expect CIC to control the appointment of Hui Jin's management and supervisory board members. This, however, is not the case. Instead, Hui Jin's charter stipulates that the State Council exercises these rights—irrespective of the fact that the State Council never held any shares in Hui Jin and CIC is now its parent.

This separation of control rights from ownership suggests that ownership is not conclusive in determining who actually exercises control rights over a state-owned entity. Indeed, even the contents of Hui Jin's charter is misleading in this regard, because ultimately the CCP appoints top officials to financial entities—including regulators, wholly and partially state-owned entities. The CCP's powers are not mentioned in Hui Jin's or any of the banks' charters; however, neither would it be appropriate to relegate them to "informal" means of control. Within China the CCP continues to be recognized as an integral part of a dualistic power structure, with the state apparatus and the CCP forming two separate yet interlinked hierarchies that use different mechanisms of control (Naughton 2008). Whereas the state is associated with control rights exercised by way of ownership and administrative lines of control, the CCP controls the career paths of individuals in the party, the state, and in organizations that are critical to the party or the state (Huang 1996; Shih 2008).

1.3 China's Other Governance Regime: The CCP's Human Resource Management

A critical component of financial governance in China is the CCP's management of human resource. The CCP controls key positions in government, administration, and government-controlled sectors in the economy. This function has evolved over time and has been exercised via different channels. Critically, and perhaps counterintuitively, given China's economic rise and embrace of market mechanisms in many aspects of economic organization, it has not diminished in recent time. Indeed, the CCP's power of the financial sector by way of HRM seems to have increased arguably as a way of ensuring continued control over finance given its central role to economic, social, and political stability.

The role of the CCP in controlling key personnel is well established; in an attempt to bolster its legitimacy in China's evolving governance structure, the CCP has made some of its operations more transparent and has promulgated a set of "Regulations on Selection and Appointment of Party and Government Leading Cadres" (Bo 2004; Burns 1994). These regulations are not published, but are widely circulated among administrators and managers in government, and in practice they operate as binding rules. Neither the corporate law nor the charters of the major banks refer to these rules. Nonetheless, the CCP rules explicitly state that the CCP selects and appoints the chairman, vice-chairmen, president and vice presidents of the Bank of China and the equivalent positions at the other banks, as well as top management at CIC, China's sovereign wealth fund (established in 2007).

In order to understand the importance of CCP's HRM as a means of governing China's finance it is useful to analyze how the CCP's governance of human resources has coevolved with the formal changes in China's financial system just described. At the end of 1998 the basic governance structure of China's finances had not changed much from 1980 (Shih 2008). Consistent with the coexistence of state and party structures linked by the general oversight of the Standing Committee of the Politburo, state and party governance formed two partly overlapping vertical governance regimes: the State Council formally controlled the PBOC, which in turn controlled the four state banks; they in turn oversaw their own. There were no specialized regulators so that the PBOC acted as lender, regulator, and de facto owner in one. Parallel to this structure, the CCP imposed its own control mechanism in the form of Central Discipline and Inspection Commission (CDIC), which was subordinate to the Central Committee. It gained control over staffing the members of the disciplinary party committees found at each of the state-owned banks; local party committees exercised similar powers over local branches of the major banks. In addition to disciplinary supervision, the CCP appointed the PBOC's key management personnel and the PBOC in turn appointed the leadership at the major banks (Shih 2008).

This structure optimized centralized control of the CCP but did not easily accommodate a more differentiated division of labor among various functional regulators (such as the CBRC), which were established in China over the past decade; nor could it easily fit an ownership structure that included nonstate owners, including foreign investors. The latter was deemed important for China to comply with the opening of financial services under the General Agreement on Trade in Services (GATS), but also to impose greater financial discipline on the banks and expose them to foreign expertise (Allen 2005; Leigh and Podpiera 2006).

The East Asian financial crisis served as a wake-up call to those concerned with the governance of finance around the world, including politicians and party leaders in China. China was not directly affected by the crisis, because it had insulated itself from global markets by capital controls, tight exchange rate management, and a state-controlled financial system. Nonetheless, leaders in China quickly recognized the risk of financial destabilization to the Chinese economy and by implication, to the stability of the political regime, and sought to address these concerns at the same time as they were embarking on reforming the financial system, which had seriously lagged behind institutional and governance reforms (Lardy 2002).


Excerpted from Capitalizing China Copyright © 2013 by National Bureau of Economic Research. Excerpted by permission of The University of Chicago Press. All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
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Table of Contents

Acknowledgments Translating Market Socialism with Chinese Characteristics into Sustained Prosperity
Joseph P. H. Fan, Randall Morck, and Bernard Yeung

I. Financial System and Its Governance

1. The Governance of China's Finance
Katharina Pistor
Comment: Zheng Song 2. China’s Financial System: Opportunities and Challenges 
Franklin Allen, Jun “QJ” Qian, Chenying Zhang, and Mengxin Zhao
Comment: Chenggang Xu
II. Governance of Stock Markets

3. Assessing China's Top-Down Securities Markets 
William T. Allen and Han Shen
Comment: Qiao Liu 4. Institutions and Information Environment of Chinese Listed Firms
Joseph D. Piotroski and T. J. Wong
Comment: Li Jin
III. Capital Accumulation

5. Why Are Saving Rates So High in China?
Dennis Tao Yang, Junsen Zhang, and Shaojie Zhou
Comment: Leslie Young 6. The Chinese Corporate Savings Puzzle: A Firm-Level Cross-Country Perspective
Tamim Bayoumi, Hui Tong, and Shang-Jin Wei
Comment: Ning Zhu
IV. Public Finance

7. Financial Strategies for Nation Building
Zhiwu Chen   
Comment: Jiahua Che 8. Provincial and Local Governments in China: Fiscal Institutions and Government Behavior
Roger H. Gordon and Wei Li
Comment: Zhigang Li
Contributors Author Index Subject Index

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Capitalizing China 5 out of 5 based on 0 ratings. 2 reviews.
Anonymous More than 1 year ago
Lol Glimmer turnee them into trees! Fluttershy would be jeslous since she said shed like to be a tree in one of the episodes! Whos Crystals dad? Is it Spike? I really do hope so.
Anonymous More than 1 year ago
Northern Spark leapt over Meadow Lark, then Crystal, Apple Harvest, Buttercream, and finally, Glimmer Wave. <br> "I made it!" She exclaimed. "Show us what you've got, Meadow Lark!" <br> "Sure!" Meadow Lark replied. She hopped over Crystal with a bit of an effort, but she did better jumping over Apple Harvest, Buttercream, and Glimmer Wave. When she jumped over Northern Spark, she flitted her wings, to no avail, and tumbled onto the grass. <br> "Are you okay?" Buttercream asked from her place in the line. Meadow Lark stood and dusted herself off. <br> "Couldn't be better!" She replied cheerily. <br> "Then it's my turn," Crystal announced. She twirled over the fillies in front of her like a professional ballerina. Finally, she landed in front of Meadow Lark. Rarity, Twilight, Pinkie Pie, Meadow Lark, Buttercream, Glimmer Wave, and Apple Harvest clapped. Northern Spark was unimpressed. <br> Apple Harvest did hoof-springs like a true rodeo pony. <br> Buttercream's turn was over in a snap. She easily bounced over every pony, including the parents. <br> "I love bouncing!" Pinkie cheered. Finally, it was Glimmer Wave's turn. She hopped over Northern Spark, Meadow Lark, Crystal, Apple Harvest, and Buttercream. Everpony cheered as she finished. <br> "Alright girls," Applejack announced. "We're gonna have the picnic now." <br> "I love food!" Buttercream cheered, hopping over to Pinkie Pie. "What are we having?" <br> "Hay Spice Soup," Twilight announced, pouring the steaming soup into twelve bowls. <br> "I love that stuff!" Apple Harvest exclaimed, taking a spoonful. "Aunt Apple Bloom makes it whenever there's a big party. She always lets me lick the pot." Applejack's face went funny. <br> "Do I need to have a word with your Aunt?" She asked suspiciously. Apple Harvest was saved by the arrival of Soarin. <br> "Hi, Dashie," he exclaimed, giving her a quick peck on the cheek and picking up Northern Spark. "How's everything going?" <br> "Great!" Rainbow replied. "We were just about to eat. Spitfire really let you go?" <br> "Fleetfoot convinced her she didn't need me helping with cadet training," Soarin responded, taking a bowl of soup. "With her attitude, she could run Cloudsdale with her eyes closed!" The couple laughed. Crystal scooted closer to Northern Spark. <br> "You're lucky you see your dad a lot," she whispered in the pegasus's ear. "My dad has lots of buisness stuff to do in Baltimare and I haven't seen him in months." <br> "I'm sorry," Northern whispered sympathetically. "Maybe he'll come home soon." Crystal didn't looked convinced. <br> Apple Harvest was the first to finish her soup. <br> "More please!" She thrust the bowl in front of her. <br> "Coming right up," Twilight began pouring sme more, an crie out, "GLIMMER!" The young unicorn's eyes were blazing white. And the next instant, Northern Spark and Crystal were palm trees. <br> "SHE'S HAING A SURGE!"