Table of Contents
The Change of Corporate Governance in Transitional China
By SD Modeling
Qingrii Xu, Jinyang Hua
Name: Hua Jinyang
Organization: Management Science Institute, Zhejiang University
Complete Postal Address: Dept of Management Science and Engineering, School of
management, Zhejiang University, Y u Quan Road, Hangzhou City, China, 310027
Phone/Fax: (086) 571-87931329 (Phone)
E-mail address: huajinyang@sina.com.cn
Abstract:
The economies around the world are facing profound transformation. It is no
exception for China. All the enterprises in China are going through a radical
transformation from a centralized socialist economy to a socialist market economy.
The transformation is such a process during which the marketing forces increase and
the government regulations decrease. For enterprises, the most important and difficult
work in this reform has been to establish a new corporate governance system
compatible with a socialist market economy.
To answer for this situation, most large and medium-sized enterprises in China have
transformed to stock companies, and established corporation govemance structure
composed of three committees as the shareholders’ general meetings, the board of
directors and the supervisory board. The old leading system in enterprise, including
Party community, employee representative committee and labor union, which have
dominated the enterprises for a long time in planned economy, seems to be
substituted.
The change of relative position between old system and new one indicates the
change trend of international economy environment. How to deal with the relation of
old system and new one, however, is still an important problem unsolved in China. In
the enterprises, which have transformed to stock companies, the problem appears such
kinds of characteristics as following. First one is that, the new system is nominal and
the old one works as before. Second, both old and new system are reputed and vacant,
and their respective responsibilities are in state of chaos, which makes both systems
weak. Of course this is a temporary phenomenon. If the state continues, the enterprise
will disappear ultimately. The third one is blindly pursuing new system as an
intemational criterion, with traditional advantages of old one cased away.
The change of institutional and cultural context is a hard and slow process,
especially in China, which makes the status of corporate governance in transformation
more complex and multileveled. This paper aims to find a reasonable solution, and
make suggestions about further development.
Ownership institution, as the most essential institution in the stock company,
determines radically the characteristics of corporate govemance. On the other hand,
the participant degree of party members and employees (for short, P&E), indicates
that the degree of traditional culture followed, regardless they have formal
organization or not. So ownership and P&E can be taken as dimensions in discussing
the relation of new govemance system and old one.
The mechanisms of corporate governance include managers encouragement,
manager’ s change, and manager’ s supervision, upon which ownership concentration
and the participant degree of P&E have influence.
Too high or too low concentration doesn’t benefit the effect of governance
mechanisms.
Ownership concentration and manager encouragement High ownership
concentration or big stockholders is helpful to manager encouragement in certain
degree and reduce the agent cost, especially at the case of the biggest stockholder
holding the dominant stock. When the chairman of the board or CEO is the direct
representative of the dominant stockholder or himself, the interest of manager will be
consistent with the stockholder’ s (Jensen and Meckling, 1976), and the manager will
make some decisions, which benefits the interest of stockholders. When the
stockholding is very dispersed, however, the interest of manager is not so consistent
with the stockholders’, managers tend to make some decisions which harm the
interest of stockholders.
Ownership concentration and manager displacement. The manager market or the
pressure of being displaced is the important factor to drive the manager work hard
(Fama, 1980). When the biggest stockholder dominate stock, the agent he sent will be
easy to succeed in fight for the agent power with others. So high ownership
concentration makes against the manager’ s displacement. When the stock is high
dispersed, however, the manager or chairman as the decision maker plays a key role
in corporate governance structure. With sufficient information about company
operation, they can easily affect the small stockholders who have no chance to
participate in corporate operation. The drive- free motivation discourages them from
pulling down the current manager or chairman. So the dispersed stock leads to the less
likelihood of manager displaced.
When the concentrative degree is neither high nor low, and the company has
several big dominant stockholders, the manager may be displaced quickly when ill
performance. The big stockholders with much stock have both motivate and capability
to find out the problems when the manager operating, or the cause of ill performance,
and pay high attention to manager’ s displacement.
Ownership concentration and manager supervision. When the company owns a
dominant stockholder and the manager is not the stockholder himself but his agent,
the dominant stockholder have motivate to supervise the agent. Such supervision is
general effective. But when other stockholders are all small, and the manager is the
dominant stockholder himself, the supervision from small stockholders to the
manager is uncertain. In a general way, small stockholders can’ t challenge directly the
dominant stockholder. When the stock is dispersed, however, the supervision to the
manager becomes a serious problem. Supervising the manager needs cost, dispersed
stockholders have the motivate to drive free and unwilling to do that. When the
company has several big stockholders and the manager is the agent of one of big
stockholders, other big stockholders have motivate to supervise him with much stock.
In conclusion, ownership institution has great impact on corporate govemance
mechanisms and corporate performance, and such ownership structure with certain
degree of concentration and several big stockholders is superior to the other two.
Optimize ownership structure will be one of important ways to improve corporate
govemance.
For all the necessities for new governance system to take on main role of corporate
governance in business, we can’ t ignore the peculiar context of history and culture in
China. China was always regarded as a typification of ethical societies in history.
Now the ethical nature has changed greatly, but something essential still are kept.
According to Veblen’s institutional theory, institutional change is a process of
comprehending culture, adapting to culture and leaming culture. The remainder of
ethical culture impedes the development of the law and regulation, and the
transformation to market economy of which the precondition is rationalism. To ensure
the success of the transition, the context of institution and culture should be changed
first.
As the theory of pathdependence suggests, the national culture and ideology
changes slowly. The culture status will limit corporation governance structure to show
its advantages till some time later. Furthermore, the necessary institutional conditions
for new system, including the laws of finance and industrial regulation, need to be
improved. Contrastively, the traditional culture still works.
As a community in the saddle, the party is still competent for party work through
cultivating, educating and supervising the managers since most of them are party
members. It can limit effectively power abused and moral crisis.
In social democracy socialism countries like China, the people play the role as the
masters of the country all along. With the relative importance of human capital to
physical capital increases, employees can also play an important role to supervise
manager’ s behavior and strategic decisions. The party and employee (to sum up,
P&E), can still play a role in encouraging and supervising the managers and the
chairmen in current culture environment, and the higher degree for P&E to
participates in corporate govemance, the better the govemance effect can be got.
Therefore, a joint governance of new governance system and old one by certain
degree, choosing a certain degree of ownership concentration in new govemance
system and high participant degree of P&E, will greatly benefit govemance
performance for Chinese companies.
We got data from Questionnaire survey and annals from 226 publicly listed
corporations in China, and find out the correlativity between ownership concentration
and corporate performance, the correlativity between participant degree of P&E and
corporate performance by SPSS.
Then, system Dynamics modeling is applied, and policy analysis is made about
how to change the corporate governance structure in transitional China.
Different from other countries, a rational structure of corporate governance in
China, in view of its special history and cultural context, should be a modified one of
the new system, in which P&E should participate with certain degree.
The paper is organized as follows. Section I analyzes theoretically the impact of
ownership on corporate governance, then the correlativity between ownership and
corporate performance statistically. Section II discusses the influence of P&E on
corporate governance, and the correlativity between participant degree of P&E and
corporate performance. Section III applies system dynamics modeling to make policy
analysis. The residual part in this article is a brief conclusion.
Keywords: corporate governance, change, transformation, ownership
concentration, participant degree of party & employee, system dynamics modeling
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