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The Worst Place In China To Do Business

In the provinces of Northeast China, the planned economy of the Mao Zedong era are still firmly in place.

In Harbin, Heilongjiang, one of China's worst performing provinces
In Harbin, Heilongjiang, one of China's worst performing provinces
Li Yongfeng

BEIJING — The multiple explosions at a warehouse in Tianjin not only killled 159, but also shone a spotlight on the economic crisis afflicting the northeast region of China. As growth slows, and analysts both at home and abroad speculate about whether the Chinese economy is going to have a so-called "hard landing," there is little to debate about where the northeastern provinces stand ahead of another cold winter: For the first half of 2015, the economic growth of Liaoning, Heilongjiang and Jilin, China's three northeastern provinces, ranked respectively as the country's first, third and fourth worst performing.

With its vast land and rich coal, oil and iron ore deposits, as well as heavy industry bases, the Northeast, known traditionally as Manchuria, has been considered the core industrial center ever since the Chinese Communist Party took over the country in 1949. Even if there exist certain natural limits, the region possesses obvious advantages. Thus the economic woes lie mainly in human factors, including a fundamentally conservative culture that stymies change and innovation.

Even today the planned state-owned economy, dominated by centrally-owned enterprises, still prevails, thus leading to the worship of officialdom and power. According to Song Donglin, head of the Jilin University of Finance and Economics, while centrally-owned businesses account for over 60% of Heilongjiang's industry, "they account for 95% of the enterprises above a designated size in Jilin."

Numerous major cities in the region were built based around these companies' plants and factories, thus tightly linking their development with the fate of these entreprises. Meanwhile the companies also bear a lot of local social responsibilities in housing, education, transport, health care, and so on.

During the expansion of the planned economy, China's central government conceived the national economy as a unified system, and made functional divisions for each region. Since China's economic reform and opening-up globally, many regions are no longer focused on aligning their development in accordance with the central government's plan.

And more often than not, these days, they acquire their raw materials and heavy industrial products — originally assigned to come from the Northeast — from elsewhere.

No market mentality

The Northeast is today the Chinese region where the planned economy still has the strongest hold. When the People's Republic of China was first founded, the government specifically wanted to build its core economic belt near the border with the former Soviet Union because it considered this the safest place. And today, this region retains the most complete Soviet-style planned economy.

Every time the central authorities talk about "revitalizing" the Northeast economy, it is still betting mainly on state-owned businesses, and specifically the centrally-owned enterprises. At the same time the central enterprises, as part of the remnants of China's planned economy, listen to this call as a political mission. Ultimately, this means they don't respond from a market point of view.

China's economic boom over the last three decades has fundamentally relied on the force of the market in an unpredented way for the Communist country. The coastal area's rise didn't rely on centrally-owned corporates but on the evolution of the private sector learning from trial and error. As Zhao Junping, professor at the Northeast Petroleum University, noted in an interview with Asia Business: "It's not enough to stimulate economic vitality solely depending on the state-owned enterprises (SOEs) and the local authorities. There is hope only if the entire society's vitality is mobilized."

A restructuring of the Northeast's SOEs is bound to face much stronger resistance than in other regions, due to its huge social burden. The Tonghua Iron and Steel corporate incident offered an early clue. In 2009, the corporate restructuring plan sparked a massive strike and demonstration that led to the general manager being beaten to death.

Loss of talent

Due to a lack of local business culture, up to now, when leaders in the Northeast try to attract foreign investments what comes to their mind first is the opportunity to reap profits from their sphere of influence. This is not an attractive image for foreign investors.

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In Mudanjiang, Heilongjiang province — Photo: drnan tu

All of this has led to a serious loss of the region's best talent, reinfoced by the fact that in this part of China, more than elsewhere, everything depends on guanxi, the social networks people build around business leaders and government officials.

Worse still is the brain drain from local enterprises. In the past 50 years the region's SOEs developed a massive technical backbone. But now those engineers are lured away by better developed regions in China's southern and eastern coastal areas. In a similar way, China poached numerous engineers from Ukraine to help develop its military industry when the former Soviet Union collapsed.

But brain drain is not the Northeast's only problem. The entire region suffers from a broader loss in population. According to a report of the Heilongjiang Provincial Academy of Social Sciences, after the founding of People's Republic of China the province had seen, for the first 30 years, a net population inflow of seven million people, but for the latter 30 years a net population outflow of over four million. Except for big cities such as Shenyang and Dalian, the province of Liaoning also saw a negative population growth. The regions' fresh labor force entrants are fewer than the retirees.

Natural factors also help explain the northeast's economic downturn. The most important reason of all is that raw materials are being exhausted. City economies which rely on non-renewable resources such as oil, coal, and iron ore are plummeting fast. How to transform the region and reverse the situation is very challenging for local authorities and won't be solved in the short term.

Moreover, the region also bears the cost posed by outdated industry and the extremely cold winter. For instance, the weather is clearly incompatible with heavy manufacturing and industries that require open-air operations. As a remote region tucked away near the border, the Northeast also has an obsolete transport system, with little changed from the lines built by the Japanese.

Catch-22

So far the central government has already carried out a "Revitalization Plan" twice in the region. Alas, not only have they not improved the situation, the local economy seems to have got even worse. Take as an example, the 2008—2009 Chinese Economic Stimulus Plan: a 4 trillion RMB ($586 billion) pumping package, a response designed to minimize the global financial crisis' impact. The pumping led to excessive investments, and, in consequence, resulted in large—scale expansion and overcapacity in various sectors, as well as in various areas, including Tianjin.

Today, many large state-owned enterprises in the Northeast are on the brink of bankruptcy. Through the government's backing they can be revived, but this is most likely to make the matter worse in the long term. After all, the Revitalization Plan is a measure born out of the planned economy idea. Alas, the planned economy is precisely the cause of the Northeast's steep decline — and the only thing anyone thinks can save it from something even worse.

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