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The Political Economy of Earmarked Transfers in a State-Designated Poor County in Western China: Central Policies and Local Responses*

  • Mingxing Liu, Juan Wang, Ran Tao and Rachel Murphy

In order to improve the effectiveness of redistributive policies, in 2002 the Chinese government increased fiscal transfers and imposed more stringent regulations on the use of earmarked funds. This article evaluates the impact this had on K county in a north-western province. The case study finds that the misappropriation of earmarked transfers did decrease but this did not necessarily indicate an improvement in the local government's compliance in the usage of transfers. Instead, the county governments found ways to sabotage central policies by exporting fiscal burdens to the subordinate bureaus that received the earmarked subsidies. In some bureaus this was done by reducing the amount of funds allocated for operating expenses. In others it involved increasing staff numbers. These findings provide a basis for evaluating the effectiveness of using earmarked funds and internal supervisory mechanisms to achieve policy objectives in an authoritarian regime.

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1 Wong, Christine and Bird, Richard, “China's fiscal system: a work in progress,” in Brandt, Loren and Rawski, Thomas (eds.), China's Great Transformation: Origins, Mechanism, and Consequences of the Post-Reform Economic Boom (New York: Cambridge University Press, 2008).

2 World Bank, China National Development and Sub-national Finance: A Review of Provincial Expenditures. (Washington, DC: The World Bank, 2002); Dabla-Norris, Era, “Issues in intergovernmental fiscal relations in China,” IMF Working Paper, WP/05/30 (2005); Wong, Christine (ed.), Financing Local Government in the People's Republic of China (Hong Kong: Oxford University Press, 1997); Christine Wong, “Can the retreat from equality be reversed?” paper prepared for Association for Asian Studies (AAS) Annual Meeting, 22–25 March 2007, Boston Marriott Copley Place.

3 Yang, Dali L., Remaking Leviathan (Palo Alto: Stanford University Press, 2004).

4 Dabla-Norris, “Issues in intergovernmental fiscal relations”; Dabla-Norris, Era, “The challenge of fiscal decentralisation in transition countries,” Comparative Economic Studies, Vol. 48 (2006), pp. 100–31.

5 Li, Linda Chelan, “Working for the peasants? Strategic interactions and unintended consequences in the Chinese rural tax reform,” The China Journal, No. 57 (2007), pp. 89106.

6 Dabla-Norris, “Issues in intergovernmental fiscal relations.” In fact, local expenditure responsibilities have become even heavier since many of the social services and social security responsibilities that had been taken care of by state-owned enterprises have now passed on to local governments.

7 Tsai, Kellee S., Capitalism without Democracy: The Private Sector in Contemporary China (Ithaca: Cornell University Press, 2007); Li, “Working for the peasants.”

8 Jorge Martinez-Vazquez, Baoyun Qiao and Li Zhang, “The role of provincial policies in fiscal equalization outcomes in China,” International Studies Program Working Paper, 07–05, Andrew Young School of Policy Studies, Georgia State University,

9 For a concise and informative chronological discussion of China's fiscal reforms, see Jun Ma and John Norregaard, “China's fiscal decentralization,” paper presented at conference on Agenda for Sequencing Decentralization in Indonesia, 20–21 March 2000, Jakarta, Indonesia.

10 Tsai, Kellee S., “Off balance: the unintended consequences of fiscal federalism in China,” Journal of Chinese Political Science, Vol. 9, No. 2 (2004), pp. 726; Yang, Dali L., “State capacity on the rebound,” Journal of Democracy, Vol. 14, No. 1 (2003),

11 Brean, Donald (ed.), Taxation in Modern China (London: Routledge, 1998); Wong, Christine P. W., Heady, Christopher and Woo, Wing Thye, Fiscal Management and Economic Reform in the People's Republic of China (Oxford: Oxford University Press, 1995).

12 Cited in Yang, “State capacity on the rebound,” p. 44.

13 Lin, Justin Yifu, Tao, Ran and Liu, Mingxing, “Decentralization and local governance in the context of China's transition,” in Bardhan, Pranab and Mookherjee, Dilip (eds.), Decentralization to Local Governments in Developing Countries: A Comparative Perspective (Cambridge, MA: MIT Press, 2006).

14 Dabla-Norris, “Issues in intergovernmental fiscal relations in China.”

16 The State Council, “Guanyu shixing fenshui zhi caizheng guangli tizhi de jueding” (“Decision concerning the budgetary management system for the tax sharing system”), in Budgetary Division of the Ministry of Finance and Treasury Division of the Ministry of Finance (ed.), Difang caizheng juesuan wenjian ziliao: 2002 (Documents and Information Concerning Local Final Budgetary Reporting: 2002) (Beijing: China Economic and Finance Publisher, 2003).

17 Chinese government report, 2003,

18 Ministry of Finance, “Nongcun feishui gaige zhongyang dui difang zhuanyi zhifu zhanxing banfa” (“Temporary method of central transfer payments to the local governments to help rural tax-for-fees reforms”), in Documents and Information Concerning Local Final Budgetary Reporting: 2002.

19 Park, Albert, Rozelle, Scott, Wong, Christine and Ren, Changqing, “Distributional consequences of reforming local public finance in China,” The China Quarterly, No. 147 (1996), pp. 751–78; Ahmad, Ehtisham, Keping, Li, Richardson, Thomas J. and Singh, Raju, “Recentralization in China?IMF Working Paper 02/168 (2002); World Bank, China National Development and Sub-national Finance.

20 News Report, “Guojia shenjishu faxian 43 yi yuan fupin zijin bei jizhan nuoyong” (“The National Audit Office finds 4.3 billion yuan misallocated”) Sina Finance News, 16 July 2000,

21 Xiwen, Chen, Chinas' County and Township Public Finance and Farmer Income Growth (Shanxi: Shanxi Economic Press, 2003).

22 According to Zhao, the county and township levels together provide around 70% of public employment in China and the growth of public employment is concentrated at these two levels. For example, in Hebei province, public employment grew from 1.57 million to 2.19 million and 80% of the growth was at the county and township level. Zhao Shukai, “Xiangzhen gaige: jiantao yu zhanwang – shisheng ershi xiangzhen diaocha” (“Township reform: reflections and perspectives – survey on 20 townships across 20 provinces in China”), research report (Beijing: Development Research Centre, State Council, 2005).

23 In democracies too, decentralization does not necessarily constrain government size and bureaucracy expansion. Instead, research has found that it is the sources of revenue that matter for the size of government. According to Stein and Rodden, if decentralization creates self-financing sub-national governments, it tends to be associated with smaller governments. Stein, Ernesto, “Fiscal decentralization and government size in Latin America,” Journal of Applied Economics, Vol. 2, No. 2 (1999), pp. 357–91; Rodden, Jonathan, “Reviving Leviathan: fiscal federalism and the growth of government,” International Organization, Vol. 57, No. 4 (2003), pp. 695729. In contrast, dependence on intergovernmental fiscal transfer helps a Leviathan-type local state to expand.

24 In these localities, local cadres are often busy creating government jobs for their relatives and friends, which becomes an important source of the uncontrolled government overstaffing. Rent-seeking can also happen in hiring public employees if jobs in public sectors are attractive. Government officials can make money by selling positions to people who want to get a job in government agencies.

25 Sun, Yan, Corruption and Market in Contemporary China (Ithaca, NY: Cornell University Press, 2004).

26 Zhou, Feizhou, “Cong jiquxing zhengquan dao suanfuxing zhengquan” (“From deriving state to floating state”), Shehuixue yanjiu (Sociological Studies) Vol. 3 (2006), pp. 138; Zeng, Ming, “Nongyeshui quxiaohou xiangzhengzhengfu zhuanyizhifu guocheng” (“The process of township fiscal transfer application and spending after the rural tax reform”), Gonggong xingzheng pinglun (Journal of Public Administration), Vol. 5 (2008), pp. 5780.

27 Shih, Victor and Qi, Zhang, “Who receives subsidies: a look at the county level in two time periods,” in Shue, Vivienne and Wong, Christine (eds.), Paying for Progress in China: Public Finance, Human Welfare and Changing Patterns of Inequality (London: Routledge, 2007).

28 Manion, Melanie, “Politics and policy in post-Mao cadre retirement,” The China Quarterly, No. 129 (1992), pp. 125.

29 Edin, Maria, “State capacity and local agent control China: CCP cadre management from a township perspective,” The China Quarterly, No. 173 (2003), pp. 3552.

30 O'Brien, Kevin and Li, Lianjiang, “Selective policy implementation in rural China,” Comparative Politics, Vol. 31, No. 2 (1999), pp. 167–86.

31 Ministry of Finance, Bank of China, Document No. 4 (2002); and the provincial government document No. 58 (2000), available at

32 As an example of the increase in EMS funds, in K county the “rural tax-for-fee reform fiscal transfers” alone increased more than seven times in 2002 compared to 2001.

33 Interviews with officials in the finance bureau and the poverty relief office of K county government, 21 November 2005. These officials explained that the accumulated fiscal debts during the 1990s needed to be repaid in the early 2000s. In other words, the county government was under substantial pressure in debt repayment, which had contributed to very high levels of fund misappropriation in the early 2000s. See Table 3.

34 Shih and Zhang, “Who receives subsidies.”

35 Interviews with officials in the finance bureau of K county government, 21 November 2005.

36 Interview with an official in the education bureau of K county, 5 July 2006. In of fact, the education bureau did not know there was such a specific EMS until one official in the bureau participated in an education fund auditing initiated by the provincial education department. The director of county education bureau then came to the county governor asking for the fund to be allocated to the bureau.

37 Interview with an official in the education bureau of K county, 5 July 2006.

38 Chinese government official website portal,, 4 September 2006. Local matching fund requirements may also lead to the diversion of funds from earmarked transfers. In some localities, local governments use funds designated for specific projects to serve as the “matching funds” that must be presented in order to apply for other grants. Once the funds for the new special-purpose project are in hand there is the possibility that this money will be diverted to other uses. For example, in 2002 K county received an earmarked transfer of 5 million yuan for an environment improvement project. This had been raised through national bonds that required 10% of the total project costs to be met through local matching funds, so the local government in K county diverted 500,000 yuan from other earmarked funds to this project.

39 At both the central and sub-national levels in China, civilian public sector employees consist of those who work directly for core government agencies (civil servants) and those who work for public service units such as hospitals, schools and various service units affiliated with specific government agencies (PSU employees). Together these constitute the bulk of fiscal dependents in China. World Bank, China National Development and Sub-national Finance.

40 For reference, in China, within-roster personnel (bianzhinei renyuan) refers to all positions officially created and out-of-roster personnel (chaobian renyuan) refers to the number of employees exceeding approved levels.

41 Rong, Jingben, Cui, Zhiyuan and Wang, Shuanzheng, Cong yalixing tizhi xiang minzhu hezuo tizhi de zhuanbian: xianxiang liang ji zhengzhi tizhi gaige (From a Pressure Imposing System to a Democratic Co-operation System: the Political Reform at County and Township Level) (Zhongyang bianyi chubanshe, 1998), pp. 269–70.

42 Bernstein, Thomas and Xiaobo, , Taxation without Representation in Contemporary Rural China (Cambridge: Cambridge University Press, 2003).

43 Dabla-Norris, “The challenge of fiscal decentralisation in transition countries.”

44 Ibid.; Dabla-Norris, “Issues in intergovernmental fiscal relations.”

45 de Mesquita, Bruce Bueno, Morrow, James D., Siverson, Randolph M. and Smith, Alastair, “Political institutions, policy choice and the survival of leaders,” British Journal of Political Science. Vol. 32, No. 4 (2002), pp. 559–90, and “Policy failure and political survival: the contribution of political institutions,” Journal of Conflict Resolution, Vol. 43, No. 2 (1999), pp. 147–61.

* We would like to thank the China National Science Foundation (70633002), the Ford Foundation and the PKU-Lincoln Institute Center for Urban Development and Land Policy for generous financial support. We also gratefully acknowledge the invaluable feedback and suggestions of Frank Pieke and Julia Strauss.

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