Fiscal decentralization in China happened in the early 1980s and took the form of a revenue-sharing system between the central and provincial governments, which is called a contract responsibility system or "eating in separate kitchens". For 15 provinces, revenues were divided into three types, central-fixed revenues, local-fixed revenues and shared revenues. During 1980-84 around 80 percent of the shared revenues were remitted to the central government and 20 percent retained by the local governments. Other provinces and cities had adopted a variety of revenuesharing methods, after prolonged negotiations with the Central government. In 1988, fiscal contract system further increased the revenue share retained by the localities. The system initially stimulated the local government's incentives for tax collection. However, it gave the localities control over effective tax rates and tax base, and thus, caused continue erosion of central government's revenue and undermined its ability to use fiscal policy instruments. From 1978 to 1993, the ratio of total government revenue to GNP declined from 35 to 13 percent; and the ratio of central government revenue to total government revenue declined from 51 to 37 percent (Ma 1996).

Reform of China's state-owned enterprises (SOEs) has gone through three phases. The first phase (1979-1986) focused on giving a certain amount of autonomy to enterprises in exchange for their efficiency. New freedoms included a slowly rising share of profits that could be retained for wages and bonuses and new investment, greater autonomy over production decisions and wages, adoption of the management responsibility system, and in some cases recruitment of new management (table A2.2). Enterprises were able to sell more and more of their products at the market prices, and benefiting from a dual-track pricing system which allowed better resource allocation at the margin. Productivity of firms improved as a result of these reformns even though the extent of productivity growth is under much debate.

The second phase (1987-1991) focused on the reconstruction of state enterprises' managerial mechanism. The government introduced various forms of managerial responsibility systems, including management contract system for the large and medium-sized enterprises, the leasing system for small enterprises and experiments on the stockholding system. By 1987, about 33,000 state enterprises adopted "asset management responsibility system" accounting- for 90 percent of SOEs in the same category. At the same time, enterprise tax burdens were reduced and '*profit-remittance" system was replaced by corporate income taxes. After 1992, the dominant view shifted to clarifying the property rights by way of adopting the shareholding system. SOE reform entered its third phase and "corporatization" became the fashion (1992-present). Along with the development of stock market, more and more SOEs are allowed to issue stocks and over 500 firms are listed on China's two stock exchanges (Xu and Wang, 1996)

**Table A2.2**

**Increased Autonomy for State Enterprises during the 1980s**

|(percent)||||
|---|---|---|---|
|Control rights|1980|1985|1989|
|Base profit retention rate\a|7|37|39|
|Marginal profit retention rate\b|11|17|27|
|Autonomy in production decisions\c|7|35|67|
|Wage discretion\c|1|9|_35_|
|Management responsibility system\c|0|4|88|
|New management appointed after 1980\c|9|40|94|

Note: based on a 1991 retrospective sample survey of SOEs by Chinese Academy of social Sciences a: Portion of profits that could be retained if profits did not exceed a specified base level.

b: Portion of profits that could be retained if profits exceeded the base level.

c: Share of firms in the sample.

Source: Xu 1996.

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