Regulating for Competitiveness? Perspectives from Tax, Banking, and Employment Law

The Oxford Chinese Law Discussion Group recently hosted a fireside chat with three scholars in Chinese tax law, banking & corporate law, and employment law. We examined the role of ‘competitiveness’ in various areas of law and regulation in the Chinese context.


Time to read

8 Minutes

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The World Economic Forum (WEF) has defined competitiveness as “the set of institutions, policies and factors that determine the level of productivity of a country”. WEF produces an annual report that ranks countries based on a Global Competitiveness Index (GCI), which is organised into 12 main drivers or ‘pillars’ of productivity: Institutions; Infrastructure; ICT adoption; Macroeconomic stability; Health; Skills; Product market; Labour market; Financial system; Market size; Business dynamism; and Innovation capability. The competitiveness of 140 economies is assessed based on 98 indicators under these 12 pillars, with a progress score ranging from 0 to 100 (with 100 corresponding to the ‘goal post’) for each indicator. According to WEF, economies need to adopt a holistic approach to increasing competitiveness: “A strong performance in one pillar cannot make up for a weak performance in another.”

In 2018, the United States is the closest economy to the ‘100 goal-post’ across various indicators, with an overall competitiveness score of 85.6. Other countries in the top 10 include: Singapore (83.5), Germany (82.8), Switzerland (82.6), Japan (82.5), Netherlands (82.4), Hong Kong SAR (82.3), the United Kingdom (82.0), Sweden (81.7) and Denmark (80.6). Of the BRICS grouping of large emerging markets, China is the most competitive, ranking 28th and with a score of 72.6 on the GCI. The top-performing pillars for China are: Infrastructure (ranked 29/140); ICT adoption (26/140); Market Size (1/140) and Innovation capability (ranked 24/140). Pillars with lower rankings for China are: Institutions (65/140); Skills (65/140) and Labour Market (69/140).

Indices that seek to rank countries such as the GCI, IMD World Competitiveness Rankings, and World Bank’s Ease of Doing Business Index have inherent limitations. For example, some factors that would be considered by many people as essential to the well-being and productivity of an economy, such as social inclusion and environmental sustainability, are not included or reflected in the GCI. Furthermore, in attempting to develop a uniform measurement of competitiveness, the GCI does not interrogate into the differences between countries in terms of the structure and characteristics of their political economies. As such, we need in-depth, qualitative studies to understand how the ‘pillars’ of competitiveness are influenced by such differences. In this blogpost, we ask the question of ‘what does regulating for competitiveness mean in a market-oriented economy with Chinese characteristics?’

On Tax Law – Yue Dai (Daisy)

Due to the low transparency and complexity embedded in China’s tax system, the world has struggled to understand and form an opinion on whether it is ‘competitive’ or whether China is becoming relatively more or less competitive over time. China’s tax competitiveness is not within the rankings provided by the OECD and the Tax Foundation.

In the face of economic competition from China, the Trump administration has argued the case for raising competitiveness as a major impetus for changing US tax law. The Tax Cuts and Jobs Act of 2017 (“TCJA”) cuts corporate tax rate to 21 per cent, taking the US to the OECD countries’ average range of 25 per cent. TCJA also purports to simplify the tax code for both business and individuals. Given its recent introduction, the success of the TCJA remains to be seen.      

My research seeks to find answers to a number of key questions: Are some businesses or sectors moving their operations out of China due to high tax burdens? Why does tax competitiveness matter for a country like China? How has China’s tax reform evolved in response to external pressures? What is the future of China’s tax reform in the context of the US-China trade-war? I make a few observations below.

First, China is still in an early development stage of modernizing its tax system. Faced with a significant tax burden, many middle-class Chinese taxpayers have been demanding changes to the tax system. The government is not only open to public participation in reforming tax legislation, but also expects to develop the tax system with taxpayers’ trust and confidence.

Second, gradual steps to cut business taxes and deepen VAT reform have been undertaken by the government with the goal of enhancing China’s business competitiveness.

Third, to encourage high-tech enterprises and other businesses in strategic sectors, in line with the Made in China 2025 industrial-upgrading agenda, the preferential corporate tax rate (i.e., 15 per cent) has been expanded to many businesses.

Fourth, by adding Hainan as the twelfth free-trade zones (“FTZ”), tax incentives will continue to be a major factor for encouraging investment and global talents in the FTZs.

Fifth, the 2018 Individual Income Tax Reform was a significant step in modernizing China’s tax system. By speaking to the core issues and addressing individual taxpayers’ basic needs, such reform represents decades of policy developments that have evolved from fundamental tax principles.

Overall, China’s tax laws will see more meaningful and gradual reform in the years to come, with an emphasis on basic tax principles.

On Banking Law - Jacob Schumacher

The notion of “increasing competitiveness” in the Chinese financial system is one that is best understood in the context of banking; how have domestic banks in China been reformed in light of the integration of China into the world economy?  The Chinese financial system is dominated by the banking sector so its importance to the overall Chinese economy cannot be understated. However, Chinese banks have been plagued with historical underperformance due to their strong links with state owned enterprises and the issuing of high levels of non-performing loans.  Additionally, these banks only provided the most basic of banking services prior to economic reforms.  They lacked newer lines of businesses that have become essential to modern banking activities around the world. At the dawn of the new millennium, the Chinese financial system looked unprepared for the entry into the global economy.

With entry to the WTO, Chinese policy makers stressed the importance of domestic reform of Chinese banks to increase their competitiveness.  To that end, reforms sought to improve the fundamental business activities of banks so as to prepare them for integration with the global financial and the promise of increased competition. One major way Chinese policy makers sought to improve performance of Chinese banks was through institutional reform.  These reforms focused on creating banking institutions that possessed formal corporate structures in accordance with international standards of corporate governance. Policy makers sought make  banks into formal companies that sought profit as their main business objective.  Due to such reforms, links between the local people’s governments and domestic banks were greatly reduced with the majority of Chinese banks now organized as limited liability companies with more clearly defined business objectives.

To support institutional changes, a legal and regulatory reforms were also undertaken as well.  These legal and regulatory reforms focused on improving oversight with the establishment of new regulators and a law-based framework that governed the establishment, operation, and control of Chinese banks.  Chinese company and banking law were strengthened simultaneously to provide clear definitions as to what a “company” meant and how banks themselves were to be identified as companies.  Laws and regulations were also used to incentivize adoption of reforms; regulatory approvals to expand domestically and adopt new lines of business were granted only to banks that adopted sweeping institutional reforms. 

Research examining the results of these reforms have indicated that these banks have significantly improved their performance.  Additionally, these banks, now operating as formal companies, have begun to expand domestically through the opening of new branches and the adoption of new lines of businesses including credit cards, online banking, and other modern banking services.  Indeed, the changes that have taken place in the banking system suggest a sector that has increased its competitiveness and is looking to dynamically impact the world of finance in the future. 

While these reforms have brought significant changes to Chinese banks, this too has raised concerns about how much fundamental institutional reform has been achieved.  Local people’s governments and state-owned enterprises are becoming some of top shareholders of smaller banks suggesting that strong links have still been maintained.  New lines of business have led to the development of financial products with opaque structures and promises of high returns.  Further, the explosion (and implosion) of online lending platforms in the past few years has also raised questions about the nature of the competition Chinese banks face and how policy makers can handle the rise of new financial technologies when issues in credit allocation arise. 

The Chinese banking system is a fascinating, complex, and dynamic sector of the Chinese economy that has, like many other sectors, undertaken whirlwind changes in a short span of time.  While we can say that the law and reforms undertaken has shaped Chinese banks into the institutions we see today, it is still an open question as to whether these banks have increased their overall competitiveness in the long term. 

On Employment and Labour Law – Mimi Zou

Since the 1980s, China’s dramatic economic and social reforms have fundamentally transformed the relationship between the state, labour, and capital. The former state-organised labour administration system based on the so-called ‘three old irons’ of lifetime employment and ‘cradle-to-grave’ welfare, fixed wages, and controlled appointments were dismantled. New policies were introduced to support market reform that entailed the promotion of greater labour market flexibility and competitiveness to meet the demands of foreign and domestic capital. In its rapid industrialisation, China became the ‘factory of the world’ at an unprecedented pace and scale, on the back of a seemingly abundant pool of low-cost labour. A key feature of China’s labour market reforms in the 1990s was the creation of a labour contract system. In January 1995, the Labour Law of the People’s Republic of China entered into force as the first national-level labour legislation. It formally established labour contracts as the primary institution for regulating labour relationships, intending to provide the flexibility for employers and employees to enter into different types of labour contracts (including fixed-term) while ensuring basic rights of employees.

Competition among localities to attract and retain investment frequently led to local authorities relaxing the enforcement of labour laws. Despite the Labour Law requiring an employer and worker to formally sign a labour contract, many workers (especially rural migrants) were commonly engaged without one. This made it difficult for workers to provide evidence of a labour relationship when claiming wage arrears and other labour and social protections. Major deficiencies in the legal and institutional framework for regulating new market-based labour relations in China became increasingly apparent in the 1990s and 2000s. The escalation of labour disputes revealed significant discontent and frustration among workers over widespread violation of their labour rights and the ineffectiveness of formal institutions (including trade unions) to handle their grievances. In response to the potential socially destabilising effects of mass labour unrest, Chinese policymakers introduced a wave of worker-protective labour law reforms in 2007-2008, including the Labour Contract Law. One of the most important policy objectives underpinning the reforms was the promotion of ‘harmonious labour relations’, rather than increasing competitiveness. Broader macroeconomic policies aimed at increasing average wages and domestic household income also saw significant increases in the statutory level of local minimum wage across China.

At the time the Labour Contract Law was enacted, there were concerns about rising labour costs among multinationals operating in China. There were countries in the same region that offered substantially lower labour costs and weaker labour law protections. While some industries and firms began to relocate their operations to nearby Southeast Asian countries, many others stayed. CEO of Apple, Tim Cook, explained why his company still favoured China as it central manufacturing base:

“There’s a confusion about China. The popular conception is that companies come to China because of low labor cost. I’m not sure what part of China they go to but the truth is China stopped being the low labor cost country many years ago. And that is not the reason to come to China from a supply point of view. The reason is because of the skill, and the quantity of skill in one location and the type of skill it is”.

From Cook’s statement, it can be seen that a key driver of competitiveness is a skilled workforce, rather than low labour costs. There is no clear link between international competitiveness and weak or lax labour laws in the Chinese context. Regulating for competitiveness has not been the primary goal of labour law reforms in China over the past decade. Elsewhere, I put forward a “Social Rights Hypothesis” to explain how labour-law rules and institutions have been developed and used by the party-state to support the marketization of the Chinese economy and address the socially dislocating effects of rapid economic growth, such as the attendant risks of widening income inequality and wealth gap.