In the 25 years since China began to switch to a market-oriented economy, companies in the private sector have far surpassed state-owned enterprises in economic output. When Deng Xiaoping launched his reforms, in 1978, state-owned enterprises generated about 80 percent of China's gross domestic product; by 2003 that figure had dropped to 17 percent.1 But state-owned companies remain a gargantuan force in the economy. In 2003 they employed half of China's 750 million workers and controlled 57 percent of its industrial assets. They also dominate vital industriessuch as financial services, power, and telecommunications.
In protected industries such as telecommunications, most state-owned enterprises are quite profitable. But scores of others in deregulated or competitive industries (for example, consumer electronics and retailing) are hemorrhaging cash and fighting for survival. State-run enterprises in China yield, on average, a return on assets of 3 percent—well below the 7 percent that companies in the private sector generate. Over the years, the state banking system has propped up these failing businesses to maintain employment. In the process they have accumulated huge amounts of bad debt that threatens the stability of China's financial system.
Inefficient, resource-draining state-owned enterprises are a drag on the country's economy and...