The State Advances, The Private Sector Retreats
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China has emerged as one of the 21st century's most consequential nations, making it more important ever to understand how the country is governed. Welcome to Pekingology, the podcast that unpacks China's evolving political system. I'm Jude Blanchett, the Freeman Chair in China Studies at CSIS. I'm joined by Jörg Wittke, the President of the European Union Chamber of Commerce in China. And if that wasn't enough of a demand on his time, he's also the Beijing-based Chief Representative of BASF China.

York, thanks for joining the podcast. Thank you for having me. So I wanted to start with a high elevation question. Today, we're going to be discussing the role of SOEs in Chinese economy and also what this means and practical influence on both foreign and Chinese companies operating in the domestic market. But before we get to that, I wanted to ask you more of a theoretical question, which is...

The predominant narrative since the death of Mao in 1976 and the rise of Deng Xiaoping has been the retreat of the state and the rise of the private sector. And of course, this is in many ways true. If we look back for decades and compare it to now, we see that a very vibrant private sector operating in China with some really world-class companies. And yet, there has never been a point where the Communist Party has turned its back on SOEs.

In China's constitution, indeed, it says that socialist public ownership of the means of production is at the core or the basis of China's socialist public economy. And even the sort of heady days of reform in the 1990s under Zhu Rongji,

It was never about reforming SOEs out of business or privatizing all state assets. In many ways, it was, you know, grasp the big, release the small. It was about consolidation of state assets and state-owned enterprises. So I want to start with a question, which is why SOEs? What role do SOEs play that is so important for the Communist Party? SOEs don't come natural to Chinese business society.

If you look into Taiwan, if you look into Hong Kong, Singapore, you will see that actually there are hardly any SOEs. It's all about the mainland. And of course, the mainland is ruled by the Communist Party. And a Communist Party in China, as well as anywhere else in the world, is all about control. The SOEs are...

basically a mechanism in order to control certain sectors of the economy, depending on how comfortable the leadership feels about opening up to other areas. But they certainly always want to have a control mechanism on energy, on banking, and so forth and so forth. I mean, SOEs in a way are

all over the world. We have them in France. We still have very few, but we have some in Germany. But at the same time, the Communist Party just wants to have a control mechanism and the SOEs are the ones that basically give them the leverage on employment, the leverage on the effect on how they

get raw materials, leverage on how the market is functioning. And so as long as the Communist Party is here, be rest assured, the Communist Party will make certain that SOEs remain in the game.

Now, when we foreign analysts look at the state sector and SOEs, usually in the top paragraph of an analysis will be about the inefficiency of SOEs, inefficiency in allocating capital, the drag it has on productivity in China. What do you suspect Beijing's answer to that is? Do they see this as, "Sure, we know that there's inefficiencies here that we're willing to accept in return for this level of control"?

Or do they see this as a continual problem to work on, in a sense, of perfecting SOEs? Well, for the Communist Party, the way that SOEs operate, meaning less efficient and the return on assets are not as good as in the private enterprises, is sort of their price they pay in order to have control. And they're very willing to take that price. Just imagine if Chao would have no SOEs, how efficient, how efficient.

awesome this whole setting will be. And you can see that they are worried about SOEs returns. They constantly talk about reform, but that pretty much is always in the sense of we maintain control and we

We pay for this, and even if it's lagging behind, we don't care as long as we have leverage over the economy. So in a way, reform in this sense is always meant to be making them slightly more efficient. But again, you can see this all over the world if it's not run by business, but by party or by governments. Companies just have a very different return. They react slowly to market changes. They bring far less innovation into the market.

But China is very willing in order to pay for this. I wouldn't say China, actually. It's the Communist Party of China. Because again, I think Chinese actually are not a natural fit to stay on enterprises, as you can see also in Zhejiang and other places. Chinese just want to be left alone and make money. So SOEs are in a way a natural feature for the Chinese economy.

You just gave, I think, a good analysis of the word reform, which of course, the Communist Party today talks a lot about reform. We hear reform, market access reform, we hear SOE reform. If we could just linger on that a bit more, for those of us looking at China from the outside,

We will undoubtedly see future documents come out pledging reform. What is your sort of heuristic or shortcut for making sense of when you see an actual marketization in the works and when you think this is just reform simply means bigger, better, stronger? How do you make sense and how do you interpret the word reform?

Well, if you look at the utilization of words in politics, in particular coming out of communism, you have to really be careful not to take them at face value. So if they talk about opening up,

That means they have to wait a little bit. There's only few politicians in Chinese history that really did opening up. Zhu and Ji comes to mind, of course. So the word reform has to be in everybody's mind. The reform of this and that, even in the 50s and 60s, they had reform. But it doesn't really resonate with what we assume is going to be reformed.

transforming a company from one asset group to another one. So reform will always be talked about, but will it really change? Again, communist dogma puts an emphasis on control. So yes, they will try possibly to look into numbers of employees. They will look into where companies are basically more operational. They will look into better management structures.

But the base of this is the SOEs have to function differently because that's what the communist overlords want them to do. They have to function in a way where they're less risk-savvy, they're far more cautious. And that's what distinguishes them from Chinese private enterprises who are extremely risk-savvy. They're really cautious.

have a strong sense of innovation. Chinese business actually is enormously innovative. It's just the SOEs that are holding it back. So reform means they hope that SOEs, these elephants start to dance. But I mean, hope never fades, but likeliness is very little.

Speaking of the private sector, I was reading the position paper that the chamber came out with. You had used this phrase, which I like a lot, which is China has this problem of one economy, two systems, or this one economy, two systems model. I wonder if you could unpack this a little bit. I get the one economy. What is the two systems that you're talking about in this?

Economy, of course, is the market in China, the whole setting here. And of course, one system is the SOE life that lives from subsidies, that has better access to capital, has privileged access to licenses and decision making. And then you have the private enterprises. And I really include us Europeans or Americans into that equation that have to function on a different level. And they cannot allow to have one economy, one system.

Given the fact that I have a bit of a Russian background, let me say that one trauma for the Chinese Communist Party is the Yeltsin years and the economy of Russia, how it fell apart. But not only this feature under the Chinese leadership.

This privatization, the getting rid of SOEs in Russia in the early 90s, led to the fact that a couple of Russians, Khodorkovsky, Beresovsky, Gruszynski, Abramovich, got filthy rich. And it's not just that they got rich. They actually were trying to have political influence. They owned TV stations, radio stations, newspapers, newspapers.

And in 1996, Berezovsky and his friends were running the re-election campaign of President Yeltsin. So in a way, if Xi Jinping looks back, the last thing he ever, ever wants to have is that Chinese business is running his election campaign. So in a way, he makes it very clear. And when you look back at his track record since 2013,

is that a lot of these top-level Chinese business people that had huge Weibo accounts, that had influence in many places, were basically put out in prison and other places. So basically, Jack Ma is one of those victims in a way, because he was bigger than life. He was speaking up, and you can see how he was pushed aside. And what Xi Jinping allows private business to do is like

the likes of Tencent boss Robin Ma, who is very silent, very smart about laying law. This is what is acceptable. But the Communist Party in China not just only looks at Gorbachev's perestroika and the kind of opening up and reforming the economy and glasnost on top of it, but really into this kind of privatization of SUEs and the mess it caused in Russia.

So in a way, one economy, two systems is clearly learning out of this. You do not give away control in certain areas. You keep it in the hands of party members and the rest then sort of can play wild and do whatever they have to do. But you can always control it. So in a way, this system or these two systems will remain as long as the Communist Party is in office. We can lament about it, but it's a simple fact.

What it means to us is simply that we have to compete in some areas against companies on steroids. They have different abilities. It's the same 100 meters for all of us to run, but they are basically with red eyes and steroids crossing the line first. And in a way, sometimes it feels like we are running in shackles.

Can you unpack that a bit more? Just I think most of us don't run businesses in China and don't compete against SOEs. I'm just curious at a more sort of granular level, not from your own business, but let's say from stories you're hearing from your members. What is it actually like to compete against an SOE and where does a foreign company really feel or see the unlevel playing field?

Well, if you just take this kind of Belt and Road or going global as an example, I mean, ChemChina went global and were bidding for Pirelli and got this company at an extremely exorbitant price. Syngenta, same way, where ChemChina paid, I guess, 20% more. It's a common feature

of SOEs, they have possibly the political marching order to get certain companies, and then they're willing to pay a 20% premium more than the best international bidder, because the loans come from mother state. And how can you compete against that? They have different political framing. You have situations in China, when you compete against them here, where

They have payment terms of 200 days, 300 days. That makes our life difficult, but also Chinese private enterprises. SOEans turn their suppliers into little bankers. In a way, we are running against companies that are evergreening the loans. Private enterprises cannot. They sometimes even cannot get access to the capital market. And if so, it's very high interest rates. They have a different lifestyle in getting procedures done, licenses and so forth. I mean,

Really credit to Prime Minister Lee Kee-chang who was trying to tackle that in order to cut down on these administrative licenses that you have for private-owned enterprises, which of course you don't have for SOEs.

And then, of course, the audits for environmental, for labor and whatnot. If you're a Chinese private enterprise, you have an endless stream of visitors checking on virtually everything that you do, possibly in the hope that you do something wrong so you can pay penalty for the city coffers. SOEs don't get visitors like this.

So in a way, I must really say I marvel about the resilience of Chinese private enterprises, how they managed to establish themselves in areas where the state is very strong. And to me, it's very interesting to see where China actually has created global champions and where they have not.

They have created global champions where the state didn't get it, where the ministries didn't feature and figure it out of where business is going. And I mean, the internet world, our ministry of MIT here, when they were founded 10 or 15 years ago, they had mostly manufacturing guys. They had no idea about Tencent and Alibaba and others when they were growing. And these companies were growing so fast that it was really difficult

to suppress them or to have built up SOEs next to it. So in a way, it's interesting, wherever the state has the administrative ideas, the competence of that, they actually put a damper on it and basically try to make sure that these companies are safeguarded. And the rest is basically the wild east here in China.

In one of the recent member surveys, there was a few eye-popping statistics just in terms of the presence of or the predominance of the state sector in markets where your member companies were trying to compete. I'm curious in terms of marginal dollar investment deployments,

Is this re-rise or this rise of the state sector under the Xi Jinping administration having an effect on how foreign companies are thinking about where they're going to deploy capital? Or is this just seen as a cost of doing business in China as you've got an incredibly unlevel and rough playing environment? Or are people thinking about maybe pulling some dollars out and shifting them elsewhere in the global economy? Yeah.

If you are in areas that are heavily dominated by SOEs, meaning finance, insurance, energy, you are destined to become a niche player. A niche in the sense of in the banking sector, foreign companies, not just Europeans. Foreign companies have 1.7% of financial assets here. Finance, I guess 70-80% of the banking system in China is in SOE hands.

So in a way, this has been growing and we were not invited to participate. And we always get invited to participate once the Chinese competition is so huge that we cannot compete anymore. The same in energy. We get invited when there's an overcapacity in refining that we could do refining.

Once Sanopec and PetroChina has all the gasoline stations across the country, that's when Shell and BP and others can actually start coming in. And insurance is pretty much the same picture. So we have the ability to offer services which the SOEs and the Chinese private enterprises cannot come up with. We have international linkage.

And we have technologies where the Chinese don't feel comfortable with their own companies. For example, in the development and high sulfur gas fields, where they really like the likes of Chevron. So we are niche players where they need us.

And we are major players in areas where it has to do with the fact that Chinese companies simply are not there yet. Car industry, chemicals, where they need us. So in a way, it's not a market for us by having a regulator. It's a market for us where we're invited to the party, but only on certain terms.

The next question is not specifically about SOEs, but this is an issue that I first came to be interested in when around 2015, you began to see some announcements come out of SASAC and the party apparatus about increasing the role of the Communist Party in formal corporate governance structures within the state sector. And then I think

you were watching this and concerned about this as well. You began to see that bleed over where foreign companies that had JVs or SOEs were getting these polite requests to revise their articles of association to give du jour a role for the Communist Party.

I wanted to ask you about, as someone who's both working in a company in China, running a company in China, and also in your role as chamber president, five years on now from when this drive began, and again, we were just talking beforehand about some of the new document that came out about party sales in private sector.

I wanted to get your practical opinion. This sounds very scary, especially when interpreted through the lens here in Washington, D.C., but I wanted to get an on-the-ground perspective of what is the state of this drive to put the party or graft the party onto corporate governance in JVs and private companies? What does it feel and look like and how much progress has the party made in doing this?

Well, again, it's an attempt by the party to gain control over areas where they feel like they need control or they have less control, private enterprises, foreign investors, and so forth. The company law in China is very clear. If you have three or five card-carrying members, you have to have a party cell. And the party cell then can do whatever they feel like doing, meaning studying the latest speeches or doing party work.

That's absolutely no problem. I think I have good experience with this. We have a couple of party cells in our various operations, be it 100%, be it a joint venture. So the law is the law, and that's the whole point. There is no law that asks us in order to have a party cell that is operationally engaging itself with a company.

And that's where we draw the line. If you have a party cell, it's pretty much like a rotary club. You know, after 5.30, you can sit around the table and discuss things. If a company is nice, they provide the room and access and so forth. It's a totally different game if you have a party cell leader that is sitting invisibly at the management table or at the board level table in order to then make a decision or help you to make a decision.

So if you want to lay off people, you go to the party cell and ask them. Of course, the leader says, no way. Then you go back to the board. And of course, the investors ask you, shall we close this factory and lay off people? And then he says, well, economically, yes. But the party leader said, maybe it's not a good idea.

And do you take this as consultation, meaning we don't care? Or do you take this serious like, you know, this is the party leader and you could cause problems for you? So I always advise companies, frankly, to follow the law. Do not interfere in operational issues.

It is very clear, and I think for the sake of China, predictability for the rule of law and others, that actually we should not fully follow party doctrine. We should follow the company law. So I always tell the Chinese leaders, you know, if you really want us to install that operationally, then make it into law. We are law-abiding companies.

And the risk, meaning the decision-making, should always be with those guys that put the money on the table, and not these guys that never take any risk or carry any responsibility for this kind of risk. So in a way, I'm always stunned when I see that foreign companies sort of allow this to happen, that the party cell has an operational say.

in major things. And then basically, they always tell me that, yeah, but this is China, you know, you know, having lived here 30 years in China, I do know, and I do know that I want to have a very clear line of responsibility, the investors to carry the risk, they make the decisions, and we follow the law. And if they have a problem with that, then change the law.

That's a great point. And I think, you know, oftentimes when you've got leadership turnover in some of these foreign companies, you get someone who's new here, only been a couple of years, and you're in a unique position to have the confidence to know where you can push back, how far. But obviously, a lot of companies don't have, you know, personnel on hand who have that tactile sense that you do from three decades. And I think looking across the membership, how much room do you think companies have to push back on this? I can see...

100% the feeling of, if I push back on this, my cargo is not going to be unloaded at the port or there's going to be other issues here. I guess your argument is, look, folks have a lot more leeway to push back than they think they do.

One driver is certainly also the fact that we have more and more competent Chinese managers, nationals that move into the top position. And they have a very different view on the role of the party because that's where they grew up in, in the environment where the party is calling the shots. It's just reality for them. But for us, we are really into structures. We like to have a clear line of responsibility. And I always advise headquarters, just really make sure that you are

if you have a partner, with your partner, have the final say about economic decisions. Do not interfere and let someone intervene that carries no risk. So in a way, it is astounding because then companies tell me, yeah, but a communist party cell can help me in a couple of issues. Then the problem is, why do you need the party cell in the first place to get maybe a license or a joint venture up and stuff like this? Then maybe something is wrong there. So

It is something where I see a trend line now also with the party cells being more implemented in Chinese private enterprises. But the new dimension, I would say, is the fact that the U.S. is getting tough on the Communist Party of China. So, you know, there is this possible travel ban. Now, if you happen to have a card-carrying CEO of your company, you want him over to a meeting, he might not be entered to see your headquarters.

Again, in Europe, it might be the case in five years that the Communist Party is being viewed differently and comes with more restrictions. So why do you want to get yourself in this hot water and not just stay where the law requires you to stay and basically keep it party-free in the decision-making and allow the party to work on the side on ideological areas?

In particular, in this area, this time when politicization is becoming so evident that even capital markets look into this, meaning do we invest in a major multinational if that multinational has given away the power to make decisions in a market like China?

then of course, they might not do this because there's a silent shareholder who carries no risk, but has a major say is sitting on the table. So I can only tell companies at a particular headquarters, just don't go down this road. Just pivoting off your comment here about a ban in the United States, which I don't think is going to happen, by the way, immigration law, it is illegal, you can't be a member of a quote, totalitarian party, including the Communist Party. That's been around for a long time. I

I hope and I don't think we'll see this ban on Communist Party members and their immediate family. But let me just pivot off that and say clearly and something that is evident to anyone watching this is even take Trump out, there is a increasing and very strong consensus that is building from Canberra to Berlin to Brussels to London to Ottawa down to D.C. that there's something very, very wrong.

in the bilateral relationship those countries have with China. And increasingly that multilateral institutions can't afford

effectively contain or govern China. WTO comes to mind on this. So obviously, the global environment for Chinese outbound investment and activity, SOEs and otherwise, is entering a new constrained environment. Beijing now talks about dual circulation, which I think is a recognition that they're seeing they want to tip the scale more in the domestic market because the global market is going to be a long-term constrained environment.

I say that as prefatory remark to ask you a kind of a summing up comment about the future of state-owned enterprises, but I think also this Xi Jinping model, this Xi Jinping economic philosophy. It has, in my mind, done absolutely the opposite

of "Make China Great Again." I think this has, over the past three or four years, done a lot to overcome the deficiencies of the Trump administration and has overcome those to create a rallying effect. You're seeing markets closed off for Chinese companies. The EU has become much more hostile to outbound investment. China is now entering a longer-term low-growth environment, so scarcity is going to be on the mind of policymakers.

There's a lot not to be optimistic about in terms of the sea philosophy. I wanted to get your perspective on where is this going? Looking at the realigning global environment, looking at the shifting domestic environment, you've been here three decades. When you look out three, five, 10 years at the future of this economic model, with its heavy reliance on SOEs, low growth, constrained international environment, what's your prognosis? Does something break here?

and China makes a pretty remarkable pivot back to a sort of 1990s, mid-1990s kind of more benevolent type of authoritarianism? Or do you think they just continue to drive ahead, costs be damned? Well, first of all, the Communist Party is all about control. So we rest assured the SOEs stay in the toolbox and in a very dominant position. It's all about control. It's about control of speech. It's control about decision-making. It's control, period.

So it's going to stay. I think that actually is carried forward with a clear assumption and awareness that SOEs bring back less dividends, less money into the coffers and are possibly a problematic case, also innovation. So they try to have this dual system of SOEs and private enterprises and the foreign engagement where they can't fill the gap.

Where this is going, well, I guess that it's where it's coming from. It all has started, I guess, in 2008, 2009, the financial catastrophe, where the world has proven that capitalism is having a major weakness. The assumption ever since in Beijing was the West goes down and the East is rising.

There comes also the historic perspective, like it's a comeback kit. As China was for hundreds of years, 40, 50% of global GDP. So to be at 15% is maybe not good enough. So in a way, you have these glasses through which the party is looking at the world.

And that is just very fixated on the West goes down and the East goes up. So even if China is closing up, the East is going to rise. And if you look into the US and Brazil or Europe in many ways, Brexit and so forth, politics in our backyard, it's always confirmed that view that, yeah, like, just wait and we can do whatever we want to do because we're going to be historical winners. And I think that's where the problem starts.

because they cannot see that they're a victim of their own propaganda, and they're a victim of the hubris they have developed over the last years. I guess this system here is far more fragile than actually people in the West acknowledge. Democracies have an incredible messy attire, but they are very resilient in many ways. There's no question

that Europe and the US is going to remain democratic and finds just different avenues. Here, it all boils down to if that one man is out of business, then what's going to happen? I'll put it like this. Where's that going to go? They have developed a wonderful rubber plantation. Everything is lined up beautifully, very efficient, and democracies are just a very messy garden. Something dies here, something grows back there. And

And where it leads to, I don't know. I mean, if you look into the European Chamber position paper, we asked the World Bank to give us a clear idea about China's economic development, GDP per capita, PPP, to see from day of opening if the Communist Party has made a wonder out of this country, because that's how it looks like to me when you look outside the window. And it turns out to be that when you compare it with the economies of Taiwan, Korea and

China has been developing along the same lines, again, GDP per capita, just 1.4 billion times. So it looks massive. But as a matter of fact, China has been identically going on this line. And very interesting, if you look into this paper, since four years, China is falling behind. The recurrence of SOE maybe or whatnot. And again, this is overshadowed by the success along the coastline, but China's falling behind. So we asked the World Bank on three scenarios.

What is the future for the next 30 years? And the paper says that when you have a baseline, China, of course, has a growth potential, which is very strong, but it will fall behind Korea and the economy of Taiwan, will sometimes sort of match Japan, but definitely will not get anywhere close. Again, times 1.4, it will be the biggest economy, no doubt about it. Then we ask for comprehensive reform, meaning pushing aside SOEs. China takes off like a rocket.

and will overtake all the other three economies in about 10 years. And then we ask for basically the kind of restraint, the kind of pulling out of globalization, the kind of focusing on the inward. And China will remain GDP per capita lower than all of the other three economies for the next decades.

So in short, where will this go? Well, given what I see now, they have just decided it's good enough to grow and we don't have to match the growth model of the other successful economies. And as it is 1.4 billion, then it's fine. We're still the greatest and the biggest and so forth. That possibly gives them the wrong notion that this is just good enough. But to me, it is not taking into consideration people's minds, the consumers, and it makes, I guess, the system far more fragile than it has to be.

Well, on that optimistic note, Jörg, thank you for your time today and your insights. I can think of few folks who have as much both tactical and strategic perspective on how China's business environment operates, but also this big question of where things are going. So thank you very much for your time. Good night, Jude, and good luck with the next Peckinology.

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