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The Global Stake in China’s Anti-Corruption Reform

STANFORD – The recent trial of Bo Xilai highlighted the biggest challenge facing contemporary China: the corruption and abuse of power by some government and party officials. Until his fall, Bo, a former Politburo member and party leader of Chongqing, a megacity of 30 million people, was a potential candidate for China’s ruling seven-member Politburo Standing Committee.

Bo’s trial occurred at what is a critical moment for China. Millions of rural Chinese annually flood into the country’s cities in search of employment; but China’s export-led growth, which previously masked the macroeconomic costs of corruption and excessive state intervention, is slowing. As China enters an era of more subdued growth amid increased competition from other low-cost countries, this damage will become increasingly apparent – and increasingly destructive.

An economically successful China is more likely to be stable and geopolitically constructive; a China beset by serious economic problems would be far less so, and, as the first-ever developing economy to become a global power, could even become a source of systemic risk. Chinese manufacturing assembly is integral to global supply chains for many products. Moreover, China is the largest holder of US Treasury securities (aside from the Federal Reserve), has significant euro holdings, is likely soon to become America’s largest trade partner, and looms large in trade with many European and Asian economies.

Research reveals that strong enforcement of property rights and stable, predictable, and non-confiscatory tax and regulatory regimes are essential to long-run economic prosperity. The key to China’s reform, and what the Chinese people want most, is John Adams’s “government of laws, not men” – even-handed administration of reasonable laws, not special favors for the connected few. Indeed, Finance Minister Lou Jiwei echoed Adams (and Adam Smith) when he proclaimed, “…resources should be allocated by prices and markets, not government officials.”

Chinese President Xi Jinping has said that a crackdown on corruption is a top priority, and that unless it reaches both “tigers” (higher-ups) and “flies” (lower-level officials), there may well not be another orderly leadership transition of the type that brought him to power earlier this year. Indeed, reducing corruption is essential if China is to join the small list of developing economies – Japan, South Korea, Singapore, Hong Kong, and Taiwan – that have escaped the “middle-income trap” that ensnares most developing countries and prevents them from attaining advanced-economy status. More than the unseemliness and capriciousness of many officials’ behavior, this is what is really at stake in Xi’s anti-corruption campaign.

China’s future prosperity requires restricting government officials’ administrative discretion, reducing state-owned enterprises’ power and subsidies, and strengthening the rule of law by developing an independent judiciary. But these reforms imply a change in culture and incentives. Some officials use their considerable discretion in granting licenses, permits, and contracts to solicit favors and side payments. The fortune accumulated by Bo’s wife (reliance on proxies, especially relatives, is a common tactic of corrupt officials everywhere) highlights the opportunities for the well connected to get ahead. Many Chinese, regarding this as just the way things are, behave accordingly.

To be sure, rent-seeking and favor-dispensing corruption exist to some degree everywhere; but they are more widespread in developing than developed countries and in resource-rich and/or centrally planned economies than in capitalist democracies. The time and other resources that individuals and firms devote to seeking government favors would be far more valuable if redirected to producing goods and services.

Some promising anti-corruption ideas have successful antecedents in Chinese history, from the Ming Dynasty to modern Hong Kong. Under the Ming Dynasty, the emperor’s officials came from other provinces and were frequently rotated. To protect China’s central bank from local political pressure, reformist Premier Zhu Rongji, on my and others’ advice in the 1990’s, reorganized the People’s Bank of China along regional lines, similar to the Federal Reserve’s district banks.

In Hong Kong, corruption was so pervasive as late as the 1970’s – if your house was on fire, the fire department demanded payment before pumping water! – that an independent anti-corruption commission was appointed specifically to investigate and prosecute both public and private corruption. Hong Kong greatly reduced corruption and improved administration with an amnesty, pay increases, and financial-disclosure requirements for officials.

China’s current leaders should revisit these precedents. A truly independent judiciary will take time to establish, but some judges can be appointed and paid by – and report to – the central government rather than local officials. And, as in Ming China, judges and other officials could be rotated every few years.

Likewise, as in Hong Kong, an amnesty could be granted, conditional on financial disclosure and a fine for “unexplainable wealth,” for all but the most egregious behavior, thereby leaving the past behind. At that point, judges’ and government officials’ pay could be raised to competitive levels, which would weaken the incentive to continue corrupt practices – particularly if officials must regularly file financial-disclosure statements and are penalized for withholding information.

The recent willingness of ordinary Chinese to condemn corruption publicly is a harbinger, one hopes, of real anti-corruption reforms from the country’s new leadership. An independent judiciary, financial disclosure by government officials, and other independent institutions have been essential to limiting and forestalling – though not fully eliminating – corruption in the United States and most other advanced capitalist democracies. That is a lesson that China needs to learn far more quickly than some members of its entrenched elite will find comfortable.

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