ABSTRACT
China has many important challenges to face regarding inadequate fiscal resources, an insolvent banking sector, and an unusually small private sector. The tough choice is deciding which one to put the most emphasis on? Such a choice is inevitable due to finite capacity of the state. If SOE reform had been successful, development of the private sector need not be a top priority. If not, the promotion of the private sector is the first priority task. The state-owned enterprises (SOEs) in China have always been criticized for inefficiency, corruption and threatened to be a serious halt on economic reform. Two major flaws of China’s SOE system arise from the incentive structure for managers and soft budget. A manager’s future promotion is not dependent on his/her ability to maximize profit. It is based on their capability to fulfill the workforce’s needs on compensation, housing, medical and education for the SOEs in China. The soft-budget phenomenon is also criticized as one of the major reason for SOEs’ revenue loss from imprudent investments. As China’s economic reform proceeds, SOEs still play an important role in China’ economy despite its gradually declining importance.
