Does the province-managing-county reform promote the growth of county finance and economy in China? An empirical case study on Henan province.

Author:Li, Lina
Position::Case study

    The PMC reform, as one of important contents of China's sub-provincial fiscal system reform in the 21 century, is intended to release county fiscal constraints and promote county economy by de-layering the existing local governance structure. Since its pilot implementation in 2002, several provinces including Henan have gained a decade of experience in reducing fiscal tiers from 3 tiers of the province, the prefecture and the county to 2--the province and the prefecture/county. This paper aims to investigate the impacts of the PMC reform on county economy through an empirical case study on Henan province in China.

    The PMC is not an innovative system emerging in the last decade. It can date back to the foundation of the People's Republic of China (PRC) in 1949 and is acknowledged in the Constitution of the PRC. The province-county relationships remained unchanged until the early 1980s when the PRC adopted a series of reforms to break the urban-rural dual economic structure and promote the development of county economy. Thus the City-Managing-County (CMC) reform (2) was promoted throughout the country and brought about the rapid growth of rural and urban economy at that time.

    However, with the changes of the Chinese economic system and administrative environment, the CMC--supposed to promote the coordinated development of the rural-urban economy by the mutual complementarities of each other's advantages--turned to be the biggest hurdle for the county economic development and its condition worsened in the 1990s. The CMC system increasingly threw negative impacts on county finance and economic growth by 1) leading to the higher administrative costs and lower administrative efficiency with the additional tier of prefecture between province and county (Wang 2004; Sun and Wu 2004), 2) causing the serious financial crisis at county level with prefecture-level cities' misappropriation or withholding of county-level financial resources (Chen 2002; Gan 2005) and 3) exacerbating the urban-rural disparity with gradual reduction of county education budget (Liu 2005). In addition, it was a very controversial system due to lack of a constitutional basis (Wang, 2004). (3)

    This prompted some provincial governments to seek an effective way to strengthen the county economy. Under these circumstances, the PMC reform reemerged and rapidly grabbed extensive attention from governments and social groups in 2002. Subsequently, these reforms were recommended for nationwide adoption jointly by the CPC Central Committee and the State Council in 2009 (Zong Fa [2009] No.1) and were highlighted as an important priority in the 12th Five Year Plan. In 2012, the Central Ministry of Finance advised all provinces to implement these reforms with suitable adaptation to local context. After two decades of reform practice, the Province Administratively Managing Cou27nty (PAMC) implemented by Hainan province, and the PEC and the PFMC implemented by Zhejiang province have stood out in easing the county financial constraints and promoting county economy. These soon become the role models for other provinces and two models (PEC and PFMC) have currently been popularized all over the country.

    Along with the expansion of PMC reform pilots across the nation, more and more scholars started to conduct the empirical studies on the fiscal and economic effects of the PFMC or/and PEC reforms and draw the diametrically opposite conclusions due to various research objects (like samples in a single province or in multiple provinces) and different research methods including the Difference-In-Difference (DID), the Generalized Method of Moments (GMM), and Fixed Effect Model (FEM)). Some empirical studies showed a positive conclusion that the PFMC or PEC reform has a positive impact on county financial strength based on single- or multiple- case (Qi et al. 2009; Luo 2010; Jia and Yu 2010; Liu 2010; Cai and Huang 2010; Li 2011; Xie 2011; Fu 2012). (4) While, some argued that the adjustment of sub-provincial government relations cannot hardly relieve county financial constraints (Tang 2008; Pang et al. 2009; Liu, Ma and Wu 2011; Zhang and Geng 2011; Jia, Guo and Ning 2011). (5) The empirical studies on the economic effect of PFMC or PEC reform also came out with different conclusions. Most of empirical results showed the PFMC or PEC reform promotes county economic development (Cai and Huang 2010; Lu, Huang and Zheng 2011; Yuan and Zuo 2011; Gao and Wang 2012; Mao and Zhao 2012). (6) Some of empirical results on economic effects of PMC reform told a different story (Zhang and Geng 2011; Shi and Wang 2012). (7)

    With further deepening of the PMC reform pilots, problems were gradually exposed and aroused the attention of academics. Some scholars began to reflect and even criticize the negative effects of the PMC reform (Zhang 2009; Wang 2009; Xia 2009; Li 2010) and tried to give some suggestions about alternatives. A number of scholars held that the PMC system is a ultimate goal of sub-provincial government management system but the approaches to fulfill the PMC reform should be diverse and adjustable in order to adapt to the actual condition of each province (Sun and Wu 2004; Wang 2004; Bo 2006; Zhang 2007). While, some scholars thought that the "one-size-fits-all" government management system cannot work due to the big differences of provinces in administrative territory, population, cultural tradition, resource and economic development, etc. (Zhou and Wang 2009; Zhang 2009). In addition, some scholars gave specific suggestions based on their investigations. Jia and Yu (2010) argued that the over-size span of management is the biggest barrier to the effective implementation of the PMC reform in large provinces like Sichuan, Hebei and Henan, so it is the best way for province's reasonable span of management to cut down the numbers of counties and expand the sizes of counties. An investigation report on Yunnan province showed Yunnan Province is not ready for the PMC reform according to its current condition (Public Report No. 24 of the Standing Committee of the 11th Yunnan Provincial People's Congress, 2011). Wu (2010) classified 26 provinces (or autonomous regions) into six types according to their size, county numbers, per-capita GDP and marketization level, etc., and put forward the specific reform proposals for each type of provinces.

    In all, it has been the general and irresistible trend to implement the PMC reform across the country. However, do the reform models truly have positive effects on county economy? If the answer is yes, then which reform model can produce the greatest economic effects? Which are the better reform measures? The answers to those questions are of great significance in both theory and practice to consider how to formulate the policies and goals of the PMC reform for promoting the growth of county economy. But they have not reached a consensus in academic field yet. The current research on them is also mainly based on the case studies and research reports, less on empirical work. In such a small amount of empirical work, even less focus on the effects of the implementation in one specific province. Therefore, there lies vast potential to explore.

    To answer the questions above, the paper takes Henan's PMC reform as an empirical case study to assess the financial effects of Henan's PEC and PFMC respectively. Based on a panel data from Henan's 108 counties (or county-level cities) for the period between 2000 and 2011, the results of regression models indicate that 1) Henan's PFMC reform significantly promoted the per capita fiscal transfer to grow by 4.14% at the county level, but the alleviation of county financial crises didn't exert an effect on county economic growth due to the absence of an effective interaction system between the financial and economic growth; 2) Although Henan's PEC reform did not contribute to the growth of per capita fiscal transfer, it promoted the county's growth of per capita GDP by 1.3 %; 3) The analysis of economic effect sustainability of Henan's PEC reform showed an annual downward trend.

    Based on the findings above, the paper goes further into the factors constraining the financial and economic effects of the PMC reform in Henan province. We find that 1) compared with the fiscal decentralization, the economic empowerment is more conducive to the growth of county economy by avoiding potential moral risks incurred by the fiscal decentralization and stimulating the initiatives of county-level governments to promote the growth of county economy. 2) The negative effects of moral hazards caused by fiscal decentralization largely outweigh the positive incentive effects incurred by economic empowerment, so Henan's PFMC reform doesn't promote the growth of county economy though a certain growth in county-level transfers from upper-level governments. 3) Therefore, the first two findings throw out a hint that the improvement of autonomy power in county governments will be a right and effective approach to promote the county economy, though it should be further examined in the future research.

    The rest of the paper is structured as follows. Hypotheses, data and estimation methodology are the subjects of the next section. Section 3 presents the empirical results and the section 4 conducts the analyses of empirical results. The concluding section highlights the major findings and limitations of the paper.


    We choose Henan province as an empirical case study for following reasons: First, focusing on the samples from one single province could avoid the inaccuracies caused by the heterogeneity of institutional or cultural differences among different provinces or regions. Second, the reform period and scale of Henan province could provide sufficient data for a solid research. Third, the models and experiences of the PMC in this province could offer the diversity of samples for a...

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