A rational path towards a Pareto optimum for reforms of large state-owned enterprise in China, past, present and future

Since Deng Xiaoping’s historic move towards a market economy in post-Mao China during the 1980s, by far, the most challenging task in China’s reforms has been that related to the moribund state-owned sector due to a range of ideological, political, as well as economic reasons. Such reforms have so far been slow and hesitant, moving forward and backward with mixed results. This paper tackles the pros and cons of such reforms and aims to square a rational strategy based on what has been done so far in the state sector. Unlike a narrow approach currently prevailing in the literature, this paper establishes a partial equilibrium model which incorporates the principal-agent problem into a mixed oligopoly model to explore an optimal strategy for state-owned enterprise reforms in China. We argue that ceteris paribus the current illnesses of low efficiency and rent-seeking commonly suffered by China’s state-owned sector can be cured by a two-pronged strategy in which the importance of property rights holds the key. We have identified two ‘Coase Property Right Points’ in the commonly known choices of institutional changes in a reforming Soviet economy to firstly, make it more efficient, and then Pareto optimal. One institutional change is a ‘joint-stock reform’; the other, a ‘full privatisation reform’. In particular, this study regards ‘social-extra policy burdens’ as the main obstacle to improve much needed efficiency in the state sector. Coase Property Right Points show the necessity for a reduction of the social-extra policy burdens vis-à-vis the state sector’s true comparative advantage