2008 Beijing Workshop: Abstracts

DECEMBER 13–18, 2008


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Limited Property Rights and the Rise of the Private Sector in China:
The Case of Wenzhou Chambers of Commerce
Meina CAI
University of Wisconsin-Madison, USA

Why and how has the private sector flourished and become the main engine of economic growth in China, despite weak legal protection of private property rights?  Departing from the existing state-centric approaches, I argue that the success of the private economy in China can be traced in part to the action of its private entrepreneurs.  Treating Chinese property rights as endogenous, I argue that private entrepreneurs have promoted property rights informally through business organizations and chambers of commerce in particular.

The existing literature on Chinese property rights almost exclusively focuses on the rise of township and village enterprises (TVEs).  The dramatic privatization of TVEs since the mid-1990s, however, calls for scholarly attention to be shifted to the private sector.  Most of the literature examining the private sector and business organizations focuses on China's prospects for democratization.  Where the literature explains the rise of the private sector in China, the focus has been largely on the local state.  In contrast, relatively little has been done to address the vital relationship between property rights, private firms, and business organizations in China.  My approach of focusing on the role of private firms and their organizations in promoting property rights fills this gap in the literature.  

The arguments developed in this paper are supported by the case study of Wenzhou chambers of commerce.  Chambers of commerce are able to promote property rights effectively by building up a reciprocal relationship between local governments and private entrepreneurs.  These voluntary organizations create incentives for government agencies to resist arbitrary expropriation by providing government agencies benefits such as taxes, employment opportunities, and local economic growth.  By establishing themselves along locality and sectoral lines, chambers of commerce create cohesive interests among their members and facilitate their common interests through reputation-based punishment mechanisms. 

The Determinants of Taxation Outcomes in Latin America:
Do Political and Institutional Factors Really Matter?
Federal University of Pernambuco, Brazil

Over the previous 15 years Latin America has shown an impressive increase in the aggregate tax revenue. Despite some variation across the countries, the tax burden in the region hiked up in the early nineties and till the end of the 2007 fiscal year it has not yet stopped growing. There was great scepticism about these countries' chances of improving, in the short term, their extractive capacity. Which factors could then explain such surprising improvements in tax collection in such a short period? What factors account for observed variation across the countries?

In the language of the transaction-cost politics, tax policy, as part of the economic process, is ultimately the product of an equilibrium outcome inside a political process. This political process is influenced by the costs of negotiating and implementing agreements, most notably costs of coping with information asymmetries and of making commitments credible which are associated with institutional legacies (NORTH, 1990; DIXIT, 1996). In this sense, what was the institutional configuration that helped reduce transaction costs and thus enabled many countries to embark on successful taxation initiatives?

Using data from a panel for 18 Latin American countries, we assess the contribution of political and institutional factors as well as the role of tax morale (defined as individuals' attitudes toward tax evasion) as fundamental determinants of a nation capacity to collect revenues.  These factors are usually viewed as the variations in tax shares that cannot be explained inter alia by standard economic factors such as the Olivera-Tanzi effect, the potential tax base owing to the fluctuations in the economic environment and in tax structure, and have not been systematically investigated in current scholarship. This alternative approach for analyzing tax effort provides a good understanding of tax policy outcomes in developing countries with volatile macroeconomic conditions and great political instability.

Roofs or Stars: How Do Culture, History and Traditional Chinese Thinking Affect Private Property Rights Allocation in Mainland China's
Land and Housing Market?
Rui CHEN and Rita Li
University of Hong Kong, Hong Kong SAR

There is a strange phenomenon in China's rural housing: dwelling buyers only buy a residential unit but NOT the land on which the house is built. Legally speaking, those who buy these residential units are illegal buyers. If in time the government needs to use the land for some other purposes, it might declare the transaction void, and the house would need to be returned to the land owner. This kind of housing transaction accounts for up to 40-50% of land in Shenzhen, and 20% in Shanghai.

In sharp contrast, however, those who buy dwellings in urban areas buy both the legal title to the land and to the housing.

Why is this the case?  Our research questions are these: (1) Why there are two different kinds of policies under the same ruling body? (2) Why do risk-averse home buyers take the risk? We try to look at the issue from transaction costs theory, history of land policy, and traditional culture in both ancient and modern China. Empirical data, case studies, and traditional Chinese literature writings will be searched for our study.

Why the License Regulation of the Cell Phone Industry Collapsed:
On the Enforcement Cost of Monopoly
Xiaofang CHEN and Zhimin Liao
Renmin University of China, China

This paper provides an explanation of the collapse of license regulation in the cell phone industry in China.

In 1998, strict license regulation was imposed by the Ministry of Information Industry (MII). The regulation was said to protect the domestic corporations from foreign competitors, and to prevent the waste of repeated investment. Before 2005, there were only 50 licenses issued to 39 corporations, most of which were state- owned enterprises. The regulation brought huge profits to SOEs and to the regulator. Some corporations of MII didn't have production lines, but they earned billions of RMB each year by leasing licenses to private companies.

However, in 2005, the MII transferred its power of license issuance to the Committee of Development and Reform. Two years later, the license system was completely repealed.

Why was the regulation repealed? It was said the domestic corporations had come to be strong enough that they didn't need protection any more. We instead argue that when the enforcement cost of monopoly sharply increased due to a technical innovation, the monopoly became valueless for the SOEs and the regulator. That's why it was repealed.

According our investigation, the production cost of cell phones was once very high. In 2004, an invention of Integrated CMOS Chip by a Taiwan company simplified the production and significantly lowered the cost of cell phones. In that year, numerous non-licensed factories emerged and produced cell phones. The illegal cell phones were so cheap that they soon flooded the market. Nearly all the SOEs suffered huge losses due to the competition of cheap cell phones. The situation became worse, for many legal cell phone corporations were next to bankruptcy in 2006 and 2007.

Because the Integrated CMOS Chip extremely lowered the threshold of the industry, the regulation authority found it impossible to prevent the mushrooming illegal tiny factories, so they couldn't keep the monopoly profit for the licensed corporations. Then we observed the abolishment of license regulation along with the bankruptcy of SOEs. These facts validate the hypothesis that the increased enforcement cost of monopoly explains the collapse of regulation.

Protection as Persistent Equilibrium:
Agriculture in the ASEAN Free Trade Area (AFTA)
Jose Rowell T. CORPUZ and Desiree A. Desierto
University of the Philippines, Philippines

Why do nations tend to protect their agricultural sector? Amidst participation in various international and intraregional free trade agreements, and despite their espoused beliefs that there are gains from trade, countries always seem to try to exclude certain agricultural crops.  Indeed, multilateral trade agreements (MTAs) have faced deadlocks due to the reluctance of member nations to agree to particular provisions on the trade of agricultural products. Consequently, Preferential Trade Agreements (PTAs) – so-called "pseudo-WTO" - have become a bandwagon in intraregional trade.

This paper posits that such protectionist behavior in agricultural trade is a persistent equilibrium – a path dependent outcome derived from the strategic interaction of optimizing players that are constrained by historical and institutional arrangements that foster and/or limit the scope of trade.

We use a 2x2 coordination game to allow for multiple (Nash) equilibria: a completely "free-trade" outcome, a purely "protectionist" stance, and a mixed arrangement.  Choosing between two strategies "Free-trade" and "Protection",  two players represent competing groups – one gains more from free trade in agriculture, while the other benefits more from protection, but each would prefer coordinating on either free-trade or protection than not coordinating at all.  (Coordinating on "protection" might then entail the two groups voluntarily entering into a PTA.)

The particular payoffs of the game are parameterized by historical forces that shape the players' preferences for (agricultural) trade.  As specific illustration, we look at the participation of the Philippines in AFTA, and examine its historical origins, existing laws and agencies, and relevant cultural norms and ideologies.  Some of these foster free trade, while others (perhaps inadvertently) protect the domestic agricultural sector.  The interplay between such forces highlights the difficulty in ascertaining the 'net' preference for agricultural trade vis-à-vis protection.  Consequently, when the overall institutional framework is itself unclear about its stance on trade, the likely outcome is a mixed equilibrium where the country joins AFTA 'in paper' but also enters into separate PTAs.  This, in turn, casts doubt on the efficiency of AFTA, especially if other member nations obtain mixed equilibrium arrangements as well.

Establishing an Autonomous Cordillera Regional Government:
A Case of Vertical Disintegration
Santos Jose O. DACANAY III
University of the Philippines, Philippines

Twenty years after the ratification of the 1987 Philippine Constitution that provides for the establishment of an autonomous region of the Cordilleras in Northern Philippines, the region is poised once again to enact and ratify an organic act for the third time creating a regional government after two failed plebiscites in 1990 and 1998.  The paper explores whether the establishment of a regional government as an additional, intermediate layer between the national and local government units is a case of vertical disintegration.  Vertical disintegration occurs when various diseconomies of scale or scope breaks the administrative and government process into separate entities, each performing a limited subset of activities and providing public goods whose benefits accrue to different levels: local, regional and national.  Hence, the paper extends George Stigler's work which suggests that the size of the market (or government jurisdiction in this case) limits the extent of specialization which disintegration represents.

The level of analysis in the study is the entire value chain of the local to the administrative regional government in the Cordilleras, and the fiscal transfers of the national government to the region.  This approach portrays both the processes and the institutional context of fiscal administration and public goods provision, depicting episodes of vertical disintegration.  The paper is based on qualitative and quantitative sources of evidence: legal documents and organic laws, and the corroborating panel data of local government units' income and expenditures for the period 2002 to 2006.  Results show that vertical disintegration was conceived in order to share risk in the conflict-ridden Cordilleras by clustering indigenous or culture-based local government units which require proximity for building a common framework and sharing new ideas.  The requisite condition that vertical disintegration is possible if and only if total fiscal revenue is higher under vertical separation than under integration was not supported by the data.  This suggests that in order for the establishment of an autonomous region to be sustainable, the spatial dimension of vertical separation should correspond to a re-designed fiscal structure based on the distribution of fiscal capacity.

Criminal Law and the Proof Beyond Reasonable Doubt Standard:
An Institution That Stamps Stigma
Laarni ESCRESA Guillermo
University of Bologna, Italy

The last two decades saw an expansion in the scope of criminal law as previously tortious offenses like the violation of an environmental standard and insider trading are criminalized. The main rationale is to move away from civil law's traditional limitation on compensatory damages and take advantage of criminal law's punitive sanctions. A tradeoff exists however, as the latter's higher standard of proof leads to lesser convictions. Thus, whether or not the total expected punishment faced by an individual under criminal law is higher than the former becomes ambiguous.

This paper argues that this particular ambiguity will disappear once we consider the role of stigma as an additional sanction that is weak or absent in criminal law. We looked into the properties of criminal law as an institutional technology that has a relatively stronger capacity to stigmatize certain behaviors. Interestingly, this view has dominated legal scholarship but is treated with guarded skepticism in economics. An examination of its substantive concepts and procedural rules point to the "proof beyond reasonable doubt" standard as necessary for stigma to become binding as a social sanction. In a situation where asymmetric information with respect to individual types exists and when the wrongness of an act is as of yet to be established, a high standard of proof ensures a strong correlation between the two and hence, leads to a higher magnitude of the stigma. We attempt to illustrate this relationship in a model that leads to a separating equilibrium with a high standard of proof and a pooling equilibrium when mere preponderance of evidence as in tort law is required.

Will the Property Rights Reform of the Media Industry
Lead to a Free Press in China?
Jiao Hu and Yuting FAN
Peking University, China

After nearly 30 years of economic reform, China finally made some critical steps to introduce private property rights in its media industry. It gives us a great opportunity to see how this change will affect media control and other economic/social aspects of China. While previous studies (Coase, 1974; Djankov et al., 2003) have shown that government ownership of media is not favorable, we will provide a specific case of a transitional economy.

From 2005, the Chinese government started to permit entry of non-state-owned capital into the media industry, although shares hold by this kind of capital cannot exceed 49% in any media. Recently in 2008, this limitation is further loosened. Also, the government promised that in next three years, more than 200 publishing houses and many newspapers/magazines owned by government branches will be made into "modern enterprises."

This kind of change is familiar in most industries of China during last 30 years. But when it applies to the press, things could be much different and interesting. The most important difference is that the press is directly related to China's ideology control. After private capital enters, government will still put harsh restrictions on the products of the press. Then, what does the property rights reform mean? Will the censorship be weakened? Will a free press come out eventually?

We build a model to capture this. At the beginning, government has 100% control over the press. Propaganda leads to very limited market, causing a great financial burden. As the economy grows and people are willing to pay more, the media seek to print more non-ideological content. In this market-expanding process, censorship becomes more difficult. To avoid even greater financial cost, the government has to introduce private capital into the press, which in turn expands the market further. We predict that both property and content control will be loosened. When this process will end depends on exogenous budget constraint of the government and technology.

Empirically, following Djankov et al. (2003) and using data before and after the reform, we will test the relationship among property rights change, media control intensity, and other social/economic outcomes. Data collection is in progress.

The Transfer of Agriculture Surplus Labor Force in China
and Its Influence on Manufacturing
Taiwen FENG, Linyan Sun, and Zhe He
Xi'an Jiaotong University, China

In the past 20 years, China has achieved rapid growth in manufacturing. Manufacturing gives employment to more than sixty million people in 2006, which accounts for 29.12% of the entire employed person. However, the competitive advantage of our manufacturing mainly consists in lower labor cost. At present, there appears the shortage of the labors in some areas and industries. Meanwhile, the labor costs are going up quickly. Some manufactures went bankruptcy in the Pearl River delta since late last year. In contrast, there are great deals of surplus labor in rural areas. But when the mobility of surplus labor will be finished? It is an important question for the development of manufacturing in China.

After the late 1970s, a large number of people moved from rural to urban areas, since Chinese government relaxed the migration control. Moreover, rapid development of sectors such as manufacturing, construction and services in urban areas accelerated the demand for cheap labor. It is important to study the migration of labors for us, because the economy especially manufacturing will continue to develop in a high rate before the mobility of the surplus labor is finished. The tendency of China's economy has attracted a lot of attention. Therefore, studying the economy development from the perspective of labor is important for us to determine the "inflection point" of China's economy. Furthermore, it can also offer help for us to make strategies of developing manufacturing.

In this research, we will build a three-sector model to address the transfer of surplus labor force in the primary industry. We assume that the labor market is perfect competitive, so the mobility of surplus labor will finish when the marginal output is equal for all the three industries. As a result, the number of years for the mobility of surplus labor to be finished will be estimated. Furthermore, we study the determinants of the employment elasticity of manufacturing in China. Through this research we can learn much about the migration of the surplus labor in rural areas in China; also it is helpful for policy makers to adjust family planning.

Law, Economics, and Society: The Role of Law in Economic Development
Ivo GICO Jr.
Brazilian Institute of Public Law - IDP, Brazil

The modern development economic theory has yet to identify the real relevance of law in the development of countries.  We have now many examples of democracies who failed to develop and more stringent political systems that enjoyed consistent growth rates.  My current research agenda is to investigate the relationship between the emergence of rogue cultures, where the lack of trust in formal institutions has led to a pathological collective opportunistic behavior, creating a sub-optimal equilibrium (underdevelopment), and the legal response to this culture.

In Brazil, the so called "Brazilian way" (jeitinho brasileiro) is a paradigmatic example of the behavior mentioned above that has widespread roots in all social levels.  As a result, the legal system has degenerated in to an amorphous aggregate of excessively protective – and in many instances ineffective – measures and rules.  These rules contradict most of the conventional wisdom regarding the necessary characteristics of liberty, property, contracts and finance law, normally resumed as Rule of Law.  No close attention is paid to the underlying transaction costs issues created.  It comes to no surprise that almost half the Brazilian economy is now conducted under the shadow of Government, with all obvious fiscal and social implications.

China's unprecedented growth has offered the same kind of institutional challenge, as more and more complex and trustworthy institutions are required for the immense population that continuously migrates to a modern capitalist society.  In many aspects, though for different reasons, Brazil and China seem to face the same institutional challenges and the solution may be surprisingly very similar.

Avoiding the one-size-fit-all approach, my primarily interest is to try to identify the major characteristics that a legal system has to build up in such an opportunistic environment in order to revert to a healthier environment for development.  I do not propose that Law itself would be a sufficient condition for economic development, but according to the currently available knowledge, from a transaction cost perspective, it is a necessary condition that may be hindering the development of legally underdeveloped countries.

Transaction Costs and the Price of Money:
A Case Study of Silver Dollars in the Qing Dynasty of China
The Transition Institute, China

This research attempts to explain an economic phenomenon in Chinese monetary history. In the Qing Dynasty (1644-1911), foreign silver dollars flew into southeastern China in exchange for China's tea and silk. At the beginning, all silver dollars were regarded as lumps of silver and priced according to the amount of pure silver they contained. Most of them were reminted into sycee (lumps of silver, usually in the shape of a horse's hoof). Gradually, several kinds of silver dollars won the credit of local people and began to be used as currency along with sycee. The price of these lucky silver dollars eventually surpassed the price of sycee which contained as much pure silver as they did. This price phenomenon seems weird, as in Chinese tradition only the amount of pure silver counted when sycee was priced. This research tries to use historical material and economic theory, especially transaction cost theories of money, to explain the time and space pattern of the prices of silver dollars as compared with sycee. The tentative answers lie in the low evaluating cost of silver dollars and the familiarity of local people with some particular kinds of silver dollars.

Although this research is not directly focused on institutions, it may well improve our understanding of monetary institutions in two ways. First, silver dollars' popularity and circulation in China eventually induced China's government to mint silver dollars and to prescribe that the silver dollar minted by China's government was the only legitimate unit of account and medium of exchange in China. This research may help to understand the whole process of institutional change of silver dollars in China, which is valuable to institutional economics. Second, this research might throw some light on the relation between money's economic functions and the qualities of commodities which serve as money. To make clear such a relation is indispensable to understand the functions of monetary institutions as well as institutional change of the monetary system.

Build-Operate-Transfer (BOT) Contracts in Strong and Weak States
Karl Robert L. JANDOC
Asian Development Bank, Philippines

To say that strong institutions are essential to economic development is hardly controversial. Strong institutions, which can be both formal (e.g., laws, third party enforcement) and informal (social networks), are often present in what is called a "strong state".  North (1990), North (1981) and North and Thomas (1973) have emphasized that institutions (especially formal ones) were instrumental in the development of markets—that is, institutions were crucial in facilitating anonymous exchange and long-term contracting.  Strong formal institutions are present when the state can credibly commit to its prescribed rules and regulations and when these rules are not subject to truck and barter in the market.  Thus, many development experts prescribe institutional reform as a fundamental step towards economic progress.

Institutional reforms involve many government processes.  Much of the controversy surrounding BOT projects stems from the awarding process. In many developing countries, the guidelines on how to grant projects to a concessionaire are sometimes being tinkered with, much to the dismay of the general public. The key issue here is commitment. If the government can commit to certain rules (for instance, the "two-envelope system" in Solicited projects), it can be shown that this feature alone has important welfare effects. On the other hand, if the government is unable to commit to these rules, the participating bidding firms will alter their behavior such that the eventual welfare outcome is less than what is socially optimal.

Using a standard auction framework, this paper attempts to characterize BOT contracts under strong and weak states where the issue is the presence of the ability to commit to certain rules of awarding.  It shows how the equilibrium quality and payment package changes when states are unable to stick to its rules. The second section presents an auction model that characterizes BOT contracts with a strong state. The third section will then look at the derivation of equilibrium quality and payment under weak states where the government cannot assure commitment. The fourth section compares the equilibria of these two regimes. The final section presents policy implications and issues from the modeling exercise.

Rising Energy Prices and Energy Policy Adjustment in China:
Evidence from China's Manufacturing
Ting KONG, Lin-yan Sun, and Zhe He
Xi'an Jiaotong University, China

Manufacturing plays a very important role in China's economy. According to a forecast, China will become the world's largest manufacturer in 2009 with its manufacturing value added accounting for 17 percent of the world, more than the 16 percent of the United States. However, energy affects the sustainable development of China's economy and manufacturing. As a motive and a restricting factor, energy not only limits China's economic development potential and future but also affects China's economic structure.

China has been implementing energy price controls for a long time. Price controls, which maintain the domestic energy prices below the level of "free" market prices, aim to protect consumers and manufacturing in international trade. However, the low energy price policy leads to high and inefficient energy consumption in China. Therefore, many scholars are considering whether there is a need for China to adjust its energy policy.

The Chinese government indeed has made some efforts to promote energy price reform, but still far from enough. For instance, they raised refined oil prices nine times from 2003 to 2008 in the context of the continuous rising of the international oil price, yet the domestic price is still lower than the international price. Nowadays, the prices of oil, natural gas, and electricity are still charged by the Chinese government, which is quite different from the international market pricing mechanism. China's low energy prices can not sufficiently reflect the social costs beside the production costs. Once the government releases the energy price controls, the profit space of enterprises and industries will be compressed. Therefore, the rise in energy prices will significantly affect the profit of the manufacturing industries.

This study focuses on the impact of China's energy policy adjustment to manufacturing industries. Every change of energy prices can stand for energy policy adjustment or energy reform. Then with time series data for some variables, including prices, energy intensity, construal variable, and so on, we build a model of the impact of energy prices on manufacturing industries to study the effect of energy policy adjustment. This approach will help us know more about China's energy policy from the level of the manufacturing industries.

Child Health Implications of Water Sector Policies in Africa
Katrina KOSEC
Stanford University, USA

Can private sector participation (PSP) in the urban piped water industry improve child health in Africa? This is a critical question given the stakes. Each year, 1.8 million people die from diarrhea, much of it due to unclean water. Almost 90% of them are children under age five. The problem is especially critical in Africa, a continent that contains ten percent of the world's population, but accounts for forty percent of the deaths of children under age five. This paper uses panel data on the sub-national regions of 26 African countries over 1985-2006 to shed light on this question. This is the period during which nearly all African countries that today have PSP in the water sector introduced those arrangements. A fixed effects analysis suggests that the introduction of PSP is associated with a decrease in diarrhea among under-five children of about five percentage points, and an instrumental variables analysis suggests that the effects may be even larger. PSP in water also appears to be associated with significantly higher rates of reliance on piped water as the primary water source, suggesting that increased access may be driving child health improvements.

Use-Rights and Institutional Environment in the Use of Fish Aggregating Device in Lagonoy Gulf and Sirangan Fishing Grounds, Philippines: Implications for Resource Conservation
Cheryll Casiwan LAUNIO and Yoshinori Morooka
Kochi University, Japan

Fish is a common pool resource, characterized in the literature as depletable, its harvesting rivalrous and excludability difficult and costly. Hence its effective management lies heavily on the quality of collective action among stakeholders, or successful regulation. A FAD or payao is an object or mechanism that fishermen use to attract fish and facilitate fish aggregation for harvest. Despite the longstanding popularity of FAD usage in the Philippines, to the best of our knowledge, there is no national policy or legal framework governing their establishment or use. The goal of this study is to analyze current use-rights and institutional environment governing the use of FADs in coastal and offshore fishing grounds taking the case of Lagonoy Gulf and Sirangan in the Philippines, and explore its implications to resource conservation.

Initial findings showed that when an individual establishes a FAD, the FAD is a private property, but the aggregated fish in the FAD is a quasi common pool resource in the sense that the unwritten customary policy is that any fisherman can fish in the FAD using hook and line gear but not using purse-seine.  Only the FAD owner is allowed to use or commission a purse-seine operator to capture schools of fish in his FAD. Conflict arises when a hook and line fisher using the FAD is tempted to commission a purse-seine operator to capture fish aggregated in a FAD. The FAD owner or any institution has no legal right to apprehend the errant fisher. Considering pelagic fishery in the Sirangan offshore fishing ground where costs and risks associated in FAD deployment is high and it is almost impossible to fish in the absence of FAD, is private claim over the fish aggregated in the FAD justified? What is the implication of this issue on offshore fishing as alternative livelihood option for municipal fishermen and on the larger issue of marine resource sustainability? This study attempts to answer these questions by understanding in detail the profile of FAD owners; the existing customary use-rights and governing informal and formal institutions; and associated transaction costs with regard FAD establishment and use.  

Government Impetus and Investment Distortion:
A Case Study of the Housing Market in China
Jing LI
Hong Kong Polytechnic University, China

Because of the GDP-based bureaucratic assessment and promotion system, local leaders in China are more easily sued to make on-the-edge decisions. In the housing market, for example, local government’s pursuit of out-of-institution income increases the average transaction cost of enterprises, thus distorting equilibrium investment and pricing. The story begins with frequent political announcements of resettlement plans. Since the Chinese government monopolizes the land market, overly bidding, tendering or auction causes misallocation of output. Another effect is that reduction in available land results in an expectation of supply shortage in the long run. Real estate developers are thus inclined to increase their land reserves, which undermines their abilities concerning both price finding and contract negotiating. Next, revenues from land transactions that should be arranged for residential settlements are used to construct public facilities. This creates a non-voluntary demand in the housing market. What is more, enhancement of city infrastructure facilitates local leaders to declare more new dwelling projects.  Finally, residual demands of the poor are left to developers by signing a contract containing a flexible proportion of economical housing construction, adding to their opportunity cost.

Under these circumstances, this paper intends to investigate to what extent local government affects aggregate investment. A pooled cross-sectional analysis of major cities in China is proposed to investigate whether local investment is affected by increasing transaction cost of enterprises. Preliminary empirical results in the housing market suggest that real estate developers’ transaction costs are positively related to total residential investment, but negatively related to economical housing investment. Here transaction costs refer to the cost of price finding and contract negotiating, and opportunity cost. The study suggests that housing developers are propelled to sell commodity at higher price to compensate for their loss in increased transaction cost, whereas local government benefits from both higher income and investment-driven economic growth. The finding of this study is also applicable to explain why there is always a higher investment contribution to GDP growth in China.

No Proper Name, No Proper Conduct:
Corporate Affiliation and Product Quality
Zhimin LIAO
Journal of Peking University, China

This paper demonstrates the deep impact of admission regulation on product quality.

In 1980s, product quality in Whenzhou, Zhejiang province was extremely bad.  Leather shoes could be worn out in several days; the qualified rate of shoes in 1991 was only 14%. However, after 1992 product quality improved rapidly. In the mid-1990s, enterprises of good reputation appeared in droves. People used to attribute this to such factors as capital accumulation, technical innovation, and strengthened regulation. It was probably the abolishment of license regulation that led to quality improvement.

Before 1992, due to the license limitation, all Whenzhou enterprises were affiliated with public organizations such as “village firms”, which seldom had any machinery or administration and could not supervise their scattered affiliates. Because hundred of enterprises shared a common title or trademark, “public land tragedy” appeared, and price competition was the only means to survive.

In October 1992 the 14th CCP conference decided to develop market economy, and the admission limitation was repealed. Data on local enterprises suggested the transformation in Whenzhou.  

According to the data, the private enterprises in Whenzhou increased rapidly. Within one or two years, “cooperative enterprises” in Liushi town increased by three times; small private enterprises in Cangnan County increased by ten times; registered firms in Whenzhou increased from thirty thousand to fifty thousand. On the other hand, village firms - the affiliated service providers - decreased rapidly. From 1991 to 1993, village firms in Liushi town declined sharply from 32 to 3. In Cangnan County, from 1993 to 1995, village firms decreased from 98 to 17. The implication was that affiliated private firms broke away in droves, and “village firms” living on affiliation went bankrupt.

It was also observed that in 1992 the qualified rate of shoes rose from 14% to 70%. Since 1994, dozens of electrical products have passed ISO authentication. Many well-known trademarks appeared in the mid-1990s.  These confirm the hypothesis that once the practice of affiliation disappeared, the improvement of product quality could be seen.

Political Party Stability in the Philippines
University of the Philippines, Philippines

Why are political parties so weak and unstable in countries that need them the most? Theory suggests that in democratic nations with high transactions costs, political coalitions serve as vehicles for coordinating the preferences of society. Yet this aim is rarely met.  Our explanation is that such high-cost nations often have unequal income distributions as well.  Since higher-income groups are better able to form coalitions, membership of coalitions mostly come from such groups.  This tends to bias the interests of coalitions towards the preferences of their high-income members.  When the bias becomes evident and more defined, broad-based support decreases, and the coalitions become unstable, which further weakens their ability to serve the interests of society as a whole.

We examine the political party system in the Philippines as a particular case.  At the onset, local economic and social elites form political coalitions.  These elites try to create credibility and reputation mechanisms in order to safeguard the stability of their party and hence, their interests.  The elites can then exploit such mechanisms by engaging in rent seeking activities, but they tend to do it against other elites – other members of the coalition - who hold much of the rents in the first place.  The interests of the coalition then become more biased towards the smaller set of rent-seekers within the coalition, and support for the coalition weakens.  On top of that, the lack of support, involvement and monitoring from within the coalition, through grassroots based membership, creates more opportunity for rent seeking among elites, which results in even more unstable elite-coalitions.

These unstable political parties have unfavorable effects on the economy. Instability generates incoherent and short-lived policies which tend to undermine growth and development and do little to alleviate income inequality.  Furthermore, the incoherence creates a wedge between formal and informal policies. This provides even more opportunities for rent seeking and adds more pressure against party stability.

Why do Zanjeras Perform Better than Other Irrigation Associations
in the Philippines?
Lester Jeff D. PAWID
University of the Philippines, Philippines

Zanjeras in Northern Philippines are self-governed irrigation systems where there are institutional arrangements among players (head-enders and tail-enders) regarding allocation (i.e., of water) and provision (i.e., maintenance works) problems. Players share equitably and fairly in the costs and benefits from the irrigation system.

The findings of Araral (2006) illustrate the general condition of the decentralized irrigation associations which have been cited in the 1970s as models of decentralization but now are in a state of poor performance. Using the criteria set by the International Water Management Institution, he finds out that: there is chronic underinvestment in maintenance; facilities are deteriorating; water service is poor; productivity is low and hence income is low (especially among the tail-enders).

We use Ostrom's (1993) model of the asymmetries in irrigation systems to show how coordination between head-enders and tail-enders work. The model predicts equitable sharing of water and proportional contribution in maintenance works whereas without bargaining, head-enders draw more water and tail-enders contribute less maintenance works. The empirical implication of this is that the yield per hectare would be more or less the same among players in a system.

Thus, in addition to the indicators set by the IWMI, this paper suggests using the variance in the yield per hectare among irrigation associations. The narrower the variability, the better the performance. We can also monitor the variance through time and make the prediction that as the variance gets wider, an irrigation association is predicted to fail.

Including Real Estate Investment in the Strategic Asset Allocation
of Pension Funds
Yuanyuan SHEN
Goethe University Frankfurt, Germany

Pension funds are one of the main institutional investors in all the investment markets. It aims to optimally allocate pension fund assets relative to long-term liabilities such that pension fund assets consistently outperform them. They are restricted by their liabilities, but can choose from a large menu of alternative asset classes that goes beyond the traditional T-bills, bonds and stocks. Earlier work in both the finance and actuarial literature has looked at asset allocation in an asset-liability modeling framework but without direct reference to real estate. Some work in finance has examined the role of real estate in the context of a mean-variance framework, without taking into account the institutional liability of the investor. Several recent studies start focusing on analyzing real estate investment in pension plan within an asset liability framework, exploring an asset selection process, which depends on both the asset’s covariance with other assets and it covariance with that of the liability stream. However, most of the studies are based on a single-period optimization framework. Pension funds, as long-term investors, whose portfolio choice are affected by the predictability of asset returns, nevertheless, may want to engage in tactical asset allocation strategies aimed at maximizing short-term return, based on the predictions of their return forecasting model.

I am studying the role of real estate investment in the strategic asset allocation of pension funds, tempting to bring evidence to bear on the importance of real estate investment in a multi-asset portfolio, and solve two main questions: first about the covariance structure of the time series properties of returns on assets and liabilities at different investment horizon; second about the beneficial value of adding real estate investment into the asset classes for long-term investors. I am using a vector autoregression for asset returns, liabilities and macro-economic state variables, trying to explore the intertemporal covariance structure within asset classes and between the assets and liabilities and examine the risk diversification properties of the different assets, and whether real estate investment has a different term structure of risk that adds value to the portfolio.

Government Size, Market Development and Corruption:
Evidence from Provincial-Level Panel Data
Jing TAO and Li-An Zhou
Peking University, China

Using panel data at the provincial level during the period 1989-2004, this paper examines the effects of government size, privatization, openness, and education on regional corruption. Applying a fixed-effect model and IV estimation, we find that government size positively affects the incidence of corruption, and the effect becomes larger for the increase in the size of the “core” government sector.

A 1 percent increase in the core government sector leads to a 0.68 percent increase in bureaucrat corruption. The degree of privatization and FDI penetration is positively associated with corruption, while the ratio of imports and exports to GDP is negatively associated with corruption. We also identify the significant impacts of the size and structure of government expenditures on corruption.

Rush for Public Servant Positions in China and the Rent-Seeking Society
Linjing WANG
Inner Mongolia Agricultural University, China

The phenomenal record of competing for public servant positions in China is even beyond the prediction for a rent-seeking society (Krueger 1974). Public servants with low official compensations actually receive several times higher real income, given the unofficial rent. Are they properly compensated or overpaid?

This project is concerned with the inevitable existence of rent and its ambiguous effect. Rent seeking and obtaining function as the lubricant for the operation of the ever-expanding machine of the government system. It is a must-pay price for societies operating under the representation mechanism as to lower the “decision-making-costs” (Buchanan 1965) in the way that individuals need no more negotiating with other individuals by face-to-face interaction but through influencing governments, literally public servants. Governments operate in a similar way as firms, as opposed to individuals (Coase 1937). Policies and services are provided by government without the necessity to seek confirmation from all citizens- eliminating specific contracts. In this sense, rent is a reward to public servants and an assurance for better service viewed by people who offer rent. Rent is a price to pay for a representative society.

Despite that governments and firms share similarity in saving resources in specific contracts, the distinction of government is its coercive power. Firms compete in the market and exit if fail, while it is much less often for government to fail due to the inherent coercive power. Hence, rent is more likely found in developing countries where there exists a higher level of centralization, while the developed world is not free of it, such as in the US Congress (Parker 1996).The institutional design of internal checks in each government determines the monitoring cost and therefore determines rent size.

Through studying the compensations to public servants and their entrance exams in China, this project tries to answer the following questions: What are institutionally necessary conditions for the existence of rent? Could the institutional hotbed for rent be affected by external conditions? Institution has the power to institutionalize itself by selecting supporters rather than reformers. Then, what are the characters of public servants leading to the on-going rent seeking activities?

Reasons for Student Employment: Education Signaling Upside Down
Maria YUDKEVICH and Alexander Apokin
State University Higher School of Economics, Russia

Our project focuses on the importance of beliefs and expectations in functioning and the efficiency of the institutions of market for higher education. Due to credence nature of education and high measurement cost of educational quality of at this market both students and prospective employers of the graduates have to rely on the signals they got and form the beliefs to interpret these signals. These beliefs may force universities to change their educational policy if educational standards are not properly enforced.

While classical Spence model predicts that diploma may serve as a signal at the labor market in the sense that more productive workers obtain diploma and less productive ones do not, at the Russian labor market for students and young graduates the situation is rather reverse. We present a model that explains why there exists such a widespread student employment in Russia with more able students being more active in seeking the job and starting their careers earlier, sacrificing the quality of education they get while striving to work full-time. We take into account an endogeneity of education effort requirement (that is due to the absence of educational standards enforcement) settled by universities, and demonstrate that alternative signaling by job experience may exist even if productivity increase from education is high enough. We use the employers' rationale to make an equilibrium refinement and to explain the features of equilibrium that emerge at Russian labor market for young labor force.

We test our theoretical findings with the data of Economics of Education Monitoring Survey (a series (since 2002) of nationally representative annual surveys of higher education institutions, students, faculty and administrators. It is a joint project of Ministry for Education and Science, Russian Statistics Office (Rosstat) and HSE).

Reputation, Regulation, and Property Rights Protection:
Information Mechanism of China’s Privately Owned Financial Intermediaries after Reform
Peking University, China

Why do privately owned financial intermediaries such as money houses and urban credit cooperatives develop more slowly than other privately owned enterprises in China after reform?

The “gossip mechanism,” which is common in interpersonal lending, is less likely to be used by privately owned financial intermediaries to control loan risk, because of the fear of possible bank runs.  On the contrary, the financial intermediary owner has an incentive to hide negative loan information. Mortgages and guaranteed loans are used to control loan risk, and the support from local government may be used as a signal to contract potential depositors who may anticipate its information-hiding incentive.

This is the information mechanism of privately owned financial intermediaries in China after reform, which determines property rights protection sensitivity of both the depositors and the financial intermediary owners. The reputation mechanism may be another choice. But privately owned financial intermediaries were illegal in China before 2006. Facing the operation regulations and property rights invasion from the government, the private bankers had less incentive and more difficulty to invest in reputation. On the contrary, they are more likely to act opportunistically. This is why the privately owned financial intermediaries don’t develop as fast as other privately owned enterprises in China after reform.

Data and cases from Wenzhou and Taizhou are used to validate and support the above explanations.

Village Democracy, Power Structure, and Administrative Performance
in Rural China
Ben ZOU and Yang Yao
Peking University, China

Chinese village elections started in the mid-1980s and were formally implemented in 1998 through the Organic Law for the Village Committees (OLVC). The effects of the introduction of democracy in Chinese grassroots society, in aspects such as the efficiency of village government administration, public goods provision, pro-poor transfers, and relationships with upper levels of government, had interested government officials and scholars as well as villagers.

Despite the overall optimistic findings in the previous literature and its institutional development over 20 years, in a country still under the firm control of one-party rule, suffrage refined to its relatively poor and less educated population is born limped. Within the village scope, the elected village chairman is not the only authority. The village party branch, which was established in almost all villages throughout the country right after liberation, with its head appointed by the township or county party organizations, is often the most important authority other than the village committee.

The political structure of Chinese villages can be seen as a duopoly game. The two players of the game have overlapping but not the same aim functions. They can both work together to enhance village administration as well as hinder each other’s initiatives. The village committee and its elected chairman have more or less been a threat to the party’s role in rural areas. In order to preserve the democratic process as well as maintain the Party’s control, the upper level government encouraged the party branch secretary to take part in village chairman elections since the 1990s.

Whether the power structure (in terms of the personnel structure) between the two players significantly influences the administrative performance is thus an interesting and important question.

With longitudinal data documenting villages’ elections since its first term, merged with both village-level and household-level data collected by the Research Center for Rural Economy (RCRE), I am able to evaluate the correlation between different power structures and village administrative performances. Instrumental variables are used in order to find causal effects.

The results we have now reinforce the positive effects of the introduction of elections, which increased the frequency of investment and reduced administrative expenses. The overlapping of personnel of the two authorities has no significant effects on village level investment or expenses, but it significantly reduces the village’s role in short-term transfers. We argue that the counterbalance between the two powers provides a check on the risk of populism.