Policy-induced Distortions: The Open-effective Institutional Factors

This thesis applies the western distortion theory to systematically analyze the effects on the benefit of opening up induced by the region-oriented development system in China.Although the distortion theory derives from the analysis on the general market economy, it is also suitable to analyze the distortion caused by the incentive foreign capital and trade policy adopted in the process of opening up to the outside world. In transition economies like China, besides distortions in the general market economy, there is a system inherent distortion due to transition from planned economy to market economy, which is the main root of the above policy imposed distortion. Therefore, the developing countries need not only eliminate the distortions in the micro-area, but probe into and rectify those in the middle- and macro-area from new angles, say system transition, where the western distortion theory says nothing.First, it needs to clarify that the region-oriented development system has played a positive role in stimulating the local authority's enthusiasm for developing the economy and promoting the local economic development. For example, the local authority facilitates foreign trade and foreign investment through preferential policy, which has eliminated the capital bottleneck in the early period of reform and opening-up and has contributed to the fast growth of the economy in China. In addition, the policy imposed distortion has played an important role in breaking the traditional planned economic system and setting up the market economic system. The inter-regional competition has not only accelerated the economic growth, but also created several energetic regional development patterns, e.g. the Changjiang River Delta pattern and the Pearl River Delta pattern. The institution innovation path is consistent with the Schumpeterian notion of"creative destruction". Essentially, the mechanism is to use an opening-up policy to replace the planned economy policy, where the former has less resulting distortions while the latter has more, so as to optimize the allocation of resources and stimulate economic growth.Nevertheless, along with the development of opening up to the outside and the fast growth of the economy, China has already overcome the capital bottleneck. Therefore, the production and factors distortion, caused by extremely preferential policy of foreign trade and investment, not only leads to national wealth outflow, but also puts domestic capital in an environment inferior to that of foreign capital. It then leads to the"crowding out effect"on native capital by foreign capital, and causes the native capital to show a low end locking tendency in the value chain as well as a decline of innovative capacity. Therefore, the so-called export comparative advantage is based on low cost due to price distortion, which is unreal and unsustainable.It seems that the root of the policy-imposed distortion is inter-regional malignant competition, but this competition actually derives from the region-oriented development system. Therefore, the region-oriented development system has produced the following characteristics of the policy-imposed distortion. First, the decentralized public finance system and the appraisal system of achievements under the region-oriented development system make local government personnel pursue high tax income and achievements in their post, with the core of high GDP growth rates and including other non-economic targets, for example, employment rates and city construction. The resulting policy-imposed distortion makes local government take on the tendency of"corporationalization". Second, the offside, vacancy and dislocation of local governments, of which examples include attraction of foreign capital in place of enterprises, inadequate supervision over foreign capital, and"free-ride"actions in supply of inter-regional public goods, has made the policy-imposed distortion take on the characteristic of"malfunction of local governments". Third, during the reforming process, reform in some fields like production factors market and financial market lags far behind, which has intensified some phenomena such as production factors distortion and has characterized the policy-imposed distortion with the feature of"non-market"and transition. Fourth, under the region-oriented development system, local governments are at a disadvantage in negotiations with foreign monopolistic powers, which has made the policy-imposed distortion possess the feature of"non-autonomy"owing to outside interference.In the view of opening-up benefit, the policy-imposed distortion not only leads to wealth outflow, but to unbalance of the macro-economy, e.g. the expansion of inter-regional gaps and"double favorable balances", which has reduced the opening-up benefit to a certain degree.According to the Specific Rule in the distortion theory, whose function is to eliminate distortions, the policy suggestions are straightforward. First, the central government should struggle to perfect the decentralized public finance system and change the appraisal system of achievements during one's post, that is to perfect the incentive mechanism of the region-oriented development system. Second, local governments'functions must be transformed. For the present period, they should be transformed into stricter supervision functions and to promote the scientifically decision-making capability. Third, the authorities should restrict local governments'malignant competition by adjusting the preferential policy towards foreign capital and foreign trade, so as to enhance the quality of foreign capital and make different regional economies develop harmoniously through the application of diversified preferential policies for different regions. Fourth, the competitive advantage should be fostered.In the present globalization period, it is the rare factors in different countries that determine their shares of total profit in the world. Those countries who hold more rare factors will gain competitive advantage and more profit. For developing countries, although opening up to the outside is a short cut to attract rare factors, like advanced technology and management methods, the prerequisite is the increase of their absorption abilities, which can be realized not by opening up to the outside, but by studious accumulation in the home country. According to the distortion theory, the target of fostering home country's rare factors can be realized by selective distortion, and consequently the home country's competitive advantage can be established.