Cluster Development in China: Market Size, Binding Constraints, and Local Initiative Xiaobo Zhang Peking University International Food Policy Research Institute (IFPRI) ENID/EL Nidaa’s Six Annual Conference, February 14-15, 2019 1 The Great Puzzle of China’s Industrialization • China has experienced the same degree of industrialization in three decades as Europe did in two centuries (Summers, 2007) • China is the world’s largest exporter today and the largest or second-largest economy (Wu, 2016). 2 • Financial development is regarded as a key instrument for industrial development because pooled resources are necessary to build factories and purchase machineries (Goldsmith, 1969; McKinnon 1973; Banerjee and Newman 1993; King and Levine 1993; Rajan and Zingales, 1998, Ayyagari et al. 2006). • Building a sound legal system is also crucial for ensuring the functioning of market economy (contract enforcement) (North, 1990; Acemoglu and Robinson, 2012). Conventional Thinking on Industrialization 3 • State banks didn’t extend any credit to SMEs in the early stage of reform (Lin and Li, 2001). • One possible channel is informal financing (Allen, Qian, and Qian 2006). However, considering that at the onset of China’s reform, a large proportion of rural people were poor, the amount of local savings available for informal financing would have been rather limited. • Private ownership was not formally recognized by constitution until 2004. China Seems to Defy the Conventional Wisdom 4 Role of Clusters in Industrialization • Most Chinese industrial productions are cluster based. • There are thousands of clusters in China. For example, Datang Township produced 6 billion pairs of socks per year. 5 Use strong social capital to overcome credit constraints and weak institutions • Fine division of labor lowers the capital requirements of entry (Ruan and Zhang, 2009). • Social trust, repeated transactions, and proximity make it possible for producers to use trade credit and informal contracts to fill the void of formal financial and legal institutions. • It is more cost effective to build necessary public goods/infrastructure in a small area than at the national level. 6 The Existing Strengths • Strong social trust embedded in rural communities; • Abundant labor and high population density • Enterprising spirit 7 Three Major Lessons • Cluster development is limited by the extent of market. • Binding constraints in clusters are often location specific and evolving over time. • Local collective actions are needed to overcome the binding constraints facing firms. 8 Market Size • The success of rural reform (giving land user rights to farmers) has released millions of farmers from their land, providing abundant labor for non-farm jobs. • Rising rural income has stimulated the domestic demand for manufacturing goods. • In 2001, China joined WTO. The external demand for Chinese products has greatly expanded. 9 Puyuan Cashmere Cluster • Set up marketplaces • Set up the logistics center 10 Marketplaces • In April 1988, the township government and the local administration for industry and commerce raised 580,000 yuan from different sources and constructed a cashmere sweater marketplace (4,300 square meters of building area and more than 50 rooms). 11 Marketplaces • Between1992 and 1994, the local government further raised nearly 100 million yuan from the Puyuan Township government; the Puyuan Administration for Industry and Commerce (Puyuan Zhen Gongshangsuo); the Puyuan General Company of Agriculture, Industry, and Commerce (Puyuan Nonggongshang Zong Gongsi); the Tongxiang City Goods and Materials Company (Tongxiangshi Wuzi Gongsi); the Tongxiang Supply and Sale Cooperative (Puyuan Gongxiaoshe);various banks; and other sources. • Using these resources, the local government built 11 more marketplaces with more than 3,000 shops for cashmere sweaters and their intermediate inputs. 12 13 Logistics Center (PPP) • It was not economical for each transport company to build separate loading docks and parking lots, meaning that trucks often blocked the streets when loading goods. Some of the companies even hired thugs to fight for the most lucrative routes. • In 1995, to reduce chaos and improve efficiency, the local government intervened and organized 27 private logistics and transport companies into a shareholding company with the local government as the largest shareholder. The company invested 40 million yuan to build a logistics business center, a loading dock, a 150,000-square-meter warehouse, and a parking lot. • The company has auctioned off 109 routes to more than 140 major Chinese cities to private investors. 14 Binding Constraints • Location specific • They are evolving over time 15 The Case of Anding Potato Cluster Anding potato cluster Zhang and Hu, 2015, World Development 16 Expand the Market • Establish trader and producer associations. • Update market information systems. • Set up a new system of local wholesale markets. • Apply for more freight car quotas. • Subsidize farmers to build storages. 17 Acquire and Spread Market Information • The potato association sends informants to live in major wholesale markets nationwide to collect market information. • The county broadcasts the information in local media (radio, TV, and newspapers) and on large monitors in major gathering places (central squares, railway and bus stations). • Greater market transparency makes it harder for traders to cheat farmers. 18 The Spatial Distribution of Markets Over Time ☆: Wholesale market ○: Village collection point Blue: Built 1996-2000 Red: Built 2001-2005 Yellow: Built 2006-2010 19 Overcome Transportation Bottleneck • Lobby for more freight car quotas (up from 1507 in 2003, to 3605 in 2004, and 6145 in 2009). Transportation cost to Shanghai: By car: 450 yuan/ton By train: 225 yuan/ton Anding to Guangzhou: Anding, China: potato train 20 http://www.cnr.cn/gsfw/gsxw/kx/200909/t20090926_505488451.html Build More Storages (55% of annual output) Farmer’s storage: 0.36 million tons More than 2 storages per household Small natural ventilation storages: 0.185 million tons Centrally air conditioned: 10000 ton each Natural ventilation storages: Medium size 200 Yuan Subsidy/storage 21 Role of Local Government • Developing cluster is a continuous process with constantly involving in overcoming constraints. • The one-size-fits-all type interventions may work for once, but not all the time. • After a policy helps remove one binding constraint, another emerges, that in turn, requires a new set of local policies. • Continuous tinkering is often required. 22 Role of Local Government • Most clusters/industrial parks are at the local level. Their development involves constantly tinkering with various bottlenecks. • It is important to put local governments on the driver’s seat considering their informational advantage. 23 Role of Local Government • In China, local governments have strong embedded interests in promoting cluster/industrial park development: – Fiscal competition among local governments – Career competition among local officials • More research is needed to understand the incentive structures of local governments in other developing countries. 24 Is the Cluster-based Model in China Unique? Medicinal and aromatic plants (MAPs) cluster in Egypt 25 MAPs • More than 5,000 years of history, accounting for more than 10% of output. The production is labor intensive, employing many female workers. • 问题： 水污染和质量检验（成本巨高） 26 Three Challenges • Water contamination 27 Processing • Don’t dare to invest in machinery because it is illegal to run a processing plant in a village near MAP production. 28 Testing • Traders have to send samples to Germany or Netherland for testing. Extremely expensive! 29 Why Lack of Local Collective Actions? • Local officials do not have embedded incentives to develop local economy. • Local elites are driven by the agenda of donors. They care only about the interest of donors, which are often not aligned with the interest of local people and do not fit local conditions. 30 Thank you! 31 Cluster Development in China:�Market Size, Binding Constraints, and Local Initiative The Great Puzzle of China’s Industrialization Conventional Thinking on Industrialization China Seems to Defy the Conventional Wisdom Role of Clusters in Industrialization Use strong social capital to overcome credit constraints and weak institutions The Existing Strengths Three Major Lessons Market Size Puyuan Cashmere Cluster Marketplaces Marketplaces Slide Number 13 Logistics Center (PPP) Binding Constraints The Case of Anding Potato Cluster Expand the Market Acquire and Spread Market Information The Spatial Distribution of Markets Over Time Overcome Transportation Bottleneck Build More Storages (55% of annual output) Role of Local Government Role of Local Government Role of Local Government Is the Cluster-based Model in China Unique? MAPs Three Challenges Processing Testing Why Lack of Local Collective Actions? Slide Number 31