PROMOTING RURAL INDUSTRIALIZATION IN MADHYA PRADESH

Transcription

1 PROMOTING RURAL INDUSTRIALIZATION IN MADHYA PRADESH Exploring the Chinese experience of rural industrialization July, 2012 Supported By India China Economic & Cultural Council Government of Madhya Pradesh Department of Panchayat & Rural Development Department of Social Justice

2 Government of Madhya Pradesh Department of Panchayat & Rural Development Department of Social Justice (Aruna Sharma) Message Madhya Pradesh (M.P.) is the heart of the Country with tremendous potential for development. A motley conglomerate of former princely states and tribal societies, dating back almost to pre-historic times, the present state had inherited its backwardness at the time of its birth on first November, its feudal character, its large size, its large population of socially and economically disadvantaged people and its poor social and physical infrastructure were some of the challenges the Governments face. The State has made considerable progress in the field of Agriculture and also in Industrial sector. Having agrarian economy, Madhya Pradesh has also posted an exceptionally high percent Agricultural growth, undeniably attributable to the well contemplated and committed efforts made by the State Government to make Agriculture an occupation of profit. The contribution of Industrial sector to GDP has witnessed tremendous growth in recent past. Rural Non-Farm sector in MP presents an interesting scenario with a tremendous potential for growth. There have been various efforts in the past for developing the sector with the objective to provide employment to the population of the state. The NABARD study suggests that there is need for adopting innovative measures and creative means for harnessing the non-farm sector potential in the state. The international experience and learning such as from China may help in this direction. I am happy that this study done by India China Economic and Cultural Council (ICEC) is a timely effort to bring to the table Chinese experience of rural development that had paved the way for China s phenomenal growth in the past few decades leading the country to the path of economic prosperity and more importantly, towards employment and development of its non farm sector in rural areas. I am sure that this study will provide useful insight and lessons for the state of MP and for India in general. 2 Dr. Aruna Sharma, Additional Chief Secretary, Panchayat and Rural Development Department, Govt. Of Madhya Pradesh Promoting Rural Industrialization In Madhya Pradesh

3 TABLE OF CONTENTS Abstract I. INTRODUCTION... 6 II. GROWTH PERFORMANCE AND DEVELOPMENT TRENDS IN INDIA-A RURAL INDUSTRIALIZATION PERSPECTIVE... 7 III. COMPARATIVE ASSESSMENT: TREND IN THE EXPANSION OF RURAL INDUSTRIALIZATION IN INDIA AND CHINA... 9 IV. THE CHINESE EXPERIMENT WITH RURAL INDUSTRIALIZATION Overview China s Township and Village Enterprises (TVEs) Legal Regulation on the Governance of TVEs Evolution, management and governance of TVEs...12 a) Evolution...12 b) Ownership structure Understanding the link between TVEs and Local government:...12 V. TVES: PERFORMANCE AND CONTRIBUTION IN PROMOTING ECONOMY AND RURAL INDUSTRIAL DEVELOPMENT TVEs Contribution to the Economy:...14 a) Exponential Output in terms of growth...14 b) Employment...14 c) Exports Distinguished characteristics and Reasons for the success of the TVEs...16 Small, flexible and market driven...16 Appropriate production technology...16 Distortions, market opportunities and rural saving...16 Low taxation...16 Decision making...16 Decentralization plus financial discipline...16 Kinship and implicit property rights...16 Links with the state enterprise sector...16 Market entry and competition...17 Dedication to human resources, innovation and quality...17 International orientation...17 Lower cost structure...17 VI. SUCCESS STORIES AND CASE STUDIES A) Case study of Whenzou Footwear Industry...18 B) Case Study of Fu Zhuo Village-Converting rural houses to family restaurants...20 C) Case Study 3: Che Village-The Non-Grain village...20 VII. BRIEF COMPARATIVE ASSESSMENT WITH INDIA-EXPLORING POTENTIAL FOR SYNERGIES AND LEARNING FROM CHINA S TVEs Appendix: Brief Historical evolution of TVEs India China Economic & Cultural Council

4 Abstract The dynamic rural nonfarm sector in China has been a major contributor to the country s remarkable growth, while in India, despite several attempts, the growth in output and employment in this sector has been rather stagnant. There is thus a need to understand the factors responsible in terms of planning, ownership, structuring, finance and institutional framework, technology infiltration at the decentralized level, especially in the context of Madhya Pradesh that has a substantial potential for rural industrialization in terms of its vast rural and tribal craftsmanship that exists among its people living in rural and Scheduled Areas of M.P. This study very briefly captures the Chinese experiment with rural industrialization and presents a snapshot of rural industrialization programs in India (as Annexure). The comparative assessment has been made keeping in mind the rural context of Madhya Pradesh. This exercise of presenting Chinese experiment of rural nonfarm economy highlights opportunities, and potential for learning from China on organizational restructuring, ownership pattern, finance and technological infiltration in rural areas of MP. 4 Promoting Rural Industrialization In Madhya Pradesh

5 I Introduction R ural industrialization means planned shifting of small scale industrial units from urban areas to rural areas, without disturbing the urban industrial structure. Rural Industrialization may assume different meaning in a different country or local context. It aims at overall development of an area as well as people living in such areas by alleviating them from rural poverty and creating employment opportunities in rural sphere. At present, in India, there is no centralized policy directive for rural industrialization. However, in , a National Program on Rural Industrialization (NPRD) was announced. In addition to NPRD, a number of Government sponsored programs like Khadi and village industries. Hand loom, sericulture, coir, IRDP, DPAP, PMRY, DRIP, DAAP, Artisan employment guarantee program are in vogue. These programs have different set of objectives, pattern of organization, and system of assistance. The focus of these schemes is either to develop industries or to develop target group but not to promote rural industrialization. The lack of coordination among the various poverty alleviation programs contributed least to the fight against poverty and unemployment in rural horizon. There is no coordination among these programs. This has affected concerted action in the implementation of rural industrialization program1. 1 Manon (2007) has observed in his article that too many schemes, too many government agencies dual governments, high leakage of financial assistants and role ambiguity made little impact on abject rural poverty and growing rural unemployment. A clear-cut policy for rural.industrialization is to be evolved which should address the likely pitfalls in the road to rural industrialization 5 India China Economic & Cultural Council

6 On the other hand Chinese experience with Rural Industrialization has presented as remarkable growth in the non farm sector, its Township and Village Enterprises (TVEs) being the key driver of growth and rural industrialization. The TVE lie at the heart of China s rural development. Impressive rural industrial growth has raised the income of the rural people and is therefore a powerful force in poverty reduction in China. It was realized in China, long back, that the agriculture sector alone is not sufficient for sustainable rural development. Besides a diversified agriculture, employment through rural industrialization is a sustainable and alternative solution to the eradication of poverty. The Chinese experience illustrates that rural industrialization can play a crucial role in (a) raising the income of rural people; (b) solving the unemployment problem of the countryside; (c) checking rural to urban migration; (d) supporting and enhancing the effectiveness of agriculture; (e) contributing to social sector development especially health and education; and (f) transforming the socio-economic environment of the countryside. 6 Promoting Rural Industrialization In Madhya Pradesh The growth and development of TVEs in China have undoubtedly attracted great attention from the world in general and developing countries in particular. It has also provided an example of replacing traditional industrialization strategy by a new way of industrialization. The conclusion that can be drawn is that the experience of one country might not apply in another country. However, the Chinese experience provides important lessons on innovation, geographical location, employment generation, and in the very significant role of local government for developing countries where industrialization has not been adequately diversified, therefore is pertinent for the state governments in India to understand this developmental model for rural industrialization in the country. In India, however the thought on rural industrialization existed since the first Five Year Plan period, as revealed by various planning and policy documents but the sector has not seen an encouraging trend either in generating employment opportunities or income of rural population in India. A brief summary of rural industrialization trends in presented below.

7 II Growth Performance and Development Trends in India A Rural Industrialization Perspective An assessment of all available government plan documents policies and industrial Resolutions reveals that the development of rural non farm sector in India has lagged behind. This has been explained with the help of statistics in the Tables given below. Table 1 below shows the slow and stagnant growth in the agriculture and allied non farm sector and its contribution in GDP has been the lowest, despite this sector constituting the majority of Indian working population.. With 70 per cent of the population living in the rural areas, a decline in the credit accounts and slow pace of increase in the deposit accounts needs to be reversed. Table 2: Percentage of People below Poverty Line, to : Official Estimates Year Rural Urban All India Source: Planning Commission, Government of India Table 1: Growth of GDP and Major Sectors (% per year) Year 1951/ / / / / / / / / / / / / /06 Agriculture and Allied Industry Services GDP GDP per capita Source: CSO. Note: Industry includes Construction. Table 2 shows the total percentage of people below poverty line. The data shows that till the year 2000, the total number of people below poverty line in rural areas is equivalent gross BPL population in the country. Table 3 shows the status of financial inclusiveness of the rural poor population in the country. It is evident from the table that there exists a rural-urban divide with respect to banking services in terms of usage also. And this divide has widened in the last decade. The number of deposit accounts (per 1000 persons) India China Economic & Cultural Council 7

8 increased from 322 in 1996 to 325 in 2006 in rural areas, whereas the comparable figures for urban areas was 699 in which increased to 724 in For credit accounts (per 1000 persons) there was a decline in the number of accounts during the period 1996 to 2006 (Table 3) Table 4 depicts the projections on share of working population with a comparison in other countries. It is observed that by 2050 India will have maximum number of working people between the age group of 15-59, consisting of substantial number of people living in Rural Areas. Table 3: Deposit and Loan accounts in Rural and Urban India (per 1000 persons) Table 4: Share of Working Population (15-59 yrs) Particulars Deposit accounts Credit accounts Rural Urban Source: RBI Basic Statistical Returns and Population Census, 2006 Country India China Japan US Western 61.7 Europe Source: 8 Promoting Rural Industrialization In Madhya Pradesh

9 III Comparative Assessment: Trend in the expansion of Rural Industrialization in India and China Table 1 below depict the comparative trend between India and China in the expansion and development of its non farm sector (rural industries) and employment generation. While China could generate employment and earning opportunities for 160 million of its population by 2000, India could only provide support to million rural jobs. Table 2 below depicts the total share (%) in the GDP of the country from rural non farm sector. While India could only contribute 15-18%, China contributed close to 25% of share in GDP by the year 2000 that calls for examining the reasons and trends for the phenomenal growth of this sector in China. Table 1 Table 2 9 India China Economic & Cultural Council

10 IV The Chinese Experiment with Rural Industrialization Overview In China, one of the most striking developments in the past three decades has been the growth of its nonstate (private) sector. The non-state sector in China consists of four types of business entitiesi. Township and Village Enterprises (TVEs) ii. Urban Collectives iii. Private and Individual enterprises iv. Joint ventures and wholly foreign owned enterprises (also called foreign funded enterprises FFEs) Township and Village Enterprises (TVEs) Non state Sector in China Urban Collectives Private and Individual enterprises Among these, TVEs present a remarkable growth trend and example where one finds that by the mid 1990s the industrial output share of state owned enterprises (SOEs) and collectives has dropped, while that of the more dynamic TVEs and local private and foreign enterprises has grown rapidly. Studies also suggest that while in 1980 SOEs employed more people than all other forms of enterprises combined, by the mid 1990s the TVEs had become the single largest source of employment for industrial workers. TVE employment, overall, more than quadrupled between Promoting Rural Industrialization In Madhya Pradesh Joint ventures and wholly foreign owned enterprises (FFEs) 1980 and 1995, fostering a new form of rural industrial revolution, growth and development in China. It is this segment of non state sector in China (TVEs) that has bought tremendous change in the rural industrialization and creation of skill based employment in rural areas of China and hence need to be understood in detail. 2. China s Township and Village Enterprises (TVEs)- What are TVEs? A TVE refers to a (typically industrial) business unit that belongs to all residents of a rural community where it is also usually located. A rural community can be either a township (about 3,500 households) or a village (about 200 households), with each community usually having a number of such enterprises. TVEs are neither SOEs (which are national public firms owned by the central government), cooperatives (such as labor-managed firms in Yugoslavia and workers cooperatives in Mondragon, Spain), nor private enterprises. Thus TVEs are best characterized as community enterprises with a governance structure in which the community government has control. There is no formal definition of TVE. However, Law of the People s Republic of China (PRC) on TVEs defines a TVE as following Article 2 of the Law of the People s Republic of China (PRC) on Township and Village Enterprises (1997) defines TVEs as various types of enterprises set up with investment mainly from rural collective economic organizations or peasants at township and towns (including villages) and is responsible for supporting agriculture.

11 3. Legal Regulation on the Governance of TVEs The central government in China has issued nationwide regulations regarding TVEs that are intended to delineate distributions of control rights and benefits among township and village enterprises, community residents, and community governments. One of the most comprehensive legal regulations to date is the Regulation on Township and Village Collective Enterprises of the People's Republic of China, issued in 1990 (Ministry of Agriculture, China, 1990). This regulation spells out, among other things, ownership rights of TVE's assets, allocation of control rights, and rules concerning distribution of after-tax profits. First, the regulation specifies the nature of community ownership of the assets of TVEs as follows: "Assets (of a TVE) are owned collectively by the whole of rural residents of the township or village who run the enterprise; the ownership rights over the enterprise assets shall be exercised by the rural residents' meeting (or congress) or a collective economic organization that represents the whole of rural residents of the township or village. The ownership rights of the enterprise assets will not change when the enterprise is under a managerial contract responsibility system, leasing, or joint operations with enterprises of other types of ownership" (Article 18, Chapter 3, Ministry of Agriculture, China, 1990:81). Therefore TVE assets legally belong to the Understanding China's Township and Village Enterprises. Residents of the township or village, not to enterprise employees or residents outside the community. Second, the regulation specifies the allocation of control rights: "The owner of a TVE, according to the law, determines the direction and formats of its business operations, selects managers or determines the method of such selection, determines the specific distribution ratios of after-tax profits between the owner and the enterprise, and has the rights over the enterprise concerning its spinoff, merger, relocation, stopoperation, close-down, application for bankruptcy, etc. (Article 19, Chapter 3, Ministry of Agriculture, China, 1990:84). Thus the owner has the control rights. While the owner can delegate such rights to an agency, according to the previous paragraph, the agency must represent the whole of the community rather than a particular enterprise. Typically this agency is called the "Economic Commission" or the "General Corporation for Development" of the community government. Third, the regulation also stipulates rules for the distribution of after-tax profits of TVEs: "The part retained by the enterprise should be no less than 60% of total and should be arranged under the enterprise's autonomous decision. The retained after-tax profits for the enterprise should be mainly used for the increase of the funds for production development in technological transformation and expansion of reproduction, and also for the appropriate increase of welfare funds and bonus funds." And "the part remitted to the owner of the enterprise should be used mainly for the support of construction of agricultural infrastructures, agriculture technology services, rural public welfare, renewal and transformation of enterprises, or development of new enterprises" (Article 32, Chapter 5, Ministry of Agriculture, China, 1990:137). As is evident, this regulation restricts the use of revenue by community residents and government to essentially two purposes: reinvestment and local public goods. Box 1 - TVE Legislation: A vehicle of social welfare in Villages The law further provides under Articles 2 and 3 that supporting agriculture and social welfare is the task and obligations of TVEs. Article 17 directs that a certain proportion of after-tax profits prescribed by the peoples government in provinces, autonomous regions and municipalities directly under the central government will be invested in agriculture and rural social undertakings (Law of 1996). TVEs contributed part of their profit every year to agriculture in the form of a grant. Between 1978 and 2000 this grant exceeded 140 billion yuan. The agriculture fund laid aside by TVEs in the past decade has more than doubled, averaging an annual increase of 7.9 percent. Moreover, there is evidence that the development of TVEs had much to do with the increase in grain yield. Agriculture benefited from subsidies provided by TVEs. The per hectare grain yield increased in those areas where TVEs were more developed. On the other hand, the per hectare grain yield dropped in areas where TVEs were underdeveloped (He, 2006: 87, 115 and 127). India China Economic & Cultural Council 11

12 4. Evolution, management and governance of TVEs a) Evolution: TVEs have their foundation in the agricultural collectives back as in 1958 that led the foundation of rural industries in China. At that time these were known as commune and brigade run enterprises. By 1970s, the commune and brigade enterprises enjoyed greater autonomy and incentives for production and develop new businesses in addition, the Chinese government implemented various policies encouraging their development such as loans on favorable terms, tax reduction or exemption, and technical assistance. All these measures laid the foundations for the further development of rural industries. In 1983, the responsibility of the Commune and Brigade enterprises was transferred to local government industrial department. This shift in the administration contributed start up funds, appointed managers, and lead to strategic decision making. In 1984 commune and brigade run enterprises, of which there were approximately 1.4 million, were officially renamed as village and township enterprises (TVEs), but it was also decided that the label would apply to individual rural enterprises and those based on farm cooperatives. This meant that the number of TVEs suddenly increased fivefold to about 6.1 million in b) Ownership Structure: With the transfer of commune (township) and brigade (village) enterprises to local government industrial department and their official designation as TVEs, and consequent application of this definition to individual businesses in rural areas, four types of ownership structure evolved in rural areas. These are al surplus and found themselves with some free time. They were encouraged and supported by the govt to use this time to develop certain new businesses. Unlike SOEs, TVEs' finance, supplies, sales, production, and personnel were not subject to state planning, however they became intimately linked with local government. Box 2- What s the financial and competitive advantage for TVEs? TVEs operate outside of the state plan, and largely without funds from state banks. Therefore, they are subject to quite rigorous market competition and hard budget constraints. China s experience demonstrates that establishment of small townships to link the countryside with urban areas is a successful strategic policy for development. This will facilitate the transportation of goods between rural and urban areas, and rising income and productivity in rural areas. As for urban enterprises, this link would open up a bigger market and help in diversification or restructuring. Rural enterprises can also compete in the cities with their products having the advantage of relatively low labor costs. In this way, they will help absorb surplus labor locally, thereby resulting in less rural-to-urban migration. Urban enterprises will also provide more employment opportunities since they would have a larger market. In addition, the linkage will benefit the rural industries via flow of technology and information i. TVEs, as defined by a government document in 1984 and PRC Law on TVEs in 1996 owned collectively by townships (formerly communes)) and villages (formerly brigades) ii. County and township run enterprises; owned collectively by townships (formerly communes) and villages (formerly brigades) iii. village run enterprises; enterprises owned by individuals iv. Farmers' cooperatives; and individual or family run businesses owned by individual farmers who pool their resources together for production 12 Many of the first two types that is county, township or village run enterprises, followed on from the commune and brigade enterprises. The additional farmers' TVEs were mostly very small. Because of the family quota contract system, farmers produced an agricultur- Promoting Rural Industrialization In Madhya Pradesh 5. Understanding the link between TVEs and Local government TVEs are essentially run by designated Township and village leaders. Township and village leaders are typically appointed from above by county

13 administrators, who in turn designate the managers of TVEs. They in effect possess all the key components of property rights: control of residual income; the right to dispose of assets; the right to appoint and dismiss managers; and assume direct control if necessary. Local residents possess no right of membership in the TVEs, nor do TVE workers possess any rights to participate in TVE management. For Township and village officials compensation is determined by a 'managerial contract' with explicit success indicators covering economic and social objectives. TVE output and sales value, profits, and taxes enter into the compensation schedule, as well as family planning, maintenance of public order and education. However there are strong pressures to stress profits since the township or village as a unit is subject to a fairly strong hard budget constraint. The successful township official maximizes his own career prospects by producing economic growth during his term as a community leader, and this is likely to crucially depend upon maximizing net revenue from the TVEs. TVE Leaders, appointed by country administrators: key components of property rights: control of residual income; the right to dispose of assets; the right to appoint and dismiss managers; TVE Managers designated by the Leaders: No right of ownership or residual income, appointed through managerial contract Local residents of the area: No right of membership Workers: No right to participate in the TVE management Managers of TVEs not performing in a satisfactory fashion in accordance with such criteria can be dismissed. The role of China s TVEs is unique in the context of an economy in transition. In no other such economy has public ownership played such a dynamic role. However the collective ownership form, which TVEs are classified as being, does not have a precise definition in the country, leading to uncertainty about ultimate ownership rights. However, although predominantly owned by local government, an increasing number of TVEs are now privately owned. Many are now involved in joint ventures with SOEs and foreign companies and a high proportion incorporate a complex network of affiliations and alliances involving scientists, engineers, academics and business entrepreneurs. This has enabled them to gain access to technology and to become competitive. It is these evolving alliances that will be essential to the sustainability of the TVE form of enterprise, and is discussed further below. Box 3. What is the operational and governance structure of TVEs? TVEs are run by township and village leaders. These leaders are typically appointed from above by county administrators, who in turn designate the managers of TVEs. The TVE leaders in effect possess all the key components of property rights, particularly the TVE leaders: i. Have control of residual income; ii. Have the right to dispose of assets; the right to appoint and dismiss managers; and assume direct control if necessary. iii. Local residents possess no right of membership in the TVEs, nor do TVE workers possess any rights to participate in TVE management. iv. Township and village officials compensation is determined by a 'managerial contract' with explicit success indicators covering economic and social objectives. v. TVE output and sales value, profits, and taxes enter into the compensation schedule, as well as family planning, maintenance of public order and education. 13 India China Economic & Cultural Council

14 V TVES: Performance and contribution in promoting Economy and Rural Industrial Development 14 A closer look at the TVEs form of development in China suggests the art and science by which rural people can translate assets (over which they have no ownership rights) into income. Success of TVEs is mainly attributed to the following reasons. Firstly, the TVEs allowed rural communities to translate control over assets and resources into income, despite the absence of asset markets. The growth of product markets provided rural communities with the opportunity to realize value from locally controlled resources. Secondly, TVEs provided a way to convert assets into income without solving the difficult problem of privatization. The Chinese government then, and reconfirmed in 1993, was unwilling on ideological grounds to permit mass privatization. The administrative difficulties involved with privatization would have been immense due to the sheer size of China and the lack of administrative apparatus. Hence the TVEs circumvented this difficulty while contributing importantly to competition and the opening up of markets. Thirdly, with well functioning markets urban firms would have purchased land and hired suburban labor. In the absence of such institutions TVEs represented an alternative solution. Urban SOEs could subcontract to TVEs providing in the process technology and equipment, or rural governments could take the initiative in this regard themselves. Many TVEs grew up as complements to state run industry. The majority of TVE growth has been concentrated in advanced periphery-urban regions. For example in 1988 in the three provinces of Jiangsu, Zhejiang and Shandong, producing half of all TVE output, linkages with urban firms were central to TVE growth. Finally, TVEs facilitated access to capital on the part of startup firms. In China local government ownership played a key role in the process of financial intermediation. Local governments could better assess the risks of start up business- Promoting Rural Industrialization In Madhya Pradesh es under their control, and were diversified and able to act as guarantors of loans to individual TVEs. By underwriting a portion of the risk of entry, local governments enabled start up firms to enter production with a larger size, starting with some mechanization, and exploiting economies of scale. With local governments playing an important role in the flow of capital to rural enterprises, such firms were able to take advantage of China s relatively abundant household savings. In return, the profitable opportunities and reasonable risk levels in the TVE sector kept real returns high and contributed to the maintenance of high savings rates. 1. TVEs Contribution to the Economy Various factors including administrative changes coupled with entrepreneurial drive resulted in the remarkable growth for the TVE contributing significantly to the rapid growth of the Chinese economy during this period. a) Exponential Output in terms of growth The output value of TVEs increased from 49.3 to 6,891.5 billion yuan over the period from 1978 to In line with this rapid expansion in output, TVE numbers also increased rapidly from over 1.5 million in 1978 to 22 million by In 1995 the GDP of the TVEs accounted for 25.5 per cent of the national total, and in 1994 they contributed some 30 per cent of gross industrial output. By the mid 1990s TVEs were contributing over 30 per cent of industrial output. Today TVEs contribute almost equivalent to SoEs and FFEs together and it is claimed that 60 percent of the Chinese production and innovation is attributed to TVEs. b) Employment In terms of employment creation the contribution of TVEs to the rural economy has been spectacular.

15 Che Village The Non-Grain village TVEs employed some 28.3 million workers in 1978 rising to million by 1995 and to 135 million by This has made a major contribution to the employment of surplus labor in rural China, in a cost efficient way, as well as raising rural incomes. These are two essential tasks in the development of China s rural economy. Currently, TVEs are the largest employers of industrial labor c) Exports During 1985 exports from TVEs increased rapidly. In1986 TVEs exports of US$5 billion accounted for one-sixth of China s total exports. In the same year about 20,000 TVEs specialized in production for export, 2,400 TVEs were involved in equity and cooperative joint-ventures, and about 10,000 were engaged in compensation trade and production according to clients requirements or samples. In 1987 China s new policy of accelerating the economic development of coastal regions gave 14 cities the status of coastal open cities, with extra freedoms and tax breaks for foreign trade and investment and gave a further impetus to the development of TVEs. From the second half of 1988 to 1991 both central and local governments put great emphasis on the development of export oriented businesses to acquire capital, technology, and raw materials from western companies and international markets. Although during the same period the central government was tightening money supply and controlling investment in domestic markets, export oriented TVEs began to take off. They succeeded because of their operating flexibility and customer oriented approach. The position of TVEs in China s foreign trade became increasingly important thereafter. From 1987 through 1992 TVEs exports and imports grew by an average of 60 per cent per year. Their exports of US$20 billion in 1992 accounted for a quarter of China s total exports (US$85 billion). By the mid 1990s about 80,000 TVEs were engaged in export oriented production, accounting for over 40 per cent of China s total exports and over 30 per cent of China s GDP. 15 India China Economic & Cultural Council

16 16 2. Distinguished characteristics and Reasons for the success of the TVEs A number of reasons have been advanced for the phenomenal growth and superior efficiency record of TVEs. The major ones include the following: Small, flexible and market driven: TVEs are small in size as compared to other state owned enterprises (SoEs). Since TVEs are not self sustaining, they have to rely on outside market for supply of material, they are market driven. Many TVEs positioned their businesses in areas where there were severe shortages, or where SOEs were weak. Most were small and autonomous compared with SOEs, and thus had flexibility to respond to market changes quickly. Their management was also more market oriented. Appropriate production technology: The TVEs, in the very initial stages had cheap labor and expensive capital and natural resources, causing them to choose appropriate production technologies. As the reform process progressed prices were gradually liberalized, reflecting more relative scarcity values that made TVEs choose most appropriate technologies. Distortions, market opportunities and rural saving: The TVEs are highly profitable because of the distortions carried over from the formerly planned system. At the beginning of the reform process in 1978, the average rate of profit on TVE capital was 32 per cent (capital being defined as depreciated fixed capital plus all inventories). Most of the new TVEs were in manufacturing, where state price controls kept profitability high so that the state could obtain high revenues from the SOEs. In addition, due to past biases in the planned system against light industry and services, the TVEs could enter market niches for which the SOEs had either failed to produce or failed to innovate and improve quality control. The resulting high profits achieved by TVEs attracted further investment and rapid growth. This was further strengthened by high rural saving and demand following the agricultural reforms of 1978, in conjunction with the limited scope for emigration from rural areas. Low taxation: Taxes on TVEs are low, requiring them to pay only 6 per cent of profits as tax in 1980, climbing to 20 per cent after Such low tax rates in China were primarily due to a policy driven desire to foster rural industrialization. Promoting Rural Industrialization In Madhya Pradesh Decision making: Information channels between the TVE managers and local government authorities tended to be both shorter and simpler compared to that for the SOEs, encouraging greater efficiency. Further, this greater flexibility and autonomy in management has meant that inter-firm alliances and technological alliances with universities and research institutes have produced a networked approach to innovation and industrial production. Decentralization plus financial discipline: In 1984 a decentralization of fiscal power took place in China which allowed lower levels of government to retain locally generated revenues, creating a strong incentive for the development of local industry. A non performing TVE in this system would become a drain on limited resources, therefore local government officials and TVE managers had to focus more upon financial objectives, profit plus local tax revenues, since local governments lacked the borrowing capacity of higher levels of government. Hence the TVE enterprises under their jurisdiction faced harder budget constraints than SOEs, and were more likely to fall into bankruptcy if persistent losses were made. This focused upon the need for TVEs to be efficient, competitive and profitable in a period of a rapid opening up of markets. Meanwhile, managers of SOEs, having responsibility for housing and other social services as well as industrial operations, faced a more complex set of objectives and state obligations. Kinship and implicit property rights: The incentives facing TVEs is similar to that of private firms in that residual profits are dispersed among a small group, consisting of a stable local community and in particular its local government and TVE manager. Studies have shown the importance of TVE profits in local government budgets and the close links between local economic performance and the status, income and career prospects of local officials. Links with the state enterprise sector: The state sector also represents an important component in the successful development of TVEs and other non state firms. The TVEs and collectives in general rely on the state sector as a source of capital, materials, equipment, specialized personnel, technology, sub-contracting arrangements and sales revenue. Local government officials attempting to develop industry in poor localities are encouraged to pursue joint operations

17 with scientific research organizations or large and medium scale enterprises. Market entry and competition. The continual reduction of entry barriers associated with China s industrial reform created a domestic product cycle in which new products, materials and processes introduced by innovative state firms were adopted by TVEs and other non state enterprises. They could then use their cost advantages to erode state sector profits and force state industry toward fresh innovations. In addition there has been intense competition for investment, including that for foreign investment, among communities with TVEs. The ability to attract such investment is strongly influenced by the reputation of the TVEs as well as local economic performance. TVEs themselves are being increasingly subject to competition from the even more dynamic but smaller private and foreign invested sectors. Dedication to human resources, innovation and quality: Many TVEs put special emphasis on human resources, innovation and product quality. With their autonomous and flexible systems it is their usual practice to recruit highly competent engineers and technicians from SOEs, to pay them attractive salaries and actively pursue innovation. At the beginning of the 1980s they mainly targeted and sought retired technicians and engineers from urban areas. Since the mid 1980s their attention has shifted to scientists and technicians working in research institutes and SOEs, who are discontented with their working conditions. Currently they are competing with large and medium sized SOEs for talented staff and trying to attract foreign experts. TVEs maintain close links with research institutes. About 60 per cent of inventions and innovations developed by China s scientific and technological institutions have been put into production by TVEs. International orientation: Many TVEs, particularly those in coastal provinces, are actively pursuing co-operation and joint ventures with SOEs, with other TVEs, and with foreign companies. By developing joint ventures and sub contracts with foreign firms, TVEs have gradually upgraded their technology and many have become involved in foreign direct investment (FDI). Joint ventures between TVEs and foreign companies have grown rapidly in the last few years. Lower cost structure. TVEs have lower cost structures than SOEs, and they pay less tax. Because their managers historically had to rely on retained earnings and loans instead of government grants, they constantly pressured local authorities to give them tax breaks. Wages in rural areas are also significantly lower than in cities where most SOEs are found. They also do not have thousands of retirees on their books. The TVEs also do not have to offer welfare benefits like healthcare and social security insurance. Workers at TVEs work long hours, and the quality of their production has improved towards the SOE level. Where simple technology is required this represents a big advantage, particularly in light industries like textiles and electrical appliances. 17 India China Economic & Cultural Council

18 VI Success Stories and Case Studies 18 A) Case study of Whenzou Footwear Industry Wenzhou used to be one of the poorest regions in eastern China. With limited arable land, poor road access to major cities, and little support from the upper level governments, this region seemed to lack all the conditions necessary for economic growth. However, over the past several decades Wenzhou has developed the most dynamic private sector in China, and has accordingly achieved one of the fastest growth rates. In particular, the footwear industry in Wenzhou has grown from a negligible market share to the largest in China In the 1920s, Shanghai, Xiamen and other cities employed workers from Wenzhou to make shoes. These shoemakers mastered advanced shoemaking processes, which they then brought back to Wenzhou. They became key technicians in the local footwear industry, and exerted a far-reaching influence on the development of the contemporary shoemaking industry in Wenzhou. In 1950, there were 43 family Promoting Rural Industrialization In Madhya Pradesh footwear workshops and 103 employees in urban Wenzhou with annual output of 4,000 pairs of shoes (Yu and Yu, 1995). Soon after, however, many of the private workshops and factories were nationalized or closed. The private shoemaking was largely depressed in the following three decades. By 1978, there were only 19 footwear factories left, including two state-owned, eight collectively owned and nine privately owned shops, with a combined output of 496,800 pairs of shoes per year.4 These seed factories trained a large number of technical workers, marketing specialists, and management talents, laying the groundwork for the emergence of the Wenzhou shoemaking industry in the subsequent reform era. After 1978, the Wenzhou private shoemaking business recovered rapidly. As state- and collectivelyowned businesses gradually went under, more and more ex-employees set up their own workshops and the local shoemaking business boomed. By the end of 1981, there were 99 shoemaking factories in the Lucheng district of Wenzhou alone (Wenzhou City Annals, 1998). As of 2006, Wenzhou had become the most important footwear production base in China and was nicknamed the Footwear Capital of China. In late 1970s, Wenzhou gradually formed a highly specialized and coordinated industrial cluster consisting of over 4,000 shoemaking factories (over 30 leading companies with a yearly output value of more than 100 million yuan), 200 leather enterprises, 380 footwear sole enterprises, 200 footwear machine manufacturers, 168 footwear last factories, 100 footwear accessories and ornamental materials enterprises, 50 footwear design studios, and numerous specialized footwear-related information service agents, training schools, research institutes, and family workshops. These enterprises, institutions, and household workshops were linked together via numerous specialized markets, such as the Wenzhou

19 Footwear Capital Market, the Hetongqiao Footwear Accessories and Ornamental Materials Market, the South Zhejiang Footwear Accessories and Ornamental Materials Market, the Original Leather Market, the Leather and Footwear Machine Market, and the Leather Chemical Market. In 2004, the total output of the Wenzhou footwear cluster amounted to 835 million pairs (including 452,980,000 leather shoes, 3,440,000 cloth shoes, and 378,630,000 rubber shoes),5 and the cluster employed over 400,000 people.6 As shown in Figure 2, total shoe production in this region increased from 500 thousand pairs in 1978 to 835 million pairs in 2004, with an annual growth rate of 33%. Lessons from the Whenzou Footwear Industry: Diffusing transition at a threshold level: In Whenzou footwear industry was not a new enterprise as footwear production was a major industry in Wenzhou prior to reform, shoemaking technology was readily diffused when the market demand for shoes suddenly emerged after the success of rural reform. The existence of the state and collectively owned footwear factories in the planned economy era made it possible for the footwear cluster to blossom in Wenzhou. Catching up with the demand with entrepreneurial zeal: After China s opening and reform, Wenzhou s entrepreneurs observed the dramatic rise in demand and effectively seized the opportunity to massively produce shoes. The adverse natural and infrastructure conditions also helped forge a unique regional social culture in Wenzhou, promoting entrepreneurship, risk-taking, hard working, and the value of friendships. These factors played a significant role in maintaining the functioning of clusters through contract enforcement and informal financing. The establishment of the Wenzhou Model is, in a sense, the result of individuals being cornered by disadvantageous factors and finding a way to turn them into advantages. 19 India China Economic & Cultural Council

20 Strengthening micro credit and financial systems: Third, the capital and technical constraints for rural industrialization in developing countries may be less serious than that generally suggested in the literature. When facing the constraints of technology and credit, traditional thinking emphasizes the removal of these limiting factors. Along this line of thinking, for example, micro credits have been widely promoted in many developing countries including India. The experience from the footwear cluster in Wenzhou, however, illustrates that the credit constraints facing many SMEs may have induced the deepening division of labor and promoted rural industrialization. Clustering lowers both the technical and capital barriers to entry and enables a wide range of rural talents to become involved in the production process. The high coordination cost as a result of increasing division of labor in the cluster has been largely overcome by the strong social capital inherent in the rural community in Wenzhou. Thus, while functional financial systems are important t economic development, they may not constitute a necessary precondition for rural industrialization. B) Case Study of Fu Zhuo Village-Converting rural houses to family restaurants. Fu Zhuo village provides innovative experience in the area of TVEs. Its main livelihood is apple orchards. However, the village is also famous for Family Restaurants which offer organic food and well furnished rooms to customers. It has been developed on the principle of yi cun yi pin (one village-one product). 50 households out of 282 run restaurants and construct additional rooms in their private houses. People from other counties especially from urban areas or even foreign tourists visit this village to enjoy the food and peaceful environment at a very reasonable price. All 50 households are doing good business and they also employ other people from the village especially during peak season. This is an example of an innovative and successful experience in the merging of TVEs and rural development. This idea was mooted by the county government and was implemented well through the effective cooperation of the village government. C) Case Study 3: Che Village-The Non-Grain village Che, village is among the most developed villages in China. The village has decided to be a Non-Grain village. The per capita average income of the villagers was 2200 Yuan in The contribution of TVEs was one of the main reasons for its development. The village gets annual rental of more than 70,000 Yuan from its three private enterprises. This income has been spent on creating welfare facilities for the villagers. Moreover, majority of the workers of these enterprises are residents of Che village. Empirical studies by some scholars have also established that there is a correlation between the development of TVEs and the level of development of the area, except for the poorest village that receives additional help for development. *** 20 Promoting Rural Industrialization In Madhya Pradesh

21 VII Brief comparative assessment with India-exploring Potential for Synergies and Learning from China s tves The Chinese experience with rural development has endorsed the fact that rural industrialization is an essential requirement for the development of rural areas. While the rural non-farm sector has played a significant role in the economic transition of both India and China over the past two decades, compared to China, rural non-farm employment has increased only moderately in India. In India, the small-scale sector including traditional village enterprises contributes nearly two thirds of organized sector employment. However the growth in output and employment in the Indian rural industrial sector has been stagnant and comparatively low. The difference in the patterns and development of rural industrialization are the result of the institutional differences between the two countries, especially in the structure and functioning of their local governments, credit institutions, government support and infrastructural (physical and social) support. Differences in the performance of rural enterprises in China and India are obvious. A thorough comparative study of these differences might be examined mainly to understand why these factors have generated such a variation in the performance of rural enterprises in India and China. The Indian government s emphasis on small-scale enterprises is quite different from the Chinese emphasis on rural location and employment for local residents. For small-scale enterprises in India, geographical location does not really matter, while reorganization of rural settlement mostly in favour of small rural towns Village converting rural houses to 'family restaurants' received a high priority in China. The Chinese experience also suggests that this was a bottom-up approach, and public policy provided sufficient scope for peoples and local government initiatives. Therefore local government played a most important role in the establishment and development of TVEs in China. By law, Panchayats in India are responsible for the preparation and implementation of plans for economic development. However, Central Government policies and interventions to promote rural industrialization have largely ignored the role of Panchayats. This could be one of the reasons for the relatively low level of rural industrial development in India. 21 India China Economic & Cultural Council

22 Appendix The Evolution of TVEs Prior to 1979 The primitive stage of TVEs can be traced back to 1958, the time of the Great Leap Forward and the inception of the commune system. Many small-scale industrial enterprises (e.g., steel mills) were set up by communes. The underlying "second-best" principle is quite general in studying institutions and political economy. For example, Spiller and Sampson (1994) argue that the apparently inefficient pricing Schemes and regulatory structure in Jamaican telecommunications can be viewed as a second-best 22 Promoting Rural Industrialization In Madhya Pradesh alternative that reflects a pragmatic response to the imperfect Jamaican government institutions in the areas of public utilities. During the nationwide agricultural mechanization drive of the early 1970s rural small-scale industrial enterprises rapidly re-emerged (Wong, 1991). Most of these enterprises started as agricultural machine repair shops and food processing mills, and many of them soon became subcontractors of SOEs in nearby urban areas. These community enterprises were known as "commune and brigade enterprises," the predecessor