Theoretical Analysis

A three-sector macro model of the Chinese economy is developed in which the activity of state-owned enterprises (SOEs) is constrained by the state-imposed credit plan for working capital. Our analysis indicates the weaknesses of credit control and nominal interest rate increases as tools for holding down the price level; but the hardening of SOEs’ budget constraints is found to be an effective device. The existence of credit and currency controls tends to make devaluation contractionary. Because of general equilibrium repercussions, policies that boost industrial exports tend to reduce welfare in the agricultural sector, where poverty is concentrated. JEL Classification Numbers: 011, 023, P21 An earlier version of this paper was presented at the ESRC Money, Macro and Finance Research Group half-day conference on Money, Macroeconomics and Finance in China (London, 14 March 1997). The authors are grateful to Eric Girardin and the participants for very helpful comments.