EDITOR’S note:

China’s robust economic growth is sometimes attributed to its gargantuan state-owned enterprises, which many observers blame for expanding at the expense of the private sector.

But according to Nicholas Lardy, acclaimed economist and China watcher with the US-based Peterson Institute for International Economics, much of the myths about state companies are based on imagination rather than empirical study.

He challenges those myths and does justice to private sector in “Markets Over Mao: The Rise of Private Business in China,” a book published last year.

He recently sat down with Shanghai Daily reporter Ni Tao on the sidelines of the Shanghai Forum to discuss why he thinks many are wrong to unduly credit state companies for China’s economic success story.

Q: What inspired you to debunk the widely held myth about SOEs as the engine of China’s growth?

A: All the work I’ve done over the years tends to be empirically oriented.

There is an increasingly dominant view, certainly in the United States and to some extent in China, that the situation in the 2000s was characterized by this guo jin min tui (literally advance of the state and retreat of the private sector).

There are a lot of things that seem to support that, like the creation of the State-owned Assets Supervision and Administration Commission, a number of special industrial policies that seem to favor state enterprises.

What I set out to do was to see what is the empirical evidence.

I looked at four indicators: output, investment, employment and exports. On all those indicators, the role of the state has been shrinking quite dramatically over time.

For example, the share of output produced by state-owned and state-controlled enterprises in 1978 was close to 100 percent. But if you look at manufacturing only, the share of output generated by state companies is now down to 27 percent.

The second criterion is investment. If you look at just manufacturing, the share of state companies’ investment is down to 10 percent.

Then I look at employment. The bottom line is there were only 150,000 people employed by non-state units in urban China in 1978. And now the state share is down to 13 percent.

The final thing is exports. In the middle of the 1990s, state companies produced about two-thirds of all the exports. Now their share is down to 11 percent. There used to be no exports produced by private companies, but now they’ve become quite significant.

What I go on to argue is that all the talk about guo jin min tui is not supported by the data.

The exception is in the services sector where financial and telecommunication services are dominated by the state.

People are correct to think the state is being very dominant, but they are usually thinking about services.

Big state companies have a lot of power. But the argument I make is that they are not very efficient. Their return on assets is quite low. These firms are earning less than their cost of capital.

My conclusion is that, yes, fundamental economic reforms slowed down in the 2000s, but there were a lot of reforms already underway. And the private sector continued to expand.

So I think guo jin min tui doesn’t really capture what’s going on.

Q: Why does the private sector do well?

A: There are two fundamental things.

One is the share of investment financed by after-tax profits, known also as retained earnings. Of course, in the 1990s, the government took most of the profits. After some reforms, in the 2000s, 70 percent on average of all investments are financed by retained earnings.

And then we had a huge explosion of credit in the global financial crisis period. The share of retained earnings dropped but was still over half.

In the late 1990s, state companies were performing terribly. This was a time when a huge number of state companies were losing money, and their average return on assets was very low, less than 10 percent.

Zhu Rongji (China’s ex-premier) did his reforms, and a lot of these poorly performing companies were just eliminated. So their average went up.

They almost closed the gap with private companies in terms of return on asset. But they never closed it, and since about 2005, the gap has been getting bigger.

Private companies have 2.7 times as much return on assets as do state companies. They use resources more efficiently. This is a big explanation of why they grow so fast. Another is the credit-worthiness of private firms.

Q: Speaking of credit-worthiness, isn’t it commonly believed that state companies enjoy cheap credit often denied to cash-starved private firms?

A: You see, I think another misunderstanding about the Chinese economy is that state banks only lend money to state companies. That is revealed to be fallacy in my book.

In 2010-2012, about half of the loans went to private companies, and about a third went to state companies.

There was a very predominant view that state banks lend overwhelmingly to SOEs, but they don’t. They lend more money to private companies. Why?

Let’s look at interest coverage ratio, a metric which means if you use all of your profits to pay interest on loans, how many times over can you pay your loans. This is an indicator of credit-worthiness. If private companies devoted all their profits to paying back their interest, they could pay it back almost 10 times. For state companies it’s only 4.3 times.

So on this metric, private companies are more than twice as credit-worthy as state companies.

Q: Have you been scrutinized over your extensive use of official Chinese statistics?

A: First of all, I’m not really relying much on GDP data. I’m relying much more on profits, financial and output data. I’m interested more in the trend than the absolute number.

Maybe the data are not perfect. But the trend is more important to me than the level. I think the reality is that the data produced by China are better than (those from) any other emerging market. The data coming out of China are much better than those out of India.

They are comprehensive. They come out sooner. And they are revised. China has a system for revising the GDP data, similar to the US. True, there are lots of imperfections, but the broad trends are accurately measured.

Some people won’t be convinced, they won’t accept anything that is based on Chinese data. That’s their opinion.

Some say I exaggerate the role of the private sector.

But here’s my counter-argument: What is the incentive for the statistical agency controlled by the central government to produce data that exaggerate the role of the private sector?

Q: What do you think your critics got wrong about interpreting China’s economic model as a predominantly state-led one?

A: I think too many people pay too much attention to the rhetoric, and not enough attention to what is actually happening.

When you create something called State-owned Assets Supervision and Administration Commission, and you bring all the biggest enterprises under one agency, and you say you are going to produce “national champions,” and you merge many of them so the number of firms is smaller, and each one is much bigger, then people will think these firms are powerful and that is what is generating China’s economic growth.

But we all know that most growth is generated by productivity and efficiency, not just by piling up assets.

My book is very empirically oriented. I came in with an open mind to see what is the real situation, and I looked at as many variables as I could, like output, investment, employment, exports.

And at the end, I argue that the main opportunity for China now is to liberalize the service sector, to allow entry to private players. That’s what the third plenum (of the 18th Central Committee of the Communist Party of China) says. Over and over it talks about a level playing field, competition and reducing monopoly.

Q: What’s your view on deepening SOE reforms?

A: Actually the third plenum has very categorical statements on that. There’s some progress already.

In the financial sector, several private banks have been licensed. Internet finance and payment systems and so forth are providing a great deal more of competition for the financial sector.

And all this Internet finance is private. Peer-to-peer lending, crowd funding, payment services, money market funds, all of these things are injecting competition in the financial sector.

In the oil and gas industry, the evidence is more limited. But remember, Sinopec sold off 30 percent of its downstream distribution business last year to a consortium of private buyers.