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Why China's economic reforms differ: the M-form hierarchy and entry/expansion of the non-state sector, by Yinggyi Qian and Chenggang Xu 1993

What makes China’s reform, started from 1979, successful? Why they are different from those of Eastern Europe and the Soviet Union? In their paper Why China's economic reforms differ: the M-form hierarchy and entry/expansion of the non-state sector (Economics of Transition, 1993 citation 648), Qian and Xu proposed the “M-Form Economy” theory and argued that it is the essential reason. In this blog, I focus more on the part about China (M-form), the counterpart analysis about Eastern Europe and the Soviet Union (U-form) can be found in the paper.

Originated in Chandler (1966) – Williamson (1975) “M-Form” and “U-form” firm theory, the authors contract China’s multi-layer-multi-regional hierarchical economy based on territorial principle (the deep M-form, or briefly, the M-form) with Eastern Europe and the Soviet Union’s unitary hierarchical structure based on functional or specialization principles (the U-form). Under the M-form organization in China, interdependence between regional economies is not as strong as that of the U-form organization in Eastern Europe and the Soviet Union, because each region is relatively "self-contained”. Unlike in Eastern Europe and the Soviet Union, a large number of state-owned enterprises were subordinated under the regional governments even before the economic reforms. This provides a flexible environment for experiments and hence for institutional changes.

Self-contained  Regions are self-sufficient in terms of functions and supplies in production. The commune system in the rural area between 1958 and 1984 provides a good example. Far from having specialization and division of labor, a commune encompassed all kinds of activities of industry, agriculture, commerce, education, entertainment and even military ("people's militia").
Regional governments ownership  There was a large number of state-owned industrial enterprises controlled by the local government, even before the reform.  This is true for light industries, as well as for heavy industries. A natural outcome is that the scale of an enterprise was small, and industries were less concentrated.
Experiments  Experiments are carried out successfully in China but not elsewhere. One major feature of the Chinese reform is its success in using local experiments and in adopting the “bottom-up” approach. Under the M-form economy, regional experiments can be carried out in a less costly way because the disruptive effect to the rest of the economy is minimal. A successful experiment in one region also has greater relevancy to other regions since adjacent regions are similar.

Reforms have further decentralized the M-form economy along regional lines, with both increased authority and incentives for regional governments. Constraints on local government were gradually removed and the bottom level regional governments gained substantial autonomy. The enterprises they established are market oriented. Furthermore, competition between regions puts pressure on the local governments on growth and their limited access to bank credits maintains discipline on their behavior. In fact, the substantial entry and expansion occurred not because of an intentional design of a reform program from the central government; to the contrary, it came largely from the local initiatives.

There are several reasons for the M-form structure in Chinese economy, from historical, technological, political, military and culture aspects. But one important reason is that it was actually Mao’s initiative.
Toward the end of the first five year plan, Mao increasingly dissatisfied with the over-centralization and bureaucratization in the Soviet model.  In his famous 1956 speech on the ten major relationships, Mao discussed the relationship between the central and the local governments and advocated the ideas of "mobilizing two initiatives of both central and local governments" (diaodong zhongyang he difang liangge jijixing ) and "walking on two feet" ( liangtiaotui zoulu ), the latter referring to development of both central and local industries. These ideas later became official government policies and were implemented subsequently.

Chandler, A. Jr., Strategy and Structure, New York: Doubleday & Company, Inc., 1966.
Williamson, O.  Markets and Hierarchies, New York: Free Press, 1975. 
Qian, Yingyi and Chenggang Xu, Why China's economic reforms differ: the M-form hierarchy and entry/expansion of the non-state sector, Economics of Transition, 1993.


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