Another Call For Reform Of China’s Local Government Finances

Another voice is added to those saying that reform of local government finances is the keystone to the “great rebalancing” of China’s economy. Sri Mulyani Indrawati (left), a World Bank managing director and former finance minister of Indonesia, told the China Development Forum in Beijing at the weekend that:

Reform of the overall system of fiscal intergovernmental relations is probably the most important element of the [reform] agenda. Expenditure responsibilities in China’s decentralized fiscal system generally do not match revenue capabilities well. Adequate local funding in poor regions would remove serous constraints on the delivery of social protection, education, health and rural services. In the absence of increased and reformed net transfers from rich to poor regions or other new revenue sources, large disparities between regions in spending per person on public services will unavoidably persist.

Stepping beyond diplomatic wordiness, Indrawati pointed directly to the problem of off-budget financing by local governments that so worries policymakers in Beijing because of the potential debt bomb that lies beneath:

Much of China’s public infrastructure is currently financed off budget by separate local government platforms. Shifting infrastructure finance on budget an make urban development and infrastructure expenditures more transparent and better integrated in the overall public finances.

Indrawati is positively blunt in her other recommendations that China needs to implement in order to achieve the goal of transforming growth from being export- to domestic consumption-led. Beyond reform of local government financing, she wants to see:

  • improved access to finance for private sector, service oriented, and smaller firms and in rural areas;
  • removed subsidization of inputs into industry such as land, capital, energy, and other resources, and exchange rate appreciation; and
  • further increases in dividend payments by state-owned enterprises, to improve the allocation of capital. In addition, there is significant room to remove restrictions on service sector development and open up more service sectors to the private sector.

Many of these start to touch on deep-rooted vested interests. Yet, as Indrawati says, if the gains of the past three decades of economic development are to be sustained, reforms to China’s institutions and policy making processes will have to be made.

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