China’s Entrepreneurship Problem

Douglas Hervey writes on the HBR Blog Network about China’s entrepreneurship problem. While Hervey’s take on this problem is both a little unexpected and a bit odd, the truth of the matter is not: there is indeed an entrepreneurship problem in the People’s Republic of China.

It should be no surprise that entrepreneurship is problematic in a planned economy, even if it – like China – is planned to use certain features of capitalist production. In fact, this follows from what Ludwig von Mises identified already in 1920 in an article that spurred the socialist calculation debate in the 1920s and 1930s, and then elaborated on in 1922 in the book Die Gemeinwirtschaft (published in English as Socialism: An Economic and Sociological Analysis).

The essence of the argument is that entrepreneurs, while imagining profit opportunities in the unknown future, must rely on market prices to be able to calculate profitability of projects and, consequently, to choose between available alternatives. Market prices tend to reflect consumer valuation in an unhampered market where supply and demand consistently “chase” each other, and the market prices of the produced means of production therefore reflect their respective social value (in terms of consumer want satisfaction) and so direct production toward more efficient/productive (profitable) uses. Without market prices, there is no way for entrepreneurs to correctly anticipate consumer wants or the best (most efficient) use of resources. Writes Mises (1949, p. 694):

The director wants to build a house. Now, there are many methods that can be resorted to. Each of them offers, from the point of view of the director, certain advantages and disadvantages with regard to the utilization of the future building, and results in a different duration of the building’s serviceableness; each of them requires other expenditures of building materials and labor and absorbs other periods of production. Which method should the director choose; He cannot reduce to a common deno~ninator the items of various materials and various kinds of labor to be expended. Therefore he cannot compare them. Hc cannot attach either to the waiting time (period of production) or to the duration of serviceableness a definite numerical expression. In short, he cannot, in comparing costs to be expended and gains to be earned, resort to any arithmetical operation. The plans of his architects enumerate a vast multiplicity of various items in kind; they refer to the physical and chemical qualities of various materials and to the physical productivity of various machines, tools, and procedures. But all their statements remain unrelated to each other. There is no means of establishing any connection between them.

While the People’s Republic of China (distinct from the Republic of China) is fundamentally a planned economy, it is oftentimes described in the media as “capitalist.” But this is a superficial analysis since the economy is still under the control of the communist party, which consciously introduces capitalist incentives in the planned economy regionally in a step-wise manner (first the coastal areas, and then further into the country). Following the (still unanswered) argument by Mises, the Chinese economy – as it is planned – cannot function properly in itself but is fundamentally reliant on international prices.

The “miracle” in China’s enormous economic growth lies in its previous backwardness and the subsequent introduction of (limited) entrepreneurship made possible through trade with other countries and the available information on international market prices of the produced means of production. China’s entrepreneurship problem is of much greater fundamental import than the (artificial?) strength of the yuan – the Chinese economy lacks market valuation and therefore actors cannot properly rely on economic calculation.

The Chinese economy is ultimately limited to (however successfully) copy production already existent in market societies; international market leadership through successful entrepreneurship is impossible as long as the economy relies on central planning.

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