issues, however. These problems are likely to continue as long as the government does not change its fundamental strategy on SOEs.
According to China’s 1994 Budget Law, subnational governments are forbidden from borrowing on the capital market, except with special approval from the central government.8Subnational governments can effectively borrow through SOEs, however. SOEs, which depend on various kinds of government subsidies and are often regarded as de facto government agencies, can and do borrow from banks and on the capital market. In fact, subnational governments sometimes create SOEs in order to finance particular projects.
In recent years, the central government has taken steps to improve expenditure management processes. Some of the main measures include the following:
• Creation of budgeting departments, by which each government agency or public service unit has a single budget, which combines all budgetary and extrabud- getary funds
• Introduction of a Treasury system and the centralization of payment adminis- tration, by which all expenditure funds for each government are controlled in a single account of the central bank, with payments going directly to sellers or service providers (and the elimination of all other accounts at commercial banks and of extrabudgetary account)9
• Standardization of governmental purchasing, by which all government pur- chasing of products, projects, and services that exceed a defined amount go through standard tendering procedures.
These measures have restrained the administrative discretion of local govern- ments to some extent. However, fundamental problems, such as the wide use of extrabudgetary funds, remain. Subnational governments are still actively pursuing administrative autonomy within the limited existing legislative autonomy.
Main Challenges Facing the Current System of
two policy trends have created vertical imbalances that have not been adequately offset by intergovernmental transfers.
This set of circumstances raises the fundamental issue of whether lower levels of government have adequate resources to enable them to finance their expenditure assignments. The underprovision of basic public services at the local level endangers sustainable economic development of many areas, and it causes significant welfare losses for the country.
China’s rural health care system, for example, appears to be failing to provide an effective mechanism for delivering health care to rural residents. It has been increas- ingly acknowledged in official circles and elsewhere that China is now confronting fundamental problems in its system of rural health care delivery, and much of the problem can be attributed to improper expenditure assignments.10
The education sector also suffers from inadequate funding and imbalances among major components of expenditure. Underpaid staff, dangerous school facilities, and inadequate funds for operations are readily observable in many rural areas. All of these problems would seem to be caused by inadequate funding for education. The imbal- ance between expenditures on teaching staffs and operational/construction costs also appears to be having a negative impact on the delivery of education services.
Significant Regional Disparities in Fiscal Performance
The current system of decentralized finance in China yields significant horizontal fiscal disparities. These disparities occur across as well as within provinces, and they are growing (Qiao and Shah 2006). The growing disparities in per capita expen- diture and service delivery are likely to hurt national cohesion.
Disparities in expenditure—which fell for several years starting in 1998 after the central government introduced several intergovernmental transfer programs—have grown since 2000. In 2003 public per capita expenditures in the best-off province were 8.5 times those of the worst-off province, and the coefficient of variation across provinces was 0.77 (table 5.4). For many developing countries, it is regarded horizontally equitable if a coefficient of variation across regions is about 0.3–0.4.
These regional disparities in per capita expenditures exist for almost all major expenditure items in subnational budgets. The disparities are particularly pro- nounced for some items: in 2003, for example, the differences between public health expenditures in the highest and lowest provinces differed by a factor of 13, and the coefficient of variation was 0.8 (table 5.5). In contrast, expenditures on
“public administration” in the highest and lowest provinces differed by a factor of just 3, and the coefficient of variation was 0.4.
Lack of Horizontal Accountability Mechanisms
Under China’s current system of expenditure assignments, local governments are not prioritizing local budget expenditures based on the needs and preferences of their residents. The low horizontal accountability of local government officials to
their residents has likely exacerbated problems with service delivery. Limited fiscal resources do not prevent local government from expanding into areas with heavy overhead expenditures, because there are no clear delineations for government responsibilities between the public and private sectors or across governments at different levels. The current system presents local governments with a wide array of responsibilities, including economic development and adjustment to macro- economic changes, in addition to responsibility for social affairs and the delivery of public services. This system provides local governments with various channels to encroach into private sector activities while reducing the level and quality of basic public services, because local officials are not restrained by any form of insti- tutionalized local political participation. Far from discouraging this behavior, the current system of incentives in intergovernmental relations encourages it, because local officials are rated and promoted for their performance largely based on economic development rather than service.
Lack of Clear Assignment of Responsibilities
The lack of explicit expenditure assignment at the subprovincial level has led to considerable overlapping of responsibilities. Although in theory there is nothing wrong with concurrent assignments, in practice concurrent responsibilities make it more difficult to identify which level of government should be accountable for
Table 5.4 Per Capita Expenditure Disparities across Provinces, 1990–2003
(yuan)
Year Maximum Minimum Average Coefficient of variation
1990 613 99 251 0.57
1991 664 102 280 0.56
1992 729 112 296 0.56
1993 958 122 372 0.57
1994 1,452 157 444 0.69
1995 1,837 226 538 0.71
1996 2,348 278 632 0.72
1997 2,806 308 698 0.77
1998 3,211 347 811 0.76
1999 3,620 409 943 0.76
2000 3,635 225 1,075 0.70
2001 4,387 532 1,383 0.73
2002 5,307 655 1,620 0.75
2003 6,361 741 1,792 0.77
Source:National Bureau of Statistics various years.
Table 5.5 Public per Capita Expenditure for Selected Items, by Province, 2003
(yuan)
Capital Public Province investment Education Health administration Agriculture
Anhui 74.0 131.9 26.7 80.0 50.9
Beijing 494.3 678.5 340.8 268.4 179.8
Chongqing 204.7 137.2 34.6 117.7 54.3
Fujian 107.4 266.5 59.4 105.1 77.8
Gansu 126.7 182.7 45.3 120.3 79.3
Guangdong 302.8 333.5 92.5 220.6 120.7
Guangxi 82.4 162.9 43.3 95.4 61.6
Guizhou 81.8 155.4 44.7 112.0 63.7
Hainan 165.9 182.6 57.3 129.6 86.5
Hebei 61.4 175.9 51.5 99.0 45.2
Heilongjiang 101.6 212.6 60.5 128.3 116.6
Henan 52.0 135.7 31.2 86.0 37.3
Hubei 51.2 148.4 40.4 95.1 47.3
Hunan 77.1 135.2 25.3 88.8 54.3
Inner Mongolia 328.3 228.4 71.8 191.9 149.4
Jiangsu 102.6 241.8 75.0 144.7 89.0
Jiangxi 79.7 151.5 35.4 84.5 55.2
Jilin 117.8 198.6 59.7 115.5 80.5
Liaoning 161.6 233.6 59.8 147.9 104.0
Ningxia 350.8 237.5 77.2 133.3 149.0
Qinghai 553.2 236.6 99.2 208.3 140.2
Shaanxi 125.4 179.8 45.3 127.2 78.8
Shandong 69.8 196.3 43.4 123.1 67.7
Shanghai 1,430.4 767.8 213.0 261.8 138.8
Shanxi 111.2 203.4 61.3 137.1 79.0
Sichuan 86.2 125.2 36.1 108.7 55.8
Tianjin 518.4 470.5 151.4 173.5 79.5
Xinjiang 330.9 274.2 94.2 197.1 120.0
Yunnan 161.1 212.9 74.8 126.7 112.0
Zhejiang 135.3 350.9 97.0 203.5 127.9
Maximum 1,430.4 767.8 340.8 268.4 179.8
Minimum 51.2 125.2 25.3 80.0 37.3
Average 221.5 244.9 74.9 141.0 90.1
Coefficient of
variation 1.2 0.6 0.8 0.4 0.4
Source:National Bureau of Statistics 2004.
the delivery of a particular service. Underprovision of services is more likely in the presence of extensive concurrent responsibilities.
While there are some broad divisions, such that only the central government and provincial governments tend to run higher education institutions and profes- sional and technical education is managed by the provinces and some cities, all levels of government run high schools and primary schools. In practice, expenditure responsibilities tend to be divided by “ownership” of assets: a school set up by the county is financed from county funds, while one set up by the township is financed from the township budget.
The lack of explicit assignments has also created considerable murkiness regarding which level is responsible for financing these expenditures or how these financing responsibilities are divided. This has facilitated the convenient offloading of respon- sibilities down the hierarchical structure of government. In education, for example, despite their inadequate resources, counties have been called on to finance basic education reform; some of these upper-level government measures can be perceived as unfunded government mandates.
Lack of Efficient Expenditure Assignments
Several current expenditure assignments are problematic. The most conspicuously inappropriate assignment is the responsibility assigned to city- or county-level governments for pensions, unemployment, and income support schemes. These assignments are replicated almost nowhere else in the world; in most countries, these programs are central government responsibilities.
Either provincial or national pooling would seem the correct approach to the assignment of these services, as these types of social security schemes require a level of risk pooling and redistribution that cannot be matched at the level of county governments.11 In terms of redistribution, poor communities with the highest needs are also least financially able to fund these expenditures. The inability of many local governments to finance the social safety net has led in recent years to widespread pension arrears and defaults that have forced the central government to intervene with subsidies.