88172 Urban China Urban China Toward Efficient, Inclusive, and Sustainable Urbanization The World Bank Development Research Center of the State Council, the People’s Republic of China Washington, DC © 2014 International Bank for Reconstruction and Development / The World Bank and the Development Research Center of the State Council, P. R. China 1818 H Street NW, Washington DC 20433 Telephone: 202-473-1000; Internet: www.worldbank.org Some rights reserved 1 2 3 4 17 16 15 14 This work is a product of the staff of The World Bank and the Development Research Center of the State Council, P.R. China. Note that neither The World Bank nor the Development Research Center of the State Council, P. R. China necessarily own each component of the content included in the work. The World Bank and the Development Research Center of the State Council, P. R. China therefore do not warrant that the use of the content contained in the work will not infringe on the rights of third parties. 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Under the Creative Commons Attribution license, you are free to copy, distribute, transmit, and adapt this work, including for commercial purposes, under the following conditions: Attribution—Please cite the work as follows: World Bank and the Development Research Center of the State Council, P. R. China. 2014. Urban China: Toward Efficient, Inclusive, and Sustainable Urbanization. Washington, DC: World Bank. DOI: 10.1596/978-1-4648-0206-5. License: Creative Commons Attribution CC BY 3.0 Translations—If you create a translation of this work, please add the following disclaimer along with the attribution: This translation was not created by The World Bank and should not be considered an official World Bank translation. The World Bank shall not be liable for any content or error in this translation. 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Contents Foreword . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xvii Acknowledgments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xix Executive Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xxiii Abbreviations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xxix Part I Overview Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 Achievements and Emerging Challenges 1 China’s Urbanization Achievements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 2 Efficiency . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 3 Inclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16 4 Sustainability . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 The Reform Agenda 5 A Strategy for Reform . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33 6 Reforming China’s Land Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38 7 Reforming Hukou, Social Services, and Labor Market Institutions . . . . . . . . . . . . . 49 8 Reforming Urban Finance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 54 9 Promoting Greener Urbanization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63 URBAN CHINA v vi URBAN CHINA 10 Ensuring Food Security . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69 11 Timing, Sequencing, and Risks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71 Part II Supporting Reports 1 Urbanization and Economic Growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .81 Urbanization and growth at a crossroads . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .83 Agglomeration, specialization, and mobility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .90 More efficient, inclusive, and sustainable urbanization and growth . . . . . . . . . . . . . . . . . .106 China’s growth dividends from the new urbanization trajectory . . . . . . . . . . . . . . . . . . . . 111 Notes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 118 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .120 2 Planning and Connecting Cities for Greater Diversity and Livability . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 123 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .123 Enhancing efficiency and agglomeration economies in China . . . . . . . . . . . . . . . . . . . . . . .125 Connecting people, linking businesses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 149 Financing China’s cities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 162 Key actions moving forward . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .167 Notes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .172 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .172 3 Inclusive Urbanization and Rural-Urban Integration . . . . . . . . . . . . . . . . 177 Inclusive urbanization: Vision, major challenges, and key reforms . . . . . . . . . . . . . . . . . . .177 Ensuring equitable access to social services in urban areas . . . . . . . . . . . . . . . . . . . . . . . . .186 Social policy reforms and rural-urban integration. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 214 Strengthening institutions for an inclusive and productive labor market . . . . . . . . . . . . . . .235 Notes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .252 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .256 4 China’s Urbanization and Land: A Framework for Reform . . . . . . . . . . . 263 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .263 Land and urbanization in China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .268 International approaches and experiences . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .284 China’s land pilots: Guidance for the national reform agenda. . . . . . . . . . . . . . . . . . . . . . .297 A framework for land policy reform . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .319 Notes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .334 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .335 5 China’s Urbanization and Food Security . . . . . . . . . . . . . . . . . . . . . . . . . . . 337 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .337 China’s food demand and supply projection in international comparison . . . . . . . . . . . . .340 Resource constraints to agricultural production . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .343 Supply, changing consumption, and demand . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .355 Policy recommendations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .365 Notes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .367 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .368 CONTENTS vii 6 Financing Urbanization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 371 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .371 Urbanization in transition and its implication for financing . . . . . . . . . . . . . . . . . . . . . . . .373 Financing urbanization in 2013: Key issues. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .379 Reform considerations for China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .399 The reform agenda and expected payoffs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .432 Annex 6A A technical note on the urbanization finance model . . . . . . . . . . . . . . . . . . . .436 Notes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .441 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .443 7 Green Urbanization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 447 Introduction. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .447 The challenge of sustainable urban growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .450 The rising cost of environmental degradation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 451 Green governance must match China’s green ambitions . . . . . . . . . . . . . . . . . . . . . . . . . . . 455 Sustainable sector policies are closely aligned with green objectives . . . . . . . . . . . . . . . . . .471 Cities where a billion people want to live and work . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .524 Annex 7A Smart Greening . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .526 Annex 7B Illustrative framework and analytical tools for urban energy and emissions reduction planning . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .527 Notes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .535 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .538 Annex 7B References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .547 Boxes O.1 Residency rights in the European Union, the United States, the former Soviet Union, and Japan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .19 O.2 Social Housing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .22 O.3 Feeding China’s cities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .28 O.4 Expropriations in Taiwan, China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .41 O.5 Seoul becomes a global city by recalibrating regulations and market instruments . .45 O.6 The lack of connectivity and fine grain networks in Chinese urban development . .45 O.7 Comparing urban densities in two areas of Shanghai . . . . . . . . . . . . . . . . . . . . . . .46 O.8 Seoul’s spatial strategy: Differentiation and higher densities around metro nodes . .47 O.9 European Union rules on investment incentives . . . . . . . . . . . . . . . . . . . . . . . . . . .55 O.10 Land value capture . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .59 1.1 Urbanization and economic growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .85 1.2 The Lewis turning point . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .89 1.3 Increasing social tensions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .90 1.4 Microfoundations of agglomeration economies: Sharing, matching, and learning . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .93 1.5 Agglomeration economies are attenuated by distance . . . . . . . . . . . . . . . . . . . . . . .94 1.6 Is China’s urbanization pattern unique? A global perspective . . . . . . . . . . . . . . . .100 1.7 Logistic model estimates of China’s urbanization trajectory . . . . . . . . . . . . . . . . . 113 1.8 China’s Development Research Center computable general equilibrium model. . . 115 2.1 Barcelona 22@: Urban land redevelopment led by the private sector and enabled by the government . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 131 viii URBAN CHINA 2.2 Dual land market system . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .137 2.3 Regulatory restrictions on urban redevelopment and densification . . . . . . . . . . . .140 2.4 Comparison of connectvity in Chinese and other cities . . . . . . . . . . . . . . . . . . . . . 141 2.5 Density compared in Pudong and Puxi, Shanghai . . . . . . . . . . . . . . . . . . . . . . . . . 143 2.6 Cost analysis of street network for various size blocks . . . . . . . . . . . . . . . . . . . . .146 2.7 Street patterns in Paris, France . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 147 2.8 China’s urban villages . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 148 2.9 Improvement in intercity accessibility (2000–10) . . . . . . . . . . . . . . . . . . . . . . . . .150 2.10 Impact of highway connection on Guangdong Special Economic Zone . . . . . . . .151 2.11 Urban mobility plan in France . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .157 2.12 Increase flexibility and variation in floor area ratio (FAR) values as in cities like New York . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .159 2.13 European Commission zero emission urban logistics . . . . . . . . . . . . . . . . . . . . . . 161 2.14 Split-rate property taxes in Pittsburgh . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .166 2.15 Auctioning of land development rights: CEPACs in São Paulo, Brazil . . . . . . . . . .166 2.16 Planning and management to reduce risks from natural disasters . . . . . . . . . . . . . 170 3.1 China’s experience with residence permits. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 189 3.2 European Union migrants’ eligibility for social benefits in member states. . . . . . .190 3.3 China’s resident population information system—Setting up a comprehensive population management information database . . . . . . . . . . . . . . . . . . . . . . . . . . .196 3.4 Central government resources for compulsory education . . . . . . . . . . . . . . . . . . .199 3.5 12th Five-Year Plan (2011–15): The National Basic Public Social Services System: The basic package and beyond . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .215 3.6 The main labor laws in China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .244 4.1 The evolution of China’s policy framework of land, 1978–2013 . . . . . . . . . . . . . .264 4.2 China’s secondary urban land market: An invisible and unregulated market . . . . 276 4.3 China’s property taxation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .292 4.4 Land markets and institutions in the United States . . . . . . . . . . . . . . . . . . . . . . . .296 4.5 China’s rural and urban land rights . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .298 4.6 Documentation and registration of land . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .322 4.7 China’s collective land ownership . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .323 4.8 General and zone takings in Taiwan, China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 331 4.9 Mortgaging of individual rights to collectively owned land. . . . . . . . . . . . . . . . . .333 5.1 Agro-ecological zones methodology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .356 5.2 China Agricultural Policy Simulation Model (CAPSiM) . . . . . . . . . . . . . . . . . . . .362 6.1 Reporting and budgeting of infrastructure finance . . . . . . . . . . . . . . . . . . . . . . . .392 6.2 Local governments’ debt instruments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .394 6.3 Basic concept and categories of affordable housing in China . . . . . . . . . . . . . . . .397 6.4 Formula grants . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .406 6.5 Options for policies and tools that capture land value. . . . . . . . . . . . . . . . . . . . . .408 6.6 U.S. securities laws applicable to municipal securities . . . . . . . . . . . . . . . . . . . . . . 418 6.7 Australia: A leading model in implementing public-private partnerships . . . . . . .423 6.8 Performance-informed budgeting in the Minhang district, Shanghai . . . . . . . . . .428 7.1 Reducing severe air pollution in London and in Tokyo . . . . . . . . . . . . . . . . . . . . .453 7.2 Addressing the “central SOE problem” . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .457 7.3 The three baos of data reporting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .458 7.4 Co-opting local businesses into green growth in Xiaoyi . . . . . . . . . . . . . . . . . . . .460 7.5 Environmental performance ratings in Jiangsu Province . . . . . . . . . . . . . . . . . . . .463 CONTENTS ix 7.6 China 2030: Estimated impacts of carbon pricing . . . . . . . . . . . . . . . . . . . . . . . .469 7.7 The call for integrated, multipollutant approaches to air quality management in the United States . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .477 7.8 Promoting electric vehicles in China: Opportunities, challenges, and implications . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .485 7.9 “Energy efficiency utility”: Efficiency Vermont, United States . . . . . . . . . . . . . . .491 7.10 Tools for low-carbon development planning: The experience of Changning District in Shanghai . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .494 7.11 New York PlaNYC 2030 case study: Integrated centralized planning relying on decentralized delivery . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .495 7.12 Maintaining coverage of energy efficiency obligations under the current system with the introduction of a new system of carbon emissions trading . . . . .498 7.13 Cleaning the air indoors: The other air pollution . . . . . . . . . . . . . . . . . . . . . . . . .502 7.14 Münster, Germany: Low-energy building standards through sale of city-owned land . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .503 7.15 Singapore’s Green Mark scheme . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .505 7.16 Cities take active measures to reduce harmful burning of coal . . . . . . . . . . . . . . .509 7.17 The Beijing Sunshine Schools program: Linking green policy, pedagogy, and people . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .512 7.18 Phasing out coal in district heating provides significant environmental and social benefits. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .515 7.19 Examples of cost-effective water treatment services provided to cities by natural ecosystems . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .519 7B.1 New York PlaNYC 2030 case study: Integrated centralized planning relying on decentralized delivery . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .529 7B.2 Heat cascading in the Rotterdam Energy Approach and Planning . . . . . . . . . . . .530 7B.3 Benchmarking and energy saving tool for low-carbon cities (BEST-Low Carbon Cities) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .532 7B.4 Climate-friendly air quality management planning in the San Francisco Bay Area . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .534 Figures O.1 China’s rapid urbanization from an international perspective . . . . . . . . . . . . . . . . . .5 O.2 Productive gains from reallocating labor and capital are almost exhausted . . . . . . .9 O.3 Guangzhou could accommodate 4.2 million more people with Seoul’s density profile . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .12 O.4 Gross land revenues are large, but net revenues are declining . . . . . . . . . . . . . . . . .12 O.5 Consumption share and GDP per capita, select East Asian countries . . . . . . . . . . .13 O.6 Services and urbanization in East Asia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 O.7 China’s rising inequality . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .16 O.8 Air pollution declined over time . . . but the costs of air pollution have been rising. Particulate matter pollution and estimated health damages in urban China, 2003–11 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .26 O.9 Land requisition is outpacing urban land use . . . . . . . . . . . . . . . . . . . . . . . . . . . . .27 BO.3.1 Self-sufficiency ratios for grain in Asian countries. . . . . . . . . . . . . . . . . . . . . . . . . .28 BO.3.2 Food consumption in energy equivalents and income . . . . . . . . . . . . . . . . . . . . . . .28 O.10 Impact of urban density on carbon emissions for transport and infrastructures: road, water, and wastewater network lengths . . . . . . . . . . . . . . . . . . . . . . . . . . . . .29 O.11 Water and wastewater tariffs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .67 x URBAN CHINA 1.1 China’s impressive economic growth has been accompanied by a massive population shift into urban areas . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .84 B1.1.1 Urbanization is inextricably linked to economic growth . . . . . . . . . . . . . . . . . . . . .85 1.2 Growth is increasingly dependent on capital accumulation as productivity from reallocation of labor and capital is declining . . . . . . . . . . . . . . . . . . . . . . . . .87 1.3 Small cities are less efficient users of capital, increasingly so over time, 1995–2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .88 1.4 Changes in labor force and urban population . . . . . . . . . . . . . . . . . . . . . . . . . . . . .88 B1.2.1 Lewis model. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .89 1.5 Total factor productivity has been highest in tier 1 and northeastern cities . . . . . .94 B1.5.1 Distance to major ports and economic development level of cities within a metropolitan area . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .94 1.6 Changing patterns of specialization in manufacturing and advanced services . . . .95 1.7 Despite recent trends, a large share of manufacturing remains in large and medium-size cities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .96 1.8 To become a high-income country, China will have to develop services quickly, but the marginal product of labor in services continues to decline . . . . . . . . . . . . .96 1.9 Population densities of Chinese cities have fallen over the past decade as the urbanization of land was faster than the urbanization of people. . . . . . . . . . . . . . .97 1.10 In places where economic densities are falling, growth is supported by capital accumulation rather than by productivity increases . . . . . . . . . . . . . . . . . . . . . . . .98 1.11 Structure of migrants stock by type of migration by regions in 2010 . . . . . . . . . . .98 1.12 Migrants go to larger cities, where wages are higher . . . . . . . . . . . . . . . . . . . . . . . .99 B1.6.1 Percentage point changes in urban population shares between 1978 and 2012 . .100 B1.6.2 Urbanization rate and year country reached China’s current per capita income . .101 1.13 Increased mobility and connectivity will support employment growth . . . . . . . . .102 1.14 Higher densities are associated with higher incomes and consumption . . . . . . . . .102 1.15 Real household incomes (adjusted for cost of real estate) are lower in the largest cities, yet they have experienced the largest increase in population . . . . . .103 1.16 The initial stages of urbanization and industrialization led to imbalances in economic growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .104 1.17 China’s middle class continues to grow, but it remains small relative to China’s development level . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .105 1.18 Why is urban consumption so low? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .106 1.19 The concentration of different factors of production differs widely in China . . . .107 1.20 Slow urbanization of people has slowed income convergence . . . . . . . . . . . . . . . .109 B1.7.1 Estimates of China’s urbanization rates, 1974–2050. . . . . . . . . . . . . . . . . . . . . . . 113 B1.8.1 Analytical structure of the growth model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 115 1.21 Final consumption as a share of GDP, 2010–30 . . . . . . . . . . . . . . . . . . . . . . . . . . 117 1.22 The energy and CO2 intensity of China’s economy will decline . . . . . . . . . . . . . . 118 2.1 Per capita GDP in 2000 and 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .125 2.2 Population in 2010 by city size . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .126 2.3 Distribution of cities by size in China and the United States . . . . . . . . . . . . . . . . .127 2.4 Efficiency by city size and location in 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .128 2.5 Recent trends in land use allocation from farmland to other uses . . . . . . . . . . . . .129 2.6 Annual construction land supply—direct vs. competitive allocation . . . . . . . . . . .130 2.7 China’s largest cities have lower densities than their peers worldwide. . . . . . . . . .133 2.8 Urban density profile comparison between Guangzhou and Seoul . . . . . . . . . . . .133 2.9 Spatial expansion of cities is associated with higher commute times . . . . . . . . . . .134 CONTENTS xi 2.10 Station locations in Wuhan and Paris . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .152 2.11 Travel mode shares in Beijing, 1986–2010. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .153 2.12 Travel mode shares in Shanghai, 1995–2009 . . . . . . . . . . . . . . . . . . . . . . . . . . . .153 2.13 Road transport cost per ton-kilometer . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .155 2.14 Economic density and stock of expressways, 2010 . . . . . . . . . . . . . . . . . . . . . . . .157 3.1 Rural-to-urban migration trends in China, 2000–12 . . . . . . . . . . . . . . . . . . . . . . 179 3.2 Trends in urban resident population and population with nonagricultural hukou, 1978–2012. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 179 3.3 Relative wages of rural migrants and urban formal employees, 2001–11 . . . . . . .180 3.4 Central and subnational expenditure by function, 2011 . . . . . . . . . . . . . . . . . . . .197 3.5 Per capita subnational revenues and transfers, by province/region, 2011 . . . . . . .198 3.6 Pension coverage for urban workers in China, 2000–12 . . . . . . . . . . . . . . . . . . . .207 3.7 Urban and rural dibao beneficiaries in China, 1996–2012 . . . . . . . . . . . . . . . . . . 210 3.8 Modes of access to dwellings in urban areas, by household . . . . . . . . . . . . . . . . . 211 3.9 Share of urban population with secondary and tertiary education in China, Brazil, and Korea . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 217 3.10 Official promotion rates from junior high school to academic high school, urban and rural, 1990–2006 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .219 3.11 Health spending by source and location, 1995–2009 . . . . . . . . . . . . . . . . . . . . . .221 3.12 Proposed overall design of the pension system . . . . . . . . . . . . . . . . . . . . . . . . . . .227 3.13 China and G20 fiscal transparency indicators, 2012 . . . . . . . . . . . . . . . . . . . . . . .232 3.14 Elements of fiscal transparency indicators for China, 2008 and 2012 . . . . . . . . .233 3.15 Expansion of higher education in China, 1990–2012 . . . . . . . . . . . . . . . . . . . . . .240 3.16 Urban minimum wage adjustments, 1995–2012 . . . . . . . . . . . . . . . . . . . . . . . . . .245 3.17 An international comparison of the tax wedge, 2012 . . . . . . . . . . . . . . . . . . . . . .247 3.18 Protection of permanent workers against individual and collective dismissals, 2013. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .250 3.19 Total disputes and disputes settled through arbitration, 2001–12 . . . . . . . . . . . . .251 4.1 Revenue and expenditure of subnational governments, 1978–2008 . . . . . . . . . . .269 4.2 Urban construction land . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .271 4.3 Requisition of rural land . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .271 4.4 Composition of construction land use increase, 2005–12 . . . . . . . . . . . . . . . . . .272 4.5 Shares of main urban construction land use categories, 2005–12 . . . . . . . . . . . . .272 4.6 Urban land prices: National average, 2008–13 . . . . . . . . . . . . . . . . . . . . . . . . . . .273 4.7 Urban land price: Eastern region, 2008–13 . . . . . . . . . . . . . . . . . . . . . . . . . . . . .273 4.8 Industrial land price: Regional averages, 2008–13 . . . . . . . . . . . . . . . . . . . . . . . . 274 4.9 Annual (urban) construction land supply, 2001–12 . . . . . . . . . . . . . . . . . . . . . . . 275 4.10 Construction supply: Direct versus competitive allocation, 2001–12 . . . . . . . . . . 276 4.11 Local government income from land sales, 2003–12. . . . . . . . . . . . . . . . . . . . . . .277 4.12 Revenue from land sales and associated cost, 1999–2013 . . . . . . . . . . . . . . . . . .277 4.13 Revenue from land sales as a share of total local government revenue, 1999–2013. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .278 4.14 Annual change in outstanding local government debt, 1997–2010 . . . . . . . . . . .279 4.15 Bank lending to urban development investment corporations as share of total infrastructure lending, 2009 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .280 4.16 Bank exposure to loans to urban development investment corporations, 2010 . . .281 4.17 Illegal land use: Number of reported cases and area affected, 2001–11 . . . . . . . .281 4.18 Illegal land use by violators in 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .282 xii URBAN CHINA 5.1 Total calorie (in kilocalories per capita per day) and protein consumption in various countries (in grams per capita per day) . . . . . . . . . . . . . . . . . . . . . . . . . . .341 5.2 Population growth vs. diet change: Change in CE consumption . . . . . . . . . . . . . .341 5.3 Relationship between CE food consumption and income . . . . . . . . . . . . . . . . . . .342 5.4 Calorie and CE consumption trends against income in China, 1980–2009 . . . . .342 5.5 Production, consumption, and income in China, 1980–2009 . . . . . . . . . . . . . . . .343 5.6 Grain self-sufficiency ratios for selected Asian countries, 1960–2013 . . . . . . . . . .343 5.7 Contribution of major grains to China’s supply-demand gap, 1960–2013 . . . . . .344 5.8 Water use in China: Total and by sector . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .344 5.9 Sectoral shares of China’s total water consumption . . . . . . . . . . . . . . . . . . . . . . .345 5.10 Trends in agricultural sector water consumption and urbanization . . . . . . . . . . .345 5.11 Percentage of rural labor employed off the farm, 1995–2011 . . . . . . . . . . . . . . . .348 5.12 Manufacturing wages, 1994–2008 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .349 5.13 Trends in mechanical operation, 1970–2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . .350 5.14 Average daily cost of on-farm labor, 1997–2012 . . . . . . . . . . . . . . . . . . . . . . . . .350 5.15 Trends in labor input by commodity, 1997–2012 . . . . . . . . . . . . . . . . . . . . . . . . . 351 5.16 Expenditures on mechanization by commodity, 1997–2012 . . . . . . . . . . . . . . . . . 351 5.17 Share of mechanization expenditure to total expenditure on physical input by different crops, 1997–2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .352 5.18 Land conversion trends, 1988–2000 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .353 5.19 Land conversion trends, 2000–08 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .353 5.20 Changes in agricultural production potential, 2000–08 . . . . . . . . . . . . . . . . . . .357 5.21 Per capita consumption of various agricultural products in response to income growth . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .360 5.22 Food consumption at home and away from home for urban residents by income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .361 5.23 Projected supply shortages for various food items . . . . . . . . . . . . . . . . . . . . . . . .364 6.1 Cost of urbanization as a share of GDP . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .377 6.2 Government expenditures as a share of GDP . . . . . . . . . . . . . . . . . . . . . . . . . . . .378 6.3 Fiscal space, government expenditures, and public debt as shares of GDP . . . . . .379 6.4 Cost of urbanization in the reform scenario, as a share of GDP . . . . . . . . . . . . . .380 6.5 Government expenditures in reform scenario as a share of GDP . . . . . . . . . . . . .381 6.6 Fiscal space, government expenditures, and public debt in reform scenario as shares of GDP . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .381 6.7 Central and subnational expenditure, by function, 2012 . . . . . . . . . . . . . . . . . . .382 6.8 Budget transparency trends in the OECD and China, 2008–12 . . . . . . . . . . . . . .427 7.1 Fast economic growth outpaced improvements in efficiency . . . . . . . . . . . . . . . . . 451 7.2 Air pollution declined over time and has recently been stable: PM10 concentrations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 451 7.3 Estimates of the value of mortality and morbidity from air pollution . . . . . . . . .452 B7.1.1 Air pollution concentrations in London and Tokyo, 1950–2013 . . . . . . . . . . . . . .453 7.4 Global net transfers of CO2 emissions embedded in traded goods, 1991–2008 . .454 7.5 Only a quarter of provincial EPB directors came from within the organization . .456 7.6 Border spot prices for thermal coal traded in China and other countries, 2012–13 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .465 7.7 Residential electricity prices of 10 cities in China compared with other major cities, 2011–12 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .466 CONTENTS xiii 7.8 China’s transport fuel prices are still relatively low but have increased significantly . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .467 7.9 Natural gas prices paid by industrial end-users in Chinese cities compared to prices in other countries, 2000–11 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .467 B7.6.1 Effect of a carbon price on emissions and economic growth . . . . . . . . . . . . . . . .469 7.10 Household energy expenditure shares, 2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . .470 7.11 PM10 and PM 2.5 monitoring results from 74 pilot cities, including 3 regions, 2009–13. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .473 7.12 Framework for comprehensive integrated air quality management . . . . . . . . . . . . 476 7.13 Example of a nested modeling system of air quality in the Jingjinji region in China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .477 7.14 Potential of redensification in the densest 600 km 2 in Guangzhou, compared to Seoul . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .478 7.15 Water network length and urban density. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .478 7.16 Road network length and urban density . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .479 7.17 Fuel consumption for freight (40-ton trucks) and congestion . . . . . . . . . . . . . . . .479 7.18 Superposition of carbon emissions per capita for private transport and urban density in metropolitan London, New York, and Paris . . . . . . . . . . . . . . . . . . . .480 7.19 Total length of bus and metro lines in operation . . . . . . . . . . . . . . . . . . . . . . . . .482 7.20 Vehicle emissions contributions in China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .484 7.21 Expected pollution reduction from raising current emission standards to Euro VI standard . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .486 7.22 Primary energy supply in Beijing, Shanghai, and Chongqing municipalities, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .488 7.23 Per capita CO2 emissions for 11 large Chinese cities and selected cities around the world . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .489 7.24 Industrial energy use as a share of total energy demand in cities, 2010 . . . . . . . . .489 7.25 Industrial and nonindustrial CO2 emissions per capita in selected Chinese and other cities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .489 7.27 Primary household cooking energy in urban and rural areas, 2006 . . . . . . . . . . .490 7.26 Energy use in commercial buildings in China, the United States, and Japan . . . . .490 7.28 Energy consumption by neighborhood . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .492 7.29 Mapping London’s electricity demand . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .493 B7.10.1 Marginal abatement cost curve for Hongqiao area of Changning District, Shanghai . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .494 7.30 Energy use per unit of water treated by municipal water utilities, various years . .496 B7.13.1 Concentrations of formaldehyde and benzene concentrations in buildings . . . . . .502 7.31 Primary energy consumption in China by end use in residential and commercial buildings, 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .503 7.32 Access to natural gas in China’s 10 largest cities compared with other cities . . . .508 7.33 Supply of piped gas to urban households needed to achieve universal access to piped gas by 2020 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 510 7.34 Estimated fuel required to supply 65 percent of district heating with natural gas by 2030 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 510 B7.18.1 Carbon emissions under different scenarios of increasing gas use for heating . . . .515 7.35 Water and wastewater tariffs in Chinese cities compared to other cities around the world . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 517 7.36 Sources of main water pollutants, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 518 7.37 Share of utilities with net positive margins, by province, 2009 . . . . . . . . . . . . . . .520 xiv URBAN CHINA 7B.1 An example of the energy and emissions planning process . . . . . . . . . . . . . . . . . .528 7B.2 Examples of energy potential mapping from the Netherlands, Rotterdam and Groningen . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 531 Maps Map 2.1 Population changes from 2000 to 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .127 Map 2.2 Sprawl in Shanghai Metropolitan Region between 2000 and 2010 . . . . . . . . . .136 Map 5.1 Major river systems in China and locations of the 10 largest river basins . . . . .346 Map 5.2 Land conversion: From cultivated land to other uses, 1988–2008 . . . . . . . . . .354 Map 5.3 Land conversion: From cultivated land to other uses, 2000–08 . . . . . . . . . . . . .354 Map 5.4 Land conversion: From other uses to cultivated land, 1988–2000 . . . . . . . . . .355 Map 5.5 Land conversion: From other uses to cultivated land, 2000–08 . . . . . . . . . . . . .355 Tables O.1 Returns on capital are declining over time: China compared with Japan, Korea, and Taiwan, China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .9 O.2 China’s carbon emissions and drivers of growth . . . . . . . . . . . . . . . . . . . . . . . . . .25 O.3 China’s urbanization scenarios . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .35 O.4 Urbanization costs and fiscal space: Baseline and reform scenarios . . . . . . . . . . . .37 1.1 Incremental capital-output ratio in China and other economies, various periods . .87 1.2 Growth’s drivers on the new urbanization trajectory . . . . . . . . . . . . . . . . . . . . . . .91 1.3 The 12 types of economies of scale . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .92 1.4 Structure of migrants stock by receiving and sending region, 2010 . . . . . . . . . . . . .98 1.5 Migrant worker employment by sector, 2004–12 . . . . . . . . . . . . . . . . . . . . . . . . . .99 1.6 Percentage of population with consumption between $10–$100 a day, in 2005 PPP dollars . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .105 1.7 Summary of the reforms scenario . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 114 1.8 Urban population projections over the medium term . . . . . . . . . . . . . . . . . . . . . . 114 1.9 Sources of growth, five-year averages: Baseline and reform scenarios, 2015–30 . . 116 1.10 Composition of the demand side of GDP: Reform scenario, 2010–30 . . . . . . . . . 116 1.11 Industrial structure of GDP and employment: Baseline and reform scenarios, 2010–30. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 116 1.12 Urbanization will bring potential gains and pose risks to enterprises, households, and governments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 118 2.1 Annual change in key economic and welfare indicators between 2000 and 2010 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .132 2.2 Examples of key national plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .138 2.3 Key local planning institutions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .139 2.4 Factors making up an integrated urban plan . . . . . . . . . . . . . . . . . . . . . . . . . . . . .139 2.5 Sources of fiscal revenues for financing investment in public service facilities, 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 162 2.6 Provision of basic infrastructure services in urban areas . . . . . . . . . . . . . . . . . . . . 163 2.7 Role of different agencies and stakeholders . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 168 3.1 Educational attainment of rural workers in 2012 . . . . . . . . . . . . . . . . . . . . . . . . . 181 3.2 Distribution of rural-to-urban migrant workers by city level, 2009–12 . . . . . . . . 181 CONTENTS xv 3.3 Enrollment of migrant children in universal compulsory education, Beijing municipality . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .200 3.4 Status of migrant children enrollment in universal compulsory education in selected cities, various years. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .200 3.5 Conditions for migrant children’s enroll in public schools, 2011. . . . . . . . . . . . . .201 3.6 Assistance in financing migrant children’s education. . . . . . . . . . . . . . . . . . . . . . .201 3.7 Summary of characteristics of the three health insurance schemes . . . . . . . . . . . .205 3.8 Comparison of the three health insurance schemes . . . . . . . . . . . . . . . . . . . . . . . .205 3.9 Summary of characteristics of the major pension schemes in China . . . . . . . . . . .207 3.10 Cost of extending urban social services to cover rural migrants . . . . . . . . . . . . . .213 3.11 Composition of funding in universal compulsory education, 1997 and 2010 . . . . 217 3.12 Examples of extended free basic education in China, various years . . . . . . . . . . .220 3.13 Proportion of pension contributions transferred to provincial adjustment funds . .228 3.14 Proposed financing arrangements for the pension system . . . . . . . . . . . . . . . . . . .229 3.15 Dibao and medical financial assistance in urban and rural China, 2012 . . . . . . .230 3.16 Trends in employment and wages of college graduates, 2008–12 . . . . . . . . . . . . .241 3.17 Social insurance and housing fund contributions in urban China, 2013 . . . . . . . .247 4.1 Industrial land price development by region, 2000–11 . . . . . . . . . . . . . . . . . . . . . 274 4.2 Supply of construction land and land concession income, 2001–12 . . . . . . . . . . . 275 4.3 Cost structure of land concession, 2008–12 . . . . . . . . . . . . . . . . . . . . . . . . . . . . .278 4.4 Expenditure patterns of land sales profits to local government, 2008–12 . . . . . . .279 4.5 Mechanisms capable of capturing betterment . . . . . . . . . . . . . . . . . . . . . . . . . . . .286 4.6 Transport sector investment projects and land value capture . . . . . . . . . . . . . . . .287 4.7 Land and property tax in Germany, 2003 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .291 4.8 Land and fixed property tax in Japan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .291 5.1 Total increase rate of water use in China by sector, 1949–2011 . . . . . . . . . . . . . .344 5.2 Water supply, water demand, and water balance in China’s 10 major river basins, averaged over 2006–10 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .346 5.3 Planned expansion of irrigation areas . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .347 5.4 Proportion of rural laborers working off-the-farm, by age cohort, 2011. . . . . . . .349 5.5 Hourly wage rate of rural migrant workers across regions in 2011 . . . . . . . . . . . .349 5.6 Machinery subsidies in China, 2008 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .352 5.7 Change in total production potential by province, 2000–08 . . . . . . . . . . . . . . . .356 5.8 Impact of a 1 percentage point increase in China’s urbanization rate on China’s domestic food production to 2020 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .357 5.9 China’s supply and demand of agricultural products in 2012, 2020, and 2030 . .358 5.10 Impact of a 1 percentage point increase in China’s urban population on China’s international trade to 2020 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .359 5.11 China’s current and projected supply and demand of livestock products in 2012, 2020, and 2030 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .363 6.1 Urbanization costs and fiscal space: Baseline scenario. . . . . . . . . . . . . . . . . . . . . . 376 6.2 Urbanization costs and fiscal space: Reform scenario . . . . . . . . . . . . . . . . . . . . . .380 6.3 China’s investment in public utilities, infrastructure and facilities, 2011 . . . . . . .390 6.4 China public debt, June 2013 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .393 6.5 Proposed fiscal rule and debt limit indicators . . . . . . . . . . . . . . . . . . . . . . . . . . . . 413 6.6 Local government bonds by issuers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 416 6.7 Local government fiscal tiers in the world . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .430 6.8 Comprehensive reform program . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .433 xvi URBAN CHINA 7.1 Sector priorities for green urbanization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .472 7.2 Breakdown of PM10 and PM 2.5 sources nationwide and in Beijing . . . . . . . . . . . . 474 7.3 Estimated waste generation levels and main outlets in China, 2011 . . . . . . . . . . .522 7B.1 “Green” and “low-carbon” indicators for the transport sector in Chinese cities. .529 7B.2 Illustrative examples of tools to assist city leaders in developing low-carbon plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .533 Foreword Today, more than half of the world’s popula- 2030: Building a Modern, Harmonious, and tion lives in cities, and by 2030 that will rise Creative Society, which laid out the key, long- to an estimated 60 percent. Nearly all of this term challenges facing the Chinese economy. growth is happening in developing countries, The urbanization study aimed to build on where as many as 66 million people migrate this successful collaboration and help China to urban areas each year. Urbanization has tackle another key development challenge: historically served as an essential engine forging a new model of urbanization. for economic development: No country has To this end, China’s Ministry of Finance, reached high-income status without undergo- the Development Research Center of the ing a successful urbanization process. State Council, and the World Bank Group China’s urbanization over the last three established a joint work team to address decades has been unprecedented in scale: 260 several overarching questions related to million migrants have moved to cities from China’s urbanization process, such as: How rural areas, supporting the country’s rapid can a new model of urbanization become an economic growth and development progress. engine for higher-quality economic growth? Despite the enormity of this transition, China How can more efficient urbanization support has avoided some of the ills often associated China’s future economic transformation? with urbanization, particularly large-scale How can more inclusive urbanization pro- urban poverty and unemployment. But strains mote integration and cohesion? How can have begun to emerge in the form of rising more sustainable urbanization help slow inequality, environmental degradation, and environmental deterioration, achieve more the quickening depletion of natural resources. efficient use of resources, and advance food Chinese leadership understands these security objectives? How can reforms to the challenges. Premier Li Keqiang has placed land, hukou, fiscal, and financial systems urbanization as one of the government’s top reinforce China’s new vision of urbanization? priorities. In November 2012, he asked the To answer these questions, the team held World Bank Group to partner with China a series of workshops; prepared numer- in conducting a joint study on the country’s ous studies, cases, and background papers; urbanization challenges. Earlier that year, and developed common ideas based on a the Bank Group and China’s Development deep understanding of the challenges and Research Center of the State Council pro- opportunities of urbanization in China and duced a groundbreaking study entitled China around the world. This report, Urban China: URBAN CHINA xvii xviii URBAN CHINA Toward Efficient, Inclusive, and Sustainable environmental pressures through more Urbanization, represents the results of that efficient resource management; and sixth, work. The report takes as its point of depar- improving governance at the local level. ture the conviction that China’s urbanization The report also provides recommendations can become more efficient, inclusive, and sus- on the timing and sequencing of reforms. It tainable. However, it stresses that achieving stresses the need to fi rst implement reforms this vision will require strong support from related to land, fiscal, and public service sys- both government and the markets for policy tems. Doing so will facilitate China’s transi- reforms in a number of areas. tion to higher-quality economic growth. The report proposes six main areas for The team prepared interim reports that reform: first, amending land management were shared with China’s top policy makers institutions to foster more efficient land use, as inputs to policy discussions on urbaniza- denser cities, modernized agriculture, and tion during 2013, providing an important more equitable wealth distribution; second, basis for the formulation of China’s new adjusting the hukou system to increase labor model of urbanization. mobility and provide urban migrant workers Going forward, we hope the fi nal report with equal access to a common standard of will provide the insight to help central and public services; third, placing urban finances local authorities navigate China’s ongoing on a more sustainable footing, while foster- transition to an urban-based society. More ing fi nancial discipline among local govern- broadly, we hope this work will provide a ments; fourth, improving urban planning to useful contribution to global knowledge on enhance connectivity and encourage scale urbanization, and help other countries better and agglomeration economies; fifth, reducing manage their urbanization challenges. LI Wei Jim Yong Kim President President Development Research Center of the State The World Bank Group Council, P.R.C. Acknowledgments This research was organized jointly by Hofman. Within the World Bank, Chorching China’s Ministry of Finance (MOF), the Goh was the technical task team leader. Development Research Center of the State The overview report was prepared by a Council (DRC), and the World Bank Group. joint team comprising Chorching Goh, Jun President Jim Yong Kim of the World Bank Han, Yupeng He, Bert Hofman, Yongzhi Group, Minister Jiwei Lou of MOF, and Hou, Peilin Liu, Shijin Liu, Klaus Rohland, Minister Wei Li of DRC provided valuable Mara Warwick, and Xian Zhuo, with sup- guidance and strong support throughout. port from Shusong Ba, Changsheng Chen, Guiding this research was a Chinese inter- Sen Gong, Sanlin Jin, Shouying Liu, Yun- nal steering committee comprising Minister zhong Liu, Jinzhao Wang, and Yida Wang Wei Li of DRC, Minister Jiwei Lou of MOF, (DRC and MOF), and Uwe Deichmann, Vice Ministers Baoan Wang and Yaobin Shi Gailius Draugelis, Elena Glinskaya, Somik of MOF, Vice Ministers Shijin Liu and Jun Lall, Mark Lundell, Paul Procee, Ulrich Han of DRC, former Minister Xuren Xie of Schmitt, Karlis Smits, and Min Zhao (World MOF, former assistant Minister Xiaosong Bank). The overview report benefited from Zheng of MOF, plus a World Bank Group inputs provided by Anass Afilal, Richard internal steering committee comprising Sri Auty, Roy Bahl, David Bulman, Wei Cai, Mulyani Indrawati, Jin-Yong Cai, Axel van Shaohua Chen, Zhao Chen, Basab Dasgupta, Trotsenburg, Kaushik Basu, Rachel Kyte, Yongheng Deng, Wanli Fang, Bruce Fitzger- Keith Hansen, Otaviano Canuto, Janamitra ald, Li Gan, Ming Lu, Yanyun Joyce Man, Devan, Jaime Saavedra, Ana Revenga, Zou- Baoyun Qiao, Shonali Sen, James G. Wen, bida Allaoua, and Klaus Tilmes. and Colin Lixin Xu. Under the overall leadership of Minister The joint DRC and World Bank team Wei Li of DRC and Managing Director Sri benefited from commentary and review pro- Mulyani Indrawati of the World Bank, the vided by Arup Banerji, Benu Bidani, Milan report was prepared by a joint team from the Brahmbhatt, Fang Cai, Rugui Chen, Khoo three organizations, led by DRC Vice Minis- Teng Chye, Yuanzhu Ding, Chuangling Fang, ter Shijin Liu, DRC Vice Minister Jun Han, Martin Feldstein, Zangchun Gan, Peiyong World Bank Country Director for China, Gao, Chaolin Gu, Jiankun He, Richard Herd, Mongolia, and the Republic of Korea, Klaus Andrew Hilton, Biliang Hu, Cunzhi Hu, Rohland, and World Bank Chief Economist Jikun Huang, Xiaohu Huang, Yukon Huang, for the East Asia and Pacific region, Bert Kang Jia, Xiangzhi Kong, Qiang Li, Mai Lu, URBAN CHINA xix xx URBAN CHINA Chaping Mu, Stefano Negri, Vikram Nehru, Jian Lin, Bin Lv, Baoxing Qiu, and Deci Zou. Pengfei Ni, Baoxing Qiu, Yulong Shi, Ming In addition, data support and other inputs Su, Zhonghua Sun, Woo Wing Thye, Jun were provided by Sheng Luo, Tingting Shi, Wang, Yiming Wang, Debbie Wetzel, Guang Tingting Xie, Chaoyi Xu, Min Zhang, and Xia, Lin Xu, Xianping Xu, Kaizhong Yang, Fanfan Zhao. Yulong Ye, Xiangquan Zeng, Liu Zhi, Qiren Supporting Report 3 “Inclusive Urbaniza- Zhou, and Deci Zou. The overview team tion and Rural-Urban Integration” was pre- gratefully acknowledged the helpful sugges- pared by a joint team led by Sen Gong (DRC) tions from the peer reviewers Marianne Fay, and Elena Glinskaya (World Bank). The team Abha Joshi-Ghani, Indermit Gill, and Jesko included Liejun Wang, Xiongjun Wang, and Hentschel, as well as the support and guid- Bingzi Zhang (DRC), and John Giles, Gerard ance from John Roome, Sudhir Shetty, Tunc Martin La Forgia, Xiaoyan Liang, Philip Uyanik, and Xiaoqing Yu. O’Keefe, Shonali Sen, Dewen Wang, (World The seven supporting reports were pre- Bank), and Christine Wong (University of pared under the overall guidance of Jun Han, Melbourne). The report benefited from inputs Bert Hofman, Shijin Liu, and Klaus Rohland. provided by Jehan Arulpragasam, Luis Ben- Supporting Report 1 “Urbanization veniste, Meskerem Brhane, Xiangming Chen, and Economic Growth” was prepared by a Maitreyi Das, Mark Charles Dorfman, Mary joint team led by Changsheng Chen (DRC) Gallagher, Qingyue Meng, Toomas Palu, and Karlis Smits (World Bank). The team Albert Park, Jin Song, Minna Hahn Tong, included Bingde Duan, Jianwu He, Yu Jiang, Xiaoxia Wang, Liping Xiao, Xiaoqing Yu, Ting Shao, Wei Xu, Zhaoyuan Xu, and Xian Chenggang Zhang, and Shuo Zhang. Zhuo (DRC), and David Bulman, Chorch- Supporting Report 4 “China’s Urbaniza- ing Goh, and Bingjie Hu (World Bank). The tion and Land: A Framework for Reform” report benefited from inputs provided by was prepared by Shouying Liu (DRC) and Yong Hwan Cha, Shaohua Chen, Tianming Ulrich Schmitt (World Bank). The report Chen, Li Gan, Jingyi Jiang, Edward Leman, benefited from inputs provided by Andrew Binglie Luo, and Jian Zhang. Hilton, Xueping Hou, Ruixian Hu, Xiaohu Supporting Report 2 “Planning and Con- Huang, Lixing Li, Ping Li, Yihao Li, Shen- necting Cities for Greater Diversity and Liv- min Liu, Paul Munroe-Faure, Xiazhen Shao, ability” was prepared by a joint team led by Ran Tao, Xiaoqin Wang, Xiaohui Wu, and Yunzhong Liu (DRC), Somik Lall, and Paul Chongfa Yuan. Procee (World Bank). The team included Supporting Report 5 “China’s Urbaniza- Jianwu He, Bin Huang, Shen Jia, Zongmin tion and Food Security” was prepared by a Lan, Jiabin Lin, Rufei Liu, Yong Liu, Xiong joint team led by Sanlin Jin (DRC) and Ulrich Niu, Zhiyan Sun, Hui Wang, and Xiaowei Schmitt (World Bank). The team included Xuan (DRC), and Edward Leman, Joanna Kym Anderson, Emiko Fukase, Jikun Huang, Masic, Gerald Paul Ollivier, Serge Salat, and Yan Liu, Willam Martin, Scott Rozelle, and Andrew Salzberg, (World Bank). The report Jun Yang. The team benefited from com- benefited from inputs provided by Anass ments and suggestions from Jun Han, Yupeng Afilal, Zoubida Allaoua, Mats Andersson, He, Shouying Liu, and Xingqing Ye (DRC), Mesky Brhane, Wei Cai, Basab Dasgupta, as well as other supporting report authors. Chandra Deuskar, Emiliano Duch, Marianne It also benefited from background papers Fay, Wanli Fang, Ellen Hamilton,Vernon provided by Junfei Bai, Xiangzheng Deng, Henderson, Abhas Kumar Jha, Ying Jin, Fan Songqing Jin, Ji Ma, Huanguang Qiu, Laping Li, Stefano Negri, Ira Peppercorn, Binyam Wu, Jinxia Wang, and Xiaobing Wang. Reja, Fatima Shah, Pablo Vaggione, Sameh Supporting Report 6 “Financing Urban- Wahba, Runze Yu, Rufei Zhang, and Pengjun ization” was prepared by a joint team led by Zhao. The team benefited from suggestions Shusong Ba (DRC), Yida Wang (MOF), and from Changchun Feng, Chaolin Gu, Feng Li, Min Zhao (World Bank). The team included ACKNOWLEDGMENTS xxi Mingge Lv, Hong Tang, Xianling Yang, and Yao (MOF), Hui Han, Yupeng He, Shen Jia, Zilong Zheng (DRC), Shuanyou Ma, Li Xu, Qing Li, Peilin Liu, Hui Wang, and Xian and Yongzhen Yu (MOF), Hongye Fan, Cati- Zhuo (DRC), Ying Fan, Li Li, Guangqin Luo, ana Garcia-Kilroy, Lili Liu, Ira Peppercorn, Yu Shang, Elaine Sun, and Hua Zhu (World Juan Pradelli, Binyam Reja, Robert Taliercio, Bank) provided strong support for the suc- and Luan Zhao (World Bank). The report cessful completion of the study. Tianshu Chen benefited from inputs from Roy Bahl, David of the World Bank served as interpreter for Painter, Baoyun Qiao, Anwar Shah, Lina Li, the project and organized and coordinated and Guangrong Ma. The team benefited from the translation work. Yueyang Bao and Yuan- suggestions from Kang Jia, Jun Ma, Lin Xu, jing Shang of the China Development Press and Sudarshan Gooptu, Ming Su, Jun Wang, and Weiling Zhang of DRC managed the and other supporting report authors. Part of coordination and production of the Chinese the proofreading of the translation work was edition. The World Bank’s Kathryn Funk, provided by Jian Chen. Li Li, Lasse Melgaard, and Mara Warwick Supporting Report 7 “Green Urbaniza- managed the coordination and production of tion” was prepared by a joint team led by the English edition. The team is grateful to Jinzhao Wang (DRC) and Uwe Deichmann Susan Graham of the World Bank’s Publish- and Gailius Draugelis (World Bank). The ing and Knowledge Division for managing team included Jianpeng Chen, Jianwu He, the editing and layout of the English version, Tao Hong, Weiming Li, Xiong Niu, Guang as well as to Andres Meneses for the printing Shi, Zifeng Song, Haiqin Wang, Xu Wu, and and fi le conversions. The International and Xiaowei Xuan (DRC), and Garo Batmanian, Comprehensive Departments of MOF, the Liping Jiang, Todd Johnson, Xiaokai Li, Feng General Office and International Department Liu, Jostein Nygard, Gerald Ollivier, Binyam of DRC, and the World Bank provided effec- Reja, Serge Salat, Christopher Sall, Rob- tive support in organizing all the conferences, ert Taylor, and Frank Van Woerden (World discussion meetings, and international field Bank). The report benefited from inputs pro- study trips throughout this research. vided by Dimitri De Boer, Xiangxin Guo, This research also benefited enormously Genia Kostka, Zhi Li, Ximing Peng, Paul from comments and suggestions from Chi- Procee, Wenjin Pu, Yu Qin, Li Qu, Shuai nese ministries and local governments, Ren, Yanqin Song, Xiaodong Wang, Yun including The National Development and Wu, Runze Yu, Yabei Zhang, Yu Zhang, and Reform Commission, Ministry of Educa- Xi Zhao. The team benefited from comments tion, Ministry of Public Security, Ministry and suggestions from Fei Feng, Jiankun He, of Human Resources and Social Security, Xiulian Hu, Guang Xia, and other support- Ministry of Land and Resources, Ministry ing report authors. of Environmental Protection, Ministry of Invaluable support for the endeavor was Housing and Urban-Rural Development, provided by MOF Vice Ministers Yaobin and National Population and Family Plan- Shi, Baoan Wang, Guangyao Zhu, Directors- ning Commission. Development Research General Wenhan Ou, Shaolin Yang, Jiayi Centers of Shanghai, Tianjin, Chongqing, Zou, Deputy Directors-General Zhongyong Guangdong, Zhejiang, Inner Mongolia, Hu, Yida Wang, and Yingming Yang, as Henan, Shaanxi, Hubei, Hunan, Yunnan, well as the Chinese Executive Director to the Shenzhen, Xi’an, and Zhengzhou provided World Bank, Shixin Chen. case study reports, and Finance Bureaus Coordination teams led by Yongzhi Hou of Liaoning, Henan, Sichuan, Chongqing, (DRC), Wenhan Ou and Jiayi Zou (MOF) Hunan, Guangdong, Hainan, and Ningbo and Mara Warwick (World Bank), and com- provided assistance in local field study trips. prising Dongwei Wang, Hai Wang, Yida The joint research team is grateful for all Wang, Yan Xie, Yingming Yang, and Licheng their support. Executive Summary Over the past three decades, China’s urban- relied excessively on land conversion and ization has supported high growth and land fi nancing, which is causing inefficient rapid transformation of the economy, allow- urban sprawl and, on occasion, ghost towns ing people—among them some 260 million and wasteful real estate development. Barri- migrants—to move from agriculture to more ers to migration have kept China’s urbaniza- productive activities. In the process, 500 mil- tion rate too low, thus underutilizing peo- lion people were lifted out of poverty, and ple’s potential and exacerbating urban-rural China managed unprecedented growth that income inequality. Unequal access to public averaged 10 percent a year for three consecu- services between citizens with urban house- tive decades. China’s cities, with abundant hold registration (hukou) and those with- labor, cheap land, good infrastructure, and out, although diminishing, remains and is competition among local governments to a barrier to mobility. At the same time, the attract industry and investment, have cre- large influx of migrants puts pressures on ated an environment that has been highly urban services, and urban citizens perceive conducive to growth. Growing cities that an erosion of service quality. Rural-urban have become increasingly connected with land conversion has been inequitable in the each other and with the rest of the world distribution of its gains, has added to wealth have added to productivity growth through inequalities, and has fed social unrest among agglomeration effects, and China’s mega cit- farmers whose land has been expropriated. ies now have income levels comparable to Despite progress in environmental stan- some member countries of the Organisation dards and policies, the cost of pollution to for Economic Co-operation and Develop- the nation’s health is rising as China’s popu- ment (OECD). lation is increasingly concentrated in cities. And land-intensive urbanization has reduced China has avoided some of the common ills the availability of farmland, is competing of urbanization, notably urban poverty, for scarce water resources, and is adding to unemployment, and squalor. But strains are pollution that affects the quality of farm pro- starting to show. China’s growth has been duce and food production capacity. increasingly driven by investment rather than productivity, and investment has become less China’s leadership is well aware of these effective in generating growth at the national challenges and has called for a new model as well as the city level. Urbanization has of urbanization to match China’s evolving URBAN CHINA xxiii xxiv URBAN CHINA development goals and meet the emerging the market-based allocation of people, land, challenges. A new model can support more and capital across China and the provision efficient growth through better allocation of public services to support these alloca- of land, labor, and capital; be more inclu- tions. At the same time, a growing number sive and share benefits of urbanization more of people will be exposed to environmen- widely than in the past; and be environmen- tal hazards, and government would need to tally sustainable and safeguard China’s food increase its effectiveness in enforcing existing security. China’s urban landscape will con- legislation while enhancing market pricing to tinue to change: the largest cities will likely reflect environmental externalities in market become larger and boost their role as gate- transactions. The reform strategy underpin- ways to the world and centers of a diverse ning this new role would focus on four areas: economy, moving increasingly into services, better policies on land, including creation of knowledge, and innovation. Secondary cit- the institutions in which more market pricing ies within metropolitan areas are likely to for land can take place; removal of obstacles attract more land-intensive manufactur- to people’s mobility, including reforms of the ing, benefiting from specialization and links hukou system and provision of a minimum to markets. China’s large inland cities can public services package across China; a fis- compete with coastal cities if they are well cal and financial strategy that will make the connected to markets. Hinterland cities and new model of urbanization affordable; and a rural towns would focus on activities with change in the incentives for local government fi rm-level scale economies and on providing officials to pursue the goals of the new urban- the public services that allow people to move ization model. to opportunities elsewhere. Better allocation of land, labor, and capital will accelerate the The main benefit of reforms will be higher- shift of industry to secondary cities, and as quality growth. The reforms proposed in this job opportunities open up in these areas, report—specifically regarding land, hukou, migration pressures in large cities are likely and fi scal system reforms, and a change in to moderate. As surplus labor diminishes the incentives for local governments to attract with more rapid urbanization, the wage share investment—will make the allocation of in gross domestic product (GDP) will rise land, capital, and labor more market based. and urban-rural disparities will narrow. That That in turn will change the distribution of would also promote consumption—increas- economic activities across China’s urban ingly driven by a growing middle class, landscape. Accelerating the shift of industrial whose demand will spur a more services- activities to cities where land and labor are based urban economy. More inclusive growth cheaper would provide a stronger economic and more equitable distribution of income basis for those cities, and therefore promote will reinforce the shift toward consumption, small and medium-size cities. At the same because lower-income earners consume more time, this shift in industrial activities would of their income than higher-income earners. also reduce migration pressures for the largest cities that would increasingly specialize A new model of urbanization requires a in high-value services and innovation and different role for government. Government attract higher-skilled labor rather than a low- should support rather than supplant market skilled industrial workforce. forces in shaping China’s urban landscape, Land reforms would improve the efficiency allowing China’s cities to grow more organi- of rural and urban land use and increase the cally and efficiently in response to market compensation rural residents receive from forces within the context of the government’s land conversion, thus improving the distribu- strategic development plan. Government tion of income and wealth. Land reforms will would need to rebalance its involvement from also likely lead to denser cities, which would exercising administrative control to regulating reduce the energy intensity and car use in EXECUTIVE SUMMARY xxv cities, thus improving environmental sustain- establishing a register for land titles and land ability. And reduced land use for urbaniza- transactions. Over time, a unified land regis- tion would leave more land for environmen- tration system based on unified rules, stan- tal services and agricultural production. dards, and procedures applicable to all land Hukou reforms and supporting reforms should be established; (3) reforming collec- in public services would increase the mobil- tive ownership by codifying that collective ity of workers across China and added to assets belong to the collective’s members, their productivity and wages. It would also clarifying membership and qualifications for accelerate rural-urban migration, which entering and terminating collective member- combined with land reforms, would acceler- ship, and defi ning rights to collective assets, ate agricultural modernization and increase including the rights to occupy, use, profit, rural incomes, thereby reducing rural-urban transfer, withdraw with compensation, mort- income inequalities. More equal service deliv- gage, guarantee, and bequest an inheritance ery across China would expand the equality of those rights; and (4) defining “public inter- of opportunity for all China’s citizens. Bet- est” for which the government can exercise ter access to housing finance for migrants its eminent domain power, while unifying the would allow them to acquire urban property principles and standards for rural and urban and benefit from capital gains, thus reducing land expropriation. growing wealth disparities. Rural and urban land use could be further Fiscal reforms would generate the revenues optimized by (1) allocating rural land in a to finance a minimum package of services more market-driven way. In line with land- across China and reduce the need for land- use plans and regulations, government could based financing, while limiting the risk to the clarify equal market entry of collective and fi nancial system resulting from unregulated state construction land, while the collective borrowing by local governments. Fiscal and construction land that has already entered financial reforms would also exert more dis- into the urban market needs to be classified cipline on local governments, thereby reduc- accordingly and integrated into urban mas- ing the wasteful development of ghost towns ter plans and managed according to the law; and empty industrial parks. (2) integrating urban villages into the formal Six priorities for establishing a new urban- urban development process and allowing ization model emerge from this study. the use of rural collective construction land in peri-urban areas for urban development First, reforming land management and within the framework of urban master plans; institutions. More efficient land use, denser (3) shifting land use from industry toward cities, modernization of agriculture, and bet- services and residential use, increasing trans- ter income and wealth distribution between parency in the secondary land-market trans- rural and urban areas all require more effi- actions, and boosting the availability of land cient and equitable utilization of land. A for low-income housing from vacant govern- critical element of reforms is the current ment land and consolidated urban village land system, which can be improved by bet- land; and (4) pricing of industrial land in ter protecting land rights and optimizing line with competing uses to improve the use the use of land resources in rural and urban of this land and strengthen local government areas. Land rights could be better protected finances. by: (1) legalizing the central policy of “long term without change” for farmland leases Second, reforming the hukou system to and specifying the nature of the contractual create a mobile and versatile labor force rights to farmland, including the rights to with equal access to a common standard of occupy, use, profit from, transfer, mortgage, public services. To achieve this, the house- and bequest land; (2) improving land title hold registration system would need to move registration by enforcing written land leases, from an origin-based to a residence-based xxvi URBAN CHINA system. The hukou system and residency tax on housing—gradually phased in to system can operate in parallel. A residency allow people to adjust—to provide local registration would provide access to services governments with a stable, sustainable such as education, health care, welfare, and source of finance linked to land prices; affordable housing, whereas hukou could be charging higher prices for urban services maintained to provide land rights. As land such as water, energy, and transport to reforms and pension reforms progress, this cover full costs and promote efficient use balance could be adjusted in the future. Cen- of resources; and increasing taxes and tral government needs to define the rules for charges on motor vehicles to raise revenues establishing residency and a framework for and reduce congestion. China could also extending access of new residents to urban consider reassigning some consumption services. Initially, local variations in levels of taxes to local government—possibly while access and the timeframe in which new resi- maintaining central collection. Irrespective dents gain full access to services may be nec- of the policy choice on local revenues, at essary, but standards for residency should be the margin China’s cities must be financed gradually unified across China. The first pri- from local taxes so that local government ority is to enable migrants and their families decisions will be scrutinized by those that to better integrate into urban society and pro- pay the taxes and benefit from public vide them with the social services they need— services. which would likely require a central fiscal • Improve the intergovernmental grants subsidy to those cities that host a large share system. In 2013, China had some 200 dif- of migrants. In the medium term, reforms in ferent earmarked grant programs, each social services and the public finance system meeting separate objectives. Consolidating could allow a nationwide common service these in a limited number of sectoral block standard, irrespective of location. Sustain- grants could make the system more effec- ability and portability of pension benefits are tive in the short run. In the medium term, of particular importance and would require moving to a general grants system that central administration over time. Further considers revenue capacity and expenditure developing a fiscal system based on expendi- needs (including a measure for the number ture needs and revenue capacity would lay the of residents) would ensure that money fol- foundation for equal access to a minimum lows people and would enable local gov- level of public services across China. ernments to provide a minimum level of public services for all citizens. Central gov- Third, placing urban finances on a more ernment would also need to develop stan- sustainable footing while creating financial dards for the subprovincial fiscal system, discipline for local governments. China’s where large fiscal inequalities remain. fiscal system has served the country well • Establish an explicit framework for local since the major reforms of 1994, but further government borrowing. Allowing local reforms will be required to meet the public governments to borrow requires a well- service demands from new urban residents defined central government framework, and lower revenues from land fi nancing as which should include rules that define excessive land conversion is phased out and which local governments can borrow, from compensation standards improve. For local whom they can borrow, and the conditions governments to make optimal choices when under which they can do so, and which, using scarce resources, reforms in the fiscal at least initially, puts limits on borrowing and financial systems should impose hard for individual municipalities and for local budget constraints on them. There are four governments as a whole. The regulatory priorities for reforms: framework should also include a cred- ible no-bailout commitment by the central • Improve the revenue base of local gov- government and clear rules of debt work- ernments by mainstreaming a property out in case a local government becomes EXECUTIVE SUMMARY xxvii overindebted. Nonviable local government flexible zoning that promotes smaller plots financing vehicles (LGFVs) should be reab- and greater mixed-land use would allow sorbed within the local administration, for denser and more efficient development. and overindebted governments and LGFVs China could make better use of existing restructured to regain financial viability. urban land by rezoning excess industrial land • Reform the financial sector to enhance into commercial and residential land; raising fi scal discipline of local governments. In floor area ratios (the ratio of a building’s floor other countries, market discipline alone area to the land on which it sits); integrating has regularly failed to limit local borrow- urban villages into urban planning; and link- ing, so China would need to regulate the ing transport infrastructure with urban cen- bond market, banks, and shadow banks on ters. Finally, promoting coordination among equal footing to ensure local government cities in metropolitan areas and city clusters discipline and competitive access to finance would enhance agglomeration benefits and without undue risk to the financial system. encourage better management of congestion For the local government bonds market to and pollution. function well, local governments would have to abide by independent creditworthi- Fifth, managing environmental pressures. ness assessments and rules on disclosure of China already has an impressive set of envi- financial statements, requirements that are ronmental laws, regulations, and standards, already common for banks and enterprises. and many technical solutions to address pol- In the short term, bank finance will remain lution and increase resource use efficiency important, however, and to ensure that have been piloted and some mainstreamed local government borrowing does not risk for many years. Improvements will therefore banks’ stability, legal and regulatory limi- come with a strengthening of the institutions, tations already in place should be enforced. incentives, and instruments that enable effec- These include exposure limits, which cap tive enforcement across sectors and at an a bank’s loan exposure to a single cli- appropriate geographic scale. An intergov- ent; concentration limits, which restrict a ernmental transfer mechanism to compen- bank’s exposure to a certain type of cli- sate for environmental compensation could ent, such as all local governments taken be considered. Management of water and air together; and insider lending limits, which quality, the latter especially in large urban limit lending to the owners or co-owners clusters, would be most effectively conducted of the bank. After experiencing widespread at a regional scale. An improved data collec- subnational defaults, countries such as Bra- tion system with wider information dissemi- zil banned subnational ownership of finan- nation would promote monitoring and com- cial institutions. pliance and allow greater public participation in holding polluters to account. The legal sys- Fourth, reforming urban planning and tem could be better leveraged to complement design. Global experience shows that urban- government enforcement by expanding and ization has led to a diversity of viable and formalizing current experiments with envi- livable cities, different in size, location, and ronmental courts. Furthermore, rebalancing population density, but well connected at environmental policy instruments toward the national level and clustered at the local more market-based tools such as taxes and and regional levels. Rather than prescribing trading systems for carbon, air, and water city size, policies that create a level playing pollution, and energy use would create a field can encourage scale and agglomeration greener urban environment. economies across cities to emerge. China would benefit from replacing the current Sixth, improving governance at the local standards-driven master planning with level. The performance evaluation system more dynamic approaches based on sound of local officials could be adjusted to give economic strategies for cities. Within cities, greater weight to variables that will drive xxviii URBAN CHINA a more efficient, inclusive, and sustainable the land agenda: once cities have expanded in urbanization. Local governments’ incentives an inefficient way, it is hard to reverse. While to attract industries would need to be mod- government prepares for stronger property erated by national rules to ensure that local rights for farmers, it may wish to tighten actions promote national goals. Improving land conversion and make more efficient local government financial management and use of existing urban land. Second, govern- transparency could contribute to more effi- ment would need to focus on local borrow- cient and sustainable urbanization through ing of all kinds, fi rst and foremost to assess the introduction of a medium-term expen- whether the situation requires urgent action, diture framework, comprehensive budgets as has already been done through the recently that include all government fiscal funds, and completed audit of local debt by the National disclosure of full financial accounts including Audit Office. Rules for debt resolution will a local government balance sheet. Establish- have to be issued and applied, especially ment of a chief financial officer for each local regarding instituting a system of property government would ensure clear accountabil- taxation, a source of stable revenue. Formal ity for fi nancial management and local bor- access to borrowing will have to wait until rowing. Finally, new governance structures a full regulatory framework is in place, and for metropolitan areas could realize agglom- preferably after local government revenue eration benefits and manage externalities. sources have been strengthened. A decision Many administrative models exist in other on a temporary fiscal subsidy for integrat- countries and could be tested in China. They ing migrants would accelerate the implemen- range from loose organization, with objec- tation of a residency system and could be tives restricted to one sector or fully inte- made early on. Finally, market-based con- grated across all local government planning version from rural to urban land is likely to and services to more formal arrangements, require more experimentation before it can such as the Kreis in Germany or the metro- be mainstreamed nationwide. Other systemic politan area councils in a variety of countries. changes in the policy areas discussed could come later, but presenting a comprehensive Timing, sequencing, and monitoring. The plan for implementing the agenda and estab- policy agenda proposed in this report is a lishing a monitoring mechanism for follow- comprehensive one, and authorities will need up would lend credibility to the urbanization to set priorities. Perhaps the most urgent is agenda. Abbreviations ACFTU All-China Federation of CDB China Development Bank Trade Unions CE cereal equivalent AEZ Agro-Ecological Zone CEPAC certificate of additional AQM air quality management development potential AOTU Autorité Organizatrice de CET compulsory education Transport Urban (France) transfer BAAQMD Bay Area Air Quality CFO chief financial officer Management District CHC community health center (California) CHIP Chinese Household Income BRICS Brazil, Russian Federation, Project India, China, and South CNAAQS China’s National Ambient Air Africa Quality Standards BEEC building energy efficiency CO2 carbon dioxide code COD chemical oxygen demand BEEL Building Energy Efficiency Labeling CPC Communist Party of China BEST Benchmarking and Energy CULS China Urban Labor Survey Saving Tool CWSM China Water Simulation CAPEX capital expenditure Model CAPSiM China Agricultural Policy DRC Development Research Center Simulation Model (China) CASBEE Comprehensive Assessment ECDE early childhood development System for Building and education Environmental Efficiency EIA environmental impact (Japan) assessment CASS Chinese Academy of Social ELITE Eco and Low-Carbon Sciences Indicator Tool for Evaluating CBD central business district (Citie) CCAP Center for Chinese EMMA Electronic Municipal Market Agricultural Policy Access (system) URBAN CHINA xxix xxx URBAN CHINA ENGO environmental ICCT International Council of nongovernmental Clean Transportation organization ICOR incremental capital-output EnMS energy management systems ratio EPB environmental protection ID identification bureau ILO International Labour ERI Energy Research Institute Organization ESCO energy service company ISIC International Standard ESMAP Energy Services Management Industrial Classification Assistance Program (system) ET evapotranspiration IT information technology ETS emission trading system LCL Labor Contract Law (2008) EU European Union LEAP Long-range Energy Alternative Planning (System) EV electrical vehicle LEED-ND Leadership in Energy and FAO Food and Agriculture Environment Design for Organization of the United Neighborhood Development Nations LGFV local government financing FAR floor area ratio vehicle FDI foreign direct investment LPG liquefied propane gas FIRE finance, insurance, and real MAC marginal carbon dioxide estate abatement cost FIT feed-in tariff MACTool Marginal Abatement Cost FOB free-on-board Tool FSI Floor Space Index MEP Ministry of the Environment G-20 Group of 20 MIT Massachusetts Institute of GB general obligation bond Technology GBES Green Building Evaluation MOE Ministry of Education Standard (China) GCTF Green Codes Task Force MOHRSS Ministry of Human GDP gross domestic product Resources and Social Security (China) GGBP Green, Greater Buildings Plan MOHURD Ministry of Housing and GNI gross national income Urban-Rural Development GONGO government organized (China) nongovernmental MSRB Municipal Securities organization Rulemaking Board (United GVIO gross value of industrial States) output Mtce million tons of coal equivalent HB hybrid bond MTEF medium-term expenditure HPF housing provident fund framework HR human resource MTR Mass Transit Railway (Hong HSR high-speed railway Kong SAR, China) IB-NET International Benchmarking NCD noncommunicable disease Network for Water and NCRMS New Cooperative Rural Sanitation Utilities Medical Scheme (China) ABBRE VIATIONS xxxi NDC notional defined contribution SENCE Servicio Nacional de NDRC National Development and Capitación y Empleo (Chile) Reform Commission SEZ special economic zone NGO nongovernmental SO2 sulfur dioxide organization SOx sulfur oxides NH3 ammonia SOE state-owned enterprise NOx mono-nitrogen oxides SPM suspended particulate matter NQF national qualifications SPV special purpose vehicle framework SUEEP Sustainable Energy and O3 ozone Emissions Planning OECD Organisation for Economic TC280 National Petroleum Co-operation and Products and Lubricants Development Standardization Committee OEI Open Environmental (China) Information TEOS Two Exemptions and One OM operation and maintenance Subsidy (program) OMEX operation and maintenance TFP total factor productivity expenditure TM/ETM Thematic Mapper/Enhanced OOP out-of-pocket (expenditure) Thematic Mapper PES payments for ecological or TOD transit-oriented development environmental services TRACE Tool for Rapid Asssessment PFM public financial management of City Energy PM particulate matter TVEs town and village enterprises PPP public-private partnership TVET technical and vocational PPP purchasing power parity education and training PRPD performance rating and TWh terawatt hour public disclosure UDIC urban development PSU public service unit investment corporation PV photovoltaic UEBMI Urban Employee Basic R&D research and development Medical Insurance (China) RAM Rapid Adjustment Model UMCT urban maintenance and construction tax RB revenue bond URBMI Urban Resident Basic Medical REAP Rotterdam Energy Approach Insurance (China) and Planning UWP Urban Worker Pension RESCO renewable energy service (China) company UWS urban workers scheme RMB renminbi VAT value added tax RPS Resident Pension Schemes (China) VOC volatile organic compound RSL rural surplus labor WAT wage adjustment transfer RSP resident social pension WHO World Health Organization SAR special administrative region WTO World Trade Organization SEC Securities and Exchange Commission (United States) Part I Overview Introduction Over the past three decades, China has expe- and save energy, land, and natural resources. rienced record growth that has lifted 500 Such efficient, inclusive, and sustainable million people out of poverty. Growth was urbanization would contribute to China’s triggered by reforms and opening up, which development goals. caused a rapid transformation of the economy Ef f i c i e nt ur banizat ion m a ke s t he that allowed people to move out of agricul- best possible use of China’s productive ture to more productive activities. Rapid eco- resources—its people, land, and capital. nomic development was facilitated by urban- Higher efficiency—or productivity—would ization that created a supportive environment increase the welfare of China’s people; more for growth with abundant labor, cheap land, growth would be achieved with the same and good infrastructure. Local officials keen work effort, land use, and capital accumu- to attract industry and investment and to lation. Reforms could increase efficiency by create employment played an important role removing barriers that prevent optimal use in this transformation. Despite the speed of of China’s productive resources. urbanization, China avoided some of the Inclusive urbanization provides all peo- common ills of urbanization, notably urban ple access to equal opportunity to benefit unemployment, urban poverty, and squa- from urbanization—to use their labor where lor. In 1978, less than 20 percent of China’s they are most productive, to accumulate population lived in cities; now the share is assets and savings, and to use public services more than half. On the basis of the country’s of similar quality across China. Reforms per capita income, China’s urbanization is could promote inclusion by integrating rural projected to reach about 70 percent—some migrants in cities, providing them and their 1 billion people—by 2030. How China will familities with social services comparable to manage the next wave of urbanization will those of urban hokou holders, while ensur- be an important determinant of the country’s ing that rural areas are not left behind in success in meeting its evolving development terms of public service access and quality. objectives. Sustainable urbanization means urban- China is now an upper-middle-income ization that can be supported by China’s country, well positioned to become a high- environment (land, air, water) and natural income country. China’s leadership has rec- resources, while providing an urban qual- ognized that achieving this goal requires a ity of life commensurate with the desires new growth model that is more balanced, is of China’s people. Reforms that improve based on productivity increases and innova- the urban environment, balance confl icting tions, is more equitable in the distribution of demand on land and water, and minimize the benefits of growth, and produces more the use of natural resources would contrib- sustainable environmental outcomes. These ute to sustainable urbanization. objectives are well reflected in the 12th Five- This overview report analyzes how China Year Plan. Urbanization has an important can make its urbanization more efficient, role to play: urban areas, if well managed, inclusive, and sustainable. In the first sec- provide efficient factor markets that support tion, “Achievements and Emerging Chal- continued transformation and productiv- lenges,” chapters 1 through 4, analyze ity increases through agglomeration effects, China’s achievements in urbanization and allow innovation and new ideas to emerge, the challenges it faces in achieving effi- spur domestic demand from a rising middle cient, inclusive, and sustainable urbaniza- class, give the services sector space to grow, tion. In the second section, “The Reform URBAN CHINA 3 4 URBAN CHINA Agenda,” a comprehensive reform agenda is seven supporting reports—Urbanization and proposed. Chapter 5 lays out the vision for Economic Growth; Planning and Connect- urban China in 2030 and the reform pack- ing Cities for Greater Diversity and Livabil- age that will be needed to achieve it. It also ity; Inclusive Urbanization and Rural-Urban describes the urban landscape in 2030 under Integration; China’s Urbanization and Land: the reform scenario. Chapters 6 through 10 A Framework for Reform; China’s Urbaniza- provide a detailed set of recommendations tion and Food Security; Financing Urbaniza- in the key areas of reform. Finally, chap- tion; and Green Urbanization—that further ter 11 proposes the sequencing and timing deepen the analysis and expand on the policy of reforms. This report is complemented by recommendations. Achievements and Emerging Challenges Chapter 1 China’s Urbanization Achievements China’s urbanization over the past three the past 30 years, which catalyzed China’s decades has been rapid. China’s urban popula- brisk GDP growth and pulled more than tion rose from less than 20 percent of the total 500 million people out of poverty, many of in 1978 to 52 percent in 2012, an increase whom participated in China’s massive rural- of more than 500 million people. Although urban migration, moving from the country- China’s urbanization is without precedent in side to the cities and from agriculture into absolute numbers, the increase in its urbaniza- jobs in industry and services. China’s average tion rate has not been exceptional when com- pared to other countries (figure O.1). In fact, FIGURE O.1 China’s rapid urbanization from an international China’s change in urbanization rate has been perspectivea lower than that of countries such as Japan and the Republic of Korea at comparable stages of development, but higher than that Korea, Rep. (1960–90) of the United States and the United Kingdom Saudi Arabia (1960–90) Japan (1950–80) in the past. Moreover, despite rapid urban- Angola ization, the share of the population that is Haiti Malaysia urban remains below that expected at China’s China current per capita income. Most important, Algeria China’s urbanization remains incomplete: Indonesia Brazil (1960–90) some 260 million residents of urban areas, Turkey known as migrants, lack urban hukou, the Canada (1880–1910) Bolivia urban registration that regulates access to Mexico (1960–90) urban public services and social security. Nigeria Over the past decade, China’s cities have Ghana Ecuador gained an additional 100 million urban Germany (1880–1910) residents, and the annual growth rate of Russian Federation (1960–90) Iran, Islamic Rep. the urban population reached almost 4 Spain (1960–90) percent, five times that of the total popu- Netherlands lation. Some 40 percent of the new urban Mozambique Portugal residents became urban because a nearby United States (1880–1910) city expanded to encompass the rural area United Kingdom (1850–80) Average for developing countries in which they were living, while a similar share moved to the cities to seek work.1 Pop- 0 5 10 15 20 25 30 35 40 45 50 ulation growth in the largest cities has been % increase in urban share of the population especially rapid, despite government policies intended to encourage migration to small Source: World Bank staff calculations based on World Development Indicators and Bairoch and and medium cities. Goertz (1986). Note: It should be noted that the urbanization rates on which this figure is based are not Rapid urbanization has facilitated an fully comparable, as definitions of urban areas differ from country to country. unprecedented economic transformation in a. The time period for all countries is 1978–2012, unless otherwise noted. URBAN CHINA 5 6 URBAN CHINA GDP growth rate over the past three decades Many countries have urbanized in the course reached nearly 10 percent, and urban areas of development, but some have seen their cit- that provided cheap land, abundant labor ies expand without much growth, and in such from migrants, and expanding infrastructure cases, urbanization has been accompanied by catalyzed this rapid growth. Demand from a rising unemployment, slums, congestion, and growing world economy, into which China squalor. China has avoided these problems, increasingly integrated, outpaced domestic in part by regulating the flow of people to its demand, while investment in manufacturing cities, but more so by creating the conditions and infrastructure transformed China’s eco- for rapid growth in income and employment. nomic geography. Mobile migrant labor that was temporar- A key driver of China’s success was the ily employed either moved back to the rural decentralization of decision making to local areas or on to the next job, thus containing governments, which started in 1980. This open urban unemployment. decentralization encouraged local experimen- China is embarking on a new model of tation and competition for resources between urbanization with conditions that are vastly cities and motivated local initiatives through different from three decades ago. China is a performance system that rewarded local reaching a stage in its development in which leaders’ success against national development efficient use of resources is becoming more goals. In the transformation process, employ- important for growth than simply mobiliz- ment in manufacturing and services grew ing resources. In the future, the services sec- during the same period from less than 30 per- tor—rather than industry—is going to play a cent of the labor force to more than 60 per- larger role in growth, and domestic demand cent. Reallocation of labor to manufacturing is likely to grow faster than external demand. and services—sectors that rapidly increased China’s cities today are much larger and far their productivity—accounted for almost a better connected to the rest of the world fifth of China’s GDP growth. Reallocation of and to one another because of the massive capital and labor to the more efficient non- investment in infrastructure. This is a strong state sectors further boosted the productivity basis for continued growth, because it allows of China’s economy. agglomeration effects and specialization to China’s cities have largely avoided the be the drivers of future growth. It is also a social ills of rapid urbanization such as wide- motivator for improved policies that build on spread urban unemployment and poverty. these conditions. OVERVIEW 7 Chapter 2 Efficiency Rapid urbanization has facilitated an unprec- increase in productivity for every doubling edented economic transformation in China of city size. over the past 30 years. However, China’s Market forces are already starting to existing growth model is running out of “right-size” China’s cities for economic effi- steam because of its inefficient use of capital, ciency as China’s rapid growth and migra- labor, and land. These inefficiencies result tion have made urban economic systems from administrative obstacles to labor mobil- more efficient through higher concentration ity and from incentives that have caused local of production. Furthermore, experience from governments to become overly reliant on cap- Japan, Korea, and the United States, suggests ital accumulation and land conversion. For that China’s large cities will move from their China’s urbanization to be more efficient, its current concentration of industry toward a factors of production need to be used more higher concentration of services and that in productively, and city agglomeration and the future the innovation and service econ- specialization need to be exploited. These omy will be even more concentrated than the actions will accelerate urbanization, make industrial one has been. Indeed, concentra- it more conducive to growth, and indirectly tion of services is already taking place across contribute to higher consumption. China’s large cities. For example, between 2000 and 2010, finance, insurance, and real estate services grew almost 2 percentage Urbanization and agglomeration points more in metropolitan than in nonmet- Urbanization is generally associated with ropolitan cities. But these tradable services higher income and productivity levels. Inter- are still much less concentrated than global national experience suggests that, done well, norms would suggest. urbanization can be an important driver of A key feature of China’s urbanization has productivity increases and growth because been the rapid growth and concentration of urban areas offer positive agglomeration economic activity in large cities with high effects, including larger, more efficient labor access to international markets. Cities with markets, lower transaction costs, and easier a population of 2.5 million or more gener- knowledge spillovers. Agglomeration effects ate 95 percent of China’s urban exports. The can also occur in smaller cities with suffi- combined economies of Beijing, Guangzhou, cient specialization and transport linkages to Shanghai, Shenzhen, and Tianjin amounted larger urban areas. In the absence of sound to $1 trillion in 2010—comparable in size to public policy, however, those agglomeration Korea’s economy. Incomes in these cities have effects may be easily outweighed by conges- climbed swiftly as well: between 2000 and tion costs—pollution, traffic congestion, and 2010, per capita GDP rose from RMB 35,000 higher costs of living. to RMB 82,000 in Shenzhen and from RMB In member countries of the Organisation 32,000 to RMB 66,000 in Shanghai. Rising for Economic Co-operation and Develop- prosperity in large cities has attracted mil- ment (OECD), regions with a higher share lions of people from the countryside. Between of urban population are generally linked to 2000 and 2005, migration from other prov- a per capita GDP higher than the national inces boosted population numbers by 6.6 average; a 3.5–8 percent increase in total percent annually in Beijing and by 9.1 percent factor productivity can be expected for in Shanghai. Economic concentration is still every doubling of the size of a city-region. A substantially lower than in the United States, recent survey concludes that such phenom- where the largest 10 metropolitan areas ena are not limited to OECD countries, 2 account for about 38 percent of GDP, com- and indeed agglomeration economies apply pared with only half as much in China. equally strongly in developing countries. On the policy implications of agglom- Estimates for China suggest a 10 percent eration effects, the international literature 8 URBAN CHINA is careful to emphasize that policy should over the past decade accounted for 80 percent not favor any city. In fact, policies that are of growth. At the same time, the growth divi- “spatially neutral” seem preferable. 3 Gov- dends from reallocating factors of produc- ernments should create a level playing field tion across sectors—and across ownership among cities to encourage firms and individu- forms—have declined considerably. Further, als to locate where they are most productive. the share of growth that can be attributed to The existence of agglomeration economies on productivity growth not associated with fac- their own does not imply favoring big cities,4 tor reallocation declined from 2.5 percent and because density has downsides, the ben- of GDP in 1991–2000 to just 0.3 percent in efits must be weighed against the costs. 2001–10 (figure O.2). Agglomeration effects will become more Other Asian economies that grew rapidly important for China as the economy shifts in the past—Japan, Korea, Singapore, and increasingly to services. In China’s richer cit- Taiwan, China—all relied on high invest- ies, services will become more important as ment over an extended period of time to a share of GDP. Agglomeration effects play reach high income, and China’s capital stock an even more important role in services than per capita still remains significantly lower in industry. In the United Kingdom, fi nan- than in advanced economies, so much capi- cial and insurance services are 35 times more tal still needs to be accumulated. But contin- concentrated than manufacturing is (and ued capital accumulation will contribute less information and communications 7 times and less to growth as the ratio of capital to more concentrated). 5 Close proximity also labor rises. China’s investment rate, at over stimulates the growth of other specialized 45 percent of GDP, is also exceptionally high. services such as legal, software, data process- Moreover, the efficiency with which China ing, advertising, and management consulting is accumulating capital is declining. China’s firms. Urban density allows frequent face- incremental capital-output ratio (ICOR), an to-face contact among employees, entrepre- indicator of how much investment is needed neurs, and fi nanciers—contact that in turn for each additional unit of growth, deterio- promotes innovation and productivity.6 rated from an average of 3.6 in 1991–2011 to As services become concentrated in cit- 4.7 in 2009–11, in the aftermath of the global ies, industry will spread out—from a few fi nancial crisis. That is considerably higher big cities to a larger number of small ones. than in Japan, Korea, and Taiwan, China in For example, as service employment grew in their high growth years (table O.1), although U.S. metropolitan areas during 1972–2000, comparable to other large emerging econo- industry moved to the suburbs 20–70 kilo- mies after the global financial crisis, a period meters away.7 Aiding this decentralization during which most economies experienced a were transport infrastructure investments, deterioration of their investment efficiency. If which made trade cheaper. Similarly, after China’s investment efficiency (as measured Korea made massive investments in trans- by ICOR) had stayed constant from 2000 to port and communications infrastructure in 2012, the same growth rate could have been the early 1980s, industry decentralized from achieved in 2012 with over 20 percent less the three largest cities to smaller cities and the investment. hinterlands.8 At the city level, investment efficiency has also declined. The ICORs have increased consistently across all city size categories in Inefficient capital use China, although returns on capital remain China’s growth has become increasingly reli- higher in the larger cities than in smaller ant on capital accumulation in recent years, ones. International experience suggests especially after the global fi nancial crisis to that capital use is efficient when ICORs are which China responded with an investment- around 3, meaning that cities would need driven economic stimulus. China’s invest- capital formation of around 30 percent of ment rate is now more than 45 percent of GDP to achieve 10 percent growth. Actual GDP, constitutes almost half of demand, and capital investments in China’s cities have OVERVIEW 9 been at twice that level.9 Across cities, capital FIGURE O.2 Productive gains from reallocating labor and capital is used least efficiently in smaller cities and are almost exhausted inefficiencies are increasing over time. ICORs across city types have risen from the 2–3 Contribution to China’s economic growth, 1981–2010 range in 1995–2001 to well over 4 in 2009– 11.5 11; cities with fewer than 500,000 people had average ICORs above 5.5 over the latter 9.5 period.10 On the ground, this inefficiency is tangible: in some instances, government-led 7.5 developments of “new towns” have turned into wasteful “ghost towns” unlinked from Percentage 5.5 market demand, while in others the excessive infrastructure developed cannot be main- tained from limited budget resources. 3.5 Two main reasons explain this overuse of capital at the city level. Local governments 1.5 eager to attract investments have provided subsidies in the form of inexpensive land, –0.5 1981–90 1991–2000 2001–10 subsidized utilities, and tax reductions. Also, Capital accumulation Sectoral labor reallocation China’s fi nancial sector has provided inex- Labor accumulation Ownership labor reallocation pensive credit for those who have access—in Sectoral capital reallocation Total factor productivity part because deposit rates are controlled and Ownership capital reallocation in recent years because the economic stimu- lus led to a rapid expansion of credit. Source: Based on research by David Bulman and Aart Kraay for this study. Local government debt has become a key issue. To attract investment and jobs, local governments have heavily invested in infra- structure. Despite strict limits on local gov- account, China’s general government debt-to- ernment borrowing in the Budget Law, local GDP ratio at the end of 2012 was 36.7 per- governments have used urban development cent, very modest by comparison with OECD and infrastructure corporations (UDICs) and countries. If all contingent debts are included, local government financing vehicles (LGFVs) the debt-to-GDP ratio would be 53.5 percent, to raise financing for infrastructure develop- still modest by international comparison, ment. According to the 2013 audit by the more so if one considers that China’s govern- National Audit Office, at end-June 2013, ment also owns considerable assets, such as local governments’ direct debt amounted to state-owned enterprises. While the level of RMB 10.89 trillion, local government guar- debt stock is manageable, the growth of local antees RMB 2.67 trillion, and other local government debts, at a yearly rate of around government contingent debt RMB 4.34 20 percent in 2010–13, is a major concern, trillion. If only explicit debt is taken into and some subnational governments may be TABLE O.1 Returns on capital are declining over time: China compared with Japan, Korea, and Taiwan, China Gross fixed capital formation (percentage of GDP) Average annual GDP growth (%) Incremental capital-output ratio China (1991–2011) 36.7 10.4 3.6 China (2009–11) 45.4 9.6 4.7 China 2012 46.1 7.8 5.4 Japan (1961–70) 32.6 10.2 3.2 Korea, Rep. (1981–90) 29.6 9.2 3.2 Taiwan, China (1981–90) 21.9 8.0 2.7 Source: Urbanization study team based on CEIC Data (n.d.). 10 URBAN CHINA overindebted. In addition to the risk to the only seven to nine years, and only 20 per- financial system, the opaque manner in which cent of migrants have brought their families, local governments borrow de facto is likely although more than 50 percent would like to to raise the cost of borrowing because of the settle in urban areas. ambiguous status of debt and uncertainty While there are demographic and other about whether local governments would back reasons that explain a slowdown in migra- their fi nancing vehicles. Land has played an tion, the key reasons are administrative: the important role as collateral for borrowing by hukou system and its link to entitlement of UDICs and LGFVs, thus linking the health of public services in the city and right to land local fi nances to land prices and real estate in rural areas; lack of portability of social development. security; and insufficient low-income hous- ing. In an economic sense, these administra- tive barriers work like an expensive tax on Incomplete migration migration; based on current productivity Despite China’s impressive urbanization and differences between agriculture and urban migration record, the country is still less occupations in industry or services, every 1 urbanized than expected at its level of income. percent more migration from rural to urban Moreover, while 38 percent of China’s labor areas would yield 1.2 percent more GDP.12 force still works in agriculture, rapidly rising At the current level of mechanization, agri- migrant wages in cities and shortages of low- cultural surplus labor is estimated to be 105 skilled labor suggest that fewer people than million people,13 and this could increase as before—and fewer than warranted on eco- China’s agricultural modernization acceler- nomic grounds—choose to leave the country- ates. If China’s migration rates had matched side to move to the city. International experi- those of Korea’s in the past, China’s economy ence suggests that when workers are able to would be nearly 25 percent larger today.14 move freely across cities and sectors in search of better opportunities, wages and productiv- ity should converge across localities. Data for Inefficient land use prefecture-level cities in China in 2010 show Urbanization has used land inefficiently. that differences between marginal productiv- Rural land requisition and conversion for ity and real wages persist and are greatest in industrial use has been particularly inef- midsize cities, suggesting that labor mobility ficient because it has been largely driven by is less than optimal. administrative decisions rather than market Migrant workers are an increasingly demand. The incentives for local government important part of the labor force, becoming to expand the city rather than develop exist- better educated, older, and keen to stay in the ing underused urban land are strong: requi- city in which they work.11 Migrant workers sition of rural land and sale for commercial made up more than one-third of the labor and residential purposes yield a large wind- force in 2012. Two-thirds of China’s migrant fall gain for the city finances. In contrast, workers live in the eastern provinces and requisition of urban land is more expensive two-thirds of these originate from the same and cumbersome, because urban residents province. City-to-city migration is gaining and enterprises have stronger property rights. in importance: it made up almost 14 percent Furthermore, national regulations that pro- of the total in 1990, but more than 22 per- tect farmland from conversion have the unin- cent in 2010. The majority of migrant work- tended consequence of fragmenting the urban ers are male, and on average they are better periphery because available land for conver- educated than the general rural labor force. sion is often not adjacent to the core city. Wages for migrants are rising rapidly, and The territorial expansion of cities has far the wage differential between migrant work- outpaced population growth—according to ers and their urban counterparts for similar some estimates, average population density in work performed has fallen over time. The China’s cities has dropped by more than 25 average migrant worker stays in the city for percent in the last decade.15 In 2000, China’s OVERVIEW 11 urban land was about 99,000 square kilo- Moreover, more than 60 percent of plots meters, or 1 percent of China’s surface area; are less than 0.1 hectares.17 The 2003 Rural by 2010, it had increased to 127,000 square Contracting Law allows subleases of farm- kilometers, an average growth of 2.5 percent land, but despite increases in land transfers a year. China is not alone in this trend toward in recent years, farmland consolidation has less dense cities—many OECD countries remained slow, in part because property have experienced similar drops in density in rights remain unclear. International evidence the past 50 years, driven by suburbanization, suggests that stronger property rights bring increased mobility, and growing demand significant increases in agricultural invest- for urban space. But many cities in OECD ment and productivity through mechani- countries are now aiming to turn this trend zation and increases in rural plot size. For around. There are good reasons for doing so: instance, in the decade after Taiwan, China, agglomeration effects are larger in denser cit- privatized rural land in the 1950s, annual ies; providing services and infrastructure to a rice yields rose 60 percent and farm incomes more compact population costs less; and less increased 150 percent. of the land that is crucial to support agricul- In Vietnam, new laws passed in 1993 tural production and environmental sustain- increased both efficiency and equity by ability is lost. establishing the right to inherit, transfer, Within China’s cities, land allocation is sell, lease, or mortgage land, while extend- biased toward industry. Unlike commercial ing the duration of land use rights from 20 and residential land, industrial land is rarely to 50 years. Rental market participation qua- auctioned and is usually directly allocated or drupled in the five years following reform, sold at heavily subsidized prices, on average and land sale transactions increased seven- only 10 percent of commercial land prices. As fold. These changes unambiguously boosted a result, despite the abundance of urban land, productivity, helping Vietnam transform land for residential development and the ser- itself from a net rice importer to the world’s vices sector is limited and expensive, result- second-largest rice exporter.18 Similarly, in ing in surging housing prices and an under- the United States—where the number of developed services sector. farms has declined since 1900 by 63 per- The current regulatory approach to city cent, but the average farm size has risen by land use contributes to inefficient urban 67 percent—the period of most rapid transi- development. Overly strict limits on floor area tion (1950–90) saw even faster productivity ratios (FARs, the ratio of the floor area of a growth in agriculture than in manufacturing. building to the area of the land the building Existing urban land can accommodate a sits on) in central urban areas also lead cities great deal of future urbanization. Some of to accommodate new demand by expanding China’s larger cities, including Beijing and outward. Moreover, planning controls are Shanghai, have already started to redensify regulated at the superblock level, rather than in the past decade—with population densities the small building plot level, and any peti- up by 50 percent in the core of Beijing. How- tion for land use or density changes—which ever, there is considerable scope for further are rarely given, barring exceptional circum- densification: if Guangzhou had the same stances—occur at the original lot level. While density as Seoul, Korea, it could accommo- the law provides options for developers to date 4.2 million additional inhabitants on its transfer, mortgage, and lease land use rights existing land, while Shenzhen could accom- to individual citizens and organizations, con- modate an additional 5.3 million inhabit- ventional land subdivision and sale, as prac- ants (figure O.3). China currently uses more ticed in many countries around the world, is than a quarter of its urban land for industrial not possible in China. purposes, even in some of its largest cities— In rural areas, land remains underused. a stark contrast with Seoul, which uses 7 China’s rural land remains fragmented,16 percent and with Hong Kong SAR, China, with the average farm size, at 0.6 hectares, which uses 5 percent. As China grows richer, now smaller than at the start of reforms. conversion of industrial land into commercial 12 URBAN CHINA FIGURE O.3 Guangzhou could accommodate 4.2 million more 7.5 percent of GDP; however, net of com- people with Seoul’s density profile pensation and the cost of land preparation, land revenues are more modest and have 35,000 declined from 4.2 percent of GDP in 2010 to 1.2 percent in 2012 (figure O.4). Compensa- 30,000 tion for land taking, including cost for land Guangzhou, China requisition, resettlement, and demolition 25,000 explains part of the decline: from barely 0.5 Density (inhabitants/km2) percent of GDP in 2008, or 15 percent of 20,000 Seoul, Korea gross revenues, these payments grew to 2.6 15,000 percent of GDP in 2012, or almost half of gross revenues. Further, some land revenues 10,000 are earmarked for specific spending catego- ries, including agricultural infrastructure 5,000 and water conservancy, compulsory educa- tion, and social housing, thus reducing the 0 use of land revenues for urban construction 0 100 200 300 400 500 600 purposes. Built-up area (km2) China’s urbanization has led to large gains in efficiency through reallocation of Source: Salat 2013. labor from rural to urban activities, and Note: The dark blue line indicates the potential for redensification in the densest 600 km2 of Guangzhou. agglomeration effects have increased the pro- ductivity of China’s cities. At the same time, China’s growth could use capital, labor, and and residential land could provide the main land more efficiently. Removing barriers to land resource for cities—and provide a new migration, reducing the incentives for local source of revenues for local governments. government to convert rural into urban land, In addition, development of urban villages and making financial sector reforms that and redevelopment of existing urban space instill more discipline on local governments at higher FARs can all contribute to densi- and investors alike are key directions for fication without further expansion of urban reform. land. Land pricing will play an important role FIGURE O.4 Gross land revenues are large, but in the densification of cities. For China’s 35 net revenues are declining largest cities, rapid increases in urban land prices correlated with greater increases in 8 density; that is, low land prices lead to urban 7 sprawl.19 In recent years, the intensity of land 6 development in coastal cities has increased— 5 by more than 40 percent in Guangzhou and % GDP 4 Shenzen. Those cities recognized the unsus- tainability of reliance on rural land for urban 3 expansion. They implemented institutional 2 innovations to encourage greater use of exist- 1 ing urban land, which has led to less sprawl 0 and more efficient land use. National reforms 2008 2009 2010 2011 2012 along these lines would improve land use Gross revenues Net revenues throughout the country. Compensation for land acquisition Land sales revenues have been fluctuat- ing and declining drastically in some years. Sources: MOF data (annual budget reports); China Ministry of Land At their peak in 2010, gross revenues totaled and Resources; CEIC Data; World Bank and DRC staff estimates. OVERVIEW 13 Urbanization and domestic FIGURE O.5 Consumption share and GDP per capita, select East Asian countries demand Can urbanization help rebalance demand? 90 This is a key question for China, which 80 seeks a more balanced pattern of demand, including a shift from external to domestic 70 demand and from investment to consump- 60 Consumption share (%) tion, because the existing model, while highly effective in the past, may not be a sustainable 50 growth strategy going forward. The global 40 environment has changed: labor costs are ris- 30 ing, and exports can no longer be counted on to drive demand growth. Although consumer 20 demand in China has been growing rapidly 10 by international standards, it has continued 0 to lag behind China’s phenomenal growth. 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 At some 35 percent of GDP, the trend has GDP per capita (constant 2005 $ PPP) been downward on the back of a dwindling China (1970–2011) Japan (1950–2010) wage share in the economy and rising house- Korea, Rep. (1960–2011) Taiwan, China (1952–2010) hold savings (figure O.5). Several factors can explain the low con- sumption share in GDP. First, statistics may Sources: World Bank World Development Indicators and authors’ calculations. underestimate the share of consumption in GDP. In particular, the share of housing ser- vices may be underestimated because the The low share of consumption in the econ- imputed rent depends on the value of housing, omy is reflected in the size of China’s ser- which in urban areas has increased rapidly. vices sector, which remains relatively under- Further, the consumption of other services developed by international standards—47.8 may also be underestimated, because this sec- percent of GDP in 2011—although it is simi- tor has grown rapidly in the past decade. Sec- lar to levels Japan, Korea, and Taiwan, China ond, the share of labor remuneration in GDP experienced when their urbanization rates has fallen precipitously in recent decades, were around 50 percent (figure O.6). declining by 7 percentage points of GDP over Urbanization can be an indirect driver 2000–09. In part, this drop can be explained of consumption growth. China’s consump- by the shift of labor from agriculture to indus- tion has been growing rapidly in the past try and services: in agriculture, labor remu- 30 years, averaging about 8 percent a year, neration accounts for some 90 percent of but it has still lagged behind China’s record value added, whereas in industry and services, growth, and as a result, consumption as a it is about half that.20 As more people move share of GDP has declined. The largest driver out of agriculture, the share of labor in GDP behind a rise in China’s consumption rate is declines, even though people increase their likely to be the share of household income in wages by moving. Third, household savings GDP. This share declined from 68.5 percent rates increased—accounting for 4 percentage in 1990 to 60.4 percent in 2011, while over points of the decline of consumption as a share the same period the wage share in the econ- of GDP over 2000–09. While the increase omy declined even more rapidly to 47 percent in the savings rate is associated with urban- in 2011—accounting for most of the decline ization, the driving factor is income: savings in consumption as a share of GDP. One rea- increase because people save more as income son for this decline is the move of labor from increases, and people who move to cities earn agriculture, with a high share of labor in more than those in rural areas. value-added industry, which is more capital 14 URBAN CHINA FIGURE O.6 Services and urbanization in East Asia drive increases in consumption. Although migrants consume far less as a share of 80 their income than urban residents in the location they work, the overall savings rate 70 for migrants and their families back home hardly differs from those with urban hukou 60 at similar levels of income. Thus, extend- Services value added (% GDP) 50 ing urban hukou rights to migrants by itself would not increase consumption. Savings 40 rates rise rapidly with income: the richest 10 30 percent of the population has a savings rate above 60 percent, whereas the poorest 10 20 percent saves very little.22 Part of the drop in 10 consumption as a share of income reflects the higher incomes China’s people enjoy now. 0 At the same time, this fi nding would imply 0 10 20 30 40 50 60 70 80 90 100 that more inclusive growth that benefits the Urban population (% total) lower-income strata—whether migrant or China (1978–2011) Taiwan, China (1962–2009) Japan (1955–2011) Korea, Rep. (1965–2011) not—could increase the consumption share of GDP. Accelerating rural-urban migration would benefit those lower-income earners, Sources: Data from World Bank World Development Indicators; Council for Economic Planning and they will consume more. As a share of and Development (Taiwan), various years; Statistics Bureau of the Japan Ministry of Internal Affairs and Communications, various years. their increased income, they would still con- sume less, and thus national consumption as a share of GDP is not likely to rise. intensive. The other is the abundance of sur- As China’s cities expand rapidly, urban plus labor that kept wage pressures low. investment demand has been high. Invest- Because the labor share in services is ment in infrastructure has topped 10 percent higher than in industry, a shift of production of GDP in the past decade, while urban con- is likely to increase the wage share in the struction has been peaking at 3.5 percent of economy. In addition, continued urbaniza- GDP in 2008–12. Urban construction invest- tion is likely to exhaust surplus labor in the ment per additional citizen rose sharply in coming decade, which in turn will accelerate the past three decades—from RMB 294 per wage increases that will drive up consump- additional urban resident in 1980 to RMB tion. Real wage increases have already been 64,000 in 2007—in part driven by the ris- brisk in recent years, especially for skilled ing costs of land and labor.23 Arguably, rapid labor but also increasingly for the unskilled growth in infrastructure investment is unsus- labor usually provided by migrants. Accel- tainable and will moderate in the future for erating urbanization by removing obstacles three reasons: more efficient, denser cities to migration could bring forward the point that are shifting into services will require less where wage increases start to outpace GDP additional investment in infrastructure; much growth. At that stage, China’s consumption of the necessary basic infrastructure has been share in the economy is likely to increase. built already, and additions to the urban In other economies that experienced rapid population will require less additional invest- development in the past (Japan, Korea, and ment than in the past; and maintenance of Taiwan, China), the consumption share in infrastructure is taking an increasing share of the economy bottomed out at per capita local government budgets, which will become incomes between $10,000 and $15,000, an a constraint on additional capital investment. income level China will reach this decade While demand for housing is likely to if it maintains relatively rapid growth. 21 remain strong, urban real estate investment Changing consumption patterns of migrants is already very high at 16 percent of GDP, up in China’s cities are unlikely to directly from 9 percent a decade ago. It is unlikely to OVERVIEW 15 grow much further as a share of GDP: first, is growing, while the supply of low-income a projected urbanization rate of 70 percent housing falls short of demand, despite the by 2030 implies a slowdown in urbanization government’s ambitious social housing compared with the past 2 decades. Second, in investment of 2 percent of GDP per year. recent years this investment has been driven Thus, whereas the composition of real estate by rapid credit growth that may not be sus- investment may change, it is unlikely to grow tainable. Finally, the stock of empty housing more rapidly than GDP in the coming years. 16 URBAN CHINA Chapter 3 Inclusion China has achieved a remarkable transforma- China’s growing inequality and tion with the movement of over 260 million migrants from rural to urban areas. These social tensions individuals have left their agricultural jobs China’s rapid urbanization has been accom- to seize the opportunities offered by urban- panied by growing income and wealth ization and to take up more productive inequality. China’s Gini coefficient, a mea- and higher paying jobs in cities. Through sure of inequality, stands at 0.47 according this process, China has managed to sustain to official data, while unofficial estimates put high wage growth and even higher produc- this number even higher. Although not excep- tivity growth and to reduce poverty on an tional by international standards (figure O.7), unprecedented scale. At the same time, Chi- inequality has risen rapidly in the past three na’s spatial and rural-urban inequality has decades and is high compared with other grown, and social tensions have emerged as East Asian and OECD countries. Income a result of the rapid conversion of rural land inequalities have been rising in urban as well at below-market value and the incomplete as rural areas, and the gap between urban integration of migrants into China’s cities. and rural incomes is as high as it was at the Barriers to labor mobility remain, largely start of reforms in 1978. Within urban areas, because social security and other benefits are inequalities between migrant workers and the not portable: those who migrate are often population with urban hukou remain. Even forced to leave their families behind in rural though migrant wages have been catching areas where access to quality services such as up and migrants are increasingly paid wages education and health may be limited. Social comparable to those of urban residents doing policy reforms in the household registration similar work, migrants often lack the skills system, public fi nance, service delivery, and and educational background for higher-wage labor market institutions will be needed to jobs. Inequality from capital income is on the reduce these social challenges and make Chi- rise as well, and inequality in wealth among na’s urbanization more inclusive. the urban population—much of it driven by house ownership—is also rising. As is usual in other countries, assets are even more con- centrated than income, and in China this FIGURE O.7 China’s rising inequality concentration is very high: the top 10 percent of households is estimated to own 85 per- 80 cent of assets, whereas they earn 57 percent 70 of total income.24 This places China’s wealth inequality near the top by international com- 60 parison.25 For the median urban household, Gini coefficient 50 housing constitutes the main asset. 40 China’s barriers to migration explain in 30 part the persistence of regional and urban- 20 rural wage gaps, and they indicate inefficiency 10 in the use of labor. International experience 0 suggests that increased mobility is likely to 5 6 7 8 9 10 11 12 reduce spatial and rural-urban inequality. Log of real GDP per capita (constant 2005 international $, PPP) Consider the United States, where mobility Other countries China has nearly eliminated interregional and rural- urban wage differences: rural-urban migra- Source: World Bank staff calculations; Milanovic 2013. tion helped to equalize agricultural and non- Note: PPP = purchasing power parity. agricultural wages, with a disproportionate OVERVIEW 17 effect on poorer agricultural states. 26 The organization) that do not allege violations result was regional convergence, with the of minimum legal standards or contractual north-south labor-income ratio falling from obligations. As Chinese workers’ conscious- 2.4 to 1.1, while the urbanization rate rose ness of protections under the labor markets from 28 to 74 percent. Evidence from Korea has increased, so too has the number of inter- also shows that free rural-urban migration est disputes, but the institutional vacuum for reduced inequality. By 1994, three decades resolving them may explain in part why col- into reform, Korea’s urban-rural wage gap lective work actions such as strikes and dem- had disappeared entirely—indicating that onstrations have increased in recent years. workers had migrated to their optimal loca- While some demonstrations are clearly about tions. 27 In China, the interprovincial gap in legal violations (such as the failure to pay wages continues to grow, but interprovincial wages), many other demonstrations occur migration nonetheless lags behind that of the because workers wish to highlight disagree- United States, where wage differences among ments and tensions with employers that are a states are much lower.28 normal part of industrial relations. Social tensions in urban and rural areas Higher demand has intensified competition are growing. The absorption of 260 million for urban services, creating tensions between migrants into China’s cities has not always long-term urban residents and newcomers.31 been smooth, and urban hukou holders expe- Therefore, keeping the quality of provision at rience a crowding of public services and per- a level acceptable to the long-term residents ceive a decline in service quality because of is important. At the same time, the delivery the rapid growth in urban population. Mean- of social services in urban areas can build on while, discontent among farmers who feel the natural “technological advantages” of unfairly treated because of the low level of cities—economies of scale in service provi- compensation they received for expropriated sion and increasing returns to scale. Urban- land is one of the main causes of social unrest ization also offers greater potential for in China, especially in peri-urban areas at the agglomeration of service providers and thus city fringe. From 1990 to 2010, local gov- potentially an enhanced choice for clients. ernments expropriated rural land at an esti- mated RMB 2 trillion below market value.29 Assuming that this compensation would have The evolution of the hukou generated returns similar to overall growth, system farmers today would have more than RMB 5 trillion in household wealth—greatly low- Hukou reform has been undertaken gradually ering asset inequality and leading to greater since the early 1980s in response to China’s consumption through a wealth effect. evolving economic and social transformation. Labor disputes nearly doubled between Significantly, the mobility restriction func- 2005 and 2012 and largely involved migrant tion of hukou has largely been eliminated. In workers. The three most common reasons 2006, the State Council promulgated a mile- for labor disputes are wages and compensa- stone document that provided a comprehen- tion, social insurance, and contract termina- sive policy framework for the treatment of tions. 30 Labor disputes are becoming more rural migrant workers in cities with respect complex, more difficult to resolve in a timely to their entitlement to social services. This fashion, and more likely to have an impact on document explicitly linked access to services public opinion and social stability. with the goal of facilitating integration of The dispute resolution system in China is migrants into cities. Since then, as required organized to settle “rights” disputes but not by the central government, reforms have been “interest” disputes. Rights disputes involve explored and promoted at the local level. statutory or contractual claims, while inter- Some provinces started pilots that adopted est disputes are conflicts over interests parallel residence permits and the provision (such as wages, work conditions, and work of social services linked to these permits. 18 URBAN CHINA Several large cities and provinces, such as in public services quality in those countries Chengdu, Chongqing, Guangdong, Jiangsu, are not as large as in China. Evidence from Shanghai, Shenzhen, and Zhejiang, have China suggests that even for large cities such adopted the residence permit system—some as Chengdu, relaxing limitations on access to with strict limitations. In 2011, the State services does not lead to an excessive influx of Council announced hukou reform as a key migrants seeking benefits. Even the advanced component of a coordinated set of urban economies regulate access at the local level and rural reforms and took several steps (box O.1). including issuing hukou system reform guide- Hukou reforms face fi nancial constraints lines linked to a city’s administrative level, to some extent. In principle, money should requesting institutions to improve registra- follow people—that is, if a family migrated tion of temporary populations in the cities, from a rural to an urban area, the money that and calling for a gradual rollout of the resi- financed their services in the rural area should dence permit system.32 be transferred to the city. Over time, the fis- For migrants from outside municipal or cal system and the service delivery system provincial jurisdictions, local reforms have can adjust to accommodate the additional been the least complete in large cities, where demand in urban areas. Centralizing some most rural migrants are moving to, attracted public services, notably social security, would by the higher returns to their labor. On the help address part of the problem, but a tem- other hand, in small and medium cities, social porary fiscal subsidy to urban areas to rap- services and social protection are less devel- idly increase service delivery capacity may be oped, which is one factor that explains the needed in the short run to accelerate improve- limited success of the policy aimed at attract- ments in service delivery to migrants until the ing migrants to smaller cities. Reforms in the fiscal system has been adjusted (see chapter 7 larger cities have generally been focused on and supporting report 6). The benefits from selecting migrants with the desired charac- accelerated migration and the improved stock teristics and are oriented toward attracting of human capital—which accrue nation- high-skilled and wealthy individuals, thus wide—are worth that investment. significantly limiting the labor market impact of the reforms and reducing their equity ben- efits. 33 Migration restrictions continue in a Access to urban social services variety of ways, for example, through entry In the 2000s, the central government required barriers based on skills, investments, or local governments to include migrant children income, or through quota rationing. in the local education systems, accommodat- Reforming hukou to encourage mobility ing them mainly in local public schools. This should be mindful of capacity constraints requirement represents a dramatic change in in urban public service delivery. These are the official policy on the rights of migrant already evident for the current migrant popu- children. The implementation of the policy lation but will increase once migrant families was supported by fiscal resources from both reunite and migration accelerates as access to central and local governments. Yet migrant urban services increases. The government is children still face difficulties enrolling in concerned that large additional demands on urban public schools—in Guangdong, for services may undermine service quality for instance, some 50 percent of migrant children existing urban residents, which could aggra- are not in public schools—and many attend vate social tension. A second concern is that migrant schools, which typically have poor migration will be driven not by opportunities teaching facilities, undeveloped curricula, in the labor market but by access to services. insufficient funding, and less qualified teach- China has large differences in the quality and ers. Barriers that keep migrant children out quantity of public services between urban of the mainstream education system include and rural areas. Internationally, there is not capacity constraints in urban schools, which much evidence of such “benefit migration” were planned for the hukou population in advanced economies,34 but the differences only; legal and regulatory barriers with high OVERVIEW 19 BOX O.1 Residency rights in the European Union, the United States, the former Soviet Union, and Japan Within the European Union (EU), a “right to reside” other programs. Residency is determined differently in another EU country beyond three months is for different purposes and often varies by state. linked to one’s employment status. Workers and self- In the former Soviet Union, the propiska resi- employed persons have the right to reside without dence permit system was adopted for economic, law any conditions but must have the proper documen- enforcement, and other purposes, such as access to tation to prove their status, such as a certifi cate of jobs, social benefits, housing and utility payments, employment or proof of self-employment. In the taxes, conscription, medical care, and the like. case of students or “economically inactive” persons Acquiring a propiska to move to a large city, espe- (unemployed or retired, for example), the right to cially Moscow, was extremely difficult for migrants. reside involves proving that they have comprehensive Following the dissolution of the Soviet Union, the health insurance as well as “sufficient resources” propiska system was officially abolished for the citi- to not become a burden on the host EU country’s zens of the Russian Federation, but access to services social assistance system during their residency. In remains challenging for the millions of migrants addition, students are also required to be enrolled from former Soviet republics. Some of the former at an establishment for the principal purpose of fol- Soviet republics, such as Belarus and Kyrgyzstan, lowing a course of study or vocational training. The chose to keep their propiska systems, or at least a “right to permanent residence” requires five years of scaled down version of them, and these present the continuous legal residence in the host EU country most complex challenge to entitlement reform. and, once acquired, is not subject to the conditions In Japan, there are two distinct systems of regis- mentioned above. Some categories, notably work- tries to manage citizen information: the Basic Resi- ers or self-employed persons, receive more favorable uminhy¯ dent Registry (or J¯ o) and the Family Registry treatment in this regard and may acquire this right (or Koseki). The J¯ u minhy¯o is essentially a registry before five years, under certain conditions. One can listing current address, basic sociodemographic lose the right to permanent residency only through information (name, address, date of birth, gender, an absence of more than two consecutive years, head of household, nationality/region from where although there are certain stipulated reasons for they came, status of residency, and the like), together which such an absence is acceptable. with information related to social benefits and insur- In the United States, state residency is required ance including national health insurance, medical for a variety of rights, including the right to receive insurance for the elderly over age 75, long-term care public services such as education and health, and eli- insurance, national pension plan, child allowance, gibility to receive public assistance. Broadly speak- and rice distribution. The Koseki, in contrast, is the ing, there are two types of residency requirements: formal record of a family’s (instead of an individual) a “bona fide residency requirement,” which simply history.a Unlike the J¯u minhy¯o, a Koseki is not nor- requires that the person establish residence before mally used to verify information or required to get demanding the services restricted to residents; and a government services. It is similar to the registration “durational residency requirement,” which obligates systems in other East Asian countries influenced by individuals to show that, in addition to being a bona the ancient Chinese system of government, including ? fide resident of the state, they have resided there for a China (hukou), Vietnam (Hô . khâ u), and the Demo- certain stipulated period of time. Attempts by states cratic People’s Republic of Korea (hoju /hojeok/ to make certain fundamental rights conditional hojok). upon residency have not remained unchallenged in The J¯u minhy¯o is the basis for the issuance of court, however. Since the 1960s, the Supreme Court basic resident registration cards (j¯umin kihon daich¯o has struck down several attempts by states to impose kaado) by municipalities, and Japanese law requires residency requirements (particularly durational every citizen to report his or her current address ones) on persons applying for welfare, public hous- (and any changes therein)b to the local authorities, ing, and medical services, while upholding the state’s who compile the information for tax, census, and ability to do so for the right to attend particular pub- various other purposes. More important, J¯ uminhy¯o lic schools and gain access to tuition waivers, among is required to access various social services including (Box continues next page) 20 URBAN CHINA BOX O.1 (continued) registering children at a local school district or start- ernments in Japan and has greatly helped to simplify ing or renewing national health insurance member- moving-in/out procedures, obtain a residence reg- ship. It basically serves as a proof of residence where istry card, and eliminate the need to attach a copy required, such as for opening a bank account or to of the resident’s record in various administrative apply for government permits. J¯ u minhy¯o registra- procedures. It also helps residents acquire an “elec- tion is also required to officially register a name seal, tronic certifi cate” that can be used to authenticate which functions as one’s official signature. themselves in electronic applications on the Inter- Since 2002, J¯ u minhy¯ o information is available net. Since December 2008, it has also eliminated electronically through the Basic Resident Register the need for pensioners to annually confi rm benefits Network, run by a government-backed provider in eligibility, c since the Basic Resident Registration Tokyo (the Local Authorities Systems Development Network System reports directly to the Japan Pen- Center). The Juki Net is the electronic registration sion Service on behalf of the pensioner. system currently used by more than 1,700 local gov- a. Japanese law requires all Japanese households to report births, acknowledgments of paternity, adoptions, disruptions of adoptions, deaths, marriages, and divorces of Japanese citizens to their local authority, which compiles such records encompassing all Japanese citizens within their jurisdiction. Marriages, adoptions, and acknowledgments of paternity become legally effective only when such events are recorded in the Koseki. Any changes to this information have to be sealed by an official registrar. The Koseki simultaneously fi lls the function of birth certificates, death certificates, marriage licenses, and the census in other countries as well as serving as proof of Japanese citizenship. b. All Japanese residents are required to obtain a move-out notice/certificate from the municipality where they move from before submitting a move-in notice/certificate to the municipality where they are moving. This helps facilitate the smooth provision of public services including national health insurance and child allowance and also prevents overlap of collections of taxes and insurance premiums. c. The Japan Pension Service requires annual reporting in the pensioner’s birth month to confi rm eligibility status and to continue receiving pension payments, failing which pay outs are suspended. transaction costs because of the documenta- enroll migrants because it raises their costs. tion required for enrollment; high school fees; The majority of migrants are enrolled in the and the policy requiring students to take the New Rural Cooperative Medical Scheme university and high school entrance examina- (NRCMS), which charges lower premiums. tion in their province of origin. Yet migrants cannot conveniently take advan- The disparities in education in urban areas tage of NRCMS benefits when they access are also evident among local children from health services in urban areas, because the different social strata. This can be seen in the benefits are not portable. Enrollees would first differential enrollment rates between higher- have to pay for care in urban facilities and quality “key” schools and regular schools, then seek reimbursement from the NRCMS and in indicators such as average class size upon visiting their county of residence, usu- and transition rates. The increased impor- ally during long holidays.35 Few can afford to tance of family connections and “placement wait many months for reimbursement. fees” to get children into elite urban public Policies to increase access to health ser- schools risks reinforcing existing social dis- vices need to be matched with measures to parities. In urban cities such as Beijing and control costs—for the sake of all urban resi- Shanghai, key elementary and junior high dents, not only migrants. Between 2007 and schools generally use exams to select their 2010, real annual growth in health spend- students. ing averaged about 15 percent compared For urban health insurance schemes, the with annual GDP growth of approximately government has a policy of open enroll- 8 percent. Health is also consuming a grow- ment, but employers have few incentives to ing share of public spending as government OVERVIEW 21 expands insurance systems and invests in Urban dibao, introduced in 1997 to sup- health services to improve access and reduce port the reform of state-owned enterprises out-of-pocket spending. by providing income assistance for laid-off Pension coverage has d ramatically workers and their families, has evolved into expanded over the past five years, but the a backbone of the social safety net in China. inclusion of migrant, self-employed, and Dibao is a noncontributory cash transfer pro- informal sector workers remains a chal- gram that aims to ensure a minimum living lenge. Further systemic reforms are required standard for eligible households. Rural dibao to ensure portability, decent benefits, and was rolled out nationwide in 2007. By 2012, fi nancial sustainability of the system. Start- urban and rural dibao covered 23.4 million ing with rural areas in late 2009, and with urban beneficiaries and 53.4 rural beneficia- urban areas in July 2011, China began roll- ries, accounting for 3.0 percent of urban and ing out a nationwide voluntary pension 8.3 percent of rural population, respectively. scheme for urban and rural residents with In addition to the dibao, several other pro- a combination of individual accounts and grams provide poor and low-income fami- basic pensions. The “rural resident pension lies with assistance, such as exemptions or scheme” and the “urban resident pension reductions on education fees, subsidies for scheme” are innovative efforts to encour- health insurance, and subsidized utilities that age participation through public subsidies. provide temporary cash and in-kind sup- Although migrants cannot participate in port. In 2012, 20.8 million urban and 59.7 local urban resident pensions, they can con- million rural individuals received these sub- tribute to the urban or rural resident pension sidies. The rural wubao and urban Three-No scheme in the town where they have local are assistance programs that provide income hukou, and in this way ensure provision for and in-kind support to those who have “no their old age. The policy framework and fis- capacity to work, no source of income, and cal subsidy policy of the urban and rural res- no legal dependents, or whose legal depen- ident pension schemes are well aligned with dent has no capability to provide support” each other, and it is anticipated that the two in rural and urban areas, respectively. Most schemes will be merged shortly. social assistance programs in China target In 2012, 229.8 million people contrib- only households with local hukou—urban or uted to urban employee pension schemes, rural—and migrants and their families are while the rural system covered about 460 excluded from the urban programs. million people by the end of that year. The number of migrants who participated in the urban employee pension scheme increased Access to housing from 14.2 million (or 10.8 percent of urban Urban hukou households in China have a migrants) in 2006, to 45.6 million (or 27.8 very high rate of homeownership by inter- percent) in 2012, but the coverage rate national standards. About 84 percent of remained less than half that of urban work- families in the cities live in homes they own, ers. Several factors explain the low partici- primarily the result of government policies in pation rate of rural migrant workers in the the 1990s that allowed occupants of work- urban worker pension scheme. These include unit housing to purchase homes at heav- lack of enforcement of the Social Insurance ily discounted prices. 36 In contrast, only Law of 2011 and the Labor Contract Law of 10 percent of migrants own their urban 2009, which require employers to treat urban residence, and affordability, rather than resi- and migrant workers equally; high tax and dency status, now constitutes the strongest social contribution rates that are close to the barrier to accessing quality housing. Across OECD average, and even exceed it if housing urban areas, prices doubled between 1999 fund contributions are included; and the lack and 2010—in some cities like Shanghai and of implementation of the State Council’s deci- Beijing, they increased more than fivefold— sion of 2009 to secure portability of social making the Chinese housing market unaf- insurance rights. fordable for many. 37 Studies show that in 22 URBAN CHINA BOX O.2 Social Housing Since 2007, China has implemented an ambitious what cost). The overall plan would include a market social housing program for rural and urban residents. study, a market plan, a fi nancial plan, an analysis The program includes 7 categories and 12 varieties of job growth and infrastructure needs, and a long- of social housing, including low-cost rental housing, term management plan including contingencies. The assisted home ownership, public rental housing, and fi ndings of the analysis should determine the hous- shelter improvements. By 2012, these programs had ing needs of a locality and enable local governments addressed housing needs of 31 million urban house- to defi ne the nature, scope, and policy interventions holds, or 12.5 percent of total urban households, required to effectively align housing demand and while over 5 million urban households benefited from supply. rental subsidies. Fiscal support for social housing has Improving availability of land for social housing. rapidly increased, from RMB 10 billion in 2007 to Promoting mixed-use developments can increase the RMB 380 billion in 2012. Earmarked grants from availability of social housing throughout a munici- the central government for social housing rose from pality. Planning for housing should bring together RMB 7 billion to RMB 235 billion over the same many stakeholders including those involved in plan- period. In addition, tax reductions and exemptions ning for local economic development, transpor- were granted. The fi nancial sector fi nancing of such tation, urban space, and infrastructure services. programs also grew rapidly: by 2012, bank loans “Inclusionary zoning” policies, an instrument used had reached RMB 571 billion; enterprise bonds had in many U.S. municipalities and in European coun- raised RMB 226 billion; and loans from public hous- tries, can be applied to require developers to set ing funds amounted to RMB 49 billion. Since 2010, aside 10–30 percent of the developments for afford- land use plans for social housing projects have been able housing. Rezoning industrial land for housing listed separately in the annual residential land sup- would increase the availability of land in many cit- ply plan and given priority. Between 2010 and 2012, ies and bring down prices, as discussed elsewhere in land supply for social housing projects across the this report. Improving the inventory of public land country increased from 11,000 hectares to 38,000 and identifying underused parcels could expand hectares. the availability of land for social housing develop- Despite these achievements, many challenges ment. Including “urban villages” in the city and zon- remain. The 12th Five-Year Plan targets 35 million ing them for low-income housing is another option, units of social housing, bringing total coverage to 20 while better connecting existing social housing in percent of households, which is higher than in most remote locations would improve their usefulness and developed countries. Land availability f inancing, occupation. effective targeting of public subsidies, and operat- Improving targeting of social housing subsidies. ing and maintenance of housing units are among the Focusing subsidies on low-income households that key challenges that China faces in meeting its goals. are unable to access housing without public assis- Aside from improving the functioning of the housing tance can be done by establishing clearly defined market more generally, introducing a property tax on eligibility criteria on the basis of housing demand housing to better utilize existing housing stock, and analysis using refined socioeconomic and demo- encouraging industries to move to more affordable graphic data. Expanding social housing eligibility to locations in secondary cities, lessons from interna- migrants through criteria of the residency system, as tional experience suggest that China can introduce recommended in this report, would improve targeting specific policies to promote social housing. for low-income households, because migrants usu- Increasing fl exibility for municipalities in achiev- ally are at the lower end of the income distribution. ing their social housing construction goals. Rather Examples of subsidies to households include capital than mandating a specific number of a particular grants toward home purchase (such as assistance type of unit, broad goals could be set for each munic- for a down payment) or rental vouchers. Successful ipality, which could then be required to develop a international examples include a rental assistance specifi c plan on how to achieve these targets. The program to low-income households under the Section plan should be done on the basis of careful analy- 8 program in the United States, which provides hous- sis of housing demand (such as demographic and ing vouchers or direct payments to private landlords. socioeconomic conditions) and supply (such as types of housing available for different income groups, at (Box continues next page) OVERVIEW 23 BOX O.2 (continued) Given China’s social housing demand, shifting sub- calls for government departments to promote special- sidies from ownership to renting may be appropriate ized entities that manage the housing stock, rather in many locations. Regulations to ensure exit from than trying to manage it themselves. low-income housing when households are no longer Lowering the cost of low-income housing. Regula- eligible also is needed to ensure a steady supply of tory requirements impose high standards on housing low-income housing over time. development. Relaxing these would bring down the Diversifying the supply and management of cost of affordable housing. When Bangkok was urban- low-income housing developments by encouraging izing, it allowed developers to adjust building density entry of specialized fi rms and nonprofi t organiza- levels and unit sizes, making housing relatively afford- tions. Specialized fi rms can bring competition and able even in central locations. Improving business innovation to serve the low-income segment. Private processes such as the issuance of permits can shorten developers elsewhere have managed to specialize in the time required to complete a building project and the social housing sector by bringing down the cost thereby reduce costs. Germany offers an example of of construction through innovative construction an efficient and streamlined permitting process that methods. Xerbia in India and GEO SAB de CV in allows developers to build housing fairly quickly. Mexico are good examples. Smaller plots and more Controlling contingent liabilities in housing fi ne-grained zoning, as discussed elsewhere in this fi nance. Many local governments fi nance their low- report, would lower the barrier to entry for fi rms. In income housing through local government fi nancing Europe, specialized nonprofit organizations, includ- vehicles (LGFVs), some of which are overindebted ing cooperatives in continental Europe and housing because of rapid expansion. Ensuring proper man- councils in the United Kingdom, were instrumental agement of these fi nancing vehicles, clear account- in expanding and managing the low-income hous- ing for assets and liabilities, and strict control on the ing stock—often with government support to ensure extent of local government guarantees on LGFV debt their access to fi nance and membership fees to pro- should prevent local government exposure to debt vide an equity buffer. International good practice distress arising from low-income housing. several large cities such as Guangzhou and market forces with distortionary administra- Shanghai, long-term urban residents and tive measures. Urban villages offer affordable migrants have similar access to housing, 38 housing as well as significant income to mem- suggesting that hukou type matters less than bers of the village collective, many of whom income. are dispossessed farmers. At the same time, Formal and informal rental markets pro- since urban villages are not incorporated into vide an important source of housing, and urban master plans, city administrators have their importance is likely to grow as mobility little incentive to extend urban infrastructure increases. The bulk of low-income housing is and public services to urban village areas. provided outside formally established govern- Expanding mortgage and housing rental ment programs through collective housing markets through government insurance (such as dormitories provided by employers), and support could expand homeownership. or private rental units in “urban villages” or China’s overall mortgage lending has grown on the urban fringe. In Shanghai, only 5.5 rapidly— consumer credit in China has percent of migrant households can afford to grown from 1.5 percent of total renminbi purchase commercial housing and some 80 (RMB) lending in 1999 to 13.3 percent in percent are renters, while the rest live mainly June 201340 —but poor households, and par- in employer-provided dormitories.39 An infor- ticularly migrants, lack access to this credit. mal residential market of so-called “small- Private and public finance could help to make property-rights” housing has grown rapidly, housing more affordable across China. In without legal protection and at odds with the United States, the establishment of the government policy. This is a manifestation of Federal Housing Administration created the 24 URBAN CHINA conditions for a postwar housing boom that According to the policy, education officials saw homeownership rise from 44 percent of closed down small, remote schools and households in 1940 to 62 percent in 1960. focused their attention on improving the teaching and facilities in larger, centralized schools. Boarding schools became important Providing services to those who providers of education services in response to stay behind the increase in commuting time among rural children. The emphasis in rural schools now In China, services in urban areas are easier to is on continuing the improvement in recruit- access and are of better quality than in rural ment and retention of qualified teachers. areas. Notwithstanding the actions needed in In rural health, the focus is on the pri- urban areas, there will continue to be a need mary care system, which is institution- to provide quality rural services for those who ally and financially fragmented and needs remain in rural areas; otherwise rural dwell- strengthening. The system has a host of ers will move to the cities to access the bet- often uncoordinated actors, including fam- ter social services there, rather than to pursue ily planning agencies, maternal child health more productive economic opportunities.41 programs, township health centers for pri- Needs, resources, goals, and social values mary and secondary care, village doctors, differ widely throughout China. All residents public health agencies, and others. Funding of a city should be given equal services, but sources for primary care are also varied and residents of different cities and rural areas include earmarked vertical program budgets, may be given different services, and it will health insurance, central and local budgets, be important for the government to build and user fees. Coordinating these programs on existing policies to address this issue. and improving the quality of the workforce In rural education, for example, respond- and their incentives is key, while access to ing to demographic trends and outmigra- secondary and tertiary medical facilities, tion, the Ministry of Education launched an when needed, should be facilitated by por- aggressive School Merger Policy in 1999.42 table health insurance policies. OVERVIEW 25 Chapter 4 Sustainability China’s impressive economic and social gains of their carbon footprint and their exposure have come at the price of significant environ- to pollution. Decisions made today will affect mental degradation and increased resource China’s cities and the quality of life of its use. The current urbanization path is not effi- urban residents for generations to come. cient because pollution imposes rising direct As China reaches upper-middle- and high- and indirect economic costs that are often income status, citizens will increasingly not reflected in market transactions. Urban demand and expect a clean environment and sprawl is leading to, for instance, greater livable cities, and proactive action is urgently energy use for transport and higher costs for needed. Toward these ends, China should energy and water supply infrastructure than consider environmental sustainability as a in denser cities. Current trends are also not policy goal with the same weight as economic socially inclusive because—while pollution efficiency and social inclusion. and resource scarcity affect all citizens—the Raising the profile—and the effective- poor are usually most heavily affected and ness—of environmentally sustainable poli- least able to cope. Some also fear that the cies in China’s future urbanization requires increased demand from a growing urban that China’s green governance match its population for water and land could under- green ambitions. China has introduced a mine China’s food security and lead to unac- comprehensive set of environmental laws and ceptably high imports of key products, which regulations, but these have not brought the could in turn drive up global prices. expected improvements in environmental China’s environmental performance is of quality because incentives to enforce environ- global importance. China is now the larg- mental policies and complete complementary est emitter of greenhouse gases in the world, sector reforms have been lacking. Moreover, and in the decade up to 2010, growth in sustainability needs to be tackled at the scale greenhouse gas emissions has accelerated in which pollution impacts are felt, which for (table O.2). That was a result mainly of a many resources, such as air, means crossing slowdown in the reduction of energy inten- traditional administrative boundaries and sity in the economy, which fell by a remark- finding regional solutions. able 6 percent a year on average from 1980 to 2000, a rate that slowed to 2 percent in 2000 –10. Beijing, Shanghai, and Tianjin The cost of pollution in have estimated per capita emissions com- China’s cities parable to large European and some North American cities.43 As China prepares for the next wave of In recent decades China has invested heav- urbanization, addressing environmental and ily in infrastructure to support environmen- resource constraints will become increas- tal management and has made considerable ingly more urgent because much of China’s progress in reducing pollution and improving pollution is concentrated in its cities, and as the energy efficiency of its economy. Rapid China’s urban population grows, a greater economic growth has continued to outpace China’s ability to control pollution from existing and emerging sources, however, and TABLE O.2 China’s carbon emissions and drivers of growth more needs to be done. Moreover, there is Average annual percentage change an urgent need to prepare the groundwork 1980–2000 2001–10 for future urbanization to be conducted Carbon emissions 4.8 10.1 more sustainably than in the past. How GDP growth 10.1 10.8 China’s cities develop in the future—either Energy-to-GDP intensity –5.9 –2.1 as compact dense cities or as large sprawling Carbon-to-energy intensity 1.2 1.5 metropolises—will determine the magnitude Source: World Bank World Development Indicators database. 26 URBAN CHINA FIGURE O.8 Air pollution declined over time . . . but the costs of concerted efforts have been made to control air pollution have been rising. Particulate matter pollution and particulate matter and sulfur oxides. estimated health damages in urban China, 2004–10 Water pollution, increasingly from live- stock and poultry operations and other non- 800 point agricultural sources resulting from 120 RMB, billions (constant 2000 RMB) extensive use of pesticides and chemical 110 fertilizers, domestic sewage, and industrial 700 Micrograms/m3 point sources, contributes to China’s rising 100 digestive cancer rates (Ebenstein 2012). The Ministry of Environmental Protection (MEP) 600 90 reported that 57 percent of the groundwa- ter in 198 cities in 2012 was rated “bad” or “extremely bad,” while more than 30 percent 80 500 2004 2006 2008 2010 of the country’s major rivers were found to PM10 concentrations Damages from mortality be “polluted” or “seriously polluted,” mak- (left axis) and morbidity (right axis) ing their waters unfit for drinking or direct human contact.45 Municipal and industrial solid waste generation increased from about Source: Renmin University, n.d. based on China Environmental Yearbooks and World Bank estimates. 1.2 billion to 2.6 billion tons between 2003 Note: PM10 = fine suspended particulates less than 10 microns in diameter, population and 2010. weighted city averages. number of its citizens are exposed to pol- Urbanization strains lution that threatens their health and well- China’s resources being. The economic and social costs of this exposure are already severe and rising. Since 1978, total energy use in China Estimates of mortality from air pollution increased 6 times to fuel an economy that in China are significant. Although average increased 18 times and an urban population annual concentrations of particulate mat- that more than doubled in size.46 Moreover, ter (PM10) fell 25 percent between 2004 and the rate with which energy use increased was 2010 (figure O.8), mortality rates have been unprecedented and difficult to predict. By increasing, in large part because 200 mil- 2005, China had already reached energy con- lion more people now live in cities compared sumption levels projected only six years earlier with a decade ago. High mortality levels and for 2020.47 Despite significant efforts, total other health damages have high economic carbon emissions continue to rise. Although costs, estimated to range from $100 billion to subsidies have been reduced in the energy sec- more than $300 billion a year. Moreover, the tor, some cross subsidies favoring residential evidence from other countries suggests there consumers continue to discourage end-use may be a long-term impact for the coun- efficiency. While these trends are alarming, try because small children and infants are there are some positive notes as well. China’s severely affected by air pollution, which leads economy has become more energy efficient, not only to higher rates of infant mortality, with energy intensity falling by an average of but also birth defects and impaired cognitive 4.7 percent a year. functions.44 With 20 percent of the world’s population Energy production is a key source of air but only 7 percent of its freshwater, water pollution in China’s cities owing to China’s scarcity and quality are major problems for dependence on coal, which has remained at sustainable urban development in China—if around 70 percent of total energy supply in not the most pressing. Nationwide, the gap the last decade. Cities host coal-reliant indus- between urban water demand and supply is tries, which make up a large share of China’s 6 billion cubic meters a year. Some 420 cities economic structure. Coal use has remained have insufficient water supplies; 110 of these largely stable or even increased in some cities. are facing severe water shortages.48 The Total emissions grew in this period, although problem is most urgent in the north, where OVERVIEW 27 two-thirds of the cities reportedly face water FIGURE O.9 Land requisition is outpacing urban shortages. Water pollution has exacerbated land use water scarcity, intensifying competition for water resources. The response has been to 6,000 increase supply by digging deeper wells and building reservoirs or diversion infrastruc- 5,000 ture, steps that create an array of ecological 4,000 risks from the loss of river flows, and that are 3,000 km2 no more than stopgap measures in the face 2,000 of ever-growing demand. Low tariffs for urban water supply and wastewater reduce 1,000 the incentives for demand savings and limit 0 the fi nancial sustainability of service provi- 2005 2007 2009 2011 sion. Only about 44 percent of urban water Land requisition (MLRYB) utilities generated positive net margins, and Urban construction land (UCYB) only 10 percent of better performing utilities generated net margins above 10 percent.49 Sources: China Ministry of Land and Resources Yearbook; China Min- China’s urbanization has consumed sig- istry of Housing and Rural-Urban Development. nificant land resources as urban boundaries are continuously shifted outward and ter- ritorial jurisdictions of cities are expanded, of these conversions, the availability of agri- primarily through the expropriation of sur- cultural land is now close to the 1.8 million rounding rural land and its integration into mu (120 million hectares), the “red line” that urban areas. Between 2001 and 2011, the is considered to be the minimum necessary amount of land in China classified as urban to ensure food security. If urbanization con- construction land increased by 17,600 square tinues to follow current trends, an additional kilometers, reaching a total area of 41,805 34,000 square kilometers—an area about the square kilometers in 2011, an increase of 58 size of the Netherlands—would be required percent over the decade (figure O.9). About to accommodate the growth of cities in the 90 percent of the demand for urban construc- next decade. If this were to come from agri- tion land was met through the expropriation cultural land, the net result would be a drop of rural land, while only 10 percent was sup- in the availability of agricultural land below plied from the existing stock of undeveloped the “red line.” A slowdown in land conver- urban construction land. sion is necessary: cities should become denser Moreover, only considering land classified rather than larger, and greater density is also as urban construction land gives a narrow desirable for reasons of efficiency. Moreover, view of the impact of urbanization on land rural construction land is still abundant and, resources, because the total rural land requi- with more rapid migration to cities, could sition and conversion into state-owned urban become the main source of new urban land. land has been significantly higher. From 2005 Urban sprawl—with the rapid growth of to 2011, a total of 27,200 square kilometers of low-density areas at the urban periphery— rural land was requisitioned and converted to has led to congestion of transport arteries state ownership. That is, until 2008, roughly and contributed to pollution. Moreover, it 3,000 square kilometers a year were requi- has increased resource use and carbon emis- sitioned. From 2008 onward, annual rural sions in three ways: longer commutes and land requisition increased sharply to around more private motorized trips have increased 4,460 square kilometers. Much of the new urban transport fuel consumption; larger urban land was requisitioned from farmers living space per person has led to higher per at low levels of compensation, often not more capita energy use for home heating, cooling, than 15–20 percent of the prices the con- and power consumption; and infrastructure verted land fetched on the market. Rural land has been used less intensively than it would conversion potentially has implications for be in dense urban cores, lowering economies China’s food security (box O.3). As a result of scale and increasing the capital, operating, 28 URBAN CHINA BOX O.3 Feeding China’s cities China’s urbanization is likely to strongly affect two bles, and animal products rises much more rapidly important aspects of food security: the aggregate with income growth than demand for basic food availability of domestically produced food, and the staples such as rice and wheat. These goods require access of vulnerable individuals and households to much higher levels of intermediate and factor inputs food. Most urban households rely on food purchases; than basic staples, particularly for livestock prod- therefore, low-income households that spend a large ucts given the ineffi ciencies of feed conversion. If share of their incomes on food can be vulnerable to increases in the availability and prices of staple foods. Achieving domestic self-sufficiency in major FIGURE BO.3.1 Self-sufficiency ratios for grain in food grains has been one of China’s strategic policy Asian countries priorities, and as a result, China has had limited dependence on global food markets to date. China’s 180 agricultural sector has performed well, shifting 160 from relatively low-value to higher-value agriculture 140 products, largely consistent with resource endow- 120 ments and comparative advantage. Grain yields have 100 increased continuously since 2003; however, annual yield growth is diminishing. In 2012, grain output 80 reached a record yield of 590 million tons. Per capita 60 grain production reached 425 kilograms, above the 40 400 kilogram grain security line. 20 As China becomes more urbanized, it is likely 0 that it will become more dependent over time on 1960 1970 1980 1990 2000 2013 imports of (especially land-intensive) farm products, Thailand Indonesia Korea in particular as the comparative advantage of labor- Bangladesh China Taiwan, China intensive farming of grains diminishes. International India Philippines Japan comparisons reveal striking differences between countries in the extent to which food imports as Source: USDA 2013. a share of total consumption have evolved. Most Note: This graph shows the total for rice, wheat, maize, and soybeans. lower-income countries have maintained close to 100 percent self-sufficiency (when rice, wheat, maize, and soybeans are considered together), but FIGURE BO.3.2 Food consumption in energy the ratio has declined sharply in the higher-income equivalents and income East Asian economies despite protectionist policies (figure BO.3.1). 2.5 Tons of cereal equivalents per capita per year The structural changes that are occurring in Denmark China—demographic changes in which rising wage Canada 2.0 Italy rates in nonfarm employment are drawing labor from Food consumption agriculture, changes in diets and consumption pat- Brazil Hungary Israel terns, emergence of environmental supply constraints 1.5 (land, water), transformation of rural factor markets, Mexico World average consumption, 2002 = 0.95 transformation of food supply chain, market and 1.0 China distribution systems, and agricultural technology and farm scale changes—will impact China’s food India 0.5 Zambia production and food availability. Currently, China’s Low Low middle High middle High income income food production is limited by water scarcity and, to a income income (20%a) (50%a) (15%a) (15%a) a Percent of world population, 2002 lesser extent, the availability of land; however, a new 0.0 constraint—labor—is now on the horizon. 0 2.5 5.0 7.5 10.0 12.5 15.0 17.5 20.0 22.5 25.0 27.5 30.0 As China’s urbanization increases, overall Real GDP (PPP) per capita, thousands (2002 US $) demand for food is likely to increase because the demand for higher-cost foods such as fruits, vegeta- (Box continues next page) OVERVIEW 29 BOX O.3 (continued) all types of food are converted into a common basis China’s food consumption in cereal equivalents is using food conversion ratios that take into account currently about 20 percent above the world average the efficiency of conversion of grains into livestock level. More important, demand is likely to grow con- products, the relationship between real incomes and siderably as China reaches middle- and high-income food demand depicted in figure BO.3.2 emerges. status. FIGURE O.10 Impact of urban density on carbon emissions for transport and infrastructures: road, water, and wastewater network lengths a. Transport network b. Water network 7 7 6 6 Meters per capita tCO2 per capita 5 5 4 4 3 3 2 2 1 1 0 0 0 5,000 10,000 15,000 20,000 25,000 30,000 0 5,000 10,000 15,000 20,000 Inhabitants per km2 Inhabitants per km2 c. Road network d. Wastewater network 12 16 10 14 Meters per capita Meters per capita 12 8 10 6 8 4 6 4 2 2 0 0 0 5,000 10,000 15,000 20,000 25,000 0 5,000 10,000 15,000 20,000 Inhabitants per km2 Inhabitants per km2 Sources: Salat and Bourdic 2013; and Müller and others 2013. Note: This graph represents a variety of cities in developing and developed countries. and maintenance costs for infrastructure ser- 1952 may have killed more than 10,000 vices (figure O.10). people over four December days. Smog lev- els in Los Angeles are down 70 percent from the 1970s, and high ozone advisory days The global context of China’s dropped from 184 to close to zero. Tokyo’s campaign for cleaner air centered on the vis- urban sustainability ibility of Mount Fuji: the mountain could Practically all industrial countries have be seen on only 20 days a year in the 1960s passed through a phase of excessive urban compared with well over 130 days today. pollution. London’s “great smog” event in In all cases, it took a package of regulatory 30 URBAN CHINA measures implemented over decades to bring ambitious targets for controlling both. The the situation under control. comprehensive set of targets, laws, and regu- Given the size of China’s population lations has not brought the desired improve- and economy, its structure, and the speed ments in environmental quality because most of its development, the country’s environ- environmental policy making has favored nar- mental problems are on a larger scale than row technical and engineering solutions over those experienced by other countries. But institutional and economic approaches. The being a late developer also has advantages. main causes of China’s environmental prob- China can benefit from experience and lems are institutional rather than technical. technology from elsewhere and reduce pol- The considerable inertia in China’s envi- lution faster than was possible for earlier ronmental management can be addressed developers. Much of the research on air through a strengthened accountability and pollution sources, impacts, and abatement incentives framework. As a fi rst step, regu- options was developed in North America lations with strong enforcement are needed. and Europe over many decades and can Currently, enforcement of China’s environ- be deployed more quickly and cheaply in mental regulations is often weak because China. Some of the benefits of technology local cadres face inadequate incentives to put and management are already apparent, and policies into effect and to complete comple- China has also produced indigenous solu- mentary sector reforms. Even when the regu- tions that can be shared with countries fac- lations are enforced, their implementation is ing similar challenges. often inflexible, causing unnecessary costs. Green urbanization in China is of global Although, government spending on environ- interest. Greenhouse gases increase the prob- mental management has been similar to that ability of global climate change. North Amer- of OECD countries and has increased over ica and Europe still exceed China’s cumulative time, spending should be about 0.5 percent historical emissions, but, according to data of GDP more than current levels.52 from the International Energy Agency, Chi- In addition to strengthened enforcement, na’s per capita CO2 emissions from fuel com- China needs to ensure that the pricing of bustion are still rising and are likely to reach energy, water, and other resources reflects the European Union (EU) average by 2015. the cost of their provision. Moreover, prices In contrast to experience elsewhere, a large should include the indirect costs imposed on share of China’s pollution came initially from health, ecosystems, and the climate by the the relocation of dirty industries that were production of resources and by their use. being phased out in developed countries. Improving urban sustainability requires One estimate suggests that exports account a multisector and, in many cases, multijuris- for about one-third of China’s energy use and dictional approach, which is currently under- likely a similar share of air pollution.50 In the developed. Structural shifts in the economy future, by shifting toward a growth model toward cleaner sectors will help in the longer more reliant on services and consumption, term. Greening sector policies require better China will be able to pollute less on behalf of coordinated national and local level deci- other countries. On the other hand, similar sions, often across several agencies. More shifts in polluting industries also appear to be comprehensive planning at the city level will replicated within China between coastal and support sector reforms. For instance, urban inland areas.51 sprawl—which raises the cost of public ser- vice provision and locks in wasteful energy consumption—can be avoided through inte- Environmental regulations and grated urban land use, transport, and energy governance planning that reshapes urban form. In larger urban clusters, air and water Recognizing that resource depletion and pol- quality management strategies must operate lution have become costly barriers to fur- at a regional scale to account for all relevant ther development, China’s leaders have set pollution sources and to identify cost-effective OVERVIEW 31 regional abatement plans. Building regional of limited access to information on the per- institutions will take time but can be started formance of environmental management with interjurisdictional mechanisms like the authorities and polluting activities of fi rms. “joint decision-making conference” in the Hai Without green governance—a strengthened River Basin. Such mechanisms have been used accountability and incentives framework— in China and have built up the trust needed to China will fi nd it difficult to align its sector develop interjurisdictional solutions. reforms with its green ambitions. The chal- The channels for citizen involvement, lenges are daunting but not insurmountable including through environmental nongovern- in the long term, and if addressed, can bring mental organizations (NGOs) and the legal about cities that are not only great places to system, are still inadequate, in part because work but also great places to live. The Reform Agenda Chapter 5 A Strategy for Reform China’s leaders have called for a new model barriers to labor mobility—from rural to of urbanization that would support relatively urban areas, but also from city to city. If high but more efficient growth, share the people are to move to where they are most benefits of urbanization more widely, and productive rather than to where they can be environmentally sustainable, while safe- receive better services, they should expect to guarding China’s food security. receive similar public services wherever they are, while retaining their accumulated rights to social security. To achieve this, the hukou A reform package system would need to evolve into a resi- Achieving the new model of urbanization dency system with increasingly unified rules requires a comprehensive reform package for access to services. Over time, cities and centered around four priority areas—land, rural areas alike should be in a position to hukou, the fiscal system, and the incentive deliver at least a minimum standard of public system for local governments—supported services to any resident, irrespective of their by the reform of social policies and service place of origin. delivery, urban planning, and environmen- The fiscal system needs reform to accom- tal management. In all of these areas, China modate the proposed changes in the land and has already made considerable progress, and hukou systems. Land has been a large source at the local level many ongoing experiments of government revenue in the recent decade— deserve consideration for mainstreaming. on average, some 5.5 percent of GDP in gross China can also build on the experience of revenues and 2.5 percent after compensation other countries that are rapidly urbanizing, and land sale preparation costs. More effi- or did so in the past, such as Britain and the cient urbanization will require governments United States in the nineteenth century, and to focus on better managing existing urban Germany, Japan, and Korea more recently. land rather than acquiring new urban land. Land policies determine the density and As a result, a reduction in revenue from rural spatial efficiency of cities, which in turn drive land conversion is expected. At the same environmental sustainability and livabil- time, demands on city finances will increase ity. Land policies also determine the extent as local governments provide public services to which farmers can share in the wealth to migrants and their families. Fiscal reforms unlocked by higher-value use of land, which should therefore provide resources for munic- could narrow urban-rural income and wealth ipalities to continue to grow, together with disparities. More efficient use of land will the discipline to grow efficiently. require stronger property rights for farmers, A stronger local tax base and more regu- higher compensation for land requisition, lar and strictly regulated access to borrow- new mechanisms for converting rural land ing are critical. Rationalization of the distri- to urban uses, more flexible use of existing bution of expenditures over different levels urban land through better planning and zon- of government—specifically, centralization ing, and urban land allocation that is driven of social security finances—would relieve by market prices. local budgets of some spending obligations Hukou reforms are needed to promote and enhance labor mobility. Over time, the better use of labor through the removal of intergovernmental fiscal system would have 33 34 URBAN CHINA to ensure that any local government—rural cities, which would increasingly specialize or urban—can provide the minimum stan- in high-value services and innovation and dard of services that the central government attract higher-skilled labor rather than a low- seeks and the nation can afford. Local gov- skilled industrial workforce. ernment borrowing, if properly regulated and Land reforms would improve the effi- monitored, should better match the payment ciency of rural and urban land use and for capital projects with the life of the infra- increase the compensation rural residents structure asset. The use of informal fi nanc- receive from land conversion, thus improving ing methods, such as local investment com- the distribution of income and wealth. Land panies, should be reduced. reforms will also likely lead to denser cities, Changes in land, hukou, and fiscal policies which would reduce the energy intensity and would need to be underpinned by a change in car use in cities, thus improving environmen- the incentive structure for local government tal sustainability. And reduced land use for decision makers. The government personnel urbanization would make more land avail- system that rewards local leaders’ success able for environmental services and agricul- based on national development goals already tural production. includes quality of life indicators in health, Hukou reforms and reforms in public ser- culture, education, and the environment, and vices would increase the mobility of work- important targets such as birth control and ers across China and increase their produc- social stability, but the main focus has con- tivity and wages. It would also accelerate tinued to be on the more easily measurable rural-urban migration, which combined with goal of annual GDP growth. Rebalancing the land reforms, would accelerate agricultural evaluation criteria toward social and environ- modernization and increase rural incomes, mental objectives that match the new model thereby reducing rural-urban income of urbanization will be necessary for suc- inequalities. More equal public service deliv- cess. Further, greater participation of China’s ery across China would increase equality citizens in the urbanization process would of opportunity for all China’s citizens. Bet- enhance accountability of local governments ter access to housing finance for migrants and ensure that policies will be more respon- would allow them to acquire urban property sive to local needs, which would minimize and benefit from capital gains, thus reducing social unrest. In some areas, China has a growing wealth disparities. relatively mature system of citizen involve- Fiscal reforms would generate the revenues ment; expanding this participatory approach to finance a minimum package of services across the spectrum of urban policies could across China and reduce the need for land- be considered. based financing, while limiting the risk to The main benefit of reforms will be the fi nancial system resulting from unregu- higher-quality growth. The reforms proposed lated local government borrowing. Fiscal and in this report—specifically land, hukou, and financial reforms would also impose more fiscal system reforms, and a change in the discipline on local governments, thereby incentives for local governments to attract reducing the wasteful development of ghost investment—will make the allocation of towns and empty industrial parks. land, capital, and labor more market based. That in turn will change the distribution of economic activities across China’s urban A vision for China’s new urban landscape. Accelerating the shift of industrial landscape in 2030 activities to secondary cities where land and labor are cheaper would provide a stronger China’s initial conditions for the next phase economic basis for those cities and promote of urbanization are vastly different from small and medium-size cities. At the same three decades ago. China is now an upper time, this shift in industrial activities would middle-income country, the largest manu- also reduce migration pressures on the largest facturer and exporter in the world, and it OVERVIEW 35 is on the cusp of a development stage in higher, and considerably more balanced, in which efficient use of resources will be more a reform scenario compared with business important for growth than simply mobiliz- as usual. The main drivers of more rapid ing resources. China’s cities today are much growth under reforms will be the higher rate larger than they were 30 years ago, with the at which people move from rural to urban largest rivaling the biggest agglomerations in areas and among cities, and the higher pro- the world—including London, New York, ductivity in more efficient cities. Seoul, and Tokyo. China’s cities are now far As China’s labor market tightens, con- better connected to the rest of the world and sumption is likely to grow faster than to other cities in China, due in part to a mas- investment because the share of labor in sive investment in infrastructure in the past the economy will rise as wage growth out- two decades and to a long period of open- paces productivity growth. This growing ing up, crowned by entry to the World Trade demand includes consumer demand from Organization (WTO) in 2001. These devel- an expanding middle class—those that earn opments provide a strong basis for efficient $10–$100 per capita a day (at 2005 inter- urbanization, allowing agglomeration effects nationally comparable prices). This group and specialization to contribute to productiv- now makes up almost a quarter of China’s ity increases and growth. population and more than 40 percent of its As China implements the new model of urban population—although its size still lags urbanization, a different urban landscape behind that in other countries at China’s will emerge. China will continue to urbanize current level of GDP. 53 Labor scarcity in rapidly, with urban residents accounting for rural areas will catalyze land consolidation almost 70 percent of the population by 2030 and the rapid dissemination of new produc- in a reform scenario, bringing the country’s tion technologies. That will increase labor urbanization rate in line with expectations productivity, and wages in rural areas will that are based on its level of income. That thus rise more rapidly than in urban areas, implies, however, that the speed of China’s thereby reducing urban-rural income dis- urbanization rate will slow in the next two parities. With higher incomes, the services decades, even though there may be an initial sector is likely to overtake manufacturing as spurt in urban population soon after reforms the main driver of growth, constituting more are implemented, as migrant families are than half of GDP by 2030. Urban areas will reunited in urban areas. Moreover, income create the scale of demand for an increas- growth will also likely slow in the next two ingly diverse supply of services. The ser- decades (table O.3), but it will be slightly vices sector’s share in the economy will rise TABLE O.3 China’s urbanization scenarios 2010 2030 baseline 2030 reforms Urbanization rate (percent) 52 66 70 Share of labor force in agriculture (percent) 38 17.1 11.6 GDP (trillions of 2013 US$) 8.5 24.5 GDP (average annual growth past 5 years) 8.3 4.9 5.2 Total factor productivitya (average annual growth over past 5 years) 2.2 2.1 2.5 Consumption share of GDP (percent) 46.5 62.0 66.5 Investment share of GDP (percent) 48.8 35.5 30.9 Secondary industry share of GDP (percent) 48.8 37.2 33.7 Tertiary industry (services) share in the economy (percent) 41.8 58.5 60.6 Urban-rural income disparities (ratio) 3.8 3.3 2.6 Energy consumption per GDP (Tce/RMB 10,000) 1.41 0.73 0.64 Carbon dioxide emission per GDP (ton CO2/RMB 10,000) 3.32 1.68 1.39 Source: Based on DRC CGE Model simulations. Note: The industry structure is based on input-output tables, hence the structure is slightly different from one reported by the Statistical Yearbook. All data are from 2010, except for the third row (GDP), which is from 2013. a. Including gains from reallocation of labor and capital across sectors and ownership forms. 36 URBAN CHINA because of higher demand for services and agglomerations are likely to thrive, along with because productivity increases in services are those connected to these agglomerations. Cit- likely to lag behind those in manufacturing, ies along China’s main transport corridors increasing their relative price. will be particularly well positioned to take Under the reform scenario, by 2030, advantage of efficiency gains through special- China will display a more diverse landscape ization. International experience as well as of cities because urbanization will not be China’s own past suggests that public policy uniform and will reflect the comparative that fights these trends—which are driven advantage of individual cities. In China’s by the choices of individuals and fi rms—is most developed cities, the services sector— unlikely to succeed. Or, if such policies did rather than industry—will play a larger role succeed, it would be at the expense of effi- in growth, because cities are fertile ground ciency and income growth. for the development of more sophisticated, higher value-added services. The largest cit- ies within urban agglomerations such as Bei- China can afford its new jing, Guangzhou, and Shanghai have grown urbanization model rapidly in recent years, serving as gateways to international markets, and this trend is likely China can afford a more efficient, inclusive, to be reinforced by reforms. These agglom- and sustainable urbanization. Simulations erations will provide the urban diversity that from a detailed model developed for this encourages learning in universities and busi- study suggest that the overall costs of urban- ness districts and that connects people to the ization will gradually decline as a share of rest of the world. GDP. 54 These simulations assume that the Secondary cities that are part of metro- costs of delivering infrastructure and social politan areas, especially those in coastal services to migrants at urban standards is areas, will increasingly attract land-intensive additional—in other words, that spending manufacturing and will offer producers the in rural areas (where the migrants originate) benefits of specialization and low transport does not decline as a share of GDP (table costs near the larger cities with their large O.4). The total annual costs of all urban pub- markets and links to international markets. lic services, infrastructure, and social housing China’s large inland cities, most of which are would average 6.1 percent of GDP in 2013– currently outside major development clusters, 30, with a peak of 7.3 percent in the early possess human capital and amenities that will period (2013–17) due to migrant integra- serve as a foundation for economic develop- tion and the government’s ambitious social ment. Easier access to international markets housing program. On past trends, nearly and reduced freight costs will help these cities three-quarters of this cost would be paid by compete with coastal cities. Hinterland cities the government through infrastructure devel- and rural towns will allow fi rms and farms opment corporations and finance vehicles. to exploit plant-level scale economies by pro- Model simulations suggest that these costs viding roads for moving inputs and outputs are affordable for the government because and schools for the families of workers. They additional revenues from a property tax or would focus on public service delivery and alternative sources of revenues will be able to preparing people for opportunities elsewhere. cover the spending needs on aggregate with- Exactly how this new urban landscape out increasing total government debt to GDP. will take shape is impossible to predict with In the reform scenario, denser cities require certainty, but if international experience is less investment in infrastructure—notably in any guide, China’s largest coastal cities will roads. Lost revenues from rural-urban land continue to grow more rapidly than the aver- conversion would be more than compensated age of all China’s cities, while the popula- by the introduction of a property tax on tion share of small cities will likely decline. urban residential property and the apprecia- Cities of any size that are part of the main tion of existing urban land values. Significant OVERVIEW 37 TABLE O.4 Urbanization costs and fiscal space: Baseline and reform scenarios % GDP Baseline scenario Reform scenario 2008–12 2013–17 2018–30 2013–30 2013–17 2018–30 2013–30 Urbanization costs (CAPEX and OM) 8.6 7.3 5.6 6.1 6.8 4.9 5.4 Infrastructure investment 3.5 2.7 2.5 2.5 2.1 1.7 1.8 Roads 1.9 1.4 1.2 1.3 0.9 0.7 0.7 Subways 0.5 0.6 0.6 0.6 0.6 0.6 0.6 Draining 0.1 0.1 0.1 0.1 0.1 0.0 0.0 Sewage 0.2 0.1 0.1 0.1 0.1 0.1 0.1 Landscaping 0.4 0.3 0.2 0.2 0.2 0.1 0.1 Garbage treatment 0.1 0.1 0.1 0.1 0.1 0.1 0.1 Water 0.2 0.1 0.1 0.1 0.1 0.1 0.1 Heating 0.1 0.1 0.1 0.1 0.1 0.1 0.1 Social services 5.1 4.6 3.1 3.6 4.8 3.2 3.6 Social housing 2.0 1.4 0.5 0.7 1.4 0.5 0.7 Education (includes labor costs) 3.1 3.2 2.6 2.8 3.3 2.7 2.8 Health 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Central and local governments Fiscal space 33.3 31.8 30.4 30.8 29.8 29.9 29.9 Fiscal revenues 25.0 26.5 25.9 26.0 26.7 26.7 26.7 Net borrowings 8.3 5.3 4.5 4.7 3.1 3.3 3.2 Total expenditure 31.9 31.1 29.6 30.0 30.5 28.3 28.9 Recurrent primary expenditures 23.6 23.6 23.3 23.4 23.6 23.2 23.3 Capital expenditures 6.0 4.7 3.4 3.8 4.3 3.0 3.4 Interests 2.3 2.9 2.9 2.9 2.6 2.1 2.2 Source: World Bank/DRC/MOF projections done for this study. Note: CAPEX = capital expenditures; OM = operations and maintenance. reforms in the fiscal system will be needed to be reforms in land policies and in local gov- change the incentives for local government, ernment borrowing, and not the abolition of adjust the local tax base and intergovernmen- all land revenues and borrowing. Without tal fiscal system, and provide local govern- any local borrowing or land revenues, the ments with regulated access to borrowing. fiscal space would not be sufficient to cover The reform scenario assumes that there will spending for urbanization. 38 URBAN CHINA Chapter 6 Reforming China’s Land Management The context of the reforms urban construction purposes and rural land expropriation; developing mechanisms for Land lies at the heart of China’s urbaniza- better benefit sharing of land value; integrat- tion challenges and is the highest prior- ing urban-rural land use planning and land ity for reform. To improve the efficiency of allocation and the redevelopment of “urban China’s future urbanization, land manage- villages”; and modernizing urban planning ment reform would lead to more efficient and land management. and denser cities, contain urban sprawl, and The decisions of the 3rd Plenary of the reduce the environmental impacts of urban- 18th Congress of China’s Communist Party ization. Strengthening property rights on of November 2013 provide a framework for rural land and clarifying collective owner- land reforms. The framework includes fos- ship arrangements would also increase the tering a unified rural-urban construction compensation that accrues to farmers in land market, clarifying and enhancing rural land transactions, thus making urbaniza- land rights, and setting up new institutional tion more inclusive. Better use of urban land arrangements for land in rural and urban would reduce the need for land conversion areas. Reforms provide an opportunity to and unlock new sources of revenues for cit- build on past achievements, harmonize the ies. Reform needs to guarantee the long-term regulatory framework for urban and rural supply of land and fi nancing for urbaniza- land, and modernize the land system to sup- tion, based on transparent and voluntary port more efficient and inclusive economic market transactions and taxation. Land growth and urbanization. reform should be closely coordinated with In implementing a more market-driven hukou, social services, and fiscal reforms. approach, aside from the responsibility of China has significantly modernized planning, zoning, and registering the trans- its land tenure framework over the past actions, government should closely supervise decades, although the long-standing dual experiments in this direction to ensure that tenure system of collectively owned rural the stronger property rights on rural land are land and state-owned urban land has respected and that corruption in transactions remained unchanged. Whereas property is avoided. Consultation, publicity, and trans- rights on both urban and rural land have parency can also provide protection against been strengthened, rural citizens still remain abuse. at a significant disadvantage because of remaining ambiguities about land owner- ship and property rights of the state, rural Strengthening property rights collectives, and individual farmers, and how The tenure of rural land rights needs to be these stakeholders interact in the process of lengthened and automatic renewal legalized. urbanization, especially during the monopo- Farmers’ 30-year farmland rights remain sub- listic conversion of rural land by local gov- ject to significant uncertainties in the form of ernments. Within cities, government-led involuntary transactions for agricultural and allocation and land management have led to nonagriculture purposes, compulsory tak- underutilization of land and a bias toward ings, and uncertainty over whether farmland industrial land at the expense of residential rights can be extended upon expiration of the and commercial land. second 30-year term. Under China’s Property Reforms should aim for a more modern Law, farmland rights may be extended when approach to land management in both rural they expire. But this extension provision is and urban areas. The priorities for achiev- weaker than the parallel provision on urban ing this are clarifying, titling, and registering land, which allows the automatic renewal rural land rights; introducing new arrange- upon expiration of the current term. The dif- ments for the transfer of collective land for ferent treatment of the length of tenure rights OVERVIEW 39 for rural and urban land confl icts with the system of registering all land plots of a house- effort to improve the long-term tenure secu- hold on one single document toward a system rity in rural areas. where individual plots are registered sepa- The 3rd Plenary Session of the 17th Cen- rately. A registration and documentation sys- tral Committee (2008) stated that rights to tem based on land parcels would simplify and farmland should be for “long term without facilitate future land transfers. Legal reform change.” The 3rd Plenary Session of the 18th should also explicitly require registering both Central Committee (2013) reiterated and husband and wife as household representa- confi rmed the policy direction of strength- tives to improve gender equity in future land ening farmers’ property rights to land. The registration. “long term without change” would have to Reform of collective ownership of collec- be defi ned and clarified in the law through tive assets needs to complement the reform revisions to the Land Management Law, of property rights to farmland. Collective Property Law, and Rural Land Contract- ownership has become ambiguous since the ing Law. Equally important is to specify the introduction of the Household Responsibil- nature of the contractual rights to farmland, ity System in 1978 and subsequent policy including defining the right to occupy, profit, changes strengthening household land rights. transfer, mortgage, and bequeath the land. Collective ownership is often incorrectly per- Finally, explicit provision should prevent the ceived as ownership by the collective admin- reallocations of farmland within the tenure istrative entity. The Property Law has sought period through the collective entity. to clarify this relationship and authorizes the Property rights of farmers need to be bet- collective administrative entity, such as the ter documented through enforcement of writ- administrative village, natural village, or vil- ten land leases, establishment of a register of lager group, to exercise ownership rights on land titles, and a system for recording land behalf of the collective members. Neverthe- transactions. This documentation would less, collective entities retain control over enable enforcement of use and contract farmland contracting, exercise power to take rights, help to resolve land-related disputes, a farmer’s land, and often manage collective and identify those whose lands are affected assets, including land and nonland assets, to by land requisition. In addition, a reliable generate profit for the collective entity rather and complete inventory of land parcels would than for collective members. provide a foundation for monitoring land Legal reform should clarify that all collec- tenure security, land use planning, land allo- tive assets belong to the members of the col- cation and conversion, taxation, and land lective business organization and not to the market development. After several years of collective administrative entity itself. Where piloting various approaches in some locali- collective property is converted into shares, ties, Document No. 1, 2013, now calls for a those shares should be distributed to the program to document and register farmers’ members. Reforms should further seek to land rights throughout the country. reduce intervention by the collective admin- A land registration system based on uni- istrative entity in the operation of collective fied rules, standards, and procedures in the business organizations and to strengthen land rights registration process should be transparency in the distribution of profits developed over time. Along with the estab- made by the collective business organization. lishment of the land registry, unified land Membership and qualifications for becom- classification standards need to be developed ing a collective member, and procedures for and applied to all types of land. Following terminating collective membership, need to international best practice, the currently scat- be further clarified in the law. Because the tered administrative responsibilities for rights legal criteria under which a person becomes and property registration for different types a member of the collective are unclear, of land should be consolidated into one. approval or disapproval of a membership Additional considerations should be given to application is currently subject to the collec- how to move from the current cumbersome tive’s discretion. One approach to clarifying 40 URBAN CHINA collective membership and to protect owner- Land for public infrastructure develop- ship rights of collective members would be to ment and social purposes could still be define a cutoff date after which a rural citizen acquired through expropriation, but con- moving into a community is no longer eligi- trols need to be put in place to ensure that ble to become a collective member or owner the land acquired is not used for commercial of collective assets. Such arrangements would purposes, and that the scale is much less than prevent the dilution of collective assets under in the past. Complementary reform is needed conditions of demographic change. to fine-tune the political incentives at the The member rights associated with col- local government level to decouple perfor- lective property should also be clarified. mance evaluation and economic growth. For Rights to collective assets include the rights example, a current mayor would face fewer to occupy, use, profit, transfer, mortgage, incentives to convert excess quantities of land guarantee, and bequeath. The transfer (sale) and promote investment if revenue gener- of shares to collective property would allow ated from such land conversion could only be members to leave the collective permanently. invested several years later. Clarification of issues around the inheritance Compensation for rural land conversion of shares to collective assets is also needed. for commercial (nonpublic interest) pur- In some localities, women who marry into poses should be increased up to the amount households, and children born after 1978, of the commercial value of the land, with cannot inherit shares, and therefore can- deductions for the costs incurred by local not receive dividends when the sharehold- governments for preparing the land for non- ing member of the household dies. This issue agricultural use. Under the current regime, may become increasingly critical as share- compensation packages are capped at 30 holding members pass away or move their times the land’s average annual agricultural residential registration outside the collective. output value. This maximum is often insuf- Their shares would eventually go back to the ficient for expropriated farmers to sustain collective instead of being retained within the their livelihoods. Here again, the reform of household. the rural expropriation regime could follow the principles of the Urban Takings Regula- tion (and rules applied in several provinces). Reforming the rural land The protection of farmers’ procedural expropriation system rights during land expropriation should be embodied in the law. China’s procedural laws Legally defi ned limits need to be placed on for rural land expropriation are inadequate, rural land taking by local governments for but central policies on improving farmers’ public purposes. Defi ning “public interest” procedural rights and the Urban Takings Reg- for which the state can exercise its eminent ulation provide guidance for developing rel- domain power is a decision about balanc- evant provisions on procedural rights, includ- ing the legitimate but often competing policy ing the right to notice, right to participation, goals and interests of various stakeholders. and right to appeal. Clear provisions for pub- The reform of the rural land expropriation lic hearings on land taking would increase regime should follow the precedent of the transparency and limit the scope for abuse. Urban Takings Regulation of 2011, which The government may consider introduc- defi nes public interest by listing all foresee- ing the experiences from Taiwan, China, able categories of public interest. For rural where local governments have the option land, defining public interest using the same to rezone rural land for urban develop- procedure would remove the current legal ment and can allow commercial developers dualism and inconsistency that weaken the to conduct land transactions directly with rights of China’s rural citizens. A meaningful rural property rights holders while ensuring defi nition of public interest, both for urban urban land supply and financial balances. and for rural takings, should be included in Transactions are subject to the provision of the revised Land Management Law. urban master plans and include transparent OVERVIEW 41 public consultation. This practice has been or industrial development. Furthermore, the instrumental in limiting excesses in develop- rights to rural homestead land are limited: ment, while maintaining support from farm- with strong emphasis on collective member- ers who enjoy large increases in the value of ship, farmers only have the right to occupy their converted land (box O.4). International and use land, but not the right to profit from experience with land value capture could it. In reality, large amounts of collective con- also inform this policy reform (see chapter struction land have also entered the urban 8, “Reforming Urban Finance”). This model market illegally, particularly in China’s may provide an applicable approach to bal- eastern coastal areas and large cities. Land ance the property interests of collectives and market development and deepening in both farmers in peri-urban areas with the need for urban and rural areas and the integration the government to provide and fi nance pub- of rural and urban construction land mar- lic infrastructure. A new zone-taking law kets will be essential to ensure land avail- could permit urban development of a com- ability for urbanization, facilitate integrated mercial nature, whereby farmers affected by rural and urban development, and gradually the change in land use benefit in two ways: replace current practices of government-led (1) they receive part of the now urban land land requisition and conversion toward more and can benefit from its development; and efficient market-based allocation of land. (2) they would be protected by stronger legal There is growing consensus that collective and procedural safeguards in expropriation. rural construction land should be allowed to enter the urban market directly. Many locali- ties, including Anhui, Chengdu, Chongqing, Developing rural construction Guangdong, Jiangsu, and Zhejiang, have land markets already experimented with innovative mea- sures to let collective construction land be Alternatives to the currently dominant leased, transferred, or mortgaged. Because method of land conversion by local govern- of current legal prohibitions, however, collec- ments are needed. A more market-driven tive construction land cannot enter the urban approach to land conversion has several land market formally, and such efforts remain advantages, including a more efficient alloca- at the level of piloting and experimenting. tion of resources and reduced social tensions. Building on the experiments, China could Following strict government regulations, consider revisions to the Land Management wasteful conversion of land would be avoided Law and Property Rights Law to clarify the because conversion would take place only equal market entry of collective and state con- if a private developer considers conversion struction land. Eventually, regulations should a profitable venture and the collective sees clarify which land will be allowed to enter benefits in the transaction. The purchase and into the urban construction land market, in development would take place at a time and what ways, and how benefits could be shared. at a price supported by the market. Further- Collective construction land that has already more, social tensions and conflict with local entered the urban market in the past should government would be minimized, because be classified, integrated into urban master the government would not be a party to the plans, and managed according to the law. transaction, and the price would be set by Rights to homestead land need to be the market. The market price would likely strengthened and clarified. Homestead land is also be higher than the compensation usually unique in China’s rural land property rights offered in government-led conversions. system. According to the law, only collective In line with plans and regulations of land members are entitled to homestead land with use, collective organizations can use land one plot per household. The law does not for collective nonagricultural industrial and allow transferring or leasing of rural residen- commercial activities, but under the current tial land. In reality, homestead land has been law, they cannot lease collective construction leased and transferred in many regions, and land to noncollective entities for commercial reforms need to take into account the law 42 URBAN CHINA BOX O.4 Expropriations in Taiwan, China In 1953, the Land to the Tiller Act abolished the ten- being entitled to higher compensation and better pro- ancy system in Taiwan, China, through compulsory cedural safeguards than at present. Landowners can local authorities’ purchase of land from landlords claim a monetary compensation based on the market and resale to the tenants. By 1956, the total area of value of the land’s agricultural use or, alternatively, owner-operator farming had increased from less than take back 40–50 percent of the expropriated land as 50 percent of total farmland in 1948 to over 85 per- offset land. Such offset land is the previous farmland cent. The government protected private tenure follow- that has been converted into higher value urban con- ing the land reform, through legal protection, a broad struction land. The landowner may also select a com- publicity campaign to improve farmers’ awareness of pensation scheme in which one part of the compensa- laws and government policies, and a government-led tion is paid in cash and one part with offset land. annual survey to closely monitor the implementation Procedurally, the local authority is required to of the land reform program. In the subsequent process purchase land from landowners through negotiation of urbanization, authorities took measures to control before launching a zone-taking procedure. If negotia- the use of land for urban purposes and facilitate non- tions fail, the local authority may resort to zone tak- farm development by farmers themselves. ing. Prior to taking, the local authority must conduct Taiwan, China, takes a listing approach to defi ne public hearings to explain compensation modalities to the circumstances under which private land can be the affected landowners. Where landowners choose expropriated. “General taking” refers to the expro- compensation in the form of offset land, these own- priation for public interest. “Zone taking” refers to ers have fi rst choice on the location of the offset land the expropriation and conversion of private farm- within a designated construction area. Landowners land to nonfarm use for the development of new are also given the opportunity to negotiate the exact urban areas; renovation of old urban areas; conver- compensation ratio (between 40 and 50 percent) to be sion of farmland in planned urban zones into con- applied. struction land or conversion of industrial areas into Under zone taking, the local authority is required residential and commercial areas; development of to set aside a portion of the expropriated land for pub- nonurban land; rural development for improving lic facilities such as schools, roads, and public utility rural public facilities and public health; and other facilities. Although there is no legal requirement with uses in accordance with relevant laws. General and respect to the ratio of such public facility land, in prac- zone takings are subject to different procedural and tice, 40–50 percent is for public use. After deducting compensation laws. 40–50 percent of land as offset land, 40–50 percent For general taking, until recently, the compensation as public use land, the local authority receives 10–20 standard was the tax assessment value of the agricul- percent of the expropriated land for sale to developers. tural land. Each year, the local land administration To prevent irrational urbanization, the law requires bureaus publish assessed values for farmland. This that new public facilities be fi nanced through the sale standard was replaced recently with a market value of the land acquired through zone taking and pro- standard based on recent comparable agricultural hibits the use of other local revenues to fi nance such land market transactions. The taking procedures are development. The local authority therefore needs to relatively simple and include a public hearing, public rely on the proceeds from selling the 10–20 percent announcement of the taking decision for 30 days, writ- share of taken land to fi nance the construction of all ten notification to the affected landowner, a 30-day fil- public facilities within the zone. Expropriated land is ing period with the local land administration in case of fi rst converted and registered as state owned upon the dispute over compensation, appeal of the local decision completion of zone taking. After offset land selection, to a land price review committee, and filing adminis- such offset land will be reregistered as privately owned trative litigation with a court. land. The remaining construction land sold to devel- Zone taking, in contrast, represents the de facto opers will also be registered as the developer-owned permission of the local authorities to take private land. In the end, only the land used for public facilities property for commercial purposes with landowners remains state owned. Source: DRC and World Bank staff research. OVERVIEW 43 and the reality. Enhancing de-facto property land supply for urban development. Inte- rights to rural homestead land is important gration would also provide opportunities for promoting rural-urban factor mobility for boosting the availability of low-income and construction land market integration. housing and for allowing collective organiza- Farmers’ usufruct property rights to home- tions and rural residents in peri-urban areas stead land are defined under the law, but their to economically benefit from urbanization, entitlements are confined only to the “right to as construction land markets are allowed to occupy” and the “right to use.” The “right to develop based on stronger land rights. As dis- profit” is not defined. As part of the reform, cussed, revisions of the Land Management the defi nition of usufruct property rights to Law and other laws are needed, along with homestead land should be harmonized with the formulation of implementation guidelines the general usufruct property rights—that is, to allow rural collective organizations in peri- to extend it to the right to profit. At the same urban areas to develop collective construc- time, given the accelerated urbanization of the tion land to developers for urban commer- people, especially the conversion of farmers to cial and residential development within the urban residents, the membership identities of framework of urban master plans. Through homestead land and the nontradable nature appropriate zoning, local governments could of such land have made effective land use provide incentives to build low-income hous- more difficult, and farmers find it impossible ing in those areas while avoiding resettlement to realize the value of their homestead proper- and demolition costs under government land ties. Government could select different types taking, since collective construction land of regions to conduct reform pilots on the remains under collective ownership. homestead land system, to explore fee-based access to and use of homestead land as well as the trading and transfer of homestead land, Optimizing urban land use and break down the boundaries of homestead China would benefit from replacing its cur- land members and village communities. The rent standards-driven urban planning sys- goal is to gradually move toward a system tem with a more dynamic system that would of property rights entitlements in return for facilitate efficient land use and better coor- the right to benefits payout. Land use regu- dination between planning and finance. lation must be strengthened under such pilot Based on good international practice, programs. In addition, as the mortgage, guar- the system would incorporate the follow- antee, and transfer of farmers’ homes and ing: strategic and long-term economic plan- homestead land are important components of ning; coordination of sectoral plans and farmers’ property rights to homestead land, fi nance; consideration of the impact of pro- a number of pilot regions should experiment posed developments on key urban systems with the mortgage, guarantee, and transfer of such as transportation, environment, public farmers’ homes and their use/rights to home- services; enhanced public and private par- stead land, and to roll out such reforms when ticipation; and performance monitoring. conditions are in place. Such an approach University urban planning schools, the urban could help harmonize farmers’ home prop- planning profession, as well as key ministries erty rights with urban rights to residential would need to adopt the new system. Urban property. The inequality of these rights is a planning competitions could lead to more major contributor to China’s rural and urban innovative plans that identify efficient land income disparities. use patterns. Land use in cities needs to become mar- ket based. The current bias toward indus- Innovation in land institutions in trial land and the subsidization of industrial peri-urban areas land to attract industry risks locking China into its industrial past, creates barriers for Integrating urban villages into the formal the development of the services industry, and urban development process could increase keeps housing prices high. Furthermore, local 44 URBAN CHINA government could reclaim land allocated to existing plots based on market demands and public entities, which covers large areas within priorities, creating incentives for development cities, such as public spaces, and is often used within existing built-up areas instead of the inefficiently, and put part of that land into urban periphery. Moreover, the planning the market. How the value increases on such system can be reformed to allow developers land should be clarified. Urban land zoning to subdivide superblocks and sell individual that is sensitive to demand and allocation of plots, with specific FARs and zoning regula- all land use titles by auction would in many tions, to third parties. This type of transac- cities lead to less land used for industry and tion, driven by rising land prices, is funda- more for commerce and housing. With ris- mental to incremental densification. ing land prices resulting from market-based Smaller plots and mixed land use can allocation, land-intensive industry would be encouraged in new developments. Chi- move to secondary cities and rural areas, and nese cities should move from superblocks to redeveloped industrial land could be rezoned smaller plots with fi ner grain connectivity. for mixed use. With the expiration of the Typical urban blocks in developed countries fi rst 40-year lease terms for industrial land, measure 150 meters by 150 meters and have China’s local governments have an oppor- several plots; China, however uses a much tunity to recycle inefficiently used industrial larger scale (box O.6). Reducing the size land. This land can be rezoned and rehabili- of blocks would help create more vibrant tated and be made available for competitive urban land markets and favor competition auctioning for other than industrial purposes, from smaller developers. Smaller blocks are thus meeting the needs for industrial upgrad- also essential to integrate neighborhoods for ing and shifting land from industry to ser- higher agglomeration economies and pro- vices and residential use. mote infill development. Reforms in the urban land market also Land use optimization and intensification should introduce transparency in the sec- is required at the building, neighborhood, ondary land market transactions. In urban and metropolitan scales. At the building and areas, the government monopolizes the pri- block scale, traditional medium-height (five mary land market, whereas the market for to seven floors) perimeter blocks of about follow-on transactions (that is, the second- 100 meters a side offer the highest potential ary market) remains underdeveloped and for densification, with gross FAR (including opaque. Local governments generally lack infrastructure) usually three times higher the means to monitor transactions on the sec- than towers-in-a-park superblocks of 400 ondary land market. In particular, when land meters a side. At the neighborhood scale, is converted for purposes with a higher value, the density of urban fabric can be balanced the government would fail in most cases to by a fine mesh of streets irrigating the urban benefit or capture the value from related land fabric and by a dense distribution of public transactions. Regulations should require reg- parks and amenities. At the metropolitan istration of all urban land transactions with scale, planners need to identify the areas local land registries. More complete registra- where infill would increase the compactness tion would allow local governments to collect and decrease the fragmentation of the urban fees from transactions and to capture a share area. Moreover, planners can give an efficient of the value increase in urban land. shape to metropolitan growth by concentrat- Flexible zoning regulations would encour- ing densification actions along transportation age more efficient development of urban areas corridors and discouraging leapfrog and edge and reduce the need for further land con- sprawl (box O.7). version (World Bank 2008) (box O.5). The A property tax would help optimize land floor area ratio (FAR), a measure of building use. In supporting report 6, a property tax is density, would be better applied at the indi- proposed as part of the fiscal reform agenda vidual building plot rather than the super- to realign local government revenues with block level, and a more streamlined process expenditures. An additional benefit of a prop- can be developed to allow for densification of erty tax would be the creation of incentives OVERVIEW 45 BOX O.5 Seoul becomes a global city by recalibrating regulations and market instruments Home to more than 10 million people, producing ous classes of activities, and require national govern- one-quarter of national GDP on 1 percent of its land ment approval for land development projects exceeding area, Seoul is the Republic of Korea’s interlocutor 1 million square meters. In the 1970s, a greenbelt strat- with the global economy. The surrounding Seoul egy was employed to constrain Seoul’s growth, while 14 Metropolitan Area (SMA), consisting of 29 cities cities were to be promoted across the country. (including Seoul and Incheon) and four counties, These controls were not successful. Investors and contains half the nation’s population and dominates citizens led a rapid succession of new projects, includ- the national economy, generating around half the ing residential complexes, metropolitan highways, new national GDP on 12 percent of the country’s area. towns, and a new international hub airport—bypass- Over the past 70 years, however, a tension has ing the objective of limiting growth. Moreover, the arisen over how best to manage the SMA. Some, controls hurt efficiency: over 200,000 factories in the concerned that rapid SMA growth would lead to SMA were unregistered, contributing to unmanaged regional imbalances, argued that growth should be urban development. And urban growth became frag- constrained with strict regulation. Others called for mented, exacerbating congestion and environmental free-market initiatives to promote further develop- degradation. ment, allowing the country’s strongest economic As Korea sought to position Seoul as a 21st-century base to flourish. world city, the government relaxed quantity limits that In time, even the strongest regulations enacted to restricted the location of new colleges, fi rms, indus- contain Seoul’s growth have lost ground to local and trial estates, and housing sites. It adopted price instru- global market forces. Quantitative measures included ments, levying a development charge on new com- regulations to restrict development in certain areas, mercial buildings. By recalibrating city management impose fines on buildings exceeding allowable param- through deregulation and market instruments, Korea eters, limit allocations of land to industry, limit the is making Seoul’s quest to become a global city more industrial output allowed in the SMA, prohibit vari- likely to succeed. Source: Urbanization study team. BOX O.6 The lack of connectivity and fine grain networks in Chinese urban development The following pictures illustrate the size of blocks the right show the lack of connectivity and the increase and impacts on connectivity of a series of cities in of average distances between intersections in recent China, Europe, and Japan. The last two images on urban developments in China. Ginza Pudong Towers Turin, Barcelona, Paris, Tokyo, Shanghai, North Beijing, Italy Space France Japan China China Intersections per km² 152 103 133 211 17 14 Distance between intersections (m) 80 130 150 43 280 400 Source: Salat 2013. 46 URBAN CHINA BOX O.7 Comparing urban densities in two areas of Shanghai Pudong is often considered a model of high-density is lower than in Puxi because of the large infrastruc- urban development. The two figures below com- ture (highways and parking space) and setbacks asso- pare two districts—Pudong and Puxi—located on ciated with large-scale buildings. The coverage ratio the opposite side of the Huangpu River. Despite the is only about 14 percent, and gross urban density is higher buildings in Pudong, the gross urban density only 1.2. 800m × 800m squares HongKou—Puxi Lujiazui—Pudong Low-rise housing, Towers, Building type Shanghai Shanghai Coverage ratio 53% 14% Gross urban density 1.9 1.2 Source: Salat 2013. for developing underdeveloped and vacant benefits from density are not overshadowed land and for increasing land transactions. In by congestion, environmental, or other costs. some countries, cities have opted for a split- China has a unique historic opportunity to rate property tax to provide the incentive of apply Transit Oriented Development (TOD) lower taxes for capital investment in building and to optimize and intensify land use on a improvements, and tax away the speculative large scale along major urban transport cor- value of holding undeveloped property within ridors. The urban rail network will reach the urban growth area, thus promoting infill 3,000 kilometers by 2015 and double that by and redevelopment. Experience in several 2020, with over RMB 4 trillion in cumulative communities in Pennsylvania indicates that investment. The high speed and express rail a split-rate property tax can be an effective network is also expected to reach all major tool to stimulate central city revitalization. cities of more than 500,000 people by 2020. This form of tax also is implemented in Hong Development can be focused along urban Kong SAR, China; Pittsburgh, United States; transport corridors. Along with public tran- Sydney Australia, as well as cities in Den- sit improvements, certain corridors could be mark and Finland. assigned higher development intensities, and local governments could channel land con- version quotas to these areas by allowing Coordinating land use planning the transfer of land conversion quotas from with housing, infrastructure, and slower-growing areas outside the corridors. financing To foster more coordinated development around transport nodes, changes in zone It is critical that land use be coordinated with ordinances should be simplified, allowing infrastructure provision that meets current higher FARs, population density, and build- needs as well as projected future demand. ing heights around transit stations and spe- Higher densities in cities can drive economic cially designated boulevards and plots (box growth, but they also require additional O.8). Land use regulations can encourage a infrastructure investments to ensure that the mix of residential, commercial, and special OVERVIEW 47 BOX O.8 Seoul’s spatial strategy: Differentiation and higher densities around metro nodes Seoul’s spatial structure is compact (expansion is Ⅲ FAR of 10 in part of the CBD, 8 in the rest of the restricted by hills and by the northern border) and CBD and subcenters polycentric, with a large central business district (CBD) Ⅲ FAR of 0.5 to 4 in residential areas but many important subcenters. A gridlike metro sys- Ⅲ FARs are higher in areas around main metro nodes tem links the various subcenters and the CBD. The floor area ratio (FAR) in Seoul is linked to the location of metro stations and to the network of main streets: Source: Bertaud 2004. industrial uses (media and entertainment) Once revitalized, however, these urban cores and confer the right to adapt and reuse com- become self-sustaining because they attract mercial buildings as housing, especially in additional investments for a considerably lon- boulevard and transit station areas. Govern- ger period of time. ment could provide developers with “addi- Incentives can be provided to ensure that tional” FARs to build affordable rental hous- needed housing is constructed at affordable ing and to keep unit prices manageable and prices. Zoning policies could require or cre- accessible to low-income households. Innova- ate incentives for developers to include low- tive land-value-capture mechanisms should income housing in new large-scale housing be introduced to support the construction and mixed-use developments. The share and operation of the necessary transport and of low-income housing is usually around other urban infrastructure. 10–20 percent of the housing stock in OECD Existing urban areas can be regenerated countries. Developers and property owners to provide affordable housing and minimize could be allowed to increase densities and low-density development and sprawl. Inter- use additional FARs to provide low-income national experience suggests that suburban and affordable housing. In addition, the development generates economic benefits government could provide special subsidies that peak in five to seven years. Regenera- for the construction of affordable housing tion of urban cores to provide affordable units. Several countries have used “inclusion- housing in established cities requires higher ary” or “incentive” zoning successfully; for up-front costs because of the more complex example, Fairfax County, Virginia, United civil works, upgrading of public spaces, and States, approved a plan to rezone an area improvement of existing services required. around a subway station to increase density 48 URBAN CHINA substantially, and it required the developer Integrating urban village land into urban to devote at least 5 percent of the develop- development could boost the availability of ment to affordable housing. Affordable hous- low-income housing. As the property rights ing can be built on vacant, abandoned, and on rural land are further clarified, an oppor- underdeveloped government land, including tunity may emerge for rural collectives in parking lots around public buildings; low peri-urban areas to develop or lease collective density structures in areas zoned for high- construction land for commercial and resi- density development; and land around rail- dential development within the framework roads, airports, and oversized roads. The of urban master plans. Such an approach, rehabilitation of existing and older buildings based on ongoing experiments, would allow to minimum safety standards could also pro- collectives and their members with no farm vide reasonable and affordable housing for income to receive income from urban land low-income people. development. OVERVIEW 49 Chapter 7 Reforming Hukou, Social Services, and Labor Market Institutions China’s urbanization faces two inequalities: Reforming hukou a “new dualism” between local hukou and migrant populations, and the “old dualism” To create a mobile and versatile labor force of urban and rural disparities. China can with equal access to a common standard of build a more inclusive and productive labor public services, the household registration market, one that would help to increase the system would need to move from an ori- gin-based to a residence-based system. The efficiency of urbanization and overcome both hukou system and residency system can oper- the new and old dualisms, by reforming the ate in parallel, as similar systems do in Japan hukou system to reduce the barriers to mobil- (see box O.3). A residency registration would ity. More migration will reduce the labor sur- provide access to location-specific services plus in the countryside more rapidly, which such as education, health care, welfare, and would increase rural wages relative to urban affordable housing, whereas hukou could be wages, thus reducing urban-rural inequali- maintained to provide rights such as access ties. Better integration of migrants into urban to land profits. As land reforms and pension areas will offer them access to better jobs and reforms progress, the rights derived from more opportunity to acquire property and hukou could be adjusted. In March 2011, the thus to benefit from capital gains. Equalizing State Council called for a gradual rollout of access to social services between migrants the residence permit system and requested and local hukou holders in urban areas and, that institutions take steps to improve regis- over time, across China will contribute to a tration of temporary populations in the cities. more inclusive society. The central government would defi ne the Equalizing access to basic social services in principles and national framework for the urban areas requires the reform of the hukou residence-based system and provide guide- system. Making social entitlements available lines for local governments to follow, includ- to all workers and their families in their areas ing the system by which local governments of residence would deepen the human capi- would grant residency to people who live in tal base and promote a healthier workforce. a specific locality and the sequence of entitle- It would improve intergenerational income ments that accrue upon attaining a residence mobility, reduce future inequalities, and alle- permit. In the short to medium term, it may viate social tensions. not be practical to expect common eligibil- The full benefits of a residence-based ity criteria (such as the number of years of system will be realized at the national level residence or of social insurance contribu- and therefore a national, unified approach is tions), but the central government should set needed. The fi scal system should allow for minimum guidelines for local governments to the financing of a basic package of social ben- follow and create a time-bound pathway for efits across China while providing incentives extending access privileges. for local governments to top up the package Local governments can define the sequenc- for all residents, if possible, and holding local ing of access to privileges and the qualify- authorities accountable for providing services ing periods to move from one step of the to all residents. The fiscal implications of the entitlement sequence to the next. Already, basic package are likely to be significant, but many localities have implemented local- reforms in health, education, social protec- ized residence permit systems with different tion, and social housing, and cross-cutting approaches and requirements, from more lib- reforms in accountability for service delivery, eral ones in small cities, to strict point-based could contain costs and increase efficiency. systems in Guangdong and Shanghai. In the 50 URBAN CHINA initial phases, it is unlikely that all social nine years of free compulsory education, entitlements of current local residents could access to basic public health care services, accrue to new residents immediately upon social security (medical and old-age pen- obtaining a residence permit, but for the very sions) for formal sector workers and resi- fundamental rights, requirements should dents, a social assistance program, and a be very simple and low. Cities should seek welfare housing system. Extending access to reduce the current prioritization of those to this package for migrants under the cur- with higher socioeconomic status. With time, rent modality of service delivery will require the scope and content of basic public services additional annual resources in urban areas of would have to be standardized based on between 1.22 percent (lower bound) and 4.53 national guidelines, and the conditions and percent (upper bound) of GDP. The main fac- requirements to obtain a local residence per- tors determining the costs are assumptions on mit would converge. Such convergence would how many migrant children would join the be supported by broader reforms in the fiscal urban system and what part of the pension and taxation systems, equalization of public costs are covered. The lower bound covers all services, and rural-urban integration. migrants and children currently in cities and An information technology platform the cash costs of integrating migrants in the developed according to national standards urban pension system. The upper bound cov- would facilitate implementation of the resi- ers all left-behind children and total accrued dence system and will be particularly impor- costs for the urban pension system. A reason- tant for the exchange of population data able assumption would be that the lower- across jurisdictions. The platform would bound costs would be covered by a special provide quantitative information for making grant from central government, whereas the fiscal allocations, as well as supply data for costs beyond that would have to be absorbed monitoring and evaluation. by reallocation of resources through changes Additional fiscal resources and a rebal- in the intergovernmental fiscal system. ancing of central and local financing respon- The current policy on migrant children’s sibilities will be needed. Cities need to right to universal compulsory education is be subsidized for the increased costs of pro- already residence based, and migrant chil- viding services to migrants through reallo- dren attend public and private (minban) cation of provincial resources from rural schools. Equalization options could include areas. Because this reallocation is likely to be sending migrant children in public schools to achieved only gradually, a transitional sub- private schools with a public subsidy to cover sidy to cities to entice them to deliver social their fees. The annual cost is in the vicinity services would accelerate the integration of of 0.98 percent of GDP (for the migrant chil- migrants. In the medium term, fiscal system dren currently in the cities) and 2.27 percent reforms of both revenue and expenditure of GDP (for all migrant children, including are needed to finance national minimum the left-behind children). standards for social services across China, Equalizing access to health services for which should be carefully calibrated to fit fis- migrants in the cities requires improving cal capacity and would need to be phased in. access to public health programs and basic Local authorities could provide a top-up for medical care, as well as expanding the urban all residents in their jurisdiction if desired, and health insurance scheme through conversion the private sector could also help create fiscal of migrants’ current eligibility in the voluntary space through high-end medical services, pri- and subsidized national rural scheme. The vate third-pillar pensions, and private schools. annual total cost would be about 0.15–0.16 percent of GDP, depending on the assumption about the cost increase. Extending access to basic Rural migrants could be incorporated into services to migrants within cities either the current urban worker pension sys- tem or the newly combined urban and rural The current package of social services pro- residents’ pension scheme. The annual total vided to China’s urban residents includes cost is in the vicinity of 0.03 percent of GDP OVERVIEW 51 (accounting for the cash flow cost) and 1.95 of qualified teachers in each school, and percent of GDP (accounting for the accrued other inputs. The fi scal system would have liability cost). to accommodate minimum standards, which Migrant workers and their families should would require careful calibration so that be eligible for social assistance (dibao) pay- China can afford them. It would also require ments after they acquire residency rights and a system of fiscal equalization that takes into meet qualifying conditions. Currently, more account a locality’s own revenue potential than 70 percent of urban and rural dibao as well as expenditure needs based on the aggregate expenditures are financed by the requirements for meeting the minimum stan- central government, providing a financial basis dards (see chapter 8). Accountability systems for improved access to urban dibao and other should be in place to enforce these standards, assistance programs for migrants. Assuming and to achieve this, China could use three the incidence of dibao receipt among migrants broad channels: government, citizen-based, is similar to that of urban hukou residents, the and choice-based systems. annual cost of covering these additional fami- Fiscal resources should follow people. The lies is about 0.04 percent of GDP. fiscal system should be closely linked to the A policy that encourages a rental market new modern residence system—once people for low-income housing would give migrants have moved to a new location, registration access to affordable housing. Homeowner- would increase the population count used for ship is not fiscally possible, but neither is it fiscal allocations. Such a link would reduce economically desirable because renters, being the resistance of receiving cities to delivering more mobile, contribute to the efficiency of the services to new arrivals: in addition to a gain labor market. Research has shown that econ- in the tax base, they would also receive larger omies with small rental sectors face higher transfers from the center to accommodate migration costs and labor rigidity. Demand- the delivery of the basic package. Beyond side subsidies based on a means-tested target- the basic package, provinces, cities, or towns ing approach would address the housing needs may raise the standard for their jurisdiction, of the lowest-income households. The annual but they would be responsible for provid- total cost is around 0.02–0.11 percent of GDP, ing additional funding. Cities could decide depending on eligibility assumptions. to raise the standard because they are more affluent, because their residents demand dif- ferent or better services and are willing to pay Equalizing access to services higher taxes, or because they wish to attract across China new residents. Experiments will reveal best practices, especially combined with the pos- In China, services are easier to access and are sibility for easier migration following hukou of better quality in urban areas than in rural reform. Cities will have to seek an affordable areas. Recognizing the importance of improv- balance that satisfies their residents and the ing services in rural areas, the national gov- needs of their local economy. ernment needs to establish a basic minimum The urban health delivery system would package of services that would be offered to need to be strengthened to cope with the all citizens, with the fiscal system enabling expected increase in demand. This could be every jurisdiction to meet this standard. This achieved by improving primary health ser- minimum standard of service would also vices and coordination among health provid- reduce the incentive to migrate for the pur- ers; integrating and ensuring portability of pose of receiving better services rather than health insurance to allow citizens to choose for better employment. This basic package the best treatment; strengthening health should be complemented by clear quality promotion and illness prevention in urban standards for various services (national or settings; and implementing effective cost provincial), which should focus on outcomes containment and quality improvement mea- (such as graduation rates and test scores in sures. Provider payment reform, an effective basic education), but which could also spec- cost containment measure and one impor- ify per student public expenditure, percent tant element of this reform, should replace 52 URBAN CHINA the dominant fee-for-service payment system national data management system underpin- with a combination of capitation-based and ning the nationally pooled and integrated diagnosis-related group-based system, which system. Finally, gradual reforms in retirement internationally has a proven track record for age and rules for raising pensions in compen- containing the costs of inpatient care. sation for price and welfare increases (index- Narrowing the disparities in the quality ation) would ensure the adequacy of pension of basic education and expanding access to benefits and the sustainability of the pension senior secondary and early childhood edu- system over time. cation will be needed. Reform in fi nancing Reforming dibao and other social assis- would facilitate minimum standard setting tance programs requires consolidation, stan- for every level of education and ensure cen- dardization across space, and harmonization tral transfers for equal access to and the qual- with antipoverty interventions in poor coun- ity of education for poor rural localities and ties and other social programs. Currently, disadvantaged children. Demand-side mecha- dibao thresholds vary across China, reflecting nisms that stimulate competition and allow its highly decentralized implementation. Most higher levels of private provision can satisfy high- and middle-income countries apply a the selective needs of some parents. Teachers’ unified formula for determining eligibility for incentives need to be realigned to improve the national welfare programs, while maintain- quality of instruction and strengthen school ing some flexibility, including regional cost- management to meet the needs of migrant of-living adjustments. China could gradually students and parents, as well as the larger move toward a more systematic approach in community whose children already attend determining eligibility thresholds from county public schools. Peer tutoring programs, com- (city) to prefecture, from prefecture to prov- puter-assisted learning tutoring programs, ince, and finally to a nationwide setting. after-school support, tuition, and resource Increased service delivery sophistica- personnel targeted at migrant students and tion and ambitious equalization goals call their families will further support the integra- for greater accountability for outcomes, tion of migrant children. cost-effectiveness, and transparency. Given Pension reforms are required to facilitate the scale of China’s challenge to increase labor mobility, narrow gaps in pension ben- accountability for better results in service efits, and cope with population aging. In delivery, it will be important to make prog- the short run, national guidelines could ease ress through three broad channels: govern- the transfer of pension rights and benefits ment, citizen-based, and choice or market- between schemes and locations. In the long based. Compared to most countries, China run, the urban worker pension scheme could has traditionally relied less on citizen and be reformed through the introduction of a choice or market-based accountability chan- notional defi ned-contribution design while nels in the social sectors. Even within govern- developing a financing strategy to resolve ment, mechanisms with significant potential the legacy cost outside the reformed pension for increasing accountability are underused. system. These reforms would lower the exist- Government systems can promote better per- ing high contribution rates, provide stronger formance from service providers by linking incentives for employers and employees to budgetary transfers to the performance of contribute, and realize the objective of a tar- subnational governments. Human resource geted replacement rate. management and compensation systems Migrant workers with labor contracts and facility-based management initiatives can be encouraged to join the reformed could also become more performance-based urban workers’ pension scheme to reduce channels. Regulation, accreditation, and the government subsidies needed for the licensing systems for providers are increas- rural residents’ pension scheme. To phase in ingly important tools and are expected to be reforms, pooling could proceed fi rst at the core elements of the modern and diversi- provincial level and then be expanded to the fied system of social service provision in national level, supported by an integrated China. Citizen-based channels for enhancing OVERVIEW 53 accountability could be strengthened by coordination of the technical and academic providing more public information on ser- education streams would allow students to vice delivery costs and performance (an area move between them with due credit for com- where China already has started program- petencies acquired in either system. specific transparency initiatives, for instance, Strengthening labor market institutions the publication of the dibao list) and harness- that facilitate efficient labor market transac- ing information efforts to generate citizen tions, balance wage and productivity growth, oversight and feedback on service delivery and mediate labor disputes would promote performance. Another channel for citizen mobility. Reorienting the basic function of involvement is more direct incorporation the minimum wage from a minimum-income into management and oversight institutions. guarantee to an instrument of collective bar- Choice and market-based channels to pro- gaining—more common in OECD coun- mote accountability will require greater reli- tries—would be an important step in this ance on demand-side financing of services direction. Further, while income taxes are where appropriate and greater public pur- low for most of the population, by interna- chasing of social services. tional standards, the total burden of taxes and social premiums is higher than in most OECD countries, and well above East Asian Improving labor market regional comparators. Parametric reforms in pension systems (extending the pension institutions age, removing legacy costs from the pension Upgrading human capital of workers through system) offer potential for reduction in pen- on-the-job training and in learning institu- sion premiums, while shifting the burden to tions would increase geographic, occupa- more broad-based revenue sources. Finally, tional, and sectoral mobility and promote with the passage and implementation of the agglomeration effects. Promoting a more Labor Contract Law, employment protection modular and competency-based techni- in China has become higher than the average cal and vocational education and training rate of protection in OECD countries. The system and reforming the tertiary educa- medium- and long-term impacts of enforc- tion system to focus on increasing the labor ing this law should be carefully monitored, so market relevance of higher education would that improvements and amendments can be bring positive returns. In addition, greater made as needed. 54 URBAN CHINA Chapter 8 Reforming Urban Finance The context of the reforms migrants and their families in urban areas. Revenues from land conversion are likely to Urban fi nance reform is the cornerstone for taper off, so new local revenue sources are efficient, inclusive, and sustainable urbaniza- needed to replace lost revenue in a manner tion. Fiscal and financial reforms would need that is neutral to the type of economic activ- to be aligned with the changing role of the ity. Properly regulated access to borrow- state and provide local governments with ing will be needed to fi nance infrastructure incentives to pursue evolving national goals. investment. The financial sector will need China faces the challenging task of eliminat- to efficiently intermediate capital to meet ing disparities in service levels between urban local governments’ needs for infrastructure residents and migrant workers and putting in fi nance, and at the same time impose fi nan- place infrastructure and social services that cial discipline on local governments and avoid can accommodate around 300 million new financial sector disruption. Finally, the private migrants in cities in the next two decades. sector could play a larger role in financing Over time, the fiscal system needs to finance and delivering infrastructure and other public a minimum level of services across the coun- services. try. With reforms, the fiscal benefits from A comprehensive reform—rather than urbanization and the scope for raising addi- piecemeal changes to the system—is called tional revenues will be adequate to accom- for. Under the current financing system, it modate the rising expenditure needs as well is difficult to separate reforms in tax and as a projected decline in revenues from land its administration, intergovernmental fiscal conversion as China’s urbanization becomes arrangements, land finance, urban infrastruc- more efficient. ture fi nancing, and local debt management, Reforms are needed to address underlying and therefore it is necessary to consider how problems rather than to simply fill the financ- the various elements of the reform package fit ing gap for public services and infrastructure together and the joint impact they may have spending. China’s urbanization has revealed on the economy. Some elements of the reform several weaknesses in the fiscal and financial can be accomplished quickly, for example, by systems that have contributed to making Chi- reassigning some expenditure responsibili- nese economic growth less efficient and less ties. Others should be phased—beginning in inclusive, including an overreliance on land provincial cities and moving later to other cit- financing, unregulated borrowing by local ies. Yet others should be implemented in the governments, fiscal distortions that skew the longer run. In this way, the proposed compre- location decisions of enterprises and people, hensive reform package could be introduced and a lack of discipline on local government gradually. spending decisions. Accommodating the changing role of gov- ernment will be the centerpiece of the urban Reforming government sources fi nance reforms. A reformed system should of revenue more clearly separate the function of govern- ment as the provider of equitable and efficient The fiscal system is an important incen- public services from the investment and pro- tive mechanism—and the revenue base and duction functions of other government sec- transfer system should be reformed to pro- tors. The fiscal system will need to support vide local governments with the resources the movement of people and enterprises to the and incentives to provide public services to places where they are most productive rather all residents, while increasingly taking on than to where they get the best tax or land the role as enabler of urban development and deal from local government. Public fi nances growth rather than as active developer of will need to accommodate the integration of land and urban expansion. Local government OVERVIEW 55 incentives to attract investments and retain and Korea publish annual reports on tax enterprises would need to be rebalanced expenditures that reveal such support. The to curtail inefficient tax competition and EU regulates the type of state support that support for unviable enterprises. Reform- a country is allowed to provide enterprises, ing the tax structure and tax-sharing sys- limiting it to those activities that support EU- tem is important in this respect, but so are wide objectives such as regional development rules that would regulate other sources of and research and development (box O.9). support—including cheap land, subsidized A solid revenue base for local governments utilities, and tax reductions. One step could is important for efficiency and account- be to require local governments to publish ability. It is common in unitary states that information on the support they give to subnational governments spend more than enterprises, possibly through an annex in the they raise themselves, not least because annual budget. Countries like Chile, India, some taxes, like the value added tax (VAT), BOX O.9 European Union rules on investment incentives Government fi nancial support for corporate facil- math of the global fi nancial crisis, special temporary ity investment and expansion continues to be com- rules regulated state aid to fi nancial institutions. EU mon practice in most parts of the world. Economic rules apply to a wide range of instruments, includ- development agencies in many parts of North ing grants; low-interest loans or interest rebates; state America and Asia can provide an attractive incen- guarantees; the purchase of a shareholding or an alter- tives package for potential investors. Countries in native provision of capital on favorable terms; exemp- the European Union (EU) are different: European tions or reductions in taxes, social security, or other agencies are constrained in their ability to provide compulsory charges; or the supply of land, goods, or incentives by rules set by the EU’s European Com- services at favorable prices. mission. There are comparatively few tax incentives, The European Commission’s Directorate of Com- because the European Commission considers “fiscal petition Policy sets ceilings called the “maximum aid state aid” to be harmful and therefore prohibits it intensity” for the level of incentives that can be pro- in most cases. Rules on state aid are covered under vided. For regional aid, these ceilings are based on Article 107 of the Treaty on the Functioning of the the average GDP in each region, which means that European Union (TFEU), which lays down a general the less affluent areas of Europe have higher ceilings, rule that the state may not aid or subsidize private unlike the more prosperous parts of Europe where the parties in distortion of free competition, although it ceiling is often zero and no incentives are allowed. may approve exceptions for specific projects address- Subsidies are allowed in regions with an average per ing natural disasters or regional development. capita income less than 75 percent of the EU average. Measures that fall within the defi nition of state Subsidies up to 30 percent aid intensity apply in those aid are unlawful unless provided under an exemp- regions; aid intensity can reach 50 percent in regions tion or notifi ed. State aid is defi ned under Article with per capita income of less than 45 percent of EU 107(1) of the TFEU as the transfer of member state average. The ceilings can also differ based on the size resources that creates a selective advantage for one of the company and the size of the project. The ceil- or more business undertakings; that has the poten- ings are expressed as a percentage of either a project’s tial to distort trade in the relevant business market; capital expenditure or the payroll of any new employ- and that affects trade between the member states. ment generated by a project in the fi rst two years. For Where all of these criteria are met, state fi nancial R&D, the variations in the allowed aid intensities are support is unlawful unless provided under a Euro- based on the size of the market failure in specific R&D pean Commission exemption. State aid rules are activities. They range from 100 percent for fundamen- defined for specific areas, including research and tal research to 50 percent for industrial research to 25 development (R&D) and regional aid. In the after- percent for experimental development. Source: European Commission 2013; Dressler 2013. 56 URBAN CHINA are better administered nationally. But this as administrative capacity increases. Further, means that grants from the central govern- transitional arrangements may be needed, ment are needed for the subnational govern- which would limit revenues in the short run, ment to make ends meet. A better system including a grace period of two or three years would ensure that a considerable portion of that would allow people to adjust their hold- local expenditures are financed by local taxes ings of real estate before the tax takes effect. under the control of local government. This The tax should be broadly based to achieve system would impose fi nancial discipline on its revenue goals and incentives; the current local governments because the imposition experiments in Chongqing and Shanghai are of local taxes could be directly linked to the too narrow to be of much consequence, and appointed local leadership, thus increasing a national system of property taxes should be their accountability to residents of the local- more ambitious in its goals. China is steadily ity they administer. Further, a tax on those moving toward legislation on property taxes who benefit from locally provided services while also improving the local taxation sys- would lead local governments to align the tem and developing mainstream taxes for benefits and costs of public spending. Finally, local governments. The share of property local governments are best served by a tax taxes will eventually increase and is expected base that is relatively stable, because they to exceed 1 percent of GDP, as administrative usually have more limited access to financing capacity increases. than the central government does and, unlike Other local revenue sources have consider- the central government, have no role in mac- able potential. Some cities such as Shanghai roeconomic stabilization policies. already auction car license plates, which lim- A property tax on housing would provide its car use to sustainable levels. Higher vehicle a stable source of local government revenue registration fees and excise taxes on fuels can that is aligned with service delivery benefits. be implemented with special arrangements Property taxes are a mainstay of local gov- for public transport to limit impact on pub- ernments in both developing and developed lic transport prices. Local income and sales economies. A property tax can fulfill two taxes could be charged in the cities where jobs important objectives in China: it can be are located and consumption occurs. both a quasi-user charge for urban services Increasing the prices of urban services and a tax on wealth holdings in real prop- such as mass transit, solid waste collection, erty. Property taxes are never popular with water, wastewater, power, and gas to full constituents, but that is part of the rationale cost recovery levels would enhance service for those taxes: if local governments want to sustainability and raise revenues. Interna- spend more, the burden is on them to argue tionally, the use of charges for government their case to the taxpayers. Property taxes services of a largely individual nature is com- allow local government budgets to benefit mon, and in high-income economies, those from increased land values in their jurisdic- charges often cover full costs—that is, the tion, thus rewarding good administration costs of operating and maintaining the ser- by local leaders. In addition, property taxes vice, and a capital charge to pay for depre- would encourage property owners to make ciation and profits. Excise taxes on fuels, the best possible use of their property—for electricity, and water could be imposed to instance by renting out apartments or devel- include the environmental impact of their oping unused or underused land, thus pro- use. Lifeline pricing for the poor, who would moting better use of the housing stock and pay less for a limited amount of service, urban land. China should aim to make prop- could be used to meet the government’s dis- erty taxes an important part of local govern- tributional objectives. And while full-cost ment revenues. Even so, property taxes will pricing for mass transit is rarely achieved not be able to fully replace current land reve- internationally, China could gradually nues: in developing countries, property taxes increase pricing as the cost for individual pri- usually raise less than 1 percent of GDP, and vate transport increases as a result of higher even this level will be reached only over time taxes and levies. OVERVIEW 57 Alternative local revenue sources can yield levels of government would improve effi- considerable revenues. Revenue from the ciency, because reducing overlap could save property tax in advanced economies gen- costs and reduce unproductive coordination erally ranges from 1 to 4 percent of GDP efforts. More broadly, clarity on expendi- (more than 3 percent in the United States and ture assignment is required to ensure that more than 4 percent in the United Kingdom). resources are available at the level of gov- Environmental taxation in OECD countries ernment responsible for delivering a specific averages 6 percent of revenue (as high as service. In China, local governments perform 15 percent in Turkey) and nearly 2 percent some functions that would be better adminis- of GDP (more than 4 percent in Denmark). tered by the central government, most impor- Congestion charging could raise additional tant among them, pensions. Centralizing the funds. After the introduction of Singapore’s administration of pensions would improve Electronic Road Pricing System in 1998, traf- labor mobility, allow national standard set- fic levels decreased by 15 percent, and annual ting, and address important problems related revenue exceeded $50 million. The 2008 rev- to risk pooling. enue from London’s congestion-charging sys- China’s revenue-sharing system could tem reached $435 million, or nearly 9 percent be considerably improved by removing the of the local transport authority’s revenues. incentive for local governments to hold on Property taxes and additional environmen- to inefficient enterprises for revenue rea- tal taxation and pricing in China could raise sons. The major shared taxes (VAT, corpo- significant additional revenue (2–5 percent of rate income tax, and personal income tax) GDP annually, in line with OECD countries). are shared with the local governments based China’s tax structure could be further on the location of collection. This arrange- improved to meet the government’s objec- ment distorts the allocation of resources in tive on economic structure. One important two ways: it encourages local governments step would be to replace the business tax to keep enterprises that should move to new on services with a VAT, a step that authori- locations; and it disproportionately benefits ties have already initiated. This move would large cities, because these are often the loca- encourage the growth of a services industry, tion of a fi rm’s headquarters and frequently because the VAT on services can be deducted where the fi rm pays taxes. The distribution from the user’s VAT tax obligations. It would of revenue sharing among provinces could also encourage enterprises to outsource ser- begin moving toward a formula-based system vices to more specialized enterprises, because in which central transfers would be allocated there would no longer be a tax advantage for among subnational governments according keeping services in-house. At the same time, to objective measures of need rather than the the business tax is a major source of local location of tax collection. A start could be government revenue, and lost revenues would made by changing the way the VAT is shared need to be replaced, either through more local with local governments, from one based on taxes such as the property tax, through a the location of the VAT collection to a sys- larger revenue share for local government, or tem that recognizes the place of consump- through the grant system. In addition, scope tion. Countries with a shared VAT usually and coverage of consumption taxes can be follow one of two practices: either they do adjusted. Taxes on high-polluting industries not explicitly share the VAT with subnational and energy-intensive products as well as on governments, or they share the tax on an some high-end consumer goods and services objective basis such as population (Germany) subject to a higher rate of tax could be further or consumption (Japan). The lost revenues in studied. some of the higher-income provinces would be replaced by increased local taxes. Over time, a uniform sharing rate for all shared Reforming the revenue-sharing system taxes could be introduced. Achieving greater clarity in the division of Even with enhanced local government functional responsibility among the various revenues, transfers will be needed to fi ll the 58 URBAN CHINA gap between expenditure responsibilities and Subprovincial finance would need to be the local government’s own and shared rev- reformed to ensure resources get to where enues. The transfer system should ensure the they are needed. Adjustments in central- capacity of local governments and encourage provincial fiscal relations alone do not ensure them to deliver on national priorities. China’s that adequate resources would be available current transfer system has been increasingly to accommodate the budgetary impacts of effective: transfers have been growing rap- urbanization. In fact, adjusting intraprovin- idly, and have increasingly been allocated to cial inequalities in fiscal resources will likely poorer provinces, for purposes of national have greater impact than interprovincial priorities. At the same time, with some 200 disparities. Subprovincial revenue-sharing specific grants to local governments, the sys- arrangements vary widely from province to tem is complex and expensive to administer province with little mandatory controls set in and undermines local government account- place by the central government—a feature ability and autonomy. In contrast to specific that is usually observed in federal countries grants, the general grant, which is intended but not in unitary ones. to equalize revenue capacity among localities and ensure basic service delivery, accounts for a little less than half of total transfers. The Reforming land finance current transfer system is also less responsive Revenues can be generated from existing to changing circumstances, especially to the urban land by introducing new means of cap- movement of people to a new locality, and turing value from land development. Reallo- the central government has therefore started cation of land from industrial use to housing to provide additional grants to local govern- or commercial use promises higher revenues, ments to deliver services to migrants. In the given the shortage and higher prices of the short run, China could consider consolidat- latter two. Furthermore, betterment taxes ing many of the specific grants into a limited can be imposed on those that see the value of number of sectoral block grants that would their property rise because of infrastructure need to be linked to the central government’s development. Also, auctioning the develop- broad objectives and be supported by a sys- ment rights for urban land, separate from the tem of performance indicators and review. land lease, could raise revenues and accelerate In the medium term, China could dis- urban renewal. Finally, a VAT on land, prop- tribute grants using a formula based on fis- erly restructured, could capture some of the cal capacity and expenditure needs. Such capital gains of land transactions in which systems are used in many OECD countries, local government is not directly engaged (box with Australia managing a sophisticated O.10). system for determining expenditure needs. Regulatory rules need to ensure that land This system would fit China’s objective to financing can continuously play a role in provide a minimum standard of public ser- fi nancing urbanization and that fiscal risks vices across the country over time. Expendi- are better managed. The first priority would ture needs would be defi ned by the costs of be establishing uniform reporting require- the minimum standard, and converting the ments for subnational land ownership, land current tax sharing and grants system into a sales, contributions of land to public-private formula-based grants system would consider- ventures, land transactions between differ- ably alter the outcomes for individual local ent types of subnational institutions, and governments. Therefore, this change should revenue generated by land sales. Second, the be implemented gradually and aligned with “golden rule” of public finance should be the introduction of new local taxing pow- applied to subnational land fi nancing—that ers. For example, local governments could is, land asset sale proceeds should be used be assigned a “target share” based on objec- only to fi nance investment. Third, borrow- tive criteria of expenditure needs and revenue ings backed by land collateral may require capacity, but they would receive this share regulation to set minimum collateral or loan only incrementally, starting from their cur- ratios and to prescribe land valuation prin- rent share in the grant pool. ciples. Fourth, transfer of surplus land to OVERVIEW 59 BOX O.10 Land value capture Value capture allows the government to capture district to finance debt issued to pay for a project, at least part of the increase in land value resulting which theoretically will create the conditions for from land improvements, for instance infrastruc- future gains (used primarily in U.S. cities). ture expansion. A prerequisite is that infrastructure Transit-oriented development or joint development: must generate sufficient value to be captured. China Given that transit infrastructure plays a critical role in has been successful in capturing increments in land the end value of development projects, the capture of value, but the key challenge is to set a rule to allow profits from activities associated with real estate devel- all people to share the development outcomes as well opment in and around transit stations may allow a as the risks. The rule should be economically justi- transit agency to deliver an operating ratio in excess of fiable, incentive compatible, and acceptable to the 100 percent (as in the case of Hong Kong SAR, China, public. A number of value-capture instruments and MTRC). The approach that MTRC uses is described as other financial mechanisms are being applied interna- the “Rail + Property model.” Joint development, simi- tionally (Smolka and Amborski 2007; Peterson 2008; larly, can be described as a real estate development proj- Miller and Hale 2011). The most prevalent and effec- ect that involves coordination between multiple parties tive of these include: to develop sites near transit, usually on publicly owned Property taxes: Annual imposition of taxes on land (examples are the Land Transport Authority and the value of urban land and buildings. These taxes SMRT in Singapore, BART in the San Francisco Bay are among the main revenue sources for local gov- Area, and the Transport for London Crossrail project). ernments around the globe. Developer charges or development impact fees: A Special assessment districts: New and special lev- one-time and up-front charge requiring developers to ies on properties that will benefit from the provision make cash or in-kind contributions to on- and off-site of new or upgraded infrastructure services (exam- infrastructure in return for permission to develop or ples in the United States are 17 percent of the fi rst build on land. These may be stipulated through sub- phase of the Portland streetcar system; 50 percent division/development agreements via some norm or of the capital costs of South Lake Union streetcar expectation, or they may be negotiated on an indi- system in Seattle; and 28 percent of the cost of the vidual basis. The charges defray the cost of expanding new New York Avenue Metrorail station in Wash- and extending public services in a particular area. For ington, DC). example, in Broward County, Florida, the local gov- Tax increment financing: This approach dedi- ernment implemented a transit-oriented concurrency cates future tax increments within a certain defi ned system. other government units or enterprises, pri- Independent audits of subnational fi nancial vate developers, or public-private partner- accounts, periodic public disclosures of key ships should be prohibited except on a fully fiscal data, exposure of hidden liabilities and disclosed contract basis. guarantees, and moving off-budget liabili- ties onto the budget would all increase fi s- cal transparency. Finally, establishing a chief Strengthening public financial financial officer (CFO) for local governments management would centralize the accountability for local government finances in one office, clarify Financial management needs to be improved authority on fi nancial management matters, and transparency increased. Formulating and and halt the decentralized and uncoordinated implementing urban plans in a fiscally sound issuance of local government debt. Ideally, manner would benefit from a medium-term the CFO should come from the department expenditure framework system, which could that manages the public purse or from its strengthen capital spending by facilitating supervisor’s office (the mayor’s office). The multiyear funding programs and by incor- CFO’s office would coordinate with the bud- porating maintenance and operating costs get department, the treasury department, of investments into expenditure projections. the investment administrator (Development 60 URBAN CHINA and Reform Commission), and other gov- the lifetime of the contract. In these cases, ernment agencies on the borrowing strategy local governments should be allowed to make and plan. A debt issuance plan and a budget multiyear financial commitments. Future plan would be submitted to the local People’s financial contributions to PPPs need to be Congress for approval and disclosed to the kept to a fiscally sustainable level, and the public. The central government would need best way to do that is to ensure they are kept to play a major role in enforcing compliance within the expected, future level of recurrent with the framework for local borrowing. revenue. Expanding PPPs will increase govern- ments’ contingent liabilities, and careful risk Promoting public-private assessment and proper risk sharing is needed. partnerships The rules governing PPPs should ensure that China has already developed a policy frame- officials in charge are given incentives and work for procuring services from the private have information and the capability to take sector—a positive signal for private providers account of the costs and risks of contin- of public services. More can be done, however, gent liabilities. PPP contract arrangements to improve policies and incentives for the pri- should clarify risk-sharing arrangements. To vate provision of public services. China still strengthen institutional capacity, special PPP has scope to tap into private investment in the units may be established at the local level, construction of urban infrastructure and the while risks arising from fiscal commitments delivery of urban services, and a policy and should be managed independently. Local legal framework should be developed to fully governments could introduce a competitive capture the benefits of public-private partner- mechanism along with innovative modes of ships (PPPs). Since 1990, China has had more operation to promote openness, transpar- than 1,000 PPP transactions in infrastructure ency, and efficiency. To open competition in (transport, water, energy) for a total value of the infrastructure sector, public utility agen- US$166 billion;55 yet Brazil and India have cies should be restructured with transparent had much larger private investments in infra- financial cost reporting, subsidies received structure during the same period—$325 bil- from the budget, and the quantity and qual- lion and $273 billion, respectively. To simplify ity of services. the project approval system and facilitate pru- dent decision making at the local level, PPP laws and regulations could be unified at the Improving the policy framework national level to provide uniform guidance for debt finance about approval processes across sectors and regions and contractual dispute resolution. Stable and sustainable debt fi nance remain Governments should make policies and create critical for China’s urbanization, as long- the incentives for participation by the private lived assets such as infrastructure can best sector and also develop a system for guiding be paid over time, because it is an efficient and regulating the partnerships. Legal safe- means to match payment for an asset with guards represented by effective application of its lifespan. However, local government debt the rule of law, regulatory oversight, and dis- has triggered macroeconomic crises in other pute resolution systems would encourage pri- countries in the past, including Argentina, vate participation. Brazil, and the Russian Federation. There- China may shift the focus of PPP con- fore, allowing local governments to borrow tracts from capital fi nancing toward service requires a rigorous regulatory framework, provision by bundling investments for asset which, together with financial markets, creation with operation and maintenance should discipline subnational borrowing to requirements over a long period of time (20 ensure sustainability. China’s capital mar- years, for example). PPPs for most types of kets are still evolving; thus it is important to urban infrastructure and service delivery will establish a framework to regulate subnational depend on local government payments over government borrowing, while promoting a OVERVIEW 61 competitive and diversified subnational credit international good practices on corporate market. governance and financial auditing and report- China should impose fiscal rules and debt ing. The fiscal relationship between the bud- limits on borrowers so as to manage, ex ante, get and the special-purpose entities should be the risks of systemic defaults. Many countries disclosed to the public. Because their borrow- allow local governments to borrow against ings constitute contingent liabilities of local general budget revenues or dedicated revenue governments, regulations on the purpose, pro- streams (revenue bonds), either directly by the cedures, and limits of borrowing need to be local government or through a special entity developed. Finally, while an overall local gov- created to operate a service. A basic approach ernment debt level of 25–30 percent of GDP adopted by many countries is the “golden is not excessive, various localities or local gov- rule”—borrowing is allowed only for long- ernment financing vehicles have experienced term public capital investments. Debt limits debt service pressures and may need a debt should be imposed on individual municipali- workout under clear rules to be established. ties and collectively for all local governments. Developing competitive and diversified The threshold for debt indicators must take funding sources for infrastructure fi nancing into account the total fiscal space available will help lower fi nancing costs. Aside from for the public sector, at national and subna- land revenue, China’s infrastructure fi nanc- tional levels. Borrowings by entities that pro- ing has been dominated by commercial and vide essential public services would also be government policy banks—the shortcom- subject to sector-specific limits with respect ing being the potential mismatch between to debt service capacity. In addition, rigorous the terms of commercial banks’ liabilities creditworthiness assessment by credit-rating and assets. In the short run, commercial agencies needs to be a precondition for local and policy banks will continue to provide government access to the capital market. large amounts of fi nancing to local govern- Among other things, this assessment would ments and fi nancially viable special-purpose require full disclosure of independently “public service companies.” In the medium audited public financial accounts, thereby term, the development of a local government strengthening the role of markets in fiscal bonds market is feasible and desirable. The monitoring and surveillance. regulatory and institutional frameworks for An insolvency framework is required to all sources of finance need to be harmonized make a no-bailout commitment by the cen- to create a level playing field. This will dis- tral government credible and to set clear courage shadow banking, improve the qual- rules for debt workout if a local government ity of local government debt fi nancing, sup- becomes over-indebted. A sound framework port sound fi nancial innovation, and ensure should reduce the moral hazard of subnational transparency, market-based price formation, defaults, discourage free riders, bind all local and protect investors’ rights across the whole governments to pursue sustainable fiscal poli- spectrum of fi nancial instruments. All these cies, and extend their short-term horizon to aspects would foster long-term debt market minimize the impact of unsustainable fiscal development and enhance financial system policy on future generations. Local govern- stability and the efficient channeling of sav- ment finance vehicles that finance and imple- ings into long-term financing for urban infra- ment public infrastructure projects could be structure on a sustainable basis. transformed into special-purpose entities, A coherent set of securities regulations is while pure financing vehicles can be dissolved required to develop a subnational bond mar- once local governments have formal and open ket. Securities regulations and the institu- access to markets. These special-purpose tional infrastructure for bond issuance and entities should divest their commercial activi- trading, such as regulation of credit-rating ties, in line with the direction of refocusing agencies, broker-dealers, underwriters, and the government on essential public services, auditors, are similar to those for sovereign and be reformed to become transparent and and corporate bonds. China needs to build a financially stronger. They would follow reliable yield curve for the government bond 62 URBAN CHINA market, standardize the accounting rules for these requirements are not mandatory, bank public sectors, and improve fiscal transpar- lending to nonrated subnational governments ency. China has already experimented with would need to have a high capital adequacy local government bonds: the central govern- ratio. ment has issued bonds on behalf of some Shadow banking would need to be regu- local governments, and six provinces and lated to limit the availability of easy money municipalities have issued bonds at their own to local governments. In recent years, local discretion. Broadening the direct access of government fi nancing vehicles have increas- local governments to the local government ingly relied on funding from shadow bank- bond market should proceed as rapidly as ing’s wealth management products and trust additional provinces and municipalities can fund loans. These vehicles enabled local gov- obtain credit ratings to demonstrate their ernments to obtain off-budget financing, but credit worthiness and to develop the techni- their benefits as flexible financing vehicles cal capacity to manage and issue debt. Having started to be outweighed by the low level of the Ministry of Finance issue local govern- transparency, the potential impact on contin- ment bonds on behalf of local governments gent liabilities for local governments, and the could be phased out or substantially changed risks to investors and ultimately the banks by establishing equal rules as those for direct that manage much of the shadow banking. municipal issuance (such as creditworthiness, To regularize shadow banking, all asset transparency, credit rating, no implicit guar- management products should be subject to antee, and the like). the same fundamental regulatory standards. Bank lending to local governments should Regulatory policy for all collective invest- be regulated in a way that reinforces local gov- ment products should be coordinated among ernment budget discipline and fiscal transpar- government agencies, including the China ency. Commercial bank lending is normally Banking Regulatory Commission, the China bound by general prudential rules, which, if Securities Regulatory Commission, and the applied to local governments, would restrict China Insurance Regulatory Commission. local governments’ opportunity to borrow. A plan for reforming the legal and regula- Such rules include exposure limits, which tory framework of shadow banking would limit a bank’s loan exposure to a single cli- have to be formulated, including short-term ent; concentration limits, which limit a bank’s amendments of regulations and long-term exposure to a certain type of client such as all amendments of primary legislation. Invest- local governments taken together; and insider ments in wealth management products, lending restrictions, which limit lending to trust funds, or other collective investment the owners or co-owners of the bank. China schemes should not be protected by implicit has such rules in place, but the authorities guarantees. would need to ensure effective enforcement. The role of policy banks in the provision of In addition to these norms, many countries long-term fi nance should be strengthened to have found innovative measures to reinforce complement the shortage of supply for long- discipline. For instance, after experienc- term market-based fi nancing. Policy banks ing widespread subnational defaults, several within the legal and regulatory framework countries including Brazil banned subnational could play a positive role in supporting the ownership of financial institutions altogether. use of long-term capital market instruments In China, direct local government ownership through the issuance of innovative fi nancial is limited, but influence is exercised through instruments that would support the growth key personnel decisions in banks—a system of fixed-income markets; provide guarantees that China needs to review to ensure inde- for local government bonds; and purchase pendent decisions on lending to local govern- a limited portion of new local government ments. In Mexico, competitive lender selec- bond issues, thus serving as a market maker tion and transaction ratings were required by buying or selling bonds as needed by other for large-scale long-term financing. Although investors. OVERVIEW 63 Chapter 9 Promoting Greener Urbanization The context of the reforms several years, greater weight can be given to other environmental criteria, including mak- A sustainable city is one where environmen- ing them binding targets. Because conditions tal objectives are placed on an equal footing vary greatly across cities, benchmarks need with economic growth and social inclusion, to be locally appropriate, focusing on basic and sector policies are aligned with these pollution reduction in cities dominated by strategic objectives. More sustainable cit- heavy industries, and emphasizing broader ies are also more efficient: incorporating the quality-of-life issues in already greener cit- losses from environmental damage into eco- ies. Inclusion of these targets in the system nomic decisions will lead to more efficient for evaluating local officials would reinforce outcomes. Further, as China becomes more their importance. Moreover, longer tenure prosperous, its population will increasingly for local officials would also encourage urban demand a clean and healthy living environ- management that focuses on the longer term, ment, and livability will become a key factor within which results on green objectives can in the locational decisions of foreign inves- be achieved. tors. Managing environmental pressures is Greater authority and human resources essential to realizing denser, more efficient are needed for environmental enforcement. cities in which agglomeration effects are fully China’s environmental management insti- captured. More sustainable cities are more tutions are often understaffed and lack suf- equitable, as environmental damage is pre- ficient authority vis-à-vis local governments dominantly inflicted on the less affluent. responsible for development. To improve The most important task for achieving environmental enforcement, China could greener urbanization is to strengthen green consider a system in which the Ministry of governance—the institutions, incentives, Environmental Protection (MEP) would be and instruments that enable effective envi- responsible for enforcing national laws and ronmental management. Moreover, inter- regulations and would exercise stronger over- jurisdictional approaches are needed because sight over local environmental protection some challenges like air and water pollution bureaus (EPBs). At all levels, environmental transcend jurisdictional boundaries. Apply- management institutions would need greater ing principles of green governance in sector authority and independence when dealing policies would facilitate reforms, some dif- with other ministries, local governments, ficult, that are needed to achieve resource- state-owned enterprises, and private com- efficient cities with low pollution. Facilitated panies. To avoid confl icts of interest, EPBs by land, fiscal, and social reforms, needed should be funded from the general budget, urban infrastructure reforms across urban independent of the collection of pollution fees planning, transport, energy, buildings, water, and fines. and solid waste range from the mundane— Environmental policies currently favor such as better landfi ll management—to the regulatory measures and targets, but in the monumental: dramatically switching energy future sharper and more market-oriented away from coal toward natural gas and instruments can be used, and the cost of renewable energy. natural resources and environmental services can be made explicit even if funded out of general revenue. Raising prices to cost-recov- Strengthening green governance ery rates is most urgent in water supply, sani- Stronger incentives are needed to elevate tation, and waste management. Cross-subsi- green objectives to the level of economic dies in the energy sector, which mainly favor growth and social goals for local government residential consumers and discourage end officials. Just as reduction in energy intensity use efficiency, could be reduced to avoid ben- has been a strict performance criterion for efit leakage to the nonpoor or replaced with 64 URBAN CHINA targeted support to protect the poor from mechanisms that strengthen coordination price increases. 56 Pricing for private vehicle and reduce the cost of energy investments transport can increasingly cover social costs and to policies to promote least-cost clean including climate change impacts. The choice energy solutions. A number of planning and of carbon-pricing instruments (such as car- priority-setting tools, such as energy mapping bon taxes versus a cap and trade system) will and marginal abatement cost analysis for influence the established energy efficiency low-carbon cities, could help municipal gov- and renewable energy policy framework. ernments apply low-carbon principles, even Strong energy policy coordination is needed at the neighborhood scale. to ensure consistency. The outcome needs to give a credible signal to investors, producers, and consumers that there will be a long-term, Greening across jurisdictional stable policy of increasing the price on pol- boundaries lution and harmful use of natural resources. More channels for public participation Air quality management is making progress and involvement of the judiciary would allow but regional solutions are needed to address citizens affected by environmental problems the most severely polluted airsheds. Air pollu- to help the government monitor, enforce, and tion management continues to be the respon- shape environmental policies. While envi- sibility of individual local administrations, ronmental enforcement agencies have lim- without sound mechanisms for coordination ited resources in all countries, most rely on across boundaries. Regional institutions, assistance from the public, especially through perhaps modeled on the Southern California environmental NGOs, not only for monitor- Air Quality District or similar agencies in ing and environmental impact assessment, Europe, would be better suited to design and but also policy development. Other countries implement abatement policies. Such institu- also allow the use of public complaint mecha- tions should be given real authority (either nisms and legal proceedings to hold polluters regulatory or by allowing them to use the to account. Expanding China’s experiments court system for enforcement), which may with environmental courts could be an effec- require provincial or national government tive step forward, including allowing third leadership. In addition, China’s state-of-the- parties to sue polluters. Overloading the judi- art air quality management technical capacity cial system can be avoided by strengthening in public and academic institutions could be other mechanisms of environmental dispute better used to conduct not only policy analy- resolution (such as specialized panels or tri- sis but also comprehensive impact evaluation bunals) and through adequate safeguards to and cost-benefit analysis where many abate- avoid frivolous lawsuits. To facilitate citizen ment programs currently fall short. Large- involvement, promising new efforts in dis- scale pilots, such as in the Jing-Jin-Ji (Beijing– closing environmental information could be Tianjin–Hebei) region, could help develop expanded. Polluting facilities should be held institutional and technical approaches for responsible for accurately reporting harmful better air quality management. emissions, along the lines of the U.S. Toxic Water quality management will need to Release Inventory or the European Union’s be strengthened to resolve tensions between Pollutant Emission Register. Currently urban and rural water demand, especially in there are too many exceptions that restrict China’s water-scarce north. Regional pilots disclosure. to develop watershed-level governance of Energy analysis could be incorporated into water rights and pollution allowances using different stages of urban planning to opti- advanced water consumption monitor- mize energy use. Rather than focusing solely ing approaches show promise. They could on building-level or sector-based improve- be improved by strengthening the author- ments, piloting systematic analysis of demand ity of watershed management institutions, and energy resources in a city, and also at the first by replicating successful river-basin neighborhood level, can lead to management level “joint conference” mechanisms that OVERVIEW 65 have coordinated integrated environment “yellow-label” cars, which account for 13.4 and water management plans at local levels. percent of the total vehicle fleet, are respon- Watershed authorities could facilitate greater sible for 81.9 percent of particulate matter, use of ecosystems payments, under which 58.2 percent of nitrogen oxides (NOx), 56.8 downstream users compensate upstream percent of hydrocarbons (HC), and 52.5 farmers or industrial users to maintain water percent of carbon monoxides (CO) emitted. quality. Water rights trading, which has The phase-out of yellow-label cars should be been used successfully in other water-scarce accelerated using a market-based approach. regions such as the western United States and The program to trade in old cars for new Israel, could also be piloted. Both require cars should be continued. The scope of subsi- interjurisdictional coordination of fi nancial dies to energy-efficient and green cars should flows, appropriate financial controls, and be broadened. Collecting emission fees on oversight. vehicles and applying differential toll rates for roads, bridges, and highways should be studied and potentially made into policies. Greening sector policies Consumers buying and producers manufac- turing vehicles with stricter emission stan- Providing sustainable urban dards should be given incentives. Incentives transportation for phasing out yellow-label cars should be Despite modernization of the vehicle fleet and implemented; for example, business opera- massive transport investments, mitigating the tors that replace their yellow-label cars could sector’s increasing contribution to air pollu- receive rewards in lieu of subsidies. The sup- tion and urban congestion is needed. Improv- ply of diesel and gasoline with lower sulfur ing traffic demand management to reduce levels should be increased. Institutions should the growth in private car use and promote be given greater authority to enforce emis- a shift to public and nonmotorized trans- sions standards. port are two key priorities. Most important is to charge drivers the costs in full of using Cleaner energy private vehicles, and that covers the environ- mental and social costs, which include road Globally, no other modern cities rely on coal pricing or congestion charging, and registra- for their energy needs as much as many Chi- tion and parking fees (such as higher fees for nese cities do, and reducing its use should polluting vehicles). Fuel costs (higher than in be the centerpiece of urban energy strate- the United States but lower than in the Euro- gies. While shifting the economic structure pean Union) could be gradually increased. to industries that are less energy intensive Fee revenues can be invested in more effi- and more high value added and service ori- cient and convenient public transit to replace ented can help over the long term, reducing trips in private cars. Subsidies for public tran- energy demand is a priority. The scaling sit will likely still be required, but they are up of cost-effective local clean energy pro- justified by the public health damages and duction and importation of cleaner energy congestion costs they avoid.57 Urban land use from outside city boundaries can be key planning and zoning that promotes transit- elements of this strategy in the short and oriented development and nonmotorized medium term. Cleaner natural gas can be a transport (walking and biking) will encour- viable alternative to coal as production and age modal shifts. In China’s existing and imports continue to be scaled up. Conversion emerging metropolitan areas, transport—like can be accelerated with more competition in air pollution—needs to be managed region- upstream development and greater invest- ally. Metropolitan transit authorities that ment in transmission, distribution, and stor- address coordination issues are common in age by introducing third-party access to the many cities globally. gas market, continuing pricing reforms, and Emission reduction measures targeting the introducing modern sector regulation. Given most polluting vehicles are needed. So-called current gas supply constraints, it is important 66 URBAN CHINA to prioritize gas usage in the residential, rebalancing administrative measures with heating, and commercial sectors where it market-based approaches. As demand growth will have the largest environmental and eco- for heavy industrial goods slows, compa- nomic benefits. These three user types would nies may find cost-reducing investments in require slightly less than 200 billion cubic energy efficiency more attractive. Raising meters by 2030 to achieve universal residen- energy-related taxes and defi ning a carbon- tial access and about 60 percent gas-based pricing strategy (by the 13th Five-Year Plan) centralized heating supply, compared with would motivate enterprises to seize efficiency total consumption of 130 billion cubic meters opportunities for their own business inter- in 2011. Because the power sector and large- ests. Associated revenues could be recycled scale energy consumers will rely on coal for to provide stable, multiyear financing of longer, strict enforcement of emissions con- energy efficiency programs. The energy sav- trol standards and efficiency improvements ings agreement system has been effective and are needed. can be continued, but allowing enterprises In the longer term, China’s cities need to to achieve targets either through their own increasingly rely on renewable energy sources. improvement or by trading energy savings Supply will come from large-scale produc- certificates from other companies would be tion outside city limits, which will require more efficient. Third-party technical service the removal of barriers related to pricing and providers for energy efficiency audits, new grid access for commercial renewable energy fi xed asset energy assessments, and similar producers. Over time, establishing efficient projects can be fostered as part of a greater mechanisms for regulating, metering, and energy efficiency services industry that would financing distributed power generation from offer better fi nancing and customized busi- renewable sources and natural gas distribu- ness models, including energy services perfor- tion will promote their use. China’s coal- mance contracting in enterprises. Cities must reliant district heating sector contributes sig- continue to be innovation drivers in energy nificantly to China’s wintertime air pollution efficiency policies and programs, encouraging and requires urgent attention. In addition to the incubation of energy efficiency services switching to gas, the current area-based billing through knowledge exchanges, local associa- system for district heating services contradicts tions, promotion, and market development. China’s concerted energy conservation poli- cies. Pricing and consumption-based billing Serving the people in more efficient reforms supported by national regulations that and cleaner buildings sharpen regulatory tools such as licensing and enforcement could facilitate improvements The public sector should lead by example across China’s northern provinces. Building by addressing energy efficiency in the stock retrofit programs, which are increasing in of public buildings. Procurement of energy scale in China, could accommodate district savings performance contracting for pub- heating sector reform by setting a mandatory lic institutions would promote the market deadline for the introduction of consumption- for energy efficient and green buildings and based billing after retrofitting or by consider- products, lowering costs over time. Monitor- ing building-level metering for buildings with ing, rating, and publicly disclosing building reasonable energy performance. energy performance can be effective motiva- tional tools. Energy performance targets for residential and commercial buildings should Rebalancing markets and mandates to be set to define “low-energy building” stan- reduce energy use in industry dards. Time-bound targets would set clear Improving energy efficiency in industry has expectations for performance improvement, been largely successful, but additional prog- encouraging innovation in the marketplace ress that is still urgently needed will become and guiding refinement of building energy increasingly harder to achieve without efficiency codes and standards. In addition OVERVIEW 67 to using stricter codes to set “the floor,” suc- FIGURE O.11 Water and wastewater tariffs cessfully achieving advanced green build- ing ambitions will require a larger effort in Copenhagen, Denmark 9.07 developing capacity across the supply chain Berlin, Germany 6.67 (from design to materials to construction). Zurich, Switzerland 5.52 Finally, to reduce the use of harmful build- Luxembourg, Luxembourg 5.50 ing materials in China, improved monitoring Sydney, Australia 4.26 and enforcement of standards are required, Paris, France 4.08 Singapore, Singapore 3.56 together with a labeling system possibly mod- London, United Kingdom 3.46 eled after Germany’s “Blue Angel” system. Barcelona, Spain 2.30 New York, United States 2.11 Stockholm, Sweden 1.67 Integrating water supply and pollution Rome, Italy 1.31 management Moscow, Russian Federation 0.87 Reducing urban water demand and strength- Kiev, Ukraine 0.58 Hong Kong SAR, China 0.54 ening the fi nancial health of the water and Beijing, China 0.54 sanitation sectors are two of the most impor- Kuala Lampur, Malaysia 0.25 tant tasks for accommodating greater num- New Delhi, India 0.08 bers of residents and businesses in cities with Riyadh, Saudi Arabia 0.03 water quality and scarcity problems. China’s 0 1 2 3 4 5 6 7 8 9 10 water and wastewater tariffs are low by inter- US$/m3 national comparison (figure O.11). Setting cost-recovering tariffs and completing water metering will encourage water-saving behav- Source: GWI 2011. ior and generate resources to sustainably fund water and wastewater management. Support- ive tariff policies should be complemented annually in the coming years, increasing with reform of the water utility governance. to more than RMB 400 billion, to manage Integrating drainage and treatment services, waste projections for 2030. Yet, waste ser- piloting water boards in larger cities, and vice charges make up only about 10 percent consolidating smaller utilities in nearby cit- of real costs, which is concerning for a sector ies, possibly through concessions, are needed with high marginal operating costs. Subsidies to achieve scale economies and improve man- should (partially) be phased out over a period agement. While water treatment and waste- of five to ten years while payment mecha- water standards are essential, one-size-fits-all nisms are introduced (that is, combined with regulations result in oversized infrastructure other utility charges) to create incentives to and raise compliance costs that some weaker reduce waste, recycle more, and operate sys- cities find difficult to meet. A recent study of tems more efficiently and effectively. Recy- 655 utilities and local governments estimates cling in China is widespread but informal. that 85 percent of water treatment plants are Formalization could yield revenue to finance seriously oversized and that the maximum waste management but would threaten the daily water supply was less than 50 percent of livelihoods of low-income collectors of recy- production capacity of facilities.58 clable materials and thus requires careful calibration. With sector reforms to establish good fundamentals, product stewardship Getting the fundamentals right in programs could be introduced so that man- solid waste management ufacturers take responsibility for life-cycle Inadequate cost recovery hinders expan- waste generation including packaging mate- sion and improvement of solid waste collec- rials and fi nal disposal. This program could tion, recycling, and disposal systems. About start with voluntary schemes leading to pub- RMB 200 billion nationally will be needed lic-private cooperation, as in other countries. 68 URBAN CHINA Waste management facilities need to be Strengthening the controls of chemicals integrated into land use planning, making and hazardous materials greater use of environmental impact assess- ments and permitting as regulatory tools. For Through legislation, China should implement instance, contaminant hydrogeology needs declaration, hazard identification, and envi- to be considered in landfill site selection and ronmental risk assessment procedures for the design, but data are often lacking. Further- production, storage, transportation, sales, use, more, testing, treatment, and disposal of fly and import and export of chemical substances ash from incinerators needs to be improved and their goods and products. Hazardous and and unsanitary landfills rehabilitated to toxic chemical substances should be identi- minimize long-term environmental hazards fied and labeled as hazardous, and their use and enable a return of the land to produc- should be discouraged, limited, or phased out, tive uses. Operating waste management or they should be substituted by green alterna- facilities can be challenging for smaller towns tives. Other measures, such as process control, and cities. They can seek scale economies risk management, and contamination control by cooperating with adjacent jurisdictions should also be enforced to mitigate the risks to develop more efficient and well-operated associated with chemicals and to reduce the waste management facilities such as landfills discharge of hazardous and toxic chemical or incinerators. substances into the environment. OVERVIEW 69 Chapter 10 Ensuring Food Security China has established a comprehensive food domestic livestock sector through better pro- policy framework with minimum grain tection and management of China’s grassland purchasing prices at the core, supported by resources. The fine tuning of China’s food temporary grain reserves, direct food sub- security objectives needs to be complemented sidies, grain stock adjustments, and inter- by policy reforms, investments in agricultural national trade. This framework, along with water resources management, and rural land China’s institutional reforms and produc- and labor market reforms. tivity growth in the agricultural sector over the past decades, has been critical to China’s food grain security. But these policies have Enhancing domestic grain not addressed problems related to distortions production capacity in grain prices, policy inefficiencies, obsolete grain circulation and reserve systems, and China has raised agricultural productivity weak food safety nets, so that they need fur- successfully in the past. From 2004–11, total ther improvement to meet the challenges of factor productivity grew at a rate of 2 per- urbanization. cent annually for all major grain crops and at 3 percent annually for the major vegetable crops. If China is to increase domestic grain Setting China’s food security production capacity, ensuring continuous objectives productivity growth in agriculture is a prior- ity. Compared to many other countries, Chi- Food self sufficiency may be desirable for na’s potential for increasing labor and land a country with a population of 1.3 billion productivity is significant. The potential of people, but in view of the structural changes productivity growth can be captured through in agricultural production and in food con- promoting economies of scale in agriculture, sumption that have taken place over the primarily by increasing the scale of farming past decades, as well as the escalating envi- operations, and through continued invest- ronmental and resource constraints, China’s ments in research and development. current objective of food security in all food The process through which labor and land categories is neither feasible nor necessary. productivity can grow and farmland can be Instead, China should redefine its food secu- consolidated needs to be carefully coordi- rity objectives based on the principles of effi- nated, and the pace of change carefully con- ciency, openness, and sustainability. Taking trolled. Specifically, the government’s role environmental capacity and resource con- will be (1) to improve policies that allow rural straints into account, China should strive to migrants to become urban citizens, thereby unlock the potential for increased grain pro- stimulating more permanent migration to duction by improving productivity and mar- urban areas, and (2) to create the conditions ket efficiency, thereby projecting a clear and for consolidated agricultural operations and transparent picture of China’s needs for grain improved labor productivity in rural areas. imports and exports. China should adjust its The government will need to rationalize the food security objective toward maintaining rural land rights system, develop rural land self-sufficiency in food grains while allow- markets, and create incentives for a market- ing for more imports of nonfood grains and based consolidation of farmland to allow other agricultural products. More emphasis modern medium- and large-scale entities, should be placed on food quality and safety, such as commercial grain producers, larger agricultural sustainability, and protection family farms, and specialized cooperatives to policies for low-income groups. Stronger emerge. emphasis should also be placed on improving Steady productivity growth in grain pro- the environmental sustainability of China’s duction requires continued technological 70 URBAN CHINA advancements in agriculture. The key driv- farmers who opt to leave their land fallow, ers for technological progress are increased readjust their land mix, or limit the use of public spending on agricultural research pesticides and chemical fertilizers. and development, integrated programs to promote advanced yield-enhancement tech- nologies, mechanization in grain produc- Enhancing international tion, capacity building of farm producers, cooperation and trade adoption of modern biotechnology, and expedited breeding of new, improved crop Following China’s WTO accession, progres- varieties. Investments will also be needed sive and predictable import growth has been for (1) transforming low- and medium-yield shown to create win-win results. For exam- farmland into land of higher productivity, ple, China’s growth of soybean imports has (2) the expansion or rehabilitation of irriga- driven global soybean production, particu- tion infrastructure, (3) improving on-farm larly in the Americas, and promoted global water use efficiency through better technol- trade. The benefits for China include meet- ogy and with better water-pricing policies, ing growing domestic demand and saving and (4) the development of water users’ asso- land and water resources. Building on these ciations that can help improve water use effi- experiences, China could strengthen cooper- ciency in irrigation areas. ation with major grain-producing nations by signing medium- and long-term grain trade agreements with such countries, and creating Improving agricultural stable and diversified import avenues. China sustainability could also leverage its comparative advan- tages and expand agricultural development Current practices of overfertilization need aid and investments in neighboring coun- to be changed to reduce environmental costs tries and in South America and Africa, and and to ensure that agricultural resources and actively participate in global and regional the environment are managed in more sus- food security governance. China should focus tainable ways. Audits on heavy metal con- on agricultural technology transfer, and tamination in major grain-producing regions investments in processing, storage, transpor- can provide the necessary baseline informa- tation, and trade, ensuring socially respon- tion, while environmental risk assessments sible and sustainable investments. While such can help identify key target regions for action. investments may not result immediately in The classification of key regions according more agricultural products flowing to China, to function can be used to determine poten- they will increase other countries’ grain pro- tial treatments based on the severity of con- duction capacity and improve global grain tamination, and crop mixes can be adjusted supply, which in turn will improve the exter- accordingly. China should set sound, science- nal environment of food security for China. based criteria for tillage on land contami- nated by heavy metals. For areas where con- tamination is severe and tillage should not Reforming grain price formation continue in the future, ecological compensa- mechanisms tion schemes can be considered to support farmers’ jobs and incomes. The progress that China’s grain price mechanism has resulted has been made on reverting farmland back to in market distortions and a heavy fiscal forests should be carefully managed in order burden for the government, and it requires to prevent the reclamation of already retired reform. China should allow grain prices to farmland. The scope of the slopeland conver- fluctuate freely during normal periods and sion program should be further expanded secure a food supply for low-income groups to also include severely desertified areas. A through food subsidy programs. Only in special subsidy program for land quality pro- times of natural disaster or external shocks tection should be implemented to support should the government intervene and release OVERVIEW 71 the state’s emergency grain reserves. China’s subsidy program linked to environmental grain producer price should be replaced by protection to create incentives for farmers to a target price system. Moving away from opt for retiring farmland or reducing output direct government buying in the market to levels. price subsidies linked to a target price (price benchmark) should be considered. This would separate price formation from govern- Reforming China’s grain reserves ment subsidies, the benefits of which would and circulation system include gains to farmers and less market dis- tortion. Such a policy has been adopted by The government should carefully distinguish many countries in their transition from price between strategic grain reserves and grain support to direct subsidies. While conduct- buffer stocks. Strategic reserves are built ing price reform, China needs to quicken the primarily to withstand systemic grain sup- pace of building a food safety net for vulner- ply shocks and such reserves should be mod- able income groups. Food price inflation and est. Buffer stocks would be used mainly to benchmarks for social relief and benefits need balance grain supply and demand between to be better linked. For specifically vulner- seasons and different regions and should be able groups, such as households in extreme concentrated in major grain consumption poverty, a direct food supply system should regions, especially city clusters. The share of be established. processed grains should be increased and the role of local governments in building grain reserves should be strengthened. China may Improving the efficiency of grain also create incentives for grain processing and producer subsidies circulation enterprises to contribute to grain reserves. And finally, China needs to improve China’s existing grain subsidy policy should its network of modern grain logistics, which be maintained to help stabilize farmer’s run through major interprovincial corridors income expectations. Subsidy levels should and connects major grain-producing regions, be adjusted regularly to counter the erosion distribution centers, and transportation hubs of farmers’ gains because of rising produc- to and from cities and city clusters. The focus tion costs. Current agricultural subsidies are should be on consolidating existing grain still comfortably below the WTO-mandated logistics resources, creating a network of crit- caps, and there is room to grow further. But ical grain logistics hubs, and strengthening China’s subsidy policy also needs reform to the connections between such hubs and rail- meet the new food security objectives. Sub- way, waterway, and highway transportation sidies should be better linked to yields of infrastructure. Warehousing services should grain crops, and incremental subsidies should be made more specialized and market-based, favor the main grain-producing regions and and grain warehousing could be professional- producers. China may also create a special ized and privatized. 72 URBAN CHINA Chapter 11 Timing, Sequencing, and Risks This report has laid out the directions for unsustainable urban sprawl, and help safe- a comprehensive urbanization strategy for guard the rights of farmers, thus reduc- China that aims to guide China’s inexo- ing a major source of social tension. While rable urbanization toward an outcome that government prepares for stronger property improves the quality of life for China’s citi- rights for farmers, it may wish to tighten zens. To use economic resources efficiently, annual conversion quotas in the meantime, and maximize the benefits of urbanization, because most cities have sufficient land is a leading consideration. It is complemented available for their needs in the short term. by the need to make urbanization sustainable Land reform is also the basis for reforming in the face of environmental constraints and the urban planning system to integrate land the scarcity of natural resources that threaten use with housing and infrastructure plan- the balance between humans and nature, per- ning to arrive at a comprehensive spatial haps irreversibly. And the objective of equity development strategy with the objective of and fairness for all—the need for inclusive- creating livable cities. ness—must be imperative for a harmonious Currently, cities in China finance large strategy that has the interests of all citizens in parts of their expenditures through peri- mind. But the issues of efficiency, inclusion, urban land conversion, and sales and reform and sustainability cannot be dealt with sepa- of the land market will eliminate this oppor- rately: they are closely interwoven. By its very tunity. It will therefore be necessary to intro- nature, the agenda spelled out in this study is duce far-reaching fiscal reforms to strengthen comprehensive and all-encompassing; yet the the balance sheet of municipalities with new ability of any government to design, intro- sources of revenue either through direct local duce, and implement reforms is restricted by levies and taxes or through central govern- capacity and time and the measure of change ment transfers. Equally urgent, government and reform that society and the economy would need to focus on local borrowing of can agree upon and absorb simultaneously. all kinds, first and foremost to assess whether With these constraints in mind, authorities the situation requires action, and the just- will need to set priorities and carefully think completed National Audit Office audit of through the sequence and timeline of imple- local government debt is a strong basis for menting the proposed policies. such an assessment. Instances of unsustain- able borrowing would need to be addressed. Formal access to borrowing will have to wait Timing and sequencing until a full regulatory framework is in place, Reforms in land, fiscal, and finance sys- which should follow the strengthening of tems are at the core of the proposed strat- local government revenue sources. A decision egy—their implementation is important and on a temporary fiscal subsidy for integrating urgent. They support urbanization but are migrants into urban areas would accelerate also part of the overall reform strategy as the implementation of a residency system and spelled out in China 2030, the report that the could be made early on, because the fiscal DRC and the World Bank published in the resources are already available. spring of 2013. That report advocates a deci- Other systemic changes proposed in pol- sive move from state to market, which will icy areas in this report could be implemented be the backbone for China’s shift to quality, over time, but presenting a comprehensive instead of quantity, of growth. plan for implementing the reforms would Land reform that addresses distortions lend credibility to urbanization. That is espe- in the land market, especially in peri-urban cially true for the sustainability agenda that areas, stands out as a promising point of can build on China’s impressive set of envi- departure and would lay the basis for other ronmental laws and regulations and where reforms. It would make land on the urban the most important task is to strengthen the fringe open for competitive usage, contain institutions, incentives, and instruments that OVERVIEW 73 enable environmentally sound urban develop- out parts of their apartments to generate ment. Greater authority and human resources income. People with more than one apart- are needed for environmental enforcement, ment for investment purposes are more likely and more market-based instruments should to sell their additional properties, which be used so that the costs of using natural would improve the housing market. The resources and polluting the environment are alternative to a property tax—such as taxing explicitly priced. These broad-based policy property values or the value increasing only considerations should be adopted immedi- at the time of transactions—would also solve ately. But their implementation will require the problem of affordability, but would dis- focus and persistence over a long period. tort the property market, and the tax would lose its basic function as a charge for urban services on those who enjoy them. Risks There is a risk that allowing rural con- The introduction of a property tax might struction land to be sold directly for develop- affect property values, with possible knock- ment could lead to rapid and uncoordinated on effects on banks and local finances. This development. Zoning restrictions would risk seems limited, however. First, the pro- normally prevent this, but local govern- posed property tax, at 1 percent of property ments may also be keen to expand the city values, is modest compared with the current and rezone rural land aggressively. Stron- annual increase in value of some 8 percent— ger property rights for farmers should pre- with double-digit increases in the large cities. vent a rush—because prices are likely to be Second, even if prices were affected, banks higher—but it may be prudent for China to are well protected against price corrections, carefully scale up the successful pilots before because the value to loan ratio has been regu- setting nationwide policy. lated, and thus their buffers seem more than Some fear that stronger rights for rural adequate for any eventuality. An announce- landholders will stop urbanization effec- ment of the tax may cause an increase in the tively, because land will become too expen- supply of housing, notably of second proper- sive to convert, but this is not so. The ter- ties currently held for investment, which is ritorial expansion of cities may slow down, intended and desirable. but that should not be confused with The affordability of a property tax may slower urbanization, which, as this study raise concerns for some. Property prices in has argued, can progress on existing land China are very high compared with cur- through densification and redevelopment of rent incomes, especially for those who have existing land. Also, local governments can lived on fixed incomes for some time, such as still convert land, when the higher price they pensioners. Even with a low rate, the prop- have to pay for rural land is warranted by its erty tax could take up a large share of cur- urban use. rent income for some homeowners. From an Finally, there is a risk that in reforming, efficiency point of view, anyone who cannot hukou migrants will move to receive better afford the property tax would have to sell benefits and services rather than for produc- their home and move to less expensive parts tive reasons. Previous evidence in China does of the city, making room for those who can not seem to support this concern, however, afford it. That, however, may be socially except perhaps for the largest cities. Interna- unacceptable. Other countries take care tionally, there seems little evidence of “ben- of these risks at the low end of the income efit migration,” but within countries, people strata with exemptions, perhaps some kind of do want to move to cities for better public homestead exemption, although too high an services such as education. That would imply exemption may reduce the revenues from the that for a transitional period the require- tax too much. Phasing in the tax at low rates ments for residency in large cities may have initially could also be considered, in part to be more stringent than in other places— because wages in cities are likely to adjust in but with a clear timetable for phase-out. In light of the tax, and people could adjust their the medium term, removing mobility restric- living arrangements, for example, by renting tions and adjusting the tax structure so that 74 URBAN CHINA those who benefit are also taxed—through a of government at all levels needs to change property tax, for example—would yield an to allow for the greater involvement of mar- optimal outcome. kets. That does not imply a diminished role for government, but rather a different one, in which government steps back from being the Institutions and governance of main implementer of urbanization to becom- the reform agenda ing the enabler. The proposed fiscal system reforms, if coupled with greater incentives to A comprehensive urbanization strategy promote inclusion and sustainability through requires interactions among many actors, at more balanced performance targets and lon- the central and local levels, and coordina- ger tenures, would allow local governments tion between ministries and agencies will be to shift their primary focus from construct- of crucial importance. Urbanization done ing infrastructure to creating new policies properly needs to be built on a “Whole of and practices at the local level that address Government” approach at all levels. At the more complex and intractable problems such central level, cooperation and coordination as air pollution control. Local government between ministries have been notoriously can also take a more active role in regulating difficult, and ministries tend to develop sec- development, including in ensuring that local tor strategies largely independent of each and regional objectives for environmental other. Looking to the broader reform agenda, quality and social inclusion are met. urbanization reforms should be included in The rigidity of China’s provincial and local the top agenda of the Central Leading Group administrative structure—on the one hand a for Reforms. The Leading Group should also strength because it promotes local innovation coordinate the formulation and piloting of and initiative—is also a weakness because reform policies at the national level. the intense competition between provinces China will need to continue to rely on and cities inhibits effective regional coop- its decentralized administrative structure to eration. In some areas such as the provision implement reforms although a rebalancing of trunk transport infrastructure, regional of the roles of central and local governments competition has been overcome by the cen- may be required, with the central govern- tral government taking a stronger implemen- ment taking greater responsibility for policies tation role, but in others, such as manage- with national implications such as the basic ment of water and air resources, the lack of social security package. To provide incentives regional planning and cooperation has led to for behavioral change within local govern- an escalation of negative impacts. Regional ments, the central government, after setting solutions that stretch beyond provincial and the overall development direction, will need municipal boundaries will be needed to bet- to make more effective use of its two main ter manage metropolitan areas in order to mechanisms for guiding the actions of local capture agglomeration benefits and manage governments—the fiscal system and the gov- externalities. ernment personnel system that rewards local Finally, greater participation of China’s leaders’ success based on national develop- citizens in the urbanization process would ment goals. enhance accountability of local governments To meet the GDP goals favored under and ensure that policies are responsive to the personnel system, and with considerable local needs. In some areas, China has a rela- technical capacity and ample funds derived tively mature system of citizen involvement— from land revenue, local governments have examples are local elections, consultation pro- taken the role of implementers of urbaniza- cesses for environmental impact assessments, tion using public infrastructure construc- and China’s long-established complaints tion as a way to boost short-term growth in system. But in many cases, the usefulness of GDP and jobs and to meet annual targets. citizen involvement is diminished by the lack In the future, to promote efficient, inclu- of access to information. Especially in the sive, and sustainable development, the role field of environment, greater transparency OVERVIEW 75 and disclosure of pollution information, 25. Davies and others 2007. Note that the data including compliance data, would enhance from the China survey are not necessarily citizens’ ability to engage constructively and comparable to the numbers in this paper. meaningfully. 26. Caselli and Coleman 2001. 27. Knight, Li, and Song 2006. 28. Interprovincial migration in China rose from Notes 25 percent of all migration in 2000 to 32 per- cent by 2010; in the United States, it consti- 1. From 2000 to 2010, urban natural increase, tuted nearly 50 percent from 1947 to 2012. net migration, and urban reclassification 29. Page 2011. accounted for about 15, 43, and 42 percent of 30. Gallagher 2013. urban growth, respectively. 31. Liu 2008; Wang 2010. 2. ADB 2012a; Rosenthal and Strange 2003; 32. In March 2011, the State Council (2012) Black and Henderson 1999; Lucas 1993. drew up A Notice on Actively and Stably 3. World Bank 2009. Pushing Forward the Hukou System Reform. 4. Glaesser and Joshi-Ghani 2014. The full text was released in March 2012. 5. Campos 2012. 33. Zhang and Tao 2012; Zhang 2012. 6. Black and Henderson 1999; Lucas 1993; 34. Barrett, Joyce, and Maitre 2013 and Dust- Rosenthal and Strange 2003. mann, Frattini, and Halls 2010. 7. Desmet and Fafchamps 2006. 8. World Bank 2013. 35. Meng and others 2012. 9. Conventional investment numbers are mea- 36. Man, Zheng, and Ren 2011. sured as “fixed capital formation,” which 37. Man, Zheng, and Ren 2011. in China is available only at the national 38. Li 2012; Huang and Jiang 2009; Logan, level. At the city level, China publishes data Fang, and Zhang 2010; Zhang and Chen on “Fixed Asset Investment,” which covers 2014. investment in existing assets, including land. 39. ht t p: // w w w.l ab ou r - d a i ly.c n / web / N e w This measure tends to drive up ICORs when L ab ou rE le c t ron ic /ne w p d f / Pd f N e w s asset prices rise more rapidly than capital .aspx?Calendar=2011-9-24. goods prices. Thus, city-level ICORs are not 40. PBOC 2013. comparable with national or international 41. Lall, Timmins, and Yu (2009) evaluated the ones. relative importance of wage differences and 10. Authors’ estimates based on NBS data: www public services in migrants’ decisions to move .stats.gov.cn/english/Statisticaldata. in Brazil. Their findings showed a distinction 11. This paragraph largely draws from the NBS in preferences according to income level: for Migrant Survey, December 2012. relatively well-off people, basic public services 12. DRC 2014. were not important in the decision to move, 13. DRC 2014. but for the poor, differences in access to basic 14. Hort and Kuhnle 2000; Kwon 2007; Knight, public services did matter. Li, and Song 2006. 42. Liu, Park, and Zhao 2010. 15. Cai and Henderson 2013. 43. Sugar, Kennedy, and Leman 2012. 16. Huang, Wang, and Qiu 2012. 44. Currie and Vogl 2012; Currie and Neidell 17. Huang, Wang, and Qiu 2012. 2005; Padula and others 2013. 18. Deininger and Jin 2008. 45. MEP 2013. 19. Bank staff estimates of the correlation 46. NBS database. between urban land price increases and den- 47. DRC and ERI 2009. sity using CEIC data. 48. OECD 2009. 20. This extraordinarily high share of labor 49. World Bank 2011. reflects in part the lack of mechanization in 50. Weber and others 2008. agriculture (see chapter 4), but it may also 51. Feng and others 2013. result from a low remuneration for agricul- 52. World Bank and DRC 2013. tural land. 53. Based on income. 21. In comparable international prices. 54. See supporting report 6, “Financing Urban- 22. Authors’ calculations based on NBS 2013. ization,” for details of the model and 23. China Development Research Foundation simulations. 2010. 55. World Bank Institute and PPIAF 2012. 24. Gan and others 2013. 56. Ruggeri-Laderchi, Olivier, and Trimble 2013. 76 URBAN CHINA 57. Few public transport systems are unsub- Construction Statistical Yearbook. Beijing: sidized. 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Published online: Acquisition of Urban Hukou in Chinese Cities.” http://www.intechopen.com/books/energy- Environment and Planning A 44: 2883–900. efficiency-a-bridge-to-low-carbon-economy. Zhang, Yina, and Jie Chen. 2014. “The Changing State Council (Government of China). 2012. A Prevalence of Housing Overcrowding in Post- Notice on Actively and Stably Pushing For- Reform China: The Case of Shanghai, 2000– ward the Hukou System Reform. Beijing. 2010.” Habitat International 42 (2): 214–23. Part II Supporting Reports 1 Urbanization and Economic Growth Introduction considerably, while the growth attributable to total factor productivity (TFP) (not asso- China’s rapid urbanization and sustained ciated with factor reallocation) has declined. high economic growth are largely attribut- Such a decline is consistent with the mod- able to its policies and reforms. In 1978, erations of growth in other rapidly develop- less than one-fifth of China’s 975 million ing economies. The next transition, from people lived in cities. But over the past three industry to services, is typically slower and decades, about half a billion people moved generates less growth—because the initial from rural areas to urban areas, seeking productivity differences between industry work in manufacturing and services as China and services are not as high as those between developed its special economic zones and agriculture and industry. export-oriented industries. This urban trans- Second, the global environment has formation has been mostly successful. Real changed, and exports can no longer drive per capita income increased 16 times from economic growth. Domestic demand has 1978 to 2012, lifting half a billion people out to become the main driver of growth. Nor of poverty. can a relatively small middle class—such as Although strikingly successful, China’s China’s—sustain consumption growth suffi- urbanization now stands at a crossroads, as cient to offset declining export demand. So, its economic transformation is incomplete. domestic demand will depend more on invest- Urbanization that worked in the past will ment. And lately, much investment has been not work in the future because the dividends financed by credit, which is not sustainable. from China’s transformation are declining, Third, growth’s dividends are offset by ris- and China’s economic growth model is show- ing economic and social costs associated with ing signs of fatigue—in three ways. the country’s rapid transformation—the costs First, the productivity gains from a struc- of increasing inefficiency, social division, and tural transformation in labor markets and unsustainable resource use. The cities—now capital accumulation are set to decline gradu- housing more than 700 million people—can ally. The returns from reallocating factors expect up to 250 million more migrants over of production across sectors—and even the next two decades. Hukou—the household across ownership forms—have declined registration system—forces many migrants 81 82 URBAN CHINA to leave their families behind, holding back urbanization of families has lagged behind labor migration and wage convergence. The the urbanization of jobs, while the urban- urbanization of land has been faster than the ization of land has happened faster than the migration of new residents, so average urban urbanization of people. China’s unbalanced densities have fallen. And China’s environ- intergovernmental fiscal system has left many mental transformation, unprecedented in its local governments dependent on resources scale, has done severe damage, with both from land conversions, prompting urban local and global implications. sprawl that does not allow fully unlocking A new urbanization trajectory that agglomeration economies. This situation enhances economic forces of agglomeration, has lowered economic concentration, slowed specialization, and mobility is needed to income convergence, delayed a transition to a support economic growth on both the sup- service-based economy, and undermined the ply and demand sides. While reallocations growth of household consumption. of labor across space and sectors in some A new u rba n i z at ion t rajec tor y to parts of China will continue to drive some strengthen agglomeration, specialization, and economic growth, productivity increases mobility will require comprehensive reforms will have to come more from improvements in land, labor, and capital markets. The role and advances within industries and sectors. of the government will have to change, giv- As China’s industries advance closer to the ing market forces a greater role in allocation production possibility frontier, growth’s divi- of factors of production, particularly land dends will increasingly be associated with the and capital, and getting out of the provision ability to take advantage of higher economic of goods that the private market is better at concentration (agglomeration), increased providing. Adjustments in the hukou system economies of scale (specialization), and more will be required to integrate migrants into efficient allocation of factors of production urban life. Distorted incentives of local gov- (mobility). ernments have made them direct participants On the supply side, greater economic con- in driving the economic growth by sustaining centration and specialization allow fi rms to high public investment growth rather than benefit from economies of scale, thus facili- efficient providers of public social services for tating industrial upgrading and technological all residents. Implementing these policies will convergence. Enhanced mobility and connec- not be easy, but it will be essential to complete tivity contributes to knowledge sharing, labor China’s transition to a market economy and matching, and ultimately growth of human further strengthen its foundations for growth. capital and employment. On the demand side, The payoff will be a more efficient, inclu- a more inclusive urbanization will expand the sive, and sustainable growth model. China’s urban middle class, which will demand bet- new urbanization trajectory will not slow ter services and lifestyles, in turn boosting the moderation of economic growth that is domestic demand. These forces have already likely over the next decades. But more effi- fundamentally changed China’s economic cient urbanization will improve the quality landscape over the past three decades, but of growth and support growth even as China these forces could be used better if not under- exhausts its demographic dividends. And in mined by frictions in factor markets. the absence of policy reforms, growth is likely Distortions in factor markets have led to slow even more. A higher concentration of China’s urbanization astray. China relies people will promote scale economies, mar- heavily on product markets for efficient allo- ket expansion, job creation with a deepening cations of goods and private services, but the division of labor, and higher living standards. transition to a market economy is incom- In addition, more inclusive urbanization will plete, and many distortions remain in the broaden the middle class—and this middle factor markets for land, labor, and capital. class will support consumption growth as Instead of supporting China’s urbanization urban lifestyles tend to be associated with path, numerous administrative constraints higher consumption of durables and ser- and distortions have undermined it. The vices. And more sustainable urbanization will URBANIZATION AND ECONOMIC GROW TH 83 promote industrial upgrading and a transition firms: the higher productivity of increased to advanced industrial and service sectors. agglomeration can be undermined by higher costs of real estate and labor. Cross-country regressions of gross domestic product (GDP) Urbanization and growth at a per capita and urbanization rate suggest that crossroads urbanization is a very strong indicator of all China’s first stage of urbanization has aspects of productivity growth over the long been good for growth run. But that does not establish causality. Indeed, academic studies fi nd no economet- China’s urban transformation over the past ric evidence to indicate that more urbaniza- three decades has increased incomes, raised tion results in more economic or productivity living standards, and made China the world’s growth (box 1.1). largest manufacturer and exporter. Real per After 1978, with the opening of markets capita incomes increased 16 times from 1978 and other reforms, China began to see siz- to 2012, and half a billion people were lifted able economic benefits from its spatial trans- out of poverty. And as workers shifted to formation. Between 1979 and 1997, the flow urban employment with higher productivity of labor from agriculture to nonfarm sectors and with labor productivity rising across sec- contributed about one-fi fth of GDP growth, tors through large investments, real output making it the single most important driver of per worker increased by a factor of 12. For economic growth in China since the reforms three decades, China’s economy grew at an (Cai and Wang 1999). Sustained high eco- annual average of 10 percent to become the nomic growth rates after 1978 are largely world’s second largest. attributable to China’s policies and reforms. This spatial transformation of China from First, China reformed agriculture. A overwhelmingly rural to increasingly urban household responsibility system for farmers reflects the sectoral transformation of the and mechanization unleashed efficiency gains economy as people moved from farming and in agriculture and released excess labor in allied rural activity into much higher pro- the rural sector. In 1978, 33 man-days were ductivity industrial and service jobs in urban needed to produce one mu of rice, wheat, areas. In 1978, nearly 70 million people were and corn. By 1985, only 18 man-days were employed in the secondary industry, and by needed, halving labor needs in seven years. 2011, the number had risen to 225 million, By 2011, the labor used had dropped to 7 with annual growth of 3.6 percent. Employ- man-days per mu of land. Thus, great libera- ment in the service industry increased from tion of rural productive forces drove the rural 49 million people to 273 million people, for economy, enabling rural enterprises to flour- average annual growth of 5.3 percent. These ish and small towns to develop. two transformations—the spatial and the Second, China gradually relaxed con- sectoral—are two sides of the same coin. straints on internal migration. In 1984, the Largely successful, they resulted in higher restriction on rural residents’ settlement in incomes and higher resource use (figure 1.1). townships was loosened. The restriction As in many other countries, this transfor- on settling in cities, especially small cities, mation has been good for economic growth, was alleviated in 1997. In the early 2000s, but more urbanization does not always mean reforms of hukou were introduced at local more economic growth. In the early stages levels. Zhejiang Province eliminated the of urbanization, productivity increases come quota for moving from rural to urban areas from shifting resources from lower productiv- and the quota on people changing from agri- ity rural activities to more productive urban- cultural to nonagricultural status. And Shi- based sectors. Differences in relative wages jiazhuang City of Hebei Province became have been one of the key drivers of migration the fi rst provincial capital city to eliminate to cities in China. But higher wages in cities restrictions on urban resident registration. are often offset by higher costs of housing Third, China industrialized, adopting and greater congestion. The same is true for modern manufacturing technologies and 84 URBAN CHINA FIGURE 1.1 China’s impressive economic growth has been accompanied by a massive population shift into urban areas a. GDP and urban population growth rates b. Structure of labor market and in China, 1973–2012 urbanization rate, 1963–2011 7 16 70 60 6 14 60 50 12 Urbanization rate (%) 5 50 GDP per capita (%) 40 10 4 40 Percent Percent 8 30 3 30 6 20 2 20 4 1 10 10 2 0 0 0 0 1973 1981 1989 1997 2005 2011 1963 1975 1987 1999 2011 Urbanization GDP Employment in services (left axis) Employment in industry (left axis) Urbanization rate (right axis) Source: World Bank staff estimates based on CEIC dataset. Source: World Bank staff estimates based on CEIC dataset. c. Urbanization rate and per capita income d. Natural resource and energy depletion in China, 1987–2011 60 18 2010 16 50 2008 2011 14 2009 Urbanization rate (%) 2007 40 2005 12 2003 % of GNI 1994 2000 10 30 1997 1990 8 1986 20 1983 6 1978 4 10 2 0 0 0 500 1,000 1,500 2,000 2,500 3,000 1998 2002 2006 2010 GDP per capita (constant 2000 US$) Natural resources depletion Mineral depletion Energy depletion Source: World Bank Development Data Platform. Source: World Bank staff estimates based on sources and methods in World Bank 2011. Note: GNI = gross national income. opening access to global markets. It intro- in China’s global integration through trade duced preferential policies for foreign capi- in goods, investment, and technologies. The tal, including tax rebates and exemptions. first cities to become more specialized were in And it established special economic zones China’s coastal provinces, close to waterways and opened up coastal cities. The opening of with access to international waters. China’s markets and adoption of new technologies export volumes in world foreign trade rose enabled fi rms to capture economies of scale from 0.8 percent in 1978 to 11.0 percent through concentration, specialization, and in 2012, making China the world’s largest technological upgrading—changes reflected exporter. URBANIZATION AND ECONOMIC GROW TH 85 BOX 1.1 Urbanization and economic growth Today, the world’s largest 300 metropolitan areas percent (5 billion urban residents), and by 2050, 67 account for more than half of global economic percent (6.3 billion urban residents). growth (Brookings Institution 2012). Globally, An increase in the urbanization rate has coincided urbanization is a relatively recent phenomenon. In with economic growth. Cross-country data show that 1800, only 3 percent of the world’s population lived a rising urbanization rate and economic prosperity in cities; in 1900, the rate was just 13 percent (with are positively correlated over time (figure B1.1.1). In a total urban population of 220 million). By 1950, fact, almost no country has reached income levels of the urban population reached 730 million, or 29 per- more than $10,000 before reaching an urban popula- cent of the world’s population. And by 2007, more tion of about 60 percent. Urbanization is inextricably than half of the world’s population resided in cities. linked to economic transformation; but more urban- By 2030, the urbanization rate is likely to surpass 60 ization does not always mean more economic growth. FIGURE B1.1.1 Urbanization is inextricably linked to economic growth a. Urbanization and per capita income levels b. Population in urban agglomerations and in 2011 per capita income levels in 2010 100 70 Population in urban agglomerations of more 90 Japan 60 than 1 million (% of total population) Brazil United Australia Korea, Rep. United 80 States Germany 50 States Urban population (%) 70 Russian Federation Canada 60 South Africa 40 Brazil Turkey 50 China 30 40 Russian France 20 China Federation 30 India Philippines Malaysia 10 Indonesia 20 10 0 0 5,000 15,000 25,000 35,000 45,000 0 5,000 15,000 25,000 35,000 45,000 GNI per capita (constant 2000 US$) GNI per capita (constant 2000 US$) Source: World Development Indicators. Source: World Development Indicators. Note: GNI = gross national income. Note: GNI = gross national income. Cross-country regressions of GDP per capita and However, for countries at any income level that are urbanization suggest that urbanization is a very strong still at the urbanization stage, there may be a level of indicator of all aspects of productivity growth over urbanization that promotes productivity growth. the long run. But that does not establish causality. In In fact, some countries do not grow with urbaniza- fact, academic studies fi nd no econometric evidence tion. In such cases, urbanization is mainly driven by that would indicate that more urbanization results in push rather than pull factors (for instance, by a nega- more economic or productivity growth (Henderson tive productivity shock in agriculture). Of course, the 2003). It is argued that urbanization is a byproduct gap between urban and rural public service availabil- of structural transformation out of agriculture into ity may also be a force driving the rural population effective development of the manufacturing sector. into the city. Changing the social security system, and health insurance has accelerated since broadening access to higher education, and 2006.1 Broadening access to higher education demobilizing the military further accelerated also supported an increase in urban popula- the urbanization process. Migrant workers’ tion. University graduates from rural areas participation in the urban basic pension plan were able to become urban residents, and the 86 URBAN CHINA number of graduates grew from 165,000 in turer and exporter. And it is on the cusp of a 1978 to 7 million in 2013. A large portion development stage in which efficiently using of demobilized military personnel also con- resources is more important for growth than tributed to China’s higher urbanization rate. simply mobilizing resources. To reach high- Based on service of three years (two years income status by 2020, China will require for soldiers, but longer for cadres or soldiers sustained growth of at least 7 percent a from the People’s Volunteer Army), about year. Although China’s achievements show 1 million military personnel are demobilized that such targets are not unrealistic—in the and transferred to civilian jobs annually. past three decades China doubled its real These policies made Chinese cities centers income four times—the dividends from first- of economic and social activity. The boom in generation economic reforms are declining. township businesses generated a large num- The growth dividends from factor realloca- ber of nonfarm jobs in urban areas. From tion are almost exhausted. Urbanization 1985 to 1993, the number of township busi- that worked in the past, driven mainly by nesses quadrupled from 6.1 million to 24.5 structural reallocations of labor from rural million (National Bureau of Statistics of to urban activities, will not produce growth China 1994). And in 1992, Deng Xiaoping’s sufficient for China to become a high-income southern tour further consolidated China’s country. transformation into a market-based economy With the dividends of spatial transfor- and affirmed cities as the centers of a market mation diminishing, the growth strategy is economy. losing its relevance. Productivity gains from Since the mid-1990s, China’s unprec- reallocating factors of production across sec- edented urban growth has been increasing tors, and even across ownership forms, have at an annual rate of more than 1 percentage declined (figure 1.2). And in recent decades, point. The large city clusters in the eastern capital accumulation has become the domi- region developed rapidly, as did cities in the nant engine of growth. The share of invest- central and western regions. City clusters ment in GDP has almost doubled over the took shape in the Pearl River Delta, Yang- past three decades. A decline in total factor tze River Delta, Beijing-Tianjin-Hebei, and productivity growth in China is consistent Changsha-Zhuzhou-Xiantan. The ability with the moderations of growth in other rap- of cities to absorb and support population idly developing economies. 2 The next tran- growth and to provide public and social ser- sition from industry to services typically is vices improved rapidly. slower and generates less growth, because China’s successful transformation also in the initial stages, productivity differences stems from its ability to adjust urbanization between industry and services are not as high policies to address emerging challenges and as those between agriculture and industry. opportunities. And after 2002, urbaniza- To be sure, three other Asian economies— tion policy gradually shifted its focus from Japan, the Republic of Korea, and Taiwan, quantity to quality. The 10th Five-Year Plan, China—all relied on high investment rates introduced in 2001, stated that China would over an extended period to reach high pursue urbanization in diverse ways and income. But China’s capital stock per capita coordinate development between cities and remains significantly lower than that in small towns. advanced countries. And continuing capital accumulation, although sizable, will contrib- ute less and less to growth as the capital- But a spatial transformation alone is labor ratio rises. A rise in China’s incremen- insufficient for China to become a tal capital-output ratio (ICOR)3 —from an high-income country average of 3.6 over 1991–2011 to 4.7 over The conditions for the next phase of urban- 2009–11—indicates that this process may ization are very different from three decades already have begun (table 1.1 and figure 1.3). ago. China is already an upper-middle- A rise in ICORs was especially pronounced income country, the world’s largest manufac- after the introduction of local government URBANIZATION AND ECONOMIC GROW TH 87 FIGURE 1.2 Growth is increasingly dependent on capital accumulation as productivity from reallocation of labor and capital is declining a. Sources of China’s average annual growth rate b. Average annual GDP growth and gross fixed capital formation share in GDP, 1978–2012 12 50 45 10 40 Annual growth rate (%) 8 35 6 30 Percent 25 4 20 2 15 10 0 5 –2 0 1981–90 1991–2000 2001–10 1978 1986 1994 2002 2012 Total factor productivity Annual GDP growth Ownership labor reallocation Gross fixed capital formation share in GDP Sectoral labor reallocation Ownership capital reallocation Sectoral capital reallocation Labor accumulation Capital accumulation Source: Based on research by Bulman and Kraay 2013. Source: World Bank staff calculations based on CEIC dataset. stimulus measures in 2009 and 2010. Fur- TABLE 1.1 Incremental capital-output ratio in China and other thermore, ICORs have increased consistently economies, various periods across all city sizes in China (although Gross fixed Average Incremental returns on capital remain higher in larger cit- capital formation, annual GDP capital-output % of GDP growth, % ratio ies than in others). China, 1991–2011 36.7 10.4 3.6 Changes in the global external environ- China, 2009–11 45.4 9.6 4.7 ment have made domestic demand the main China, 2012 46.1 7.8 5.4 engine of growth. But a fairly small middle Japan, 1961–70 32.6 10.2 3.2 class, such as China’s, cannot sustain con- Republic of Korea, 1981–90 29.6 9.2 3.2 sumption growth sufficient to offset declin- Taiwan, China, 1981–90 21.9 8.0 2.7 ing export demand. From 2000 to 2012, con- sumption declined from 46 percent of GDP Source: World Bank staff calculations based on Data Development Platform; CEIC dataset. Note: GDP = gross domestic product. to 36 percent. So, domestic demand depends more on investment. And much investment has been financed by credit. As a result, debt and 23 percent).4 Meanwhile, China’s labor levels in China have reached levels that are force is projected to start shrinking as soon high by emerging market standards. as 2015. In addition, rural surplus labor has China is about to go through a wrenching declined significantly (figure 1.4). And the change as the labor force that grew faster than contribution to growth of reallocation of the overall population ages. Over the next labor from agriculture to industry is declin- two decades, China’s old-age dependency ing as China gradually approaches the Lewis ratio is expected to double (World Bank and turning point (box 1.2).5 Moreover, the natu- DRC 2013). The old-age dependency ratio ral increase in urban population in the past will reach the current level in Norway and decade is estimated at only 9 percent. About the Netherlands by 2030 (between 22 percent 36 percent of that increase has come from the 88 URBAN CHINA FIGURE 1.3 Small cities are less efficient users of FIGURE 1.4 Changes in labor force and urban capital, increasingly so over time, 1995–2011 population Small cities are less efficient users of capital, a. Changes in urban population by source, 2000–10 increasingly so over time, 1995–2011 7 9% Incremental capital-output ratio 6 5 35% 4 3 2 56% 1 0 Natural urban population increase <0.5 0.5–1 1–1.5 1.5–2 2–5 >5 Migration from rural to urban areas City population size, millions Administrative reclassification of urban areas 1995–2001 2002–08 2008–11 Source: DRC estimates based on population census. Source: World Bank staff calculations based on Data Development b. Estimates of excess rural labor, 1990–2009 Platform; CEIC dataset. 200 180 160 reclassification of certain rural areas as urban 140 areas.6 Such rapid urban sprawl has contrib- 120 Millions uted to congestion and reduced economic 100 efficiency. 80 60 40 A new urbanization trajectory has 20 to address stresses related to urban 0 sprawl, inequality, and environmental 1990 1994 1998 2002 2006 2009 damage Method 1 Method 2 Method 3 With more than 700 million urban residents, Method 4 Method 5 China has become the world’s largest urban nation in human history. Between 1978 and Source: Han 2009. 2012, China’s urban population increased by Note: The formula for calculating rural surplus labor (RSL) is RSL = more than a half billion people—more than farming labor – actual demand for farming labor. Method 1: farmer profit maximization; Method 2: industry differences; Method 3: twice as many as in India in the same period. resource-based labor demand; Method 4: labor to effective arable Its urban population is expected to increase land ratio; Method 5: agricultural technology needs. by about 250 million more over the next two decades. The scale of China’s transforma- accompanying pollution in cities also push tion and the stresses related to concentration, up the cost of production and the cost of liv- inequality, and resource use create inefficien- ing in cities. Estimates suggest that traffic- cies and are costly to growth, with both local congestion costs account for 12.5 percent and global implications. of the per capita income of Beijing residents First, urban sprawl undermines pro- and 9.1 percent of the per capita income of ductivity gains from agglomeration and Shanghai residents. specialization as production and the popu- Second, the first stage of urbanization lation spread. Traffic congestion and the is typically associated with an increase in URBANIZATION AND ECONOMIC GROW TH 89 BOX 1.2 The Lewis turning point A simple dual economy model developed by Lewis FIGURE B1.2.1 Lewis model (1954) can characterize stages of economic devel- opment. In the fi rst phase, the countryside provides A3 the labor force for the industrial sector without any constraints. The marginal productivity of traditional A2 agriculture is close to zero. With plentiful surplus D labor in the countryside, the modern economic sector A1 can recruit a great number of laborers with a pay level a little higher than the income of the traditional agri- B3 cultural sector. The most significant feature of this B1 B2 w phase is massive migration of the labor force without much change in pay. (In figure B1.2.1 is the supply C curve of rural labor, OMOR is the total labor in the m economy, w is the pay level of the urban sector, and m is the surviving pay level in the countryside. The B1 B2 OM OM OM OM OR segment is the first phase of development.) The second phase of economic development fea- Source: Lewis 1954. tures a limited supply of labor from the countryside. In this phase, because of the continued migration of the labor force and higher marginal productivity economies are highly integrated. In this phase, the compared with the average output of the agricultural surplus labor force from the countryside is com- sector, the industrial sector must offer a higher pay to pletely absorbed, and the marginal productivities of attract labor (see the B2 B3 segment). the agricultural and modern economic sectors are In the third phase, the pay in the city and the equal. The transition point from the fi rst phase to countryside are generally the same, the dual sector the second is generally known as the Lewis turning structure has disappeared, and the rural and urban point. income inequality that undermines growth (including grassroots democratic voting) as of consumption and services, but China’s the others with nonfarm hukous. This dual inequality has increased to levels many con- system has also undermined the growth of sider unacceptable. One key reason is the the middle class and creates social tensions dual structure of the household registration (box 1.3). system, which separates urban residents Third, the industry-led growth has been based on their place of birth. While China’s intensive in energy, primary commodities, and urbanization rate has exceeded 50 percent, resources and damaging to the environment. not all urban residents have urban hukous. Unsustainable resource use has imposed large Those without urban hukous are unable to economic costs even if these are not revealed enjoy the same set of public services as those by market transactions; the costs include with urban hukous. According to estimates increased premature mortality, degraded from the sixth population census, of the 670 urban environments, sharply increased million urban and township residents regis- congestion, and reduced urban livability. tered in 2010, the registered nonfarm popula- Although an industry-led transformation tion measured only 356 million, or 26.7 per- typically results in excessive resource use and cent of the total, or 23 percentage points less environmental pollution, the size of China’s than the urbanization rate. Four in ten urban industrial agglomeration and specialization residents have no access to the same package has made the impact unusually devastating. of public services and social participation Recent estimates by China’s environment 90 URBAN CHINA BOX 1.3 Increasing social tensions Social service agencies at the local level are struggling Lianmei because she refused to pay a “protection to meet the demands of rising migrant populations. fee.” In the afternoon and evening of June 12, tens of And migrant workers often lack formal channels to thousands of people gathered on the super highway to make their voices heard, resulting in tensions between protest. migrants and local governments. Many local residents Now consider Zhili. On October 26, 2011, in worry that if migrants receive the same treatment as Zhili Town of Wuxing District, Huzhou City of they do, their benefits might be reduced. This uneasi- Zhejiang Province, more than 600 couples gathered ness can lead to social tensions, especially in places in front of the town government building to protest with a high proportion of migrants. For instance, against the “children’s clothes tax,” and many more there are 6.4 million migrants in Suzhou, about the surrounded and watched. The situation deteriorated same as the number of the local people; the number of the next day as riots broke out and some supermar- migrants in Dongguan city is 6.5 million, four times kets were looted, thousands of automobiles were sab- the number of local people. otaged, and more than 20 police cars were burnt. On Consider Zengcheng. On the evening of June 10, October 28, the town government suspended the tax, 2011, in Xintang Town of Zengcheng District, fi red the tax collectors involved in the incident, and Guangdong Province, a large riot broke out when a the situation was brought under control. city inspector beat a pregnant peddler named Wang ministry show that pollution cost the economy Urbanization can be made more efficient at least 2.5 percent of GDP in 2010. China’s by unlocking productivity and economic dependence on imports has also increased, growth potential through more efficient especially in energy.7 Resource depletion and allocation of labor, capital, and land. It can pollution not only pose threats to China’s stra- be made inclusive by providing equal access tegic priorities such as food security, energy, to basic public services and creating more and environmental security—they also tar- equal opportunities for all citizens, which nish China’s international image. will empower the middle class, a new driver That is why the new urbanization trajec- of China’s domestic demand. And it can be tory has to support three mutually related made more sustainable by promoting faster transformations: it has to become more pro- industrial upgrading to technologies and ductive, more inclusive, and more sustain- industries that are less resource intensive and able. More efficient urbanization will help more energy efficient. sustain economic growth as excess labor and demographic dividends become exhausted. Agglomeration, specialization, A concentration of population is conducive to taking advantage of economies of scale, and mobility expanding markets, deepening divisions of As in the first stage of urbanization, realloca- labor and job creation, and improving living tions of labor across space and sectors in some standards. More inclusive urbanization will parts of China will continue to drive some result in a broader middle class that will sup- economic growth, but productivity increases port consumption growth, as urban lifestyles will be associated more with improvements tend to be associated with higher consump- and advances within industries and sectors. tion of durables and services. More sustain- As China’s industries advance closer to the able urbanization will promote the adoption production possibility frontier, economic of more energy-efficient technologies, acceler- growth will increasingly be associated with ate industrial upgrading, and spur the transi- the ability to take advantage of higher eco- tion from industry to service sectors. nomic concentration (agglomeration), greater URBANIZATION AND ECONOMIC GROW TH 91 TABLE 1.2 Growth’s drivers on the new urbanization trajectory Supply side Demand side Drivers Productivity (A), human (H) and physical Consumption (C), investment (I), and government capital (K), and labor (L) spending (G), Net Exports (NX) Y = f(A,H,K,L) Y = C + I + G + NX 1. Agglomeration Higher economic concentration: Supports knowledge sharing, labor Supports consumption of urban amenities and more high spatial proximity of firms and matching, and pooling; promotes efficient distribution of public goods and services consumers accumulation of human capital (education) 2. Specialization Economies of scale Leads to higher productivity External competitiveness supported by export demand Requires industrial upgrading 3. Mobility and connectivity Efficient allocation of factors of Supports an increase in TFP through more Requires investment in infrastructure production efficient allocation of factors of production (capital and labor) Source: Adapted from World Bank 2009. Note: TFP = total factor productivity. economies of scale (specialization), and more exploit economies of scale arising from being efficient allocation of factors of production near other producers of the same or similar (mobility). products (localization economies) and from This new urbanization trajectory— being close to producers of a wide range of enhancing economic forces of agglomera- products and services (urbanization econo- tion, specialization, and mobility—will con- mies) (table 1.3).8 Geographical concentra- tinue to support economic growth on both tion of firms helps in sharing input suppliers, the supply and demand sides (table 1.2). On matching employment skills, and learning the supply side, higher degrees of economic from each other (box 1.4; see also Lucas concentration and specialization will allow 1988; Moretti 2004). In the United States, firms to benefit from economies of scale, thus almost all product innovations originate in facilitating industrial upgrading and tech- metropolitan areas. Large and diverse cities nological convergence. Enhanced mobility act as nurseries for firms to try out a variety and connectivity will facilitate knowledge of innovative products, and once the techno- sharing, labor matching, and ultimately the logical process is developed, it is transferred growth of employment and human capital. to specialized cities for mass production On the demand side, a more inclusive urban- (World Bank 2009). Thus, increased agglom- ization will expand the urban middle class, eration and specialization of high-skilled which will demand better services and life- industries and services facilitates industrial styles, which in turn will boost domestic upgrading and technological convergence. demand. These forces have already changed Industrial clusters of global importance China’s economic landscape over the past have facilitated the agglomeration and spe- three decades—but more is to come. cialization of Chinese fi rms. In the past, the central planning system favored a diversified production pattern in most cities. But over Agglomeration and specialization time, while the largest cities have remained will support industrial upgrading and diversified, market forces have made many technological convergence Chinese cities more specialized to take Economies of scale are one of the key reasons advantage of economies of scale. Cities that for rapidly growing industries and services to were closer to waterways with access to inter- locate in cities. Cities offer higher concentra- national markets were the first to become tions of economic activity, allowing fi rms to more specialized by exploiting the lower 92 URBAN CHINA TABLE 1.3 The 12 types of economies of scale Type of economy of scale Example 1. Pecuniary Being able to purchase intermediate inputs at volume discounts Technological 2. Static technological Average costs falling because of fixed costs of operating a plant Internal Dynamic 3. Learning to operate a plant technological more efficiently over time 4. Shopping Shoppers being attracted to places where there are many sellers 5. Adam Smith specialization Outsourcing allowing both the upstream input suppliers and downstream Static suppliers to profit from productivity gains because of specialization 6. Marshall labor pooling Workers with industry-specific skills being attracted to a location where there is Localization a greater concentration 7. Marshall-Arrow-Romer Reduction in costs arising from repeated and continuous production activity Dynamic learning by doing over time and spilling over between firms in the same place 8. Jane Jacobs innovation The more that different things are done locally creating more opportunity for observing and adapting ideas from others 9. Marshall labor pooling Workers in an industry bringing innovations to firms in other industries (similar to number 6, but the benefit arises from the diversity of industries in one Static External or agglomeration location) 10. Adam Smith division Main difference being that the division of labor is made possible by the Urbanization of labor existence of many different buying industries in the same place (similar to number 5) Dynamic 11. Romer endogenous The larger the market, the higher the profit; the more attractive the location to growth firms, the more jobs; the more labor pools, the larger the market 12. Pure agglomeration Spreading fixed costs of infrastructure over more taxpayers; diseconomies arising from congestion and pollution Source: World Bank 2009. costs of logistics in export-oriented manu- concentration of employment than manu- facturing industries (box 1.5). Since the early facturing and is more likely to benefit from 1980s, Chinese fi rms have developed indus- agglomeration and urbanization economies. trial clusters for knitted woolens, footwear, China’s economic activity has become electronics, textiles, and other products. In more concentrated in the largest metropoli- Zhejiang Province, industrial clusters for tan areas. In 2010, China’s 10 largest met- textiles and apparel formed; in Hangzhou, ropolitan areas accounted for slightly more women’s wear; in Wenzhou, men’s wear; and than one-fifth of urban GDP and more than in Ningbo, socks. Today, geographic clus- one-half of total exports originating in urban tering is more pronounced in high-skill and areas. Economic activity also has become technology industries. more concentrated regionally—in 2010, more The Herschman-Herfindahl Index of than 50 percent of China’s urban GDP and industrial concentration across provinces more than 85 percent of exports originated in shows that the production of computer urban areas of coastal provinces. peripherals is about two times more con- Agglomeration and specialization have centrated than the production of textiles.9 made Chinese firms more productive and For advanced services (the service sector competitive. A study by Lin, Li, and Yang excluding hotels and restaurants, wholesale (2011) of the textile industry on China’s trade, and catering), the concentration is south and west coasts in 2000–05 found that even higher. For instance, the concentration agglomeration plays a significant role in TFP, of research and development is about two with a nonlinear positive relation between times higher than the concentration of manu- agglomeration and productivity. Research facturing. Services tend to require less land, by Ke and Yu (2014) shows that variations in and the service industry can have higher industrial agglomeration explain two-thirds URBANIZATION AND ECONOMIC GROW TH 93 BOX 1.4 Microfoundations of agglomeration economies: Sharing, matching, and learning At the end of the 19th century, the economist Alfred That correlation intensifi es labor market competi- Marshall noted that income sharing, labor market tion and reduces the fi xed cost of enterprises. In a pooling, and knowledge spillover are the three major larger market, production factors can match better. reasons for the agglomeration effect (Marshall 1890; Enterprises can choose inputs and special skills as Duranton and Puga 2004). they need and meet the demands of a specific market; in the meantime, in a place of abundant enterprises, Sharing. There are many exclusive, undivided, and labor is more likely to fi nd suitable employers. When crowded facilities for shared use. The city is like a a worker gets more professional and specific skills, club for sharing such public goods and facilities. Pro- producers can fi nd special talents more easily in large ducers can have access to a wider range of inputs and cities. benefit from economies of scale and lower costs. The sharing of intermediate inputs allows suppliers to pro- Learning. Lucas (1988) noted that the advantage of vide highly specific products and services according a city in learning is embodied not only in its cutting- to the demands of the customers. The pooling capac- edge technologies, but also in its acquisition of skills, ity of a city comes not only from diversified income knowledge creation, accumulation, and proliferation. sharing but also from risk sharing. The agglomeration can accelerate the dissemination of knowledge and help workers, entrepreneurs, and Matching. Salop (1979) established a labor-match- different enterprises learn from each other. In the ing model and put it into the framework of urban process of discussion and communication, many economics. There are two sources for economic ideas and thoughts came into being, and information agglomeration in the matching model. One source and knowledge scattered. Knowledge-, information-, is the externality of matching: the increasing num- and technology-intensive industries are mostly con- ber of matching can improve the expected quality centrated in cities, especially in large metropolises. of matching (Helsley and Strange 1990). The other The larger the city, the higher the population density, source is that in a competitive labor market, there is the more diversified and concentrated information, a correlation between the number of job vacancies the more frequently people communicate, and the of enterprise and the number of unemployed people. faster productivity grows (Ciccone and Hall 1996). of different experiences in the TFP growth because firms can purchase intermediate across cities at the prefectural level and about inputs at volume discounts, because the fixed one-half of the variations across cities at the costs of operating a plant lower the average provincial and subprovincial levels. More- costs of production, and because managers over, China’s largest cities (tier 1 cities) have learn to operate a plant more efficiently. And higher TFP. A survey of 12,400 Chinese as cities become larger, they benefit less from manufacturing fi rms in 120 cities also fi nds industrial agglomeration and can face severe that firms in the largest cities have higher agglomeration diseconomies as residents in productivity (figure 1.5; see also World Bank bigger cities are burdened with congestion 2006). and higher living costs for housing, food, Economies of scale from agglomera- and public services (Muth 1969; Fujita and tion tend to vary across industries and city Ogawa 1982; Henderson 2002). sizes—smaller cities tend to specialize in Maturing industries, especially in manu- mature industries, larger cities in services facturing, started to move out of the largest and high-skill industries.10 Improved infra- cities in China over the past decade (figure structure and transportation allow fi rms to 1.6). Manufacturing has also started to shift become more specialized to exploit econo- out of prefecture-level cities and into coun- mies of scale not associated with agglomera- ties, where the share of national manufactur- tion. These internal economies of scale arise ing employment grew from 41 percent to 50 94 URBAN CHINA BOX 1.5 Agglomeration economies are attenuated by distance The economies from agglomeration can drive the Figure B1.5.1 clearly demonstrates that within development of both industry and services. In a the metropolitan area of the Pearl River Delta, as the highly open economy, being close to a major coastal distance from Hong Kong SAR, China, grows, the port means being close to the international market, GDP per capita of cities goes fi rst lower, then higher, and being close to a big regional city means being and then lower again. The GDP-per-capita curve close to the domestic market. Therefore, the geo- is basically the same shape as the market-potential graphical location of a city is an important factor in curve of the economic geography (Fujita and Thisse its development. 1996). FIGURE B1.5.1 Distance to major ports and economic development level of cities within a metropolitan area 0 –0.1 Log of GDP per capita –0.2 –0.3 –0.4 –0.5 –0.6 0 200 400 600 800 1,000 1,200 1,400 1,600 Distance from a major port (km) Pearl River Delta Yangtze River Delta Source: Ming Lu 2013. Note: km = kilometers. FIGURE 1.5 Total factor productivity has been highest in tier 1 and northeastern cities a. Growth contributions in cities by tier, 2000–10 b. Growth contribution by location 16 16 14 14 12 12 10 10 Percent Percent 8 8 6 6 4 4 2 2 0 0 –2 –2 National Tier 1 Tier 2 Tier 3 Tier 4 National Northeast East Center West (largest) (smallest) Capital accumulation Labor accumulation Labor reallocation TFP growth Source: World Bank staff estimates. URBANIZATION AND ECONOMIC GROW TH 95 FIGURE 1.6 Changing patterns of specialization in manufacturing and advanced services a. Location quotient of manufacturing employment b. Location quotient of advanced services employment by population size of prefecture-level cities by population size of prefecture-level cities 3.5 4.5 4.0 3.0 3.5 2.0 3.0 1.5 2.0 1.5 1.0 1.0 0.5 0.5 0 0 >15 10–15 5–10 1–5 0.5–1 0.25–0.5 <0.25 >15 10–15 5–10 1–5 0.5–1 0.25–0.5 <0.25 Millions Millions c. Location quotient of manufacturing d. Location quotient of advanced services employment by region employment by region 2.0 2.0 1.8 1.8 1.6 1.6 1.4 1.4 1.2 1.2 1.0 1.0 0.8 0.8 0.6 0.6 0.4 0.4 0.2 0.2 0 0 Northeastern Coastal Central Western Northeastern Coastal Central Western 2000 2010 Source: World Bank staff calculations based on the 2000 and 2010 population censuses. Note: Advanced services are all services except wholesale and retail trade and hotels and restaurants. The location quotient for any sector i in any city j is defined as p ij / Πi with p ij = p ij /∑i xij and Πi = Xi /∑ Xi, where xij is the amount of activity in sector i in city j and Xi is the amount of activ- ity in sector i in China as a whole. percent from 2000 to 2010. As a result, ser- steel production, and spatial clustering was vices account for a higher share of economic discouraged (Fan and Scott 2003). The rising activity in the larger cities. In 2011, services prices of land and housing also influence the accounted for 66 percent of GDP in the larg- choice of location of industries (Fan and Shao est cities (15 million or more people), but only 2011). about 33 percent in smaller cities (with fewer Agglomeration and specialization could than 1 million people). Assembling integrated better support China’s transformation computers has become less concentrated. toward high-skilled manufacturing and Producing steel, which benefits from econo- services. But the process in China has been mies of scale, remains fairly evenly dispersed slower than in other countries (figure 1.7). across provinces. That is explained in part by Although the transition of manufacturing a legacy of central planning and state own- out of largest cities in China has started, the ership. Before the 1980s, remote inland sites process is still slow relative to specialization were favored for key sectors, such as iron and patterns of cities in the United States and 96 URBAN CHINA FIGURE 1.7 Despite recent trends, a large share of manufacturing remains in large and medium-size cities a. Location quotient of manufacturing by city size b. Location quotient of financial services by city size 3.5 3.5 3.0 3.0 2.5 2.5 2.0 2.0 1.5 1.5 1.0 1.0 0.5 0.5 0 0 >15 10–15 5–10 1–5 0.5–1 0.25–0.5 <0.25 >15 10–15 5–10 1–5 0.5–1 0.25–0.5 <0.25 Millions Millions United States China Source: World Bank Staff calculations based on the 2010 population census, CEIC (China), and Bureau of Economic Activity (United States). Korea where predominantly smaller cities larger cities, manufacturing will continue to are specializing in manufacturing (Hender- move out, but services need to grow. son 1997, 2001). Chinese cities—both large Even with urbanization, the share of ser- and medium size—have high localization vices in GDP was only about 40 percent in of fi nancial services, whereas only the larg- 2011. But relative to other East Asian coun- est cities in the United States have very high tries, China is not an outlier (figure 1.8).11 localization of financial services. For China’s Going forward, if China wants to become a FIGURE 1.8 To become a high-income country, China will have to develop services quickly, but the marginal product of labor in services continues to decline a. Services and urbanization in East Asia, b. Marginal productivity of labor in services various periods relative to total across sectors 80 2.5 70 Services value added (% of GDP) 2.0 60 50 1.5 Ratio 40 30 1.0 20 0.5 10 0 0 0 20 40 60 80 100 1978 1988 1998 2008 Urban population (% of total) Agriculture Industry Taiwan, China (1962–2009) Japan (1955–2011) Services Korea, Rep. (1965–2011) China (1978–2011) Source: World Bank staff calculations based on World Bank Source: World Bank staff calculations. Development Data Platform. URBANIZATION AND ECONOMIC GROW TH 97 FIGURE 1.9 Population densities of Chinese cities have fallen over the past decade as the urbanization of land was faster than the urbanization of people a. Percentage change in built-up area and urban population b. Percentage change in population density and by city size, (millions) 2000–10 average land value appreciation in prefecture-level cities, 2003–11 > 15 300% 6 Shenzhen 250% 4 < 0.25 200% 10–15 Average annual population 2 Chongqing 150% density growth (%) 0 100% 50% –2 0% –4 –6 0.25–0.5 5–10 –8 –10 –12 –14 0.5–1 1–5 –10 0 10 20 30 40 Build-up area Urban population changes Average annual land value appreciation (%) Source: World Bank staff calculations based on the 2000 and 2010 population censuses and CEIC (China). Note: Weighted average. high-income country like Korea and Japan, urban land prices are correlated with greater it will have to develop services quickly from increases in density, so low land prices lead to here on. Yet the value added per employee in urban sprawl. Chongqing and Shenzhen, both services continues to lag behind the levels in in the upper right quadrant, have led China’s industry.12 Moreover, marginal productiv- experimentation with rural land compensa- ity of labor in services, relative to aggregate tion reforms. These reforms increased bar- labor productivity, has declined over the past riers to rural land expropriation while also three decades. increasing farmer land compensation, thereby Low-population densities of cities have leading to higher urban land prices, less undermined forces of agglomeration. China’s sprawl, and more efficient land use. geographic concentration of economic activ- Falling densities have implications for eco- ity remains substantially lower than in the nomic growth. As densities fall, sustained United States, where the largest 10 metro- growth requires even higher capital accumu- politan areas account for about 38 percent lation to offset declining productivity. Over of GDP, compared with only about half that the past decade in cities where economic den- in China. Population densities of Chinese cit- sities have been falling, growth has tended to ies are also lower relative to benchmarks in be supported more by capital accumulation advanced countries. Moreover, China’s pop- than by productivity growth (figure 1.10). ulation densities have continued to decline as increases in the built-up area were faster Mobility and connectivity will support than increases in the urban population over employment growth the past decade (figure 1.9). In part, too much land has been converted from rural to urban Labor migration driven by economic forces land because the state is able to expropriate it is good for economic growth and employ- and avoid paying the fair market cost. Local ment growth. Productivity increases from governments have relied on land leases to economies of scale in cities allow firms to finance both capital and recurrent spending.13 offer higher wages—one of the key drivers For 35 cities in China, faster increases in of labor reallocation from rural to urban 98 URBAN CHINA FIGURE 1.10 In places where economic densities are falling, growth is supported by capital accumulation rather than by productivity increases a. Relationship between change in density and b. Relationship between change in density and capital stock across Chinese cities, 2000–10 labor productivity across Chinese cities 8 Average annual growth rate in population 20 Average annual capital accumulation 6 growth contribution (%) 15 4 2 density (%) 10 0 –2 5 –4 –6 0 –8 –100 –50 0 50 100 150 7 17 27 37 % growth in density (urban population per built-up land area) Average annual growth rate in labor productivity (%) Source: World Bank and DRC staff calculations based on the 2000 and 2010 population censuses and CEIC (China). Note: Data for 286 cities in population density and the average annual growth rate of labor productivity (1990–2012). areas. Higher wages in Chinese cities pulled China’s industrialization. They accounted for new migrants while disadvantageous eco- 58 percent of employment in the secondary nomic opportunities in rural areas pushed industry, 52 percent in the tertiary industry, new migrants into cities. Between 2000 and and 80 percent in the construction industry 2010 alone, 117 million Chinese moved from rural to urban areas to seek better employ- ment opportunities. And coastal regions, FIGURE 1.11 Structure of migrants stock by type the engines of China’s growth, accounted of migration by regions in 2010, % for more than half of migrant inflows (table 1.4 and figure 1.11). Indeed, urban-rural Structure of migrants stock by type of migration has been the key factor in China’s migration by regions in 2010 (%) growth and urbanization. 100 It is estimated that labor migration has 90 contributed to more than 20 percent of GDP 80 growth during the past three decades (Yan 70 and Li 2007). With high individual mobil- 60 Percent ity, migrants have transformed the Chi- 50 nese economy, providing the key input for 40 30 20 TABLE 1.4 Structure of migrants stock by 10 receiving and sending region, 2010 0 From coastal From central From western Coastal Central Western regions, % regions, % regions, % regions regions regions Coastal regions 41.1 12.2 7.6 Rural to urban Rural to rural Central regions 1.0 18.2 0.5 Urban to urban Urban to rural Western regions 1.0 0.9 17.5 Source: World Bank staff estimates based on the 2010 population Source: World Bank staff estimates based on the 2010 population census. census. URBANIZATION AND ECONOMIC GROW TH 99 FIGURE 1.12 Migrants go to larger cities, where wages are higher a. Migrant share of population and b. Migrant share of population and prefecture-level log of total population wage ratio to national wage 80 80 Migrant share of population (%) Migrant share of population (%) 60 60 40 40 20 20 0 0 12 13 14 15 16 17 .5 1 1.5 2 2.5 Log of total population Wage ratio Source: World Bank staff estimates based on the 2010 population census. (National Bureau of Statistics of China 2013). industry have been migrant workers. And In 2010, China’s coastal regions accounted as the importance of services increased, the for about two-thirds of total migrants, of share of migrants working in these sectors which more than two-thirds were migrants also increased (table 1.5). from other coastal regions. Better physical infrastructure, espe- The majority of labor migrants are cially highways, has promoted connectivity absorbed by the largest cities that have larger and facilitated the mobility of labor. In the potential for agglomeration economies. Over early years of the reform and opening, road the past decade, China’s larger cities have transportation was a weak link. In 1978, attracted more migrants (figure 1.12), and the country had only 890,000 kilometers of cross-county migrants go where wages are highways, with zero kilometers of express- higher. way and 10,000 kilometers of class II high- Migrant workers supported sectors that ways and above. In the late 1980s and early were developing faster. Since 2004, more 1990s, the central government explicitly than half of employees in the secondary made developing the traffic system strategic TABLE 1.5 Migrant worker employment by sector, 2004–12 Sector 2004 2008 2009 2010 2011 2012 Manufacturing 30.3 37.2 36.1 36.7 36 35.7 Construction industry 22.9 13.8 15.2 16.1 17.7 18.4 Transportation, warehousing, and postal services — 6.4 6.8 6.9 6.6 6.6 Wholesale and retail businesses 4.6 9.0 10.0 10.0 10.1 9.8 Accommodation and catering services 6.7 5.5 6.0 6.0 5.3 5.2 Neighborhood services and other services 10.4 12.2 12.7 12.7 12.2 12.2 Other professions — 15.9 13.2 11.6 12.1 12.1 Total 100 100 100 100 100 100 Source: Data for 2004 are from Liquan and Laiyun (2006); data for 2008–12 are from National Bureau of Statistics of China (2012). Note: — = not available. 100 URBAN CHINA and urgent for the national economy, an his- BOX 1.6 Is China’s urbanization pattern toric opportunity for the grand development unique? A global perspective of the road network. Better communication facilities also The recent increase in China’s urbanization rate—32 improved connectivity by providing infor- percentage points over 1978 to 2012—is about twice mation about employment opportunities. In the average for developing countries in the same period. But rapidly rising urbanizations have occurred in Korea, 1978, only 734,000 rural households across Malaysia, and other countries (figure B1.6.1). And, in a the country had telephones, rising to 1.5 slightly longer perspective, the 45 years that it took China million in 1990, 51.7 million in 2000, and to rise from an urbanization rate of about 17 percent in 938.8 million in 2011. Almost everyone had 1968 to more than 50 percent in 2013 is comparable to a phone. the time it took the Soviet Union to rise from 17 percent Better education reduced social barri- in 1917 to 50 percent in 1961. ers to labor mobility. By 2000, the coverage of nine-year compulsory education was 85 FIGURE B1.6.1 Percentage point changes in urban percent, with enrollment rates of 99 percent population shares between 1978 and 2012 in primary schools and 88 percent in junior Change in urban population, 1978–2012 high schools. In 1986, a quarter of the rural Korea, Rep. (1960–90) labor was illiterate or semiliterate, dropping Saudi Arabia (1960–90) to 16.9 percent in 1995, 9.5 percent in 2005, Angola and 7.9 percent in 2009. China Malaysia But in comparison with other coun- Algeria tries at similar levels of development, labor Indonesia mobility appears to be constrained. China’s Korea, Rep. Oman urbanization role is still below the 70 per- Turkey cent that is more typical for a country with Canada (1880–1910) China’s per capita income. Its urban popula- Panama Jordan tion growth—3 percent to 4 percent annu- Lao PDR ally—is also below the 5 percent to 6 percent Bolivia observed in other developing counties during Nigeria Ecuador their rapid growth (box 1.6). Other indica- Cameroon tors suggest that urbanization is restrained: El Salvador excess employment in agriculture remains Paraguay significant, not all rural migrants are for- Ghana Belarus mally registered in urban areas, and the Brazil urban-rural wage gap remains large. China’s Dominican Republic reforms are entering their 35th year, and Iran, Islamic Rep. Albania constrained labor migration has resulted in Mozambique a larger urban-rural gap today than in 1978. Germany (1880–1910) In 2009, the rural surplus labor in China was Saudi Arabia Portugal between 85 million and 115 million people, Netherlands about 19 percent of rural jobholders. Spain (1960–90) Restrained labor mobility is bad for Mongolia Mean developing countries . . . growth—it slows productivity increases and United States (1880–1910) income convergence. In the United States, United Kingdom (1850–80) labor mobility has led to the near elimination 0 5 10 15 20 25 30 35 40 45 50 of interregional and urban-rural wage differ- ences. Rural-urban migration in the United Percentage point change States helped equalize agricultural and non- Source: World Bank staff calculations based on World Development agricultural wages, which had a dispropor- Indicators and Bairoch and Goertz 1986. tionate effect on poorer agricultural states, leading to regional convergence. The North- (Box continues next page) South labor income ratio fell from 2.4:1.0 to URBANIZATION AND ECONOMIC GROW TH 101 BOX 1.6 (continued) And compared with economies at similar incomes, tries with similar incomes is about 70 percent. Only China has a significantly lower urbanization rate (fig- Portugal, Slovenia, and Thailand had lower urbaniza- ure B1.6.2). The average urbanization rate of coun- tion rates than China at comparable incomes. FIGURE B1.6.2 Urbanization rate and year country reached China’s current per capita income Urbanization rate and year country reached China’s current per capita income 100 Singapore Kuwait Belgium 90 Argentina Israel Chile Australia 80 Urbanization rate (%) UK Korea, Rep. Japan Russian 70 Federation USA 60 Finland Switzerland Azerbaijan 50 China Portugal 40 Slovenia Thailand 30 1940 1950 1960 1970 1980 1990 2000 2010 2020 Source: Maddison World Economic History database; World Development Indicators; United Nations World Urbanization Prospects: The 2011 Revision; U.S. Census Bureau website; Zhuo 2013. Note: China’s per capita income is at $8,825 in international dollars. 1.1:1.0 as the urbanization rate rose from 28 sition from a middle-income country to a percent to 74 percent (Caselli and Coleman high-income country. And cities promote the 2001). Similarly, Korea’s rapid urbanization emerging urban middle class and domestic eliminated the urban-rural wage gap by 1994, consumption. But households’ high-income just 33 years after General Park Chung-hee inequality, low-income share of GDP, and initiated Korea’s rapid industrialization. high savings rate have constrained China’s Increasing mobility and connectivity middle class. between rural and urban and across cit- Countries that have developed their mid- ies will support employment growth, which dle class have transitioned from export-led slowed in the past decade (figure 1.13). In growth to consumption-led growth while 2010, cities with a population below 1 mil- relying on innovation and service-sector lion accounted for about one-third of urban development, reducing the risk of getting employment, but average employment stuck in a middle-income trap (Gill and oth- growth in these cities was less than 5 percent ers 2007). On the supply side, middle-class over the past decade, on average about one- values of hard work, meritocracy, saving, and quarter of that in larger cities. education enable rapid physical and human capital accumulation (Kharas 2010). Since the 14th century, a middle class has been The emerging urban middle class will the source of entrepreneurship and innova- demand better services and lifestyles tion, as well as the small businesses upon Middle-class citizens are important for eco- which modern economies thrive (Acemoglu nomic growth, particularly during the tran- and Zilibotti 1997). On the demand side, 102 URBAN CHINA FIGURE 1.13 Increased mobility and connectivity will support employment growth a. Percentage point increase in employment from a b. Increase in employment 2000–10 by city size one-percentage-point increase in GDP, by sector, 1978–2011 0.9 30 0.8 25 0.7 Employment growth (%) Employment elasticity 0.6 20 0.5 15 0.4 0.3 10 0.2 5 0.1 0 0 1978– 1986– 1991– 1996– 2001– 2006– > 10 9–10 1–5 0.5–1 0.25–0.50 < 0.25 1985 1990 1995 2000 2005 2011 Millions Industry Services Source: DRC staff calculations. Source: Estimates based on the 2000 and 2010 population censuses. a middle class enjoys stable housing, job income elasticities of demand for consumer security, health, and educational opportuni- durables and services become greater than ties—and has discretionary income to spend one (Nomura International 2009). on leisure, leading to a “new consumerism” Cities offer consumption amenities asso- (Schor 1999). Middle-class consumers pay ciated with higher densities, which are asso- extra for quality, encouraging value-added ciated with higher household incomes, as branding and product differentiation. There economies of scale allow firms to offer higher is a kink in demand curves at purchas- wages for labor (Glaeser, Kolko, and Saiz ing power parity (PPP) $6,000, after which 2001) (figure 1.14). Those higher incomes, FIGURE 1.14 Higher densities are associated with higher incomes and consumption a. Household income and population density b. Retail sales per capita and population density in China’s provincial-level cities, 2010 in China’s provincial-level cities, 2010 4.6 5.3 Log of household income per capita 5.1 4.5 Log of retail sales of consumer 4.9 4.4 goods per capita 4.7 4.3 4.5 4.2 4.3 4.1 4.1 3.9 4.0 3.7 3.9 3.5 1.25 1.75 2.25 2.75 3.25 3.75 4.25 1.25 1.75 2.25 2.75 3.25 3.75 4.25 Log of population density Log of population density Source: World Bank staff estimates based on CEIC dataset. Source: World Bank staff estimates based on CEIC dataset. URBANIZATION AND ECONOMIC GROW TH 103 FIGURE 1.15 Real household incomes (adjusted for cost of real estate) are lower in the largest cities, yet they have experienced the largest increase in population a. Residential real estate prices and household incomes b. Changes in urban population across city sizes, across city sizes in China, 2011 2000–10 2.5 60 Index (1 = average level, all urban areas) 50 2.0 40 1.5 Percent 30 1.0 20 0.5 10 0.0 0 > 10 9–10 1–5 0.5–1 0.25–0.50 < 0.25 > 10 9–10 1–5 0.5–1 0.25–0.50 < 0.25 Millions Millions Real estate index Household disposable income Source: World Bank staff estimates based on CEIC dataset. Source: World Bank staff estimates based on census data. combined with social interactions associated rather than services and consumption. The with higher densities, boost the demand for productivity gains unlocked during China’s consumption amenities. Cities can offer live structural transformation from rural to concert, theater, and other commercial per- urban activities were far greater than real formances associated with large fi xed costs. increases in labor compensation. And the And it is argued that rising consumer ame- remaining surplus labor in rural sectors nities are associated with a revival of many constrains any upward wage pressures. As of the metropolitan areas in the United States a result, the majority of the gains are cap- (Glaeser and Gottlieb 2006). tured by enterprises, allowing them to main- Estimating the value of available con- tain high corporate savings rates to fi nance sumption amenities is difficult. One way capital-intensive growth (figure 1.16). At the to estimate how much households are will- same time, moderate real wage growth main- ing to pay for these amenities is to compare tained China’s competitiveness in external incomes and costs of housing across cities. markets. A simple “dual economy” model If there were a positive consumption exter- shows how the transfer of surplus workers nality associated with density, one would from the rural sector to the modern economy, expect that incomes in larger cities, adjusted complemented by rising investment, leads to for costs of housing and transport, would rapid but inefficient growth (Lewis 1954). be lower.14 And indeed, average household But China’s growth imbalances have incomes in China’s largest cities are about lasted much longer than those in other coun- 30 percent higher than on the average for all tries experiencing rapid economic develop- urban areas, while housing costs per square ment and transformation. They also differ meter are double the average. Yet the largest across regions—the share of investment in increases in population over the past decade GDP is significantly higher in western and were still in large cities (figure 1.15). central provinces. And imbalances in these The first stage of urbanization commonly regions widened after 2008, driven mainly by lowers the shares of consumption. Growth investment stimulus measures by local gov- is driven mainly by industry and investment ernments in western and central provinces. 104 URBAN CHINA FIGURE 1.16 The initial stages of urbanization and industrialization led to imbalances in economic growth a. China’s GDP compositon, demand side, 1978–2011 b. China’s household income and wage share in GDP, 1992–2011 100 70 90 80 65 70 60 60 Percent Percent 50 40 55 30 20 50 10 0 45 1978 1986 1994 2002 2010 1992 1997 2002 2007 2011 Net export Rural consumption Household disposable income Wages Investment Urban consumption Government consumption Source: World Bank staff estimates based on CEIC dataset. Source: World Bank staff estimates based on CEIC dataset. Note: Calculated from flow of funds tables. c. Consumption as a share of GDP d. Private consumption as a share of GDP 95 90 90 80 85 70 Share of GDP (%) Share of GDP (%) 80 60 75 50 70 40 65 30 60 20 55 10 50 0 0 5,000 10,000 15,000 20,000 25,000 t 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 t+ t+ t+ t+ t+ t+ t+ t+ t+ t+ t+ t+ t+ t+ t+ US$ (PPP, 2005) Korea, Rep. (t = 1965) Singapore (t = 1965) China (1970–2012) Korea, Rep. (1965–2012) Taiwan, China (t = 1965) Japan (t = 1965) Taiwan, China (1965–2012) Source: World Bank staff estimates based on CEIC dataset. Source: World Bank staff estimates based on World Bank Data Development Note: Primary industry—agriculture, Secondary—industry and construction, Platform. Tertiary—services. Mounting evidence suggests that returns on China’s global middle class grew from less those investments have started to decline, than 2 percent in 2000 to 11 percent in 2010, requiring ever higher levels of investment to but its relative size remains low.15 China has maintain economic activity (Lee, Syed, and become the world’s second largest middle Xueyan 2013). This finding contrasts with class in absolute terms with 157 million con- coastal provinces, where high investment sumers, behind only the United States. But rates in the past have started to translate to at only 11 percent of its population based gradual increases in private consumption, as on consumption, the Chinese middle class is returns to those investments contribute to small in relative terms (table 1.6 and figure higher household incomes. 1.17).16,17 And at China’s per capita income, URBANIZATION AND ECONOMIC GROW TH 105 TABLE 1.6 Percentage of population with middle-class domestic demand. China’s consumption between $10–$100 a day, in 2005 inequality is more similar to Brazil’s in the PPP dollars 1970s than Korea’s in the 1980s, and its high Urban Rural National household savings rates further depress the 2000 3.5 0.6 1.7 emergence of a vibrant middle class. 2005 7.9 1.3 4.1 Households with high-income inequal- 2006 9.7 1.8 5.3 ity, a low-income share of GDP, and a high- 2007 11.8 2.0 6.5 savings rate have constrained middle-class 2008 13.6 2.1 7.5 development in China, all undermining faster 2009 16.8 2.7 9.5 growth in consumption (figure 1.18). 2010 19.5 3.2 11.4 China’s rising income inequality over the Source: World Bank staff estimates based on Povcal data. reform period is fairly normal, but the rate of increase is largely unprecedented. China is rapidly approaching the per capita income FIGURE 1.17 China’s middle class continues at which the United States inequality began to grow, but it remains small relative to China’s to decline (before rising again at a much development level wealthier stage). And there are signs that China may be reaching the inflection point Share of population and their consumption of the Kuznets curve. Whereas intrarural ($10–$100 per day) inequality at the start of reform was signifi- 100 cantly higher (0.33) than intraurban inequal- Middle-class consumers, % of population 90 ity (0.24), intraurban inequality has grown 80 much more over the past 30 years,18 espe- 70 cially when migrants are included.19 Even so, 60 China’s overall income inequality remains 50 comparable to Malaysia, Singapore, and the 40 United States. The contribution to overall 30 inequality made by mean difference in urban 20 and rural incomes rose from 37 percent in 10 1988 to 54 percent in 2007. 20 Adjusting for 0 spatial cost-of-living differences reduces this 5 6 7 8 9 10 11 figure to 41 percent, which is much higher Log of GDP per capita, PPP (2005 US$) than most other countries (Li, Chuliang, and All countries, most recent data Sicular 2013). But the urban-rural income China (1990–2009) gap began to shrink in 2009 and the con- Brazil (1980–2009) sumption gap began to shrink as early as Korea, Rep. (1986–2009) 2004. Despite wide interprovincial expendi- ture inequality—the richest province spends Source: World Bank staff estimates based on Povcal data. more than 8 times per capita than the poor- est province, much larger even than Brazil where the richest state spends 2.3 times more more than 20 percent of the population than the poorest state (Dollar and Hofman should have entered the global middle class. 2008)—intraprovincial inequality of county- China’s current per capita income is simi- level units is even more extreme. In 2010, lar to Brazil’s in 1980 and Korea’s in 1986, intraprovincial inequality accounted for 67.5 but China’s middle class is half that of Brazil’s percent of national inequality in average and a quarter that of Korea’s (Kharas 2010). county income, but interprovincial inequality Korea’s transition to high income came from accounted for only 32.5 percent. developing an innovation-based knowledge High household savings are further inhib- economy on the shoulders of its large middle iting the emergence of a vibrant middle class. class. Brazil, meanwhile, continued to rely Rural households and migrants save as much on commodity exports without sufficient as 30 percent more than permanent urban 106 URBAN CHINA FIGURE 1.18 Why is urban consumption so low? a. Decline in consumption’s share in GDP, b. Urban household savings rates cumulative changes in percentage points 0 30 –1% 0% 25 –2 % of disposable income –7% 20 –4 Percent 15 –6 10 –8 5 –4% –10 0 –12 –5 1992–99 2000–09 1997 2000 2003 2006 2009 2011 Increase in savings rate Lowest income and poor Low income Decline in household income share Middle income High income Source: World Bank Staff estimates based on CEIC dataset. residents at similar incomes. The migrants’ mobility and connectivity. The government precautionary savings are high because they should let market forces do more in allocat- lack social services and safety nets, such as ing factors of production, particularly land government-supported social housing—and and capital, and get out of providing goods are less able to obtain private mortgages, so that the private market is better at deliver- they generally cannot purchase homes except ing. Adjustments in the hukou system will with cash. The lack of access to mortgages be required to integrate migrants into urban means that migrants do not enjoy a hous- life. Distorted incentives of local governments ing wealth effect: they cannot benefit from have made them direct participants in driv- the massive increase in urban wealth result- ing the economic growth by sustaining high ing from the privatization of housing in the public investment growth rather than effi- 1990s. 21 Migrants’ low wages and high cient providers of public social services for all household savings also limit their demand residents. Implementing these policies will not for consumer goods. If migrants were to be easy, but it will be essential to complete consume at urban rates given equal service China’s transition to a market economy and provision and more accessible and affordable further strengthen its foundations for growth. housing, back-of-the-envelope calculations imply a 1.8 percentage point increase in the Adjusting land and financial sector household consumption share of GDP. policies to strengthen forces of agglomeration and specialization More efficient, inclusive, and China’s future economic growth will depend sustainable urbanization on efficiently allocating factors of produc- and growth tion, but distorted incentives and price sig- nals in factor markets are leading China’s A new urbanization trajectory to strengthen urbanization astray. Distortions in the price agglomeration and specialization will require of land have encouraged urban sprawl and comprehensive reforms in land and financial undermined agglomeration economies. And sector policies, while changes in hukou and distortions in access to and cost of capi- fiscal policy will be required to strengthen tal have reduced the returns on capital and URBANIZATION AND ECONOMIC GROW TH 107 FIGURE 1.19 The concentration of different factors of production differs widely in China a. Various factors of production across b. Population across cities in prefecture-level cities in China, 2010 China and other countries Russian Federation Land Ukraine (built-up area) China Industry Brazil employment Japan Indonesia Physical capital United Kingdom Mexico Nigeria Migrant stock France India Germany Human capital United States Spain 0 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 Gini coefficient Gini coefficient Source: World Bank and DRC staff estimates based on CEIC dataset and census data. undermined specialization and technological land for industrial use in Chinese cities was upgrading. RMB 544 per square meter, while the aver- The concentration of different factors of age price of land for commercial use was production differs widely in China. The Gini about 10 times higher—RMB 5,151 per coefficients of concentration of various fac- square meter. Moreover, while the price of tors of production show that while the vast land for industrial use remained broadly con- majority of migrant and human capital stock stant in real terms, the price of land for com- tends to be very concentrated, industrial mercial use increased by about 12 percent a employment and physical capital concentra- year on average in the past four years. 22 In tion is lower (figure 1.19). Moreover, the con- addition, whereas the prices of industrial centration of land, a factor that is immobile land remain broadly uniform across cities, and should have very low concentration, is there is considerable variation in prices of almost as concentrated as employment. The land for commercial use across cities. In cit- concentration of population in China is very ies with more developed services, the price of similar to other former economies of central land for commercial use has increased more. planning, but it remains significantly lower In Guangzhou, a ratio between prices of land than in Brazil, Japan, and the United States. for commercial and industry use is as high as For economic efficiency, land and capital 42. If industrial firms could capture the value must be used in a way that has the greatest of their land holdings, they would find it value. If not, the economy is not achieving its more attractive for some of them to relocate potential. Markets accomplish this through out of the city. Similarly, the low cost of land land prices and interest rates, but administra- has resulted in sprawl, pollution, and conges- tors have a difficult time imputing value to tion that would be lower if land were priced land or capital. at its true social value. Distorted land prices have slowed special- The present land system—with incomplete ization and the transition toward a service- property rights and government controls— based economy. Industries were drawn by creates stress, tension, and rising inequality. cheap land, and they have no incentive to Land is essentially owned or controlled by leave. In March 2013, the average price of the government, and its use is determined by 108 URBAN CHINA applying administrative rules. The rules are reform and land sale transactions increased well intended, as are the people administer- sevenfold. Both had an unambiguously ing them, but they are not compatible with positive impact on productivity, and Viet- China’s dynamic economy. Rigid land poli- nam went from being a net rice importer to cies have effectively tied half the population becoming the world’s second largest exporter to rural areas that produce only 10 percent (Deininger and Jin 2003). of GDP. Rural peasants, among the poorest Despite China’s impressive progress in in any society, hold land collectively and can- reforming the fi nancial sector, the fi nancial not liquidate their holdings when they exit system remains repressed and suffers from key the collective. Household plots are also col- structural imbalances (World Bank and DRC lectivized so that families do not even own 2013). Not only do these imbalances pose sig- the land under their houses, nor can they get nificant systemic risks, they prevent China’s a mortgage on that land. financial system from serving an increasingly Land reforms would give peasants the dynamic and internationally integrated econ- wealth from land sales, reducing social ten- omy. China’s municipal governments have sions and mitigating growing wealth inequal- increased investments in infrastructure, pri- ity. Between 1990 and 2010, local govern- marily through off–balance sheet borrowing ments expropriated rural land at RMB to bypass their severely constrained access to 2 trillion below market value (Page 2011). capital markets. More efficient allocations of Assuming that this wealth would have gen- capital would require increasing interest-rate erated returns similar to overall growth, flexibility by moving to a point where inter- farmers today would have more than RMB est rates clear the credit market. With inter- 5 trillion in household wealth, greatly low- est rates doing so, the capital market would ering the urban-rural asset gap and increas- deepen to make more equity and securitized ing consumption through a wealth effect. In fi nancing available. In addition, the capital addition, rural land is held in small parcels, market’s legal framework would improve, the making it difficult to assemble economic- fi nancial infrastructure would be upgraded, sized farms, reducing agricultural produc- and more stringent rules on information dis- tivity and rural incomes. Despite massive closure would be imposed. off-farm migration, rural population growth Constrained access to capital has slowed has meant that cultivated land per agricul- the specialization of high value-added ser- tural laborer has remained fairly constant, vices. China’s financial sector, dominated by increasing only from 0.35 hectares in 1978 to state-owned banks, facilitated a transfer of 0.41 in 2008. Average Chinese farm holdings savings from households to large state-owned are well under 1 hectare, far lower than the industrial enterprises. An interest-rate cap on global average and 300 times smaller than domestic savings has effectively transferred the average farm in the United States. household wealth of about 4 percent of GDP Global evidence demonstrates that formal a year to the industrial sector (Lee, Syed, and rural land markets with unconstrained trans- Xueyan 2012). A transition from industry to ferability (selling and renting) lead to sig- services will be increasingly driven by small nificant increases in agricultural investment and medium enterprises, but China’s financial and productivity through mechanization and intermediation remains inefficient in chan- larger rural plots. In the decade after Taiwan, neling financial resources. In addition, the China, privatized rural land in the 1950s, interest-rate cap on domestic savings has also annual rice yields rose 60 percent and farm distorted the allocation of capital, encourag- incomes 150 percent. New laws in Vietnam ing households to channel their savings to in 1993 established the right to inherit, trans- nonproductive assets, notably real estate. fer, sell, lease, or mortgage land and extended Market forces should play a greater role duration of land use rights from 20 years to in allocating land and capital. To increase 50 years. These reforms increased both effi- the efficiency of land use, it is necessary to ciency and equity. Rental market participa- ensure the security of agricultural land ten- tion quadrupled in the five years following ure, including introducing the transferability URBANIZATION AND ECONOMIC GROW TH 109 of land rights and reforming land acquisi- China has been very successful at urban- tion and compensation practices. This action izing employment, but it has failed to make includes rolling out the recent policy deci- sufficient progress in urbanizing people. sion to grant indefinite land use rights to Hukou-based institutional barriers to move- farmers, to expand land registration, and to ments of people combined with a decentral- strengthen rural land markets. These poli- ized fiscal system that results in spatial differ- cies will increase more efficient allocation of ences in the ability to provide social services land and support forces of agglomeration and have slowed income convergence and under- specialization. mined the growth of an urban middle class (figure 1.20). Whereas urbanization has made migrants Empowering the middle class by letting better off, their economic and social oppor- migrants become urban residents tunities often lag behind those of urban Developing a flexible and dynamic labor residents. The hukou household registration market that supports agglomeration, spe- system has institutionalized a “floating” pop- cialization, and mobility will be central to ulation of those who migrate without their China’s future success as a high-income, families and have unequal access to social open economy. Reforming the hukou system, insurance and public services. They work the permanent residency of migrants, is an longer hours in worse jobs for lower wages. essential element in China’s transformation In 2011, average wages for urban migrants to an economy based on domestic demand. were 43 percent less than those for urban res- Currently, barriers to free migration prevent idents (Credit Suisse Research Institute 2011). workers from going where they are needed Controlled for education, the wage gap and lead to imbalances in the supply and almost disappears, but migrants have limited demand for labor. Rural-urban labor mobil- access to quality education and have worse ity has been a driver of China’s growth, and educational outcomes. And rather than have slowing it reduces China’s future growth urbanization gradually integrate the migrant potential. Already, China’s major cities see a population, it continues to widen the divide growing gap between the supply and demand between permanent residents and migrants: of labor. whereas 31 percent of the urban population FIGURE 1.20 Slow urbanization of people has slowed income convergence a. Urban employment and nonagriculture a. Urban-rural consumption and income ratios registration (hukou) 50 4.5 4.0 45 3.5 Urban-rural ratio 40 3.0 Percent 2.5 35 2.0 30 1.5 1.0 25 0.5 20 0.0 1978 1986 1994 2002 2012 1978 1986 1994 2002 2012 Urbanization of employment Consumption Income Urbanization of household (registered) Source: World Bank Development Data Platform. Source: World Bank Development Data Platform. 110 URBAN CHINA were temporary migrants in 2000, this share wages, savings, consumption behavior, and had grown to 42 percent by 2010. nonwage income possibilities (property plus The household registration system has also transfer income). Also assume that migrant restricted many migrants from housing own- labor productivity is equal to native urban ership in urban areas. Enabling people to live labor productivity and that urban-rural middle-class lifestyles requires a robust and migration does not diminish agricultural affordable urban housing sector that gives all output (out-migrants are surplus labor). residents an achievable aspiration for better What would have been the gains to China’s homes. Currently, only 10 percent of migrants economy from faster migration? For every own urban housing, compared with 90 per- 0.1 percent faster annual migration over the cent of the permanent urban population. The 1978 to 2010 migration (1 million people migrants without housing do not gain from in 1980, 1.34 million in 2010), real GDP in increases in home values and do not experi- 2010 would have been higher by 4.6 percent. ence a positive housing wealth effect that If China had enabled migration at close to would boost their consumption. Without per- Korean rates, its economy would be nearly 25 manent homes, they are also less likely to con- percent larger today. And structural change sume housing appliances and other goods and would have already begun: the household services related to home ownership. Because income share of GDP would be more than migrants are excluded from the mortgage 5–8 percentage points higher than it is, and fi nance market and from local urban social the consumption share of GDP would be housing, they must save more of their income 3–5 percentage points higher (depending on to purchase future housing. In other words, the growth rate from additional migration). one-fifth of China’s people are prevented China would be richer and already more from borrowing against future income and dependent on domestic demand. becoming current consumers. Unequal sharing of capital gains is the Providing public goods and services to source of serious and growing social discon- support mobility and connectivity tent. In 2010, capital gains accounted for about 8 percent of average household incomes The expected urban population increase may for permanent urban residents. But for urban well be more than most cities can absorb migrants, the equivalent share was only about with their existing infrastructure and service 3.4 percent. Rural-urban asset inequality is delivery capacity. Over the next two decades, more extreme and has been institutionalized new amenities will be provided to satisfy a by semiprivatization of urban housing (with higher-income population and service indus- capital gains) and by continuing nontransfer- tries will ask for a different package of infra- ability of rural land. The wealth Gini coef- structure and social services than manufac- ficient in 2002 was 0.55, much higher than turing industries did. Higher incomes and that of income inequality, and housing rep- automobile ownership have slowed travel resented two-thirds of the inequality in net times in China’s major cities. In 2011, the wealth (Zhao and Ding 2007). As urban average travel speed in Beijing was estimated housing prices rise, the differences become at 7.5 miles an hour, about half that in New more stark: between 2002 and 2007, per cap- York or Singapore. ita urban housing wealth grew from 4.5 times Adequate public infrastructure and ser- rural housing wealth to 7.2 times, compared vices have long been recognized as a key with an income gap of only 3.1 times in 2008. factor of development and a tool for gov- China’s constraints on free mobility of ernments to promote competitiveness and labor reinforced regional and urban-rural regional and productivity growth. 23 But wage gaps, evincing a lack of efficiency, and insufficient infrastructure and inadequate China would have enjoyed large payoffs from services are associated with rapid economic quicker migration and faster convergence. transformation and urbanization in develop- Assume that over the 32 years from 1978 ing countries. In many aspects, China is an to 2010, migrants had naturally converged exception—its infrastructure stock is notably URBANIZATION AND ECONOMIC GROW TH 111 higher than that in countries at a similar government incentives to achieve economic level of development. Municipal investments growth objectives over social objectives. in public infrastructure have accounted for Local governments have used capital expen- about 3 percent of GDP in the past decade. ditures financed both by land transactions And China has made tremendous progress and debt to boost short-term growth by pro- in providing access to basic education and vision of capital investments in infrastruc- health services. But in many parts of China, ture and real estate development. Moreover, the access to and quality of service provision after 2009 many lagging regions in western and infrastructure remain low. and central China have relied on investment Public services are essential to minimize as the engine of growth. Although such poli- negative externalities associated with high cies have increased convergence, the returns population densities. Noise, congestion, on capital investments in these regions have waste, infectious disease, and other exter- declined considerably and local government nalities become more severe as people locate debt has increased.26 near one another in large agglomerations. So, A reallocation of spending toward social public services are one of the key elements objectives, combined with increased migra- that define cities. Drinking water, sanita- tion, would also support regional wage con- tion, and sewage disposal directly influence vergence. Migration leads to regional wage human development. Services lower income convergence and tends to lower spatial and inequality and reduce poverty by unlocking urban-rural inequality. But this convergence more productive opportunities for more peo- may not be fast enough. Cross-country evi- ple, enhancing human capital and incomes dence shows that access to basic public ser- (Seethepalli, Bramati, and Veredas 2008). vices converges slowly—urban-rural gaps And thanks to economies of scale, cities can in basic education, health, drinking water, lower the unit costs of providing water, sani- and sanitation persist until countries reach tation, health care, education, electricity, and upper-middle income. But most fast-growing other essential services. countries have been able to quickly translate A global middle class will demand more economic progress into spatial equity in basic from its government, particularly better ser- health, nutrition, and education (World Bank vices that encourage accumulations of human 2009). Disparities in services within cities capital. But China has outgrown parts of its persist even in many upper-middle-income fiscal system. The narrow tax base of munici- countries with high levels of urbanization. pal governments results in insufficient and unequal provision of public services for rap- idly increasing urban residents.24 Shanghai’s China’s growth dividends from public education system has responded by the new urbanization trajectory becoming the envy of other regions in China China’s new urbanization trajectory will and other parts of the world.25 But Shanghai require reforms that enhance efficiency, is an outlier, and its achievements currently increase inclusiveness, and promote sustain- are beyond the reach of other Chinese munic- ability. It may not reverse a moderation of ipalities. Lacking resources or real incentives, economic growth that is likely over the next local governments often exclude migrants as decades. But the payoff from the new urban- beneficiaries of social services. So, with many ization trajectory is more efficient, inclusive, citizens unable to enjoy basic social services, and sustainable growth. And in absence of China is reducing its future human capital. policy reforms, growth is likely to slow even Increasing spending on social objectives more. will require broadening the revenue base of local governments and setting new priori- ties. Property taxes have substantial revenue China’s new urbanization trajectory is potential, as do taxes on natural resources underpinned by reforms (energy, water, pollution). But the cur- China’s new urbanization trajectory is under- rent governance structure has aligned local pinned by reforms that will determine how 112 URBAN CHINA fast the excess employment from rural areas occurred in 2008. The urbanization rate is integrated into urban areas. At the same will surpass 62 percent in 2020, 70 percent time, the urbanization trajectory will be in 2030, and 76 percent in 2050. But in the affected by demographic transformation. medium term, the urbanization rate will be Natural population growth in urban affected by the reforms undertaken. areas is estimated to moderate in the coming Three broad sets of reforms underpin decades. According to the sixth population China’s new urbanization trajectory: census, during the statistical period covering October 31, 2009, to November 1, 2010, the • First are reforms to enhance the efficiency natural growth of urban population was just of urbanization by strengthening agglom- 0.42 percent. Using Chinese population esti- eration, connectivity, and specialization. mates of the United Nations World Popula- The largest cities in such urban agglom- tion Prospects 2010, it is estimated that the erations as Beijing, Shanghai, and Guang- natural growth of China’s urban population zhou have grown rapidly in recent years, will be equivalent to 57 million over the next serving as gateways to international mar- two decades. The United Nations also proj- kets. This trend is likely to be reinforced. ects China’s total population to reach 1.39 Moreover, a gradual removal of con- billion in 2030. straints to labor mobility will accelerate Excess employment in rural areas will be urbanization. These reforms will increase about 140 million in the next decade. Esti- TFP by 0.1–0.2 percentage points of GDP mates of working hours indicate that those and increase the urbanization rate by 0.2 employed in agriculture spent on average percentage points a year, relative to the only 158 working days on agriculture activi- baseline scenario. ties, suggesting that those in agriculture are • Second are reforms that enhance inclusive underemployed.27 In 2011, about 262.4 mil- urbanization by strengthening the accu- lion people were employed in agriculture in mulation of human capital and increasing rural areas. 28 An increase of working days the access to public services. An increase spent on agriculture activities to 270 would in human capital will increase the skilled reduce the number of workers currently labor in the labor force and thus TFP. employed in agriculture by a staggering 40 • Third are reforms that make urbaniza- percent.29 And an increase in mechanization tion more sustainable by pricing some in agriculture activities could reduce labor of the negative externalities associated demand by another 16 million workers. So, with resource use, thus increasing energy the current stock of excess rural employ- efficiency. ment is estimated at around 105.7 million. Taking into account demographic changes To estimate the quantitative effect of the (net working age population up by 6.04 mil- new urbanization trajectory, two quanti- lion) and continuing mechanization (likely tative growth scenarios are analyzed. The to release an additional 2.8 million work- first scenario is analyzed on the basis of past ers each year), the excess rural employment trends, the second on the basis of three sets of is estimated to reach 149.5 million over the reforms (table 1.7). years 2012 to 2030. The scenarios result in diverging estimates In the coming decades, urbanization will of how much excess labor, including family continue, but its speed will moderate. Based members, will be absorbed in cities over the on the logistic model, an S-shaped urban next decade. In 2011, it was estimated that population trajectory is estimated for China the surplus labor transfer rate was about 65 (box 1.7). The model estimates predict that percent—of the total rural employment sur- accelerated increase in urbanization rate for plus about two-thirds have already moved the period between 1994 and 2030. On the to urban areas. In the baseline business-as- basis of those estimates, the inflection of usual scenario, the transfer rate is estimated urbanization rate (the highest annual rate to increase moderately to 80 percent. But in of change in the urbanization rate) already a reform scenario, the excess transfer rate is URBANIZATION AND ECONOMIC GROW TH 113 BOX 1.7 Logistic model estimates of China’s urbanization trajectory The long-term urbanization trends can be estimated FIGURE B1.7.1 Estimates of China’s urbanization using historical urbanization trends that typically fol- rates, 1974–2050 low an S-shaped trend (Northam 1975). The logistic model is the more commonly used model for predict- 75 ing a country’s middle- to long-term urbanization development. It can be characterized by the equation 65 below where U(t) is urbanization rate at time t, K is Urbanization rate (%) the peak urbanization rate, and A and B stand for an 55 early and late start of urbanization and the fast and slow speed of urbanization. 45 35 25 The key to the fitting of the logistic curve is to have appropriate estimates of parameters K, A, and 15 B. The approach used in the past was to take the log 1974 1986 1998 2010 2022 2034 2049 of the equation, turn it into a linear equation, and Inflection point Historical use the linear equation to fit the parameters. In this Estimate (logistic model) way, a nonlinear fitting problem becomes a linear equation. The approach is easy to use, but also it is a Source: DRC estimates based on the logistic model. more subjective one because it requires having an esti- mate of K. In addition, this approach works under the implicit assumption that K is constant. This assump- Urban population growth estimates based on the tion is not, however, in line with the reality that the logistic model depend on assumptions of China’s peak urbanization rate changes as the optimal scale peak urbanization rate—estimated at 76.8 percent of a city changes as a result of institutional and policy for this study (figure B1.7.1). But the peak urbaniza- adjustments. tion may change because of various factors. On one The United Nations has been using this model hand, infrastructure improvements in connectivity, since the 1970s to forecast the global urbanization as well as policy reforms, could increase the optimal prospects. Many Chinese scholars adopt the logistic scale of cities—leading to higher optimal urbaniza- model to predict China’s urbanization development. tion rate in future. On the other hand, deteriorat- In this study, the nonlinear parameters of the ing energy and environmental conditions and policy logistic curve are estimated directly using data start- interventions may lower the peak urbanization rate ing from 1974. at the same time. Thus, these long-term estimates of urban population growth should be interpreted with caution, especially when predicting urbanization pat- terns in the medium term. estimated to increase to 90 percent, attribut- as some household members have remained able to policy reforms that remove adminis- in rural areas. In the baseline scenario, the trative barriers to labor movements and pro- urban migrant worker household size is esti- vide more equal access to public goods and mated to increase to 2.8 and in the reform services. And the reform scenario implies scenario to 3.25 because of increased access that a higher share of migrant workers to public services. Finally, household mem- will migrate with family members over the bers of current migrant workers left behind medium term. According to the latest cen- in rural areas are likely to migrate to cities. sus, the average size of a rural household is On the basis of this analysis, the urban 3.4 people, but migrant worker households population will increase by about 290 mil- in urban areas consist only of 2.5 people, lion in a reform scenario by 2030 (table 114 URBAN CHINA TABLE 1.7 Summary of the reforms scenario First reform area: Enhance agglomeration economies and improve the efficiency of urbanization Baseline The baseline scenario assumes that total factor productivity will be supported by gradual increases in human capital and technological advances (based on historical trends). Urbanization continues on past trends: • 0.9 percentage points a year 2013–20 • 0.7 percentage points a year 2021–30 • Technological and intermediate input changes (Total factor productivity [TFP] growth will be lower than the past 30 years, at about 2.0 percent.) Reforms Eliminate the barriers of labor movement and accelerate the migration of labor. Urbanization is faster than baseline by 0.2 percentage points a year in 2014–30. Increase flexibility of movement of production factors and improve regional connectivity and coordination to increase densities and diversify of cities. TFP growth is 0.1–0.2 percentage points faster than baseline scenario. Second reform area: Increase the equality of outcome sharing and enhance the inclusiveness of urbanization Reforms Accelerate the urbanization of migrant workers. Equalize the public service between urban and rural and within cities. Assume that public spending increases by 1–2 percentage points over the baseline. Reform the income distribution and increase the share of the middle-income group. Assume that the proportion of the middle-income group will increase by 0.3–0.5 percentage points and aggregate average propensity to consumption will increase by 5 percentage points cumulatively more than the baseline. Promote the accumulation of human capital by equalizing public service and increasing the middle-income group. Assume that the TFP growth increases 0.5 percentage points more than the baseline because of the progress on human capital. In addition, the number of high skilled workers will increase 0.4 percentage points faster than the baseline. Third reform area: facilitate green growth and increase the sustainability of urbanization Reforms Impose a carbon tax to improve energy efficiency and reduce emissions intensity. Assume that the carbon tax will be levied from 2015 at RMB 50 per ton of carbon dioxide (CO2) and be gradually increased to RMB 150 per ton of CO2 in 2030. Energy efficiency will increase 0.5 percentage points faster than in the baseline. TABLE 1.8 Urban population projections over the medium term Baseline scenario Reform scenario Current stock of migrant workers 197.6 million Rural excess labor in 2011 105.6 million Cumulative rural excess labor (2012–30) 142.8 million Surplus labor transfer rate 80 percent 90 percent Employment migration from rural to urban areas (2012–30) 119.6 million 134.5 million Average size of migrant worker household (number of people) 3.0 3.25 Total new migrant worker and family member migration from rural to urban areas (2012–30) 149 million 181.6 million Reunification of household units of existing migrants (2012–30) 32.18 million 48.2 million Total population movements from rural to urban areas (2012–30) 181.19 million 229.88 million Natural population growth in urban areas (2012–30) 57.25 million Total additional urban population in 2030 238.4 million 287.13 million Total urban population in 2030 929.2 million 977.9 million Urbanization rate in 2030 66.8 percent 70.2 percent Source: Estimates by Development Research Center of the State Council. 1.8). In the absence of reforms that address higher than in the baseline scenario, bring- labor mobility, urban population is likely to ing the country in line with expectations increase by only 238 million by 2030. As a based on income. So, the reforms will accel- result, the urbanization rate will reach 70.2 erate the annual urbanization rate by 0.2 percent in 2030, almost 4 percentage points percentage points. URBANIZATION AND ECONOMIC GROW TH 115 These estimates assume no additional Analyzing the effect of such a reform changes in administrative divisions or statisti- package will require quantifying both the cal methods in classifying urban population. supply- and demand-side factors of eco- nomic growth and their links. To project the effect of the new urbanization trajectory China’s economic growth model on growth, the study adopts the computable will change general equilibrium model of China’s Devel- A moderation of urbanization will coincide opment Research Center (box 1.8). Different with a structural transformation of China’s from the simple macro model of aggregate growth model. Within the next decades, production function, it can better simulate China’s economy will shift from rapid to the effect of structural changes. moderate growth, with average annual These three policies will contribute to growth of around 5 percent by 2030. First, higher growth rates under a reform scenario: because of a weaker external demand, China’s export growth will slow—to around • The reallocation of excess labor from agri- 10 percent annually on average—in the next culture to other sectors will be accelerated, 10 years. Second, continuing capital accu- increasing growth by about 0.2 percentage mulation will contribute less to growth as points. the capital-labor ratio rises. And changes • Higher urbanization will result in a higher in the demographic profile will lead to a savings rate and investment (relative to the decline in the labor market participation baseline) as the share of urban residents rate. China’s working-age population is increases faster. expected to decline, and labor’s contribution • An increase in the urbanization rate will to growth will turn negative. In addition, the promote human capital accumulation and spatial transformation in labor markets will agglomeration economies that will increase contribute less to growth. productivity relative to the baseline. BOX 1.8 China’s Development Research Center computable general equilibrium model The model allows incorporating both the supply- and to project both the effect of technological innovations demand-side factors of growth (figure B1.8.1). On the in the production. On the demand side, the model supply side, the model includes key factors of pro- includes both domestic (consumption and investment) duction and also changes in production technology. and external sources of demand. Changes in production technology allow the model FIGURE B1.8.1 Analytical structure of the growth model Population structure Real estate demand Gross population Urbanization Automobile demand Infrastructure demand Other industrial products SUPPLY SIDE DEMAND SIDE Labor ECONOMIC Consumption Capital GROWTH Investment Technological advance Export Source: Development Research Center of the State Council. 116 URBAN CHINA TABLE 1.9 Sources of growth, five-year averages: Baseline and Demographic changes (population aging) reform scenarios, 2015–30 and a decline in excess employment in agri- 2015–20 2020–25 2025–30 culture will put upward pressures on wages. Annual GDP growth in baseline scenario 7.0 6.0 4.9 Higher wages and household disposable Sources of growth: income will strengthen the middle class and Labor –0.2 –0.2 –0.4 support a shift in domestic demand from Capital 8.3 6.6 5.1 investment to consumption. Consumption TFP 2.1 2.1 2.1 as a share of GDP will start to increase Annual GDP growth in reform scenario 7.2 6.1 5.2 gradually (table 1.10). And the structure of Sources of growth: consumption will also change. As incomes Labor –0.2 –0.2 –0.4 increase, the share of services in the con- Capital 8.1 6.3 4.7 sumer basket will increase, while the share TFP 2.4 2.5 2.5 of agriculture output declines. By 2030, the Source: Estimates of the Development Research Center’s Computable General Equilibrium proportion of household expenditures on model. services will increase by 18 percent while Note: TFP = total factor productivity. expenditures on agriculture outputs decline by about 5 percentage points. China’s industrial structure will also con- TABLE 1.10 Composition of the demand side of GDP: Reform scenario, 2010–30 tinue to evolve. In the reform scenario, the share of agriculture in output will continue   2010 2015 2020 2025 2030 to decline from 10 percent today to less GDP: than 6 percent by 2030 (table 1.11). The Household consumption 35.4 37.0 39.8 45.1 47.9 share of employment in agriculture will Government consumption 12.7 14.6 16.1 17.7 18.6 decline more rapidly—from 37 percent in Capital formation 48.1 45.8 41.5 34.7 30.9 2010 to about 12 percent by 2030. The share Net exports 3.8 2.6 2.6 2.6 2.6 of secondary industry in output will decline Source: Estimates of the Development Research Center’s Computable General Equilibrium from about 50 percent in 2010 to 34 percent model. in 2030. But the composition of industries in manufacturing will also change—labor- A reform dividend of an additional annual intensive, export-oriented manufacturing growth of 0.2 percentage points (table 1.9) sectors, such as textiles, clothing, and wood will result in a cumulative increase in GDP processing, are expected to decline, while by $730 billion (in real prices) from 2015 to transport, information technology, and other 2030. capital-intensive sectors are expected to grow Although growth rates will decline, the more rapidly. Extractive industries are also structure of growth will improve toward expected to decline. And China’s economic more efficient sources of domestic demand. growth will become increasingly dependent TABLE 1.11 Industrial structure of GDP and employment: Baseline and reform scenarios, 2010–30 GDP Employment Baseline scenario 2010 2015 2020 2025 2030 2010 2015 2020 2025 2030 Primary sector 10.0 8.1 6.9 5.7 4.4 36.7 31.0 25.9 21.6 17.1 Secondary sector 48.2 45.5 42.8 39.3 37.2 28.7 29.0 29.1 28.3 28.2 Tertiary sector 41.8 46.4 50.4 55.0 58.5 41.1 47.2 52.6 57.3 61.9 GDP Employment Reform scenario 2010 2015 2020 2025 2030 2010 2015 2020 2025 2030 Primary sector 10.0 8.5 7.7 6.9 5.7 36.7 29.9 23.5 17.8 11.6 Secondary sector 48.2 44.7 40.9 36.5 33.7 28.7 29.2 29.2 28.3 28.1 Tertiary sector 41.8 46.8 51.4 56.7 60.6 41.1 48.2 54.8 60.9 67.1 Source: Estimates of the Development Research Center’s Computable General Equilibrium model. URBANIZATION AND ECONOMIC GROW TH 117 on services as urban areas will create the FIGURE 1.21 Final consumption as a share of scale of demand for an increasingly diverse GDP, 2010–30 supply of services. The share of services will increase from 43 percent in 2010 to slightly 70 more than 60 percent by 2030. The ser- 65 vice sector’s share in the economy will rise because of higher demand for services and 60 because productivity increases in services are Percent likely to lag behind those in manufacturing, 55 increasing the relative prices of services. 50 Finally, a 1-percentage-point increase in the urbanization rate under a reform scenario 45 can accelerate economic growth by about 0.8 percentage points of GDP in the first year and 40 a cumulative 3.6 percent over five years, rela- 2010 2015 2020 2025 2030 tive to the baseline scenario. These estimates Baseline scenario Reform scenario are similar to other quantitative estimates of urbanization and growth elasticities. Source: Estimates of the Development Research Center’s Comput- able General Equilibrium model. The payoff from the new urbanization trajectory is more efficient, inclusive, rapid dissemination of new production tech- and sustainable growth nologies. This scenario will increase labor China’s new urbanization trajectory will not productivity, so wages in rural areas will rise reverse a moderation of economic growth faster than in urban areas, reducing urban- over the next decades. It is also clear that rural income disparities. many second-generation reforms associated Third, the energy intensity of China’s with the new urbanization trajectory are economy will decline (figure 1.22). The dom- likely to have a significantly smaller impact inance of industry in its contribution to GDP, on growth than the fi rst-generation reforms jobs, energy demand, and emissions makes that led to rapid technological absorption in China’s cities unique. As the structure of eco- the manufacturing sectors. But the new tra- nomic growth moves from manufacturing jectory will improve the quality of growth toward services, the energy and carbon diox- by making it more efficient, inclusive, and ide (CO2) intensities will decline. Policies that sustainable. Without policy action, the slow- use market price mechanisms to internalize down in growth could be more severe. negative externalities of energy use and CO2 First, China’s economic growth will emissions can accelerate this decline. In the become more efficient. Economic growth reform scenario, energy use and CO2 can will become less dependent on capital decline by 12–17 percent. accumulation. The share of investment in The urbanization trajectory will provide GDP is estimated to decline from almost 50 lots of opportunities (table 1.12). But imple- percent of GDP today to about 31 percent menting the reform scenario will require of GDP by 2030. And share of consumption collective efforts and coordination among will gradually increase. In the reform sce- enterprise, household, and government sec- nario, consumption’s share of GDP reaches tors. Making the new policies and putting 66.5 percent of GDP, about 4.5 percentage them in place will not be easy. Indeed, a radi- points higher than in the baseline scenario cal change of course might be required. Even (figure 1.21). if the reforms need to be less gradual than Second, the income disparity between past reforms, they are essential to completing urban and rural households will decline. In a C hina’s transition to a market economy— reform scenario, tighter labor supply in rural and to further strengthening its foundations areas will catalyze land consolidation and for growth. 118 URBAN CHINA FIGURE 1.22 The energy and CO2 intensity of China’s economy will decline a. Energy intensity b. CO2 intensity 1.60 3.50 1.40 3.00 1.20 2.50 Tce/10,000 RMB 1.00 Ton/10,000 2.00 0.80 1.50 0.60 1.00 0.40 0.20 0.50 0.00 0.00 2010 2015 2020 2025 2030 2010 2015 2020 2025 2030 Baseline scenario Reform scenario Source: Estimates of the Development Research Center’s Computable General Equilibrium model. Note: CO2 = carbon dioxide. TABLE 1.12 Urbanization will bring potential gains and pose risks to enterprises, households, and governments Enterprises Households Central and local governments Potential • Agglomeration effect: higher factor • An increasing middle class • Economies of scale for public (gains) input intensity, companies gather related • More employment opportunities services, more effective delivery businesses and adjacent areas to form a • Expansion of public facilities • Better public services and cobweb structure stimulates domestic demand convenience stimulate • Specialization increases economies of consumption • Economic growth and scale and economies of scope, market size efficiency gains on the basis • Knowledge dissemination and determines division of labor, productivity of agglomeration, increased learning made easier, conducive increases markedly government revenue to human capital accumulation • Strengthening comparative advantage and appreciation • Improved government capacity of firms in transportation, inventory, and efficiency • Attractiveness of urban lifestyle transactions, raw materials, sales, information, • Increased propensity to purchase labor searching, and reputation services • Increased human capital and industrial clustering, conducive to innovation • Increased productivity in agriculture Costs (risks) • Beyond a certain point of urbanization, • Sharp increases in land and • Increased complexities of city external diseconomies will start to undermine housing prices management city competitiveness • Social instability • Implementation risk of proposed • Sharp increases in labor costs • Pollution and environmental reform scenario deterioration • Increasing cost of managing traffic • Heavy congestion congestion and environmental problems Notes 2. Episodes of growth declines observed in other countries over the past decades are typi- 1. In 2006, the State Council promulgated cally associated with a decline in productiv- Opinions on Addressing Migrant Worker- ity when gains from structural reallocation Related Issues, requiring equal treatment for from agriculture to industry and technology migrant workers and entitling them to equal absorption become exhausted (Eichengreen, rights and obligations with urban workers. Park, and Schin 2011). URBANIZATION AND ECONOMIC GROW TH 119 3. Incremental capital-output ratio (ICOR) = 12. In 2011, value added per employee in indus- (change in capital stock) / (change in gross try was still about 5.5 times higher than that domestic product) = (gross fi xed capital for- in agriculture—and in services, it was about mation as a share of total output) / (annual 4.2 times higher than that in agriculture. growth rate of gross domestic product). 13. In 2012, gross land lease proceeds accounted 4. The old-age dependency ratio is defined as the for 5.2 percent of GDP, although net proceeds ratio of the number of people ages 65 years adjusted for compensation were less. For and older to those of ages 15–65. 2011, it is estimated that net land lease pro- 5. The total number of migrant workers was 242 ceeds accounted for only one-third of gross million in 2010, 13 million more than that in land lease proceeds. the previous year; 253 million in 2011, 11 14. See spatial equilibrium models by Alonso million more than that in the previous year; (1964), Mills (1967), and Muth (1969). and 263 million in 2012, 10 million more 15. The global middle class is defi ned as house- than that in the previous year. holds with daily expenditures between $10 6. See Zhuo (2013). Between 2000 and 2010, and $100 per person (in 2005 PPP dollars). urban population increased by 232 million, The lower bound is the average poverty line in 80 million from administrative changes. In Portugal and Italy. The upper bound is twice the same time, the number of prefecture-level the median income of Luxemburg. Thus, the cities increased by 25, county-level districts global middle class excludes those consid- by 779, and districts under municipal admin- ered poor in the poorest advanced countries istration by 70. and considered rich in the richest advanced 7. Estimates suggest that China’s imports of country. agricultural products are equal to using 35 16. Weighted by urban and rural population, percent of arable land and 47 percent of water about 11 percent of population in China had for farming. Energy dependence, especially oil daily consumption expenditures between dependence, has risen to 57 percent. China’s $10 and $100 (in 2005 PPP dollars) in 2010. farm sector registers water-use efficiency of Most Chinese (88%) consumed less than $10 30–40 percent, not even half the number in a day in 2010; about one-fifth spent less than developed countries. Energy-use efficiency in $2 a day. Less than 1 percent spent more than China is around 30 percent, not even three- $100 a day. fourths that in developed countries. 17. Measured by income, China’s middle class 8. In localization economies, arising mainly made up almost 25 percent of China’s popu- from within-industry interactions, spatial lation and more than 40 percent of its urban proximity of clustered producers allows population in 2010. sharing of a large pool of specialized labor, 18. China’s 1988 income inequality urban Gini logistics, and other inputs. In urbanization coefficient of 0.24 and rural Gini coefficient economies, arising from between-industry of 0.33 were very low by international stan- interaction, spatial proximity of related pro- dards. The national Gini coefficient of 0.38 ducers allows them to exploit advantages of reflected high urban-rural disparities. By sharing capital inputs and services. 2007, these Gini coefficients were 0.34, 0.36, 9. The Herschman-Herfi ndahl Index for sector and 0.5, respectively (Knight 2013). i is the amount of activity in sector i in prov- 19. The 2002 Chinese Household Income Proj- ince or city j and is the total amount of activ- ect (CHIP) survey enabled comparison of an ity in sector i in China as a whole. urban Gini coefficient including and exclud- 10. Evidence from other countries shows that ing migrants. Inclusion raised the Gini coef- geographic clustering is more pronounced ficient by 2 percentage points (Khan and in high-skill and high-technology industries Riskin 2007) but this is likely an understate- (such as electronic computing machinery, ment given that migrants living in households process control instruments, semiconductors, are likely wealthier than individual migrants. and pharmaceuticals) than in light industries 20. Sicular and others (2006) fi nd that the gap (such as textiles or food). See also Henderson has been overstated. Adjusting for spatial (1997) and Glaesar, Scheinkman, and Schle- price differences and including migrants low- ifer (1995). ers the contribution to 26–27 percent of total 11. The share of services in GDP in Korea and inequality, although this is still high by inter- Japan was broadly the same as in China when national standards. Whereas many measures the urbanization rate was about 50 percent. of the rural-urban income gap are overstated 120 URBAN CHINA by nonadjustment for cost of living differ- 29. This relies on a consensus estimate of annual ences, they are understated by not including working days required for farming (Wang urban subsidies. and Ding 2005). 21. China’s Gini coefficient for wealth in 2002 was 0.55, much higher than that of income— and housing represented two-thirds of the References inequality in net wealth (Zhao and Ding Acemoglu, Daron, and Fabrizio Zilibotti. 1997. 2007). As urban housing prices rise, the dif- “Was Prometheus Unbound By Chance? 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Progress of China’s Urbanization .” Working Schor, Juliet B. 1999. “The New Politics of Con- Paper, Development and Research Center of sumption.” Boston Review 24 (3–4): 4–9. the State Council, Beijing. 2 Planning and Connecting Cities for Greater Diversity and Livability Introduction export-oriented industrial economy to a higher-value-added manufacturing and ser- The pace of China’s transformation from an vice economy with an increasingly strong agricultural to an industrial economy has internal market for consumption. In fact, been unprecedented, with agriculture’s share market forces will push China toward a in gross domestic product (GDP) declin- greater concentration in innovation and ing from 35 percent in 1960 to 10 percent services than in industry. Banks, insurance in 2010. In the process, the country’s large companies, hospitals, and schools can oper- coastal cities have become factories for the ate in high-rise buildings that economize on world. Much of the industrial transformation land and promote high density (World Bank and accompanying urbanization over the past 2009). Because of external economies, busi- 30 years was enabled by national reforms ness services have even greater potential for that opened the economy to foreign invest- agglomeration than does industry—financial ment and built the infrastructure to support firms, insurance companies, and banking an industrial economy. Shantou, Shenzhen, syndicates benefit from being close to one and Zhuhai in Guangdong Province and another. In the United Kingdom, for exam- Xiamen in Fujian Province became pilots for ple, fi nancial and insurance services are 35 opening China to the global economy, allow- times, and information and communication ing entrepreneurs to start businesses and firms 7 times, more concentrated than manu- relaxing price controls, protectionist policies, facturing (Campos 2012). Locating in close and regulations. Large-scale investment fol- proximity stimulates the growth of other spe- lowed, with gross capital formation increas- cialist services, such as legal, software, data ing from 35 percent of GDP in 1980 to 48 processing, advertising, and management percent in 2011. Infrastructure investment consulting firms. Enabling these interactions accounted for 10 percent of GDP. Such mag- is the density that cities offer, making it eas- nitudes of investment were also characteristic ier for frequent face-to-face contact between of the Republic of Korea, which urbanized employees, entrepreneurs, and financiers, rapidly and moved into high income. which in turn increases innovation and pro- China needs to enhance economic effi- ductivity (Black and Henderson 1999; Lucas ciency by gradually moving from a lower-end 1993; Rosenthal and Strange 2003). 123 124 URBAN CHINA The concentration of services will also be industries), will greatly help optimize land accompanied by spreading industry from a use. Because the value of land is determined few metropolises to a larger number of small by both its location and its land use, master cities. In the United States between 1972 and plans should facilitate private sector invest- 2000, service employment concentrated in ments by providing clarity on permissible metropolitan areas as industry moved out to uses. The system should be flexible to allow suburban locations 20 to 70 kilometers away for changes in use and densification or inten- (Desmet and Fafchamps 2004). Investments sification of development (by increasing the in transport infrastructure, which made permissible floor-area ratio) as land values trade cheaper, made the decentralization of increase over time. Instruments for trading industry possible. In Korea, the decentraliza- development rights should be developed to tion of industry from the three largest cities encourage development within superblocks to smaller cities and the hinterland followed and to create more intense urban environ- massive transport and communications ments more efficient use of existing infra- infrastructure investments in the early 1980s structure, leading to increased productivity (World Bank 2013a). and knowledge spillovers. The transformation from a concentration on industry to one on services is already tak- Foster livable, highly productive, and effi- ing place. Consider Beijing, whose economy is cient cities through flexible people-centered 14 times more concentrated than the national planning. Urban spaces should be built on average in high-end service jobs and 12 times a human scale that people can relate to and more concentrated in research and develop- in which people can interact. The unique- ment jobs. But the pace of transformation is ness of existing cities and their natural and slow. This report focuses on the next phase cultural environment should be the starting of economic growth, which will be based on point (as opposed to turning one’s back on cities reaping the full benefits of agglomera- existing settlements in favor of new cities). tion through greater efficiency, more rational Incentives can be established for mayors to use of resources, a transition toward higher- invest in improved livability and to reward value-added manufacturing and services, and them based on the quality of service delivery. increased productivity and innovation. Cities Regulation should be adjusted to allow for will have to leverage market forces to support regeneration and intensification within exist- strategic objectives for socioeconomic devel- ing superblocks, and for implementing new opment and to maximize the impact of past small-block development. A fine-grain street and future investments in connectivity. Pol- grid can be developed to foster mixed use icy makers will have to promote a continu- and local accessibility to daily amenities such ous dialogue among all stakeholders on the as shops, health clinics, schools, and public best solutions for making cities competitive, parks. Integration of transport systems from as well as attractive locations for people and the local to the regional should be seam- investments, while addressing critical bottle- less. The result would be more livable cities necks such as congestion and pollution. The that foster economic growth, productivity, following are the challenges that city gov- and people-friendly environments; attract ernments face as they move from the role of higher talent and more knowledge spillovers; direct planners and implementers to becom- encourage services and technology devel- ing regulators and enablers of the urbaniza- opment and more efficient use of resources tion process: (infrastructure, energy, land, water); and pro- duce less pollution. Reduce sprawl and increase productivity by implementing a unified market-based land Facilitate the development of clusters by pricing system for both rural and urban improving connectivit y of people and areas. Such a system, together with the use businesses. China has done a remarkable of market-based disposition mechanisms job of developing infrastructure to con- such as auctions and requests for proposals nect cities and regions in the country. This to determine all land uses (without favoring strategy should be enhanced by improving PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 125 connectivity between cities and integrating fastest-growing internal migrant populations different transport systems for a more seam- are in the Beijing, Dongguan, Guangzhou, less connection of businesses. Special atten- and Shanghai metropolitan regions, with tion should be given to local accessibility and more than 52 million migrants in 2010, or door-to-door connectivity of people and com- 35 percent of all migrants in China. Urban- munities to services and jobs. Metropolitan ization—particularly urban concentration governance structures and fi nancial transfer in the largest cities—has gone hand in hand systems should be established to coordinate with economic progress. Econometric analy- strategic plans and seek opportunities for sis shows proximity to global cities such as joint public service delivery. The result will Beijing, Shanghai, or Shenzhen, along with avoid duplication and move toward higher clustering of the urban population, to be an productivity, specialization, and more effi - important contributor to a city’s success, both cient delivery of services. for economic productivity (GDP per capita) and population growth (Lall and Wang 2011). The combined economies of Beijing, Enhancing efficiency and Guangzhou, Shanghai, Shenzhen, and Tian- agglomeration economies jin amounted to $1 trillion in 2010, twice in China the size of Norway’s or Sweden’s economy, and on the heels of Korea’s. Incomes have Urban concentration and spatial increased rapidly as well. Per capita GDP development in China rose from RMB 35,000 to RMB 82,000 in The urbanization process around the world Shenzhen between 2000 and 2010, and from has led to a portfolio of viable and livable cit- RMB 32,000 to RMB 66,000 in Shanghai ies, differentiated by size, location, and den- (figure 2.1). Rising prosperity has attracted sity, but well connected at the national level millions of people from the countryside. and clustered at local and regional levels. Between 2000 and 2005, migration to Bei- China’s urbanization process resembles that jing from other provinces grew 6.6 percent a of developed economies such as the United year; and to Shanghai, 9.1 percent a year. States and Japan, with a substantial number The very rapid pace of economic growth of people moving to large urban agglomera- and migration to cities has enhanced the tions. The 10 largest metropolitan regions in China—Beijing, Changsha, Chengdu, Guang- zhou, Hangzhou, Nanjing, Shanghai, Shen- FIGURE 2.1 Per capita GDP in 2000 and 2010 zhen, Tianjin, and Wuxi—have become the main engines of growth, creating 26 percent 90 of China’s GDP in 2010. Cities of 1 million 80 GDP per capita, RMB (thousands, 2005) to 10 million people, the so called second-tier cities, provide specialized and differentiated 70 products and services. Getting urbanization 60 “right” requires the creation of an even play- 50 ing field to encourage scale and agglomeration economies across cities together with efforts 40 to manage the downsides of congestion, 30 pollution, and natural resource depletion. Improved land management should be at the 20 heart of policy reforms across urban areas, 10 coupled with connectivity enhancements 0 between towns, cities, and metropolises. Beijing Tianjin Shanghai Guangzhou Shenzhen The most striking feature of China’s China cities urbanization in the past decade has been the 2000 2010 rapid concentration of people and economic activities in large cities with good access to international markets. The largest and Source: CEIC data. 126 URBAN CHINA FIGURE 2.2 Population in 2010 by city size people across cities of different sizes. The distribution of towns, cities, and metropo- lises in China now resembles that of devel- 37 > 15 (n = 2) 4 oped economies such as the United States and 21 10–15 (n = 2) 5 Japan. China’s share of population in smaller Statutory cities 5–10 (n = 10) 12 69 cities is comparable to the rest of the devel- Urban population (millions) 1–5 (n = 67) 133 oping world, although it is much higher than 30 0.5–1 (n = 137) 95 in developed countries that are fully urban- 54 85 ized like the United States (figure 2.3). Right- 0.25–0.5 (n = 235) 87 sizing the urban distribution enhances effi- < 0.25 (n = 200) 34 45 ciency because larger cities can support more 6 > 0.5 (n = 11) 5 economic diversity based on lower fixed costs Countries 0.25–0.5 (n = 147) 48 84 of setting up a fi rm, on scale economies in 0.10–0.25 (n = 612) 97 providing nontraded intermediate inputs 210 < 0.10 (n = 865) 44 (Au and Henderson 2006), and on the pro- 126 pensity of metropolitan areas to produce 0 50 100 150 200 250 more high-tech and experimental items that China’s population, 2010 (millions) require a diversity of skills and production Urban Rural types to thrive (Jacobs 1969; Duranton and Puga 2000). Secondary cities will specialize in more standardized manufacturing, while Source: Staff estimates based on 2010 Census Data. small cities strengthen their economy around existing industries and sectors related to nat- economic efficiency of China’s urban sys- ural resources and agriculture. tem. In the early 1990s, Chinese cities were With massive inflows of workers, China’s undersized with substantial efficiency losses cities have become factories for the world. from lack of scale. With migration restric- A report published by the China Economic tions limiting labor mobility and agglomera- Weekly in 2012 showed that the nation pro- tion into larger cities, a much larger share of duced 80 percent of the world’s color televi- China’s urban population lived in small cities sions, 70 percent of its air conditioners, 50 (between 100,000 and 1 million) than was percent of its refrigerators, and 40 percent the case in other emerging economies and of its washing machines. Total output of such developed countries as the United States the home appliance sector in China reached (Au and Henderson 2006). RMB 1.07 trillion ($169 billion) in 2011, China’s urbanization rate rose from which was 4.7 times the amount in 2001, around 20 percent in 1980s to 50 percent in when the country became a member of the 2010 (figure 2.2). This fast-paced urbaniza- World Trade Organization.1 Abundant low- tion has led to a shift away from the coun- skilled workers, along with access to land tryside and toward increasing concentrations and global markets, allowed manufactur- of people in cities and city regions, especially ing firms to exploit huge economies of scale. in the Yangtze and Pearl River Deltas, and in Nearly two-thirds percent of all manufactur- the Beijing-Tianjin region in the north. Dur- ing jobs are in coastal provinces. 2 Indeed, ing the past decade, the decline in population China’s development story of the past three has been significant in much of the North- decades has been centered around a well- east, in the Sichuan Plain, across most of the defined and extremely effective “growth tem- Yangtze and Huai River Basins, in the inland plate,” where successive waves of Chinese coastal areas of Zhejiang and Fujian, north- cities moved aggressively to boost investment ern Guangdong, and most of Guizhou and and job creation, mostly based on establish- Guangxi Provinces (map 2.1). ing economic development zones centered The relaxation of migration restrictions around low-skilled manufacturing that ben- and the huge migrations that followed have efited from economies of scale and access to dramatically altered the distribution of markets. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 127 Notable here is the Pearl River Delta, MAP 2.1 Population changes from 2000 to 2010 which accounts for 1.2 percent of China’s land area, 4.5 percent of population, and 9 percent of GDP. 3 China’s opening to the world began with experiments in Shenzhen Heilongjiang and Zhuhai in 1980 that rapidly spilled over Jilin to neighboring cities and towns in the delta. Xinjiang gol Liaoning Today, the delta is China’s most prosperous Mon Nei BEIJING Tianjin region, with per capita incomes more than Hebei Ningxia Shanxi Shandong twice the national average. With the delta Qinghai Gansu designated a special economic zone (SEZ), Shaanxi Henan Jiangsu local governments, individual enterprises, Xizang Sichuan Hubei Anhui Shanghai and farmers enjoyed more autonomy in deci- Population change, thousands: Chongqing Zhejiang Hunan Jiangxi sion making for what to produce, where to -500 – -250 Guizhou Fujian -250 – -1OO produce it, and where to live. With govern- Yunnan Guangxi Guangdong Taiwan -1OO – 0 ment enabling the market, 70 percent of 1 – 50 Hong Kong SAR Macao SAR Hong Kong SAR, China’s industry moved to 50 – 100 Hainan China in 10 years (Klako Group 2004). 100 – 250 Since the mid-1990s, large amounts of 250 – 500 500 – 1,000 foreign direct investment (FDI) have come 1,000 – 2,500 IBRD 40996 | JUNE 2014 from Japan, the United States, and the Euro- > 2,500 This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other information pean Union, among other places. In 2010, no data shown on this map do not imply, on the part of The World Bank Group, any judgment on the legal status of any territory, or any endorsement or acceptance of such boundaries. the Pearl River Delta was the destination for more than 10 percent of the FDI in China. Source: Staff estimates based on 2000 and 2010 Census Data. And the delta is moving up the industrial value chain, shifting away from its concentra- FIGURE 2.3 Distribution of cities by size in China and the tion in textiles technology-intensive manufac- United States turing such as electronics, biotechnology, and optical and electromechanical products. Up the eastern seaboard is the Yangtze –15 pp 80 River Delta, China’s economic giant. A physi- 75 75 cally integrated cluster with the strongest 70 +8 pp economy in China, the delta accounts for 65 ▼ 4.4 percent of China’s land area, 10 percent 60 58 of its population, 24 percent of industry, and 55 19 percent of GDP. The hub city of Shanghai 50 serves as the economic and fi nancial center, Percentage 45 43 and spoke cities include Hangzhou, Nan- 40 jing, and Suzhou. Between 2000 and 2010, 35 34 land use in the Yangtze River Delta rapidly 30 changed to transform the cities of Shanghai, 25 23 20 Suzhou, Wuxi, Wujin, Nanjing, and others 20 into a continuous urban agglomeration. 15 ▼ 13 10 10 10 8 5 5 China’s urbanization and 0 0 industrial development China, 1990 China, 2010 United States, 2010 China’s rapid urbanization and concentrated 100 thousand–1 million 1 million–5 million industrial development followed the norm 5 million–10 million 10 million + for East Asian countries. From the 1950s through the 1980s, economic activity in Source: Henderson 2013. Japan concentrated in the Tokkaido region Note: pp = Percentage points. 128 URBAN CHINA (Tokyo–Nagoya–Osaka corridor), aided by a markets. Between 1989 and 2004, 70 percent conscious decision to concentrate infrastruc- of the national increase in fi rms took place ture investment in this region. High savings in regions with broad market access (Brown and investment rates of around 40 percent and others 2008). of GDP by 1970 provided the resources for The concentration of people and economic heavy transportation and urban infrastruc- activities in China’s coastal cities has bene- ture. Japanese cities began by specializing in fited economic efficiency. The concentration labor-intensive, low-technology goods and of activities and increased densities in cities then moved up the technology chain. Eco- make it easier to move goods, people, and nomic concentration was also instrumental ideas and to provide services more efficiently. in economizing on infrastructure investment, Cities remove physical spaces between people and the geographical proximity of different and firms, and proximity is valuable precisely activities gave rise to agglomeration econo- because it makes connections easier (Glaeser mies that aided rapid productivity growth 2011). Because they are close to buyers, sup- and enabled innovation in traditional pro- pliers, workers, and others in related indus- duction processes. tries, firms can reduce transaction costs, Following Japan, the Asian Tigers—Hong enhance productivity, and innovate. Recent Kong SAR, China; Korea; Singapore; and evidence for China shows that efficiency Taiwan, China—also followed a path of measured by total factor productivity (TFP), rapid urbanization and concentrated indus- using the standard Cobb-Douglas production trial development. Like Japan, they first spe- function with land, labor, and capital, tends cialized in labor-intensive, low-technology to be slightly higher in coastal cities than goods and then moved up the technology elsewhere in China (figure 2.4). chain. The Seoul and Pusan metropolitan Research conducted across 261 Chinese regions accounted for almost 70 percent of cities in 2004 showed that labor productiv- Korea’s urban population by the mid-1970s. ity would increase by 8.8 percent with a dou- Taiwan, China, also focused on concentrated bling of employment density (Fan 2007). In spatial development in Taipei and Kaohsiung. contrast, the elasticity of labor productivity Each Tiger adopted an export-oriented strat- egy, which required massive investments in key transport and communication links with FIGURE 2.4 Efficiency by city size and location the rest of the world. The economic activities in 2010 in these cities were as connected with the rest of the world as with their hinterlands, if not 1.00 more so. Concentrated economic growth and urbanization has also been the pattern India has followed since its economic liberalization 0.80 0.80 in the early 1990s. Urban growth has been 0.78 0.78 0.75 concentrated in the largest metropolises and 0.75 their neighboring suburbs, which support 9 percent of the country’s population and provide 18 percent of the employment on 1 percent of the land area. Within manufactur- ing, high-tech industries are specialized in the 0.50 seven largest metropolises, and medium-tech <2 2–10 > 10 l l sta sta oa a industries are more densely specialized in the Millions Co nc No second-tier cities of 1 million to 4 million people (World Bank 2013a). As the Russian Source: Employment data are taken from the 2010 census; capital Federation moved to a market-based econ- stock is derived from fixed asset investment reported in CEIC (www .ceicdata.com), and land is measured as the built-up area of each city. omy after 1989, many firms left remote areas Note: The vertical axis of this chart shows the residual from a Cobb- and new firms grew up in places close to large Douglas production function with labor, land, and capital as inputs. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 129 is 5 percent in the United States and 4.5 per- world’s largest car producer and the largest cent in Germany, Italy, France, and Spain new car market in the world. (Ciccone and Hall 1996). Evidence from the Yangtze Delta shows that doubling the Impacts of administrative land allocation concentration of firms in the same indus- try boosts productivity by 3.3 percent and Land use in Chinese cities is determined that the benefits accrue more to fi rms with by administrative decisions and detailed in higher-skilled workers, who are more likely master plans. Land for residential and com- to absorb technology spillovers (Hashiguchi mercial purposes is auctioned, whereas land and Tanaka 2013). for industries is heavily subsidized because Using fi rm-level data from China’s indus- industrial production is given priority over trial census for 2004, recent research for commercial and service-oriented activities. this report shows that manufacturing fi rms The proportion of land devoted to indus- strongly prefer to be in close proximity to tries has been growing rapidly in the past other fi rms in the same industry, benefiting few years (figure 2.5). Around 26 percent of from localization economies. Firms in high- the built area of cities is devoted to indus- tech production are willing to pay RMB 1.03 trial development. For example, in Tianjin, million for an increase of one percentage industrial land amounts to 22 percent of the point in the number of fi rms from the same built area, while in Zhengzhou it amounts to sector at the same location. And firms in the 23 percent. Both cities are slightly below the machinery sector are willing to pay RMB Chinese average but still much above large 917,000 for such an increase (Afilal and Lall cities in market economies. In contrast, Seoul 2014). Interestingly, while industries employ- uses 7 percent of its built land for industries; ing skilled workers tend to cluster in large Hong Kong SAR, China, 5 percent; and New cities, standardized manufacturing prefers to York City, 4 percent. disperse from large cities to specialized clus- The large proportion of industrial land in ters. In addition, to reduce their transport Chinese cities reflects the location of enter- costs, export-oriented fi rms prefer to locate prises in designated industrial zones close to close to ports, although not in a large city. Clearly, a process of industry upgrading and FIGURE 2.5 Recent trends in land use allocation specialization across cities of different types from farmland to other uses (square kilometers) is under way. 2,500 Externalities of urbanization process The number of vehicles, congestion, and 2,000 energy demand are all increasing rapidly and posing a major challenge for the livability and 1,500 environmental quality in cities over the next km2 two decades. Current urban expansion and lack of coordinated land use and transport 1,000 policies are locking cities into car dependency and further congestion. Chinese cities in 500 general tend to have high densities in central areas surrounded by greatly dispersed and low-density suburban areas; public transpor- 0 2005 2007 2009 2012 tation in suburbia is thus not efficient or even economically feasible. The number of motor Industrial Transport Residential vehicles almost quadrupled over 12 years, up Public management and services Commercial from 56 million in 2000 to 240 million by the end of 2012, as reported by the Ministry of Public security. China has also become the Source: Staff estimates. 130 URBAN CHINA cities. Most industrial zones are managed FIGURE 2.6 Annual construction land supply— by municipalities or designated municipal- direct vs. competitive allocation (km2) owned corporations, which receive loans for infrastructure investments with land as 4,000 collateral. Land use rights for industrial use are negotiated at low rates to attract mobile 3,500 capital and with the expectation that these 3,000 industries will provide jobs and tax revenues for the city. Recent trends show that in 2012 2,500 km2 alone more than 2,000 square kilometers 2,000 were allocated for industrial development. Of the 6,015 zones established by municipalities, 1,500 only 1,251 are registered with provincial gov- 1,000 ernments or the State Council (Peterson and Clarke-Annez 2007). By contrast, when mar- 500 ket mechanisms are involved, industries com- 0 pete with other sectors for the use of land. 2001 2004 2007 2010 2012 Land-intensive industries are pushed by eco- Direct allocation Competitive allocation nomic forces to peripheral or smaller towns where real estate is cheaper. Such competition increases economic efficiency. Source: World Bank. Not only has the municipal allocation of land for industrial use slowed the pace of overall proportion in the metropolitan region urban redevelopment, it has potentially sti- is increasing, because industries can occupy fled the growth of smaller cities that could be larger tracts of cheaper land on the urban more natural locations for mature industries periphery. In recent years, most urban con- moving out of the big metropolises. Even struction land has been administratively when industries do move from the urban allocated for industrial development (about core, they are often relocated to the immedi- 10,800 square kilometers), while the com- ate periphery of urban areas, often prevent- petitive auction of land use rights for residen- ing smaller towns in different administrative tial and commercial purposes has been much jurisdictions from competing. Consider firms lower, 6,100 and 2,100 square kilometers, in heavy manufacturing, including chemicals, respectively (figure 2.6). In general, indus- metal products, and plastics. In 1999, 49 per- try moved only as far as the city suburbs— cent of these fi rms in a megacity with more Shanghai still had among the highest percent- than 10 million people were located in the age of construction land zoned for industrial urban core; by 2009 that share had dropped and warehousing use in China (World Bank to 38 percent. Heavy industry deconcentrated 2008). to rural counties in these megacities. At the China must start getting industrial land same time, heavy industry declined from 40 consumption to more “normal” propor- percent to 30 percent in the urban cores of tions. Continuing the current patterns is cities between 3 million and 10 million peo- hurting the economy and can lock cities into ple. Similar patterns of suburbanization or unsustainable land uses that have long-term limited deconcentration to urban peripheries consequences for environment sustainabil- are seen for other sectors such as machinery ity. As industry leaves the urban cores, the and textiles. For 108 metropolitan areas in land it once occupied should be redeveloped China, 85 percent of industrial GDP in 1990 to accommodate fi rms in tradable services. was produced in center cities; by 2005, that While a wide range of initiatives can repur- share had fallen to 60 percent (Cai and Hen- pose old industrial districts, these initiatives derson 2013). typically involve redevelopment of infrastruc- So while the share of industrial land ture and other projects to make the city’s spa- in the city core built area is falling, its tial structure more efficient, sustainable, and PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 131 BOX 2.1 Barcelona 22@: Urban land redevelopment led by the private sector and enabled by the government The city of Barcelona has undergone an ambitious other media companies. All of it was done without transformation since the late 1990s, using the post- any subsidies, just with an intelligent requalification Olympic push to redevelop 180 hectares of the city’s mechanism that allowed private developers to convert land languishing as warehouses after industry left the industrial zoning into 22@ zoning with higher build- area 20 years before. Led by the private sector and ing ratios, in exchange for returning 10 percent of the enabled by public policy, the redeveloped area is now land to the city for green spaces, another 10 percent home to more than 1,500 companies, 10 universities for social housing, and 10 percent for common tech- with 25,000 students, 12 technology centers, and nological infrastructures (technology centers). All in 3,000 new housing units for low-income residents. all, the city paid for only a portion of the street paving The project, started as a government-led initiative, and fiber optics infrastructure. initially focused on offering preferential real estate The key to success was the complementary roles and met with limited success. In 2004 the private of the public and private sectors. At inception, leader- sector got involved, focusing on four traded services ship came from the city mayor and the public sector, that already existed in Barcelona but that were spread focusing on restructuring misused urban space close across the city. Market-induced relocation of interre- to the city center for mixed uses, clean industries, lated activities allowed for rapid growth and attracted knowledge infrastructure, living areas, and green international companies. zones. Development through specialized traded clus- One successful example was the work done to con- ters and private sector investment created incentives vince a large media company, Mediapro (http://www and a reality check for public sector ambitions. The .mediapro.es), to move its headquarters, studios, and danger in the maturity phase is when the government technical center into the same block with the Univer- sees the success of the project and tries to replicate it sitat Pompeu Fabra Media Center (http://www.upf by funding projects directly. Without building part- .edu), plus similar nearby centers of other universities, nerships with the private sector, the project ran the the national public radio offices, and office space for risk of turning into “white elephants.” Source: Contributed by Emiliano Duch. livable. The key here is to encourage busi- innovation and new product development nesses and residents to take the lead in rede- (Cai and Henderson 2013). The density and veloping former industrial areas. The city of economic diversity of the largest cities enable Barcelona with its 22@ Program shows how experimentation, where potential manufac- (box 2.1). turers try different technologies and products until they fi nd what they are best suited to produce (Duranton and Puga 2000). Experi- Improving efficiency and livability ence from today’s developed economies tells of cities us that the innovation and service economy Increase the market role will be even more concentrated than the industrial economy because services tend to Market forces have pushed China toward use less land per employee, and service sec- concentrating industry in its large coastal tors benefit more from external economies, cities, helping fi rms there reap economies of increasing the demand for physical proximity scale. Now, the economic path of cities across and density. China’s urban system will need to evolve. In Along with the concentration of services the United States and Korea, industry decen- in the largest cities, standardized industries tralized out of the biggest cities, which then typically decentralize to smaller cities. In the became hubs of research and development United States, the share of manufacturing has and higher-technology development, where rapidly declined in large cities and resulted in diversity and cross-sector fertilization aids the development of many more service cities. 132 URBAN CHINA These include health, entertainment, trans- developing Apple products remain in Shen- port services, insurance, and finance cities, in zhen, for example, the company’s manufac- addition to the traditional university towns turing base producing computer connectors and state capitals. Although the transition has been relocated to Zhengzhou in Henan was not without challenges, as New York Province, and the computer manufacturing experienced in the 1970s and Detroit is cur- business is now in Chongqing and Wuhan rently undergoing, formerly large and diverse (CDRF 2010). Statistical analysis of employ- manufacturing cities have become more mar- ment growth, using propensity score match- ket and service oriented, and the most indus- ing, points to faster growth in the tertiary trialized parts of the United States are now sector in cities that belong to metropolitan rural areas and smaller cities (Kolko 1999). areas compared with similar cities not in Firm-level evidence from Japan also shows metropolitan areas (table 2.1). Finance, insur- that branches of electronics firms doing ance, and real estate (FIRE) grew almost research and development and trial produc- 2 percentage points more in metropolitan cit- tion are in larger metropolitan areas, while ies then in nonmetropolitan cities. the mass production of standard items is in Systematic assessment of the service sector nonmetropolitan areas (Fujita and others in China shows that tradable services are not 2004). adequately concentrated in the largest cities. Decentralizing industry is possible with Typically, when one thinks of fi nancial and investments in transport infrastructure; insurance services, New York and London lower transport costs help industrial firms come to mind as dominating the global land- leave large cities, where land prices are high, scape for these services. Such a city does not by giving them access to markets for their yet exist in China. products. Between 1990 and 2010, the rail The location quotient is an index showing network length in an average prefecture the specialization or share of a specific sec- increased from 142 kilometers to 210 kilo- tor in a city’s economy compared with the meters. More dramatically, in 1990 there national share. The concentration of fi nance were no limited access highways in China; and insurance services in cities with popu- by the end of 2012, there were more than lations of more than 10 million is only one- 96,000 kilometers. Recent econometric tenth the national average, whereas such ser- analysis shows that investments in railroads vices in small cities with less than 500,000 have led to the decentralization of industry in people are 35 percent more concentrated China (Baum-Snow and Turner 2012). Each than the national average. This imbalance railroad line from the city center outward is reflects efficiency losses, because these ser- estimated to displace 25 percent of core city vices benefit from agglomeration economies industrial GDP to the rest of the prefecture. that come from being in large dense cities. The transformation from industry to ser- Similarly, real estate services are also evenly vices is already taking place across Chinese distributed across different size cities in cities. While Foxconn Technologies corpo- China. Perhaps the only service that appears rate headquarters and the business cluster to be concentrated in large cities is research TABLE 2.1 Annual change in key economic and welfare indicators between 2000 and 2010 Percentage Variable Metro cities Nonmetro cities Difference Standard error T-stat Total share of employees in manufacturing 76.6 82.9 –6.3 9.4 –0.6 Location quotient of manufacturing employees 2.3 3.1 –0.8 0.8 –1.1 Workers in secondary industry as a share of total employed 0.7 0.6 0.1 0.1 1.9 Workers in tertiary industry as a share of total employed 0.70 0.58 0.12% 0.04% 3.1 FIRE services 5.8 3.9 1.9 0.9 2.1 R&D services 33.2 22.7 10.5 13.8 0.8 Source: Census 2000 and 2010, based on propensity score matching. Note: The location quotient measures a region’s specialization relative to the nation’s average. FIRE = finance, insurance, and real estate; R&D = research and development. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 133 FIGURE 2.7 China’s largest cities have lower necessary to coordinate investments and densities than their peers worldwide manage externalities—and relax its control and involvement in land, labor, and capi- 30,000 tal markets, activities that markets manage more efficiently. 25,000 Density (inhabitants per km2) 20,000 Price and regulatory instruments can enhance density and efficiency 15,000 China is not yet taking full advantage of the benefits of density. For example, an addi- 10,000 tional 4.2 million people could be added to the Guangzhou population before it reached 5,000 the same density profile as Seoul without 0 adding more land (figure 2.8). The great ben- < 0.5 0.5–2 2–10 > 10 efit of doing so would be more efficient use Millions of existing infrastructure and services, thus China Rest of the world reducing the demand for new land and infra- structure. Similarly, Shenzhen could accom- Source: Demographia.com modate another 5.3 million people if it were redeveloped to the same density profile as Seoul. Not only does densification enhance and development, where the concentration efficiency, it also reduces carbon emissions of research and development (R&D) activi- and infrastructure costs. Chinese cities are ties in cities of more than 10 million people already moving in the right direction with is 35 percent higher than the national aver- densities showing an upward trend. Beijing age. These patterns show that China has a increased density by 50 percent on average long way to go to reach the concentration of in medium-low density areas (5,000 to 7,500 traded business services in other large suc- people per square kilometer), and by 48 per- cessful cities across the world. cent in very low density areas (fewer than China’s cities need to get their densi- 1,000 people per square kilometer) between ties “right” and make the city’s markets for 2000 and 2010. labor, goods, and services accessible to other cities. Cities with populations of more than FIGURE 2.8 Urban density profile comparison between 2 million are not as dense as similarly sized Guangzhou and Seoul cities across the world (figure 2.7). Although China’s megacities, with more than 10 mil- lion people, have comparable high densities 40,000 in their central core areas to cities in Japan Density (inhabitants/km2) and the United States, densities drop signifi- 30,000 Guangzhou cantly in suburban areas and the overall den- sities are rapidly declining. M a k i ng si mu lt a neous prog ress on 20,000 Seoul, Korea, Rep. improving density and connectivity remains at the core of enhancing economic efficiency, 10,000 and the government will have to focus its efforts in areas that it can manage—such as strategic infrastructure investments, urban 0 0 100 200 300 400 500 600 planning, and public fi nance. But the gov- Built–up area (km2) ernment will also need to redistribute to national, provincial, and local governments the responsibilities, powers, and resources Source: World Bank. 134 URBAN CHINA To enhance density and nurture innova- Build urban planning and management tion and the service sector while slowing the capabilities at the metropolitan scale speed of a physical expansion, local govern- In addition to better managing urban densi- ments need to refine urban planning capa- ties, simultaneous improvements in connec- bilities by strengthening price and regulatory instruments in their planning repertoires. By tivity within and between cities have con- allowing developers of industrial, commer- siderable bearing on enhancing economic cial, and residential areas to bid competitively efficiency. Connections between cities enable for land on a more equal basis, land use will firms to access local, regional, and global become more efficiently allocated both in the markets—both for buying inputs and selling urban cores and on the periphery. outputs. They also give consumers options In most cities across the world, land prices and, in many cases, better prices (World Bank shape density and land use, subject to restric- 2013a). Within cities, connections enable tions put in place by land use regulations. If people to access employment, and they enable land prices are high, developers will build firms to attract workers, access other inputs, high-density, high-rise office buildings, shop- and sell their products in local markets. In ping centers, and apartments. Higher densi- China the evidence points to increases in con- ties generate greater need for infrastructure gestion and commuting times associated with services (electricity, water, wastewater). But rapid spatial expansion of cities, potentially they also support environmental sustain- eroding gains from urbanization (figure 2.9). ability by being better suited to public trans- Rapid urbanization and economic growth port. To be sure, density must not overwhelm have increased the movement of goods and infrastructure. Yet it is equally important not products. Between 2008 and 2012, freight to underuse infrastructure by imposing low- movement measured in ton-kilometers grew density caps where infrastructure can support annually by 9.4 percent, on par with GDP higher ones. Hence there is a need to coordi- growth, reaching 17 trillion ton-kilometers in nate land use and density with infrastructure. 2012 (Clean Air Asia 2013). Road transport FIGURE 2.9 Spatial expansion of cities is associated with higher commute times 1,400 38 40 36 36 35 1,200 1,289 35 31 30 29 28 30 1,000 886 844 25 23 800 764 22 Minutes 667 km2 20 577 572 600 451 15 408 400 345 10 200 5 0 0 g ai u n g ing jin n u ou ho gd ijin he n a gh n uh zh nji gq Tia nz gz en an Be ng W Na on e an Ch Sh Sh Ha Ch Gu Chinese cities Commuting time (right axis) Built-up area (left axis) Source: Staff estimates. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 135 accounts for 78 percent of the 41.2 billion In all these cases the management of the tons of freight moved in 2012, and 35 per- transport organization includes representa- cent of freight ton-kilometers. But moving tives of the participant authorities and can freight by road is becoming inefficient as well operate only through the agreement of those as environmentally unsustainable. Some esti- representatives. In that sense there is indirect mates suggest that 40 percent of trucks run accountability. In most cases, to prevent a empty for intercity trips and that it takes on continuing haggle about the distribution of average 72 hours to unload and load a truck costs and benefits between the parties, there (Clean Air Asia 2013). Short-haul truckers is a predetermined formula for allocating frequently return home empty, and long-haul the costs, separate from the annual internal truckers have to wait an excessive amount of budgetary process. To reduce inefficiencies in time to get loads, seriously reducing operat- the movement of goods and services, a good ing efficiency (ADB 2012b). starting point will be to better coordinate With the largest Chinese urban regions policies, sequence investments, and integrate rapidly spilling beyond their traditional operations of the transport systems among boundaries, coordinating transport invest- the vast number of transport providers. ments and policies at the metropolitan level is important. Accountability for providing bet- ter public transport blurs where the natural Planning for compact, dense, and boundaries of a transport region include more vibrant cities than one autonomous agency. Many agencies Trends and processes in urban spatial layout at the city level are responsible for differ- and planning ent aspects of urban transportation (metros, buses, road construction, traffic management, The stock of urban construction land land use) that connects metropolitan areas. increased more than 100 percent between To improve connectivity, metropolitan and 2000 and 2010 in Baoding, Fuzhou, Hang- regional agencies may need to be established zhou, Hefei, Nantong, Quanzhou, and where there is a mismatch between munici- Shanghai, Metropolitan Regions. The largest pal boundaries and the urban economic foot- absolute increases were in the Beijing, Guang- print. In many countries, single subject or zhou, Hangzhou, Shanghai, and Shenyang limited subject metropolitan-level agencies Metropolitan Regions. The area of urban may be created by national law (as in Syn- land per capita varies significantly. The high- dicat des transports d’Île-de-France [STIF] est area per capita is in smaller metropolitan in the French Ile de France or the Consorcio areas, with 1 million to 5 million residents. Regional de Transportes de Madrid [CRTM] Tangshan and Baoding metropolitan areas in Madrid), or by state law (as in Vancouver, have the highest ratio followed by Wenzhou, Canada). Or they may be formed by volun- Zhongshan, and Changchun. None of these tary association between municipalities (as cities is a major destination for migrants, and in most French metropolitan areas and in expansion between 2000 and 2010 was likely Recife, Brazil). The French case is particu- supply driven by municipal governments and larly interesting: the formation of an urban not by real demand for housing or industrial transport organization authority (Autorité facilities. Organizatrice de Transport Urban [AOTU]), New developments contribute to sprawl though voluntary action, is strongly encour- and to the decrease in densities (map 2.2 aged by national law that gives areas setting shows the sprawl for the Shanghai area). up an AOTU the right to levy an employment About 95 percent of urban growth in China tax specifically earmarked for public trans- happens as low-density edge or leapfrog port. There are even cases, as in the Washing- growth, while a very little percentage of ton, DC, metropolitan area, where the parties growth happens by infill and urban rede- to the agreement (the District of Columbia velopment. The building of new towns and and some districts within the states of Mary- economic development zones on the edges land and Virginia) have different legal status. of existing cities serves local governments in 136 URBAN CHINA MAP 2.2 Sprawl in Shanghai Metropolitan Region between 2000 therefore, is extremely important for manag- and 2010 (in red) ing energy consumption and building more sustainable cities. Quotas and growth restrictions have had limited effect on urban expansion The spatial expansion of Chinese cities is marked by fragmented and noncontiguous development of new towns and economic development zones. This fragmentation is an unintended outcome of quotas to protect basic agricultural land because the policy does not discriminate sufficiently between agricultural lands within the city boundar- ies and those beyond. Because some of the agricultural land close to built-up areas can- not be developed, more distant nonagricul- tural villages are incorporated into the urban Source: Map prepared by the University of Wisconsin-Madison, May 2013. space. At the periphery, high-rise residential buildings are progressively replacing village housing and town and village enterprises their competition to attract capital and fos- (TVEs), while large pockets of agricultural ter economic growth. The new expansion land are left undeveloped within the city zones are often planned and built at rather core. This leapfrog development is inefficient low gross densities because of the size of road and expensive because utility networks and infrastructure, setbacks, and open spaces. transport lines have to bypass the empty For example, Binhai New District in Tian- land, which loses productivity for lack of jin Municipality is being built at roughly access to irrigation. Although the motivation half the density inside Tianjin’s third ring of the Basic Agricultural Protection Law was road. Chenggong is another example. It is well intended, its implementation lowers both a new town 15 kilometers from downtown agricultural and urban productivity. Kunming, with an area of 160 square kilo- A detailed study on the urban develop- meters, or 2.6 times the size of Manhattan. ment process in Beijing showed that growth The planned gross floor area ratio (FAR)— management policies had limited impact on the ratio of a building’s total floor area (gross the expansion of the city in suburban districts floor area) to the size of the piece of land and greenbelt areas. The limited impact was upon which it is built—in Chenggong is 0.87, mainly the result of conflicting national and much less than the FAR of 3 to 4 in dense local objectives that grew out of the fiscal and European cities.4 political decentralization process. With the If sprawl continues at its current rate, dual land market system (box 2.2), local gov- urban areas will triple in land size by 2030. ernments have relied on land conversion to Based on empirical data from more than 50 finance public services. With increased decen- cities worldwide, and with the expectation tralization and autonomy, they have pursued that the urban GDP will grow 2.5 times and their own growth objectives and relaxed the urban population will grow 1.5 times, development controls to better obtain and urban energy consumption will triple. Sprawl compete (with other governments) for more will be responsible for 59 percent of this investment opportunities. Few incentives growth in energy consumption, while demo- exist for cooperation among governments, graphic changes and GDP will be responsible and village, town, and county interests pre- for just 12 percent and 29 percent, respec- vail above municipal and national interests tively (Bourdic 2011). Containing sprawl, (Zhao, Lu, and Woltjer 2009). PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 137 BOX 2.2 Dual land market system China’s current land system is a result of a series of usually substantially higher than the allocation fee. land reforms that started in the early 1980s. There are In other words, state units are able to obtain land use two tiers of land use right markets in China. The fi rst rights at costs that are much lower than those paid by is administrative allocation of land use rights through commercial users and with no time limit. the “plan track” to the state or a nonprofit entity. An Only private users that have gained land use rights “allocation price” is paid, consisting of three com- through higher conveyance prices are able to partici- ponents: the expropriation cost of the land, various pate in the “secondary market” for land use rights in stipulated land fees, and a government-set allocation urban areas. Specifically, holders of land use rights fee. The second tier is conveyance of land use rights obtained through conveyance may transfer these from the state to private users for a fi xed period of rights to others, rent to others the land on which they time (40 years for commercial land, 50 years for have use rights, or use their land use rights as collat- industrial land, and 70 years for residential land). The eral. Furthermore, the price for land use rights in the “conveyance price” also consists of three major com- secondary market can be substantially higher than the ponents—the expropriation cost of the land and vari- conveyance price in the primary market. So the abil- ous stipulated land fees, as in the fi rst tier, together ity to mortgage one’s land use rights is tremendously with a conveyance fee, which is “market determined” important in an economy where the capital market in that it is negotiated or determined by public tender is underdeveloped and where banks are unwilling to or auction. The market-determined conveyance fee is lend without collateral. Industries located in central urban areas requisitioning farmland in a manner that during the period of the planned economy are is contributing to unsound forms of urban being relocated to smaller cities and new eco- growth, unsustainable local finance, and the nomic development zones in peri-urban areas waste of land resources. The oversupply of where municipal authorities have incentives industrial land and limited release of urban to release land below market value because land for residential and commercial purposes they see industries as major drivers of local have a direct impact on housing prices, which economic development and jobs. Most major have been soaring (Rabinovitch 2013), mak- cities are planning major expansions of new ing the provision of affordable housing more towns and development zones at the urban difficult. periphery as part of their urban master plans. These are quite often “showcase” or “image” The planning process in China projects and sacrifice people’s preferences and intensity of land use. Land allocation to China’s planning institutions follow a hier- industry in Chinese cities is between two to archical structure. The main administrative three times that in comparable cities in other system includes the central administrative countries with well-functioning land mar- bodies, the State Council, and local admin- kets. Although reforms are under way to cor- istrative bodies at the province, county, city, rect the allocation and pricing of industrial and township and district levels. At the local land, the problem will take time to redress levels, the peoples’ congresses have the capac- because most relocation of industry is fairly ity to elect members of the government and recent. the power to adopt local regulations and In addition, governments have increas- monitor government functions, including ingly been relying on mortgage loans through urban planning (Song 2012). Local govern- local government financing vehicles (land ments usually follow the lead of the central banks) that help circumvent restrictions on government in developing various plans, such local government borrowing; these loans as the five-year plans for economic and social are backed by future land sales as collateral. development at each level. Further examples Both practices have contributed to aggressive of national-level plans are provided in table 138 URBAN CHINA TABLE 2.2 Examples of key national plans Plan Institution Major Function-Oriented Zone National Development and Reform Commission Land use master plans Ministry of Land and Resources Comprehensive plans for river basins and flood Ministry of Water Resources control planning Comprehensive transportation plans Ministry of Transport Ministry of Railway General Administration of Civil Aviation National economic and social development plans National Development and Reform Commission Regional economic development plans National Development and Reform Commission Source: Adapted from Song and Pan 2009. 2.2. The planning system consists of socio- complexity of economic planning for a large economic and sectoral planning at all levels territory, population, and economy with sig- of government, and urban planning at the nificant regional diversity and disparity. With municipal level. At each level, institutions are increasing emergence of interprovincial eco- expected to coordinate with each other in the nomic cooperation, the government is facing development, implementation, and monitor- a new challenge in regional planning. ing of plans. The time frame for socioeco- Urban planning is implemented at the nomic and sectoral plans includes long-term, state level by the Ministry of Housing and medium-term (that is, five-year), and annual. Urban-Rural Development (MOHURD), Urban master plans usually cover a time span which is overseen by the State Council; at the of 20 years. provincial level by the Department of Hous- A new tool, Major Function-Oriented ing and Urban-Rural Development, overseen Zone, is being implemented by the Chinese by the Provincial Government; and at the city government. This tool promotes coordinated or town level by the construction commis- regional development and spatial structures, sion, urban planning commission, or urban and takes into account the different roles that planning bureau, overseen by the local gov- different regions in China play, for example, ernment (Song and Pan 2009). Institutions at regarding urbanization and industrialization, various levels fi rst prepare an urban master the protection of ecosystems, agricultural plan and then a detailed control plan for their production, and safeguarding the natural level and submit it for approval to the appro- and cultural heritage. This new tool expands priate upper-level body, depending on the the focus from just economic development size or status of the city or town. The State to embrace other development priorities Council has to approve urban plans for sev- throughout the regions. eral cities, including municipalities directly Regional planning is not mandatory but reporting to the council (Beijing, Chongqing, is generally conducted at the central level Shanghai, and Tianjin), provincial capital cit- by the National Development and Reform ies, cities with over 1 million residents, and Commission, whose duties include preparing other designated cities. A city planning super- national economic and social development vising system covers all provincial capital cit- plans, planning development priority zones, ies, all subprovincial cities, and all national coordinating regional development and strat- historic cities except municipalities. egies for urbanization and sustainable devel- At the local level, the preparation and opment. The planning process adopted by implementation of urban development the Chinese system is similar to that seen in plans requires involvement of many govern- other countries. To put it simply, the system ment agencies; the key agencies are listed in is a top-down and bottom-up process with table 2.3. a central planning agency. The main differ- Master plans are usually prepared on a ence is that greater effort is needed for the 20–30 year horizon and are for the whole Chinese system to cope with the inherent metropolitan area, not just the urban area. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 139 TABLE 2.3 Key local planning institutions Institution Responsibility Development and Reform Commission Establish five-year plan for economic and social development and regional development plans and guide urban planning process Urban Planning Bureau Manage urban planning process as well as planning related projects Land Resources Bureau Manage land use master plan and other land-use related activities Water Resources Bureau River basin and flood control plans Transport Bureau Participate in urban planning process and transport planning Public Works/Infrastructure Bureau Maintain public infrastructure Environmental Protection Bureau Develop local environmental regulation and monitor environmental protection Statistics Bureau Provide demographic data for planning process Source: Adapted from Song and Pan 2009. Master plans have a five-year implementation As in other countries, various organiza- plan and a number of associated sectoral mas- tions, institutions, and levels involved in the ter and implementation plans under them, planning process and coordination between and are expected to be updated and reap- planners and sector departments is essential proved every few years. District plans may for preparing comprehensive plans (but can be prepared for medium-large cities. Detailed face difficulties). An integrated urban plan is control plans and detailed construction plans one that takes into account all the factors set are prepared under these higher-level plans. out in table 2.4. At the core of the process is Urban transport plans are generally a pro- the need to synthesize and prioritize invest- cess under the urban planning system. Land ments plans proposed under the plans and by use plans are overseen by land management line ministries and link these with the bud- bureaus under a separate process from urban geting process managed by the Ministry of plans (and often ate not be in sync with the Finance (Zhi 2013). urban planning process). Because of the pace of urbanization and development, how- Planning practices and land use allocation in ever, land use and infrastructure develop- secondary land markets ment in China’s cities often exceeds the limit and expectation set by the master plan (Zhi Chinese planning practice contributes to 2013). The oversight function of higher-level land use inefficiencies by limiting building authorities for urban spatial expansion also intensity. China is developing a lot of land, largely fails amid rapid urbanization. but not necessarily in a way that responds TABLE 2.4 Factors making up an integrated urban plan Factor Role Result Social and economic forecasts Evaluations of population and economic Shared with all other agencies to guide their plans conditions (land use, infrastructure, environment) Land resource protection and Land resource and land use planning Helps ensure timely decisions on new development land use allocation combined into one function locations and limitations and conservation of farmlands or open spaces Transport planning Coordinate with land use and urban planning Ensures layout and capacity of transport infrastructure and systems correspond to land use and urban plans Environmental protection Coordinate with urban and transport plans Monitors both industrial and agricultural pollution as well as mitigates pollution from urban and transport. Source: Adapted from Song 2012. 140 URBAN CHINA BOX 2.3 Regulatory restrictions on urban redevelopment and densification Restrictions on urban redevelopment run a range of In other words, for almost any form of rede- complexity. On the simpler side, consider the rede- velopment within an urban area, it is likely that a velopment of a traditional seven-story walkup area government-backed UDIC will need to be involved in a Chinese city. If the redevelopment is being done and that the process will require complex negotiations for a public purpose (such as for a park or railway), with a huge number of land owners of a large-scale the current land users will be compensated at locally lot. This requirement for large-scale government inter- specified compensation rates. This type of redevelop- vention indicates that redevelopment in Chinese cit- ment is relatively low cost and straightforward but ies is a challenge. It cannot be done at a small scale, can only be carried out by the government. because all major changes can only be made at the For commercial redevelopment, a prospective rede- “lot” level, which is typically large, fixed, and decided veloper must negotiate with each individual property in the past. These restriction suggest how land use and “owner” over the entire lot. Given how large these density decisions in China are “locked in”—decided at lots are, a typical superblock developed as a seven- one point and difficult to change incrementally. story walkup would require negotiating compensa- Contrast this situation with a case of the same set tion rates with many individuals, a challenging prop- of buildings each on their own individual lot. Here, osition for any private land developer. In practice, an a property owner would only have to control one lot urban development investment corporation (UDIC) to propose a land use change. If, perhaps, a developer negotiates with all the landowners and redevelops the perceived a need for a hotel, or a set of shops, he could entire lot—compensating land owners and clearing purchase one single property from its “owners” (a sim- the land. Only then can the land be reapportioned pler proposition than negotiating with the entire large and redeveloped using the same process as for newly lot). In addition, if necessary, the developer could peti- converted urban land. tion for rezoning only of his small lot, rather than the larger superblock containing dozens of buildings. Source: Based on description prepared by Andrew Salzberg. to consumer demand or promotes efficiency. items of ownership, they often require sepa- Local governments have not used density rate registration in different offices. Businesses regulations effectively to provide incentives and individuals who buy property, receive a to increase densities along major public certificate that links their property cadastral transport corridors and stations, while reduc- information to the entire lot that was leased to ing densities in less accessible and peri-urban the developer, which contains other land and, areas. Zoning and FARs are often applied at likely, buildings. In other words, the original the large block or parcel level and lack a clear secondary land developer still controls the strategic policy direction that would allow original lot (box 2.3), and the building devel- for gradual densification based on infrastruc- oper only has an ownership certificate for his ture improvements and land value increases building. In other words, true “subdivision” of over time. In general, density restrictions are a lot, in the sense of the word used in western too rigid in city centers, forcing development contexts, is not possible in the Chinese con- to the urban periphery. text. Even if smaller developers are allowed Changes in land use require permission to participate in the development process by from the government, and land developers building and owning buildings, the underlying who abandon the use forfeit their right back land remains tied to the original leased plot. to the government. Land developers have some flexibility in defining the layout and Urban blocks are often oversized and do not subdividing the lot under specific guidelines; optimize land use however, the land’s delineation and FAR are often fixed with little flexibility. Because land Chinese cities were developed with super- and the buildings on that land are separate blocks of 400 meters (or more) to accommo- PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 141 date the danweis, or the places of employ- superblocks is by far inferior to that of small ment of state-owned enterprises, and the land continuous perimeter blocks. Setbacks at the use rights of many superblocks in older parts edge of the superblock create a strong discon- of cities are still owned by the danweis. Most tinuity and isolation from the street, often new developments continue to be built at very reinforced with fences around new develop- large block sizes. The blocks in newly planned ments. Inside superblocks, repetitive build- expansion zones typically range from 400 ings (office towers, housing parallel slabs, meters to over 800 meters a side, compared villas) stand in isolation without forming a with blocks in Tokyo that average 50 meters a continuous whole with the rest of the urban side, or blocks in Paris, London, and Manhat- fabric. Superblocks thus lack complexity and tan that average 120 meters a side. One 400 differentiation. In an area of less than four meter Chinese superblock equals 64 Japanese Chinese superblocks, the city of Turin houses blocks and 11 blocks in Manhattan, Paris, hundreds of buildings, many plazas and London or Hong Kong SAR, China. Like the monuments, 40 kilometers of facades along former city center superblocks, the new super- streets, and 15 kilometers of facades along blocks are usually not subdivided into smaller internal courtyards (box 2.4). plots when leased, which prevents a more Although the Code for Transport Planning competitive and gradual redevelopment of the of Urban Roads (GB 50220-95) differentiates block over time. The superblocks have also between different types of roads, the actual benefited large developers with the means plans and designs of urban streets, especially and access to capital market to purchase the in new development areas, make little distinc- lease rights and develop these blocks. tion by use and function of streets. They do The building coverage ratio—the ratio not take into account the needs of different of the building’s footprint to the size of the users, nor are they based on realistic forecasts lot—of superblocks in Chinese develop- of traffic demand. Many roads are oversized, ments varies between 15 and 25 percent. 5 in part because planning guidelines require This building coverage ratio is low com- an arterial road (eight lanes or more) every pared with historical small blocks (where kilometer and a main urban road every 500 the ratio is 50–65 percent), forcing Chinese meters. That might be appropriate for large urban designers to compensate for the loss metropolitan regions, but it is neither feasible of density by going vertical. The density, as nor desirable in smaller towns. The stan- measured by the floor area ratio, of vertical dards and guidelines are responsible for three BOX 2.4 Comparison of connectvity in Chinese and other cities The table shows the differences in connectivity for three cities in China and three in Europe. Pudong Hutong New areas Turin, Barcelona, Paris, Shanghai, Beijing, Beijing, Italy Spain France China China China Urban grid Urban grid Intersections per km² 152 103 133 17 119 14 Distance between intersections 80 130 150 280 75 400 142 URBAN CHINA inefficiencies: overly large superblocks that social inclusiveness and environmental well- are not subdivided into smaller plots; roads being. They should be enhanced in an adap- that are too wide, often between six and tive strategic planning process by increasing ten lanes, and designed for high-speed traf- progressively the number of intersections per fic, typical of highways; and the absence of square kilometer and the linear density of secondary and tertiary roads based on func- streets to develop the connectivity and create tion; the lack of such a public street network a more fine-grain urban fabric. results in a public street density that is three The density of public amenities such as times lower than in Europe and in Manhat- public parks and heath care, child care, and tan and eight times lower than in Japan. education facilities should be increased, to Public space design, including street create a city where most daily amenities are design, has been replaced in Chinese urban accessible within a five minute walk. Finally, planning practice by road engineering with cities should mix commercial space, offices, increased traffic flows as the main objective. and residential areas to reduce the distance The National Standard of Urban Residential residents have to travel to their jobs or to recre- District Planning and Design sets out the ational space. Articulated densities will allow standard for road width within the residen- more efficient and cleaner transport modes to tial district. Regulations on street widths, become viable and affordable, such as biking, street traffic speed, and block length shows walking, and public transit systems. Densifi- that at the residential district level, the built cation is not an end in itself, but a means of environment is intended to promote walking. improving the sustainability, connectivity, Given the arterial roads, however, which are accessibility, and diversity of the city, as well normally one kilometer apart, the environ- as its vitality. It is a relative indicator of the ment is not pedestrian friendly.6 The multi- intensity of development, as one can see in the lane, high-speed arterial roads act as impass- comparison between Pudong and Puxi, both able barriers within the city and reduce the districts in Shanghai (box 2.5). connectivity between neighborhoods as peo- Forms of densification must be encour- ple are forced to walk 700 meters to cross an aged at three different scales. At the building 80-meter-wide road. and block scale, traditional perimeter blocks of about 100 meters a side and buildings of medium height (five to seven floors) offer Huge potential for densification and the highest potential for densification, with intensification of urban development gross FARs (including infrastructures) usu- Compactness enhances economic efficiency ally three times higher than towers-in-a-park and social inclusiveness of cities. Compact- superblocks of 400 meters side. At the neigh- ness, densification, mixed-use, and fine-grain borhood scale, the density of urban fabric street networks should be encouraged at should be balanced by a fine mesh of streets the block, neighborhood, and metropolitan and a dense distribution of public parks and scales. At the block level, superblocks should amenities. At the metropolitan scale, plan- evolve progressively into small blocks with ners should locate the areas where infill higher FAR, better inside connections and would increase the compactness and decrease more accessible amenities. At the neighbor- the fragmentation of the urban area. They hood level, a dense distribution of public should give an efficient shape to the metro- facilities and amenities should be encouraged. politan growth by concentrating densifica- At the metropolitan level, infill development tion actions along transportation corridors and integrated transport land use develop- and discouraging leapfrog and edge sprawl. ment need to be encouraged. Density (demo- graphic or FAR) is not the only characteristic Moving from superblocks to small, of compact sustainable cities. Proximity and well-connected plots accessibility, mixed use, and connectedness are also preconditions for the formation of Small blocks allow more density and agglom- agglomeration economies and for addressing eration economies. Chinese cities could be PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 143 BOX 2.5 Density compared in Pudong and Puxi, Shanghai A one-square-mile selection in Pudong Pudong is often considered as a model of high-density urban development. The following table compares two districts located on the opposite side of the Huangpu River: Pudong and Puxi. Because of the large-scale infrastructures associated with the large-scale buildings in Pudong, such as highways, large setbacks, parking space, there are huge areas that are not built. The building coverage ratio is much higher in Puxi, and, as a result, its gross urban density is higher than in Pudong. 800mx800m squares HongKou– Lujiazui– Puxi, Shanghai Pudong, Shanghai Building type Low-rise housing Towers Coverage ratio 53% 14% Gross urban density 1.9 1.2 Source: Salat, Labbe, and Nowacki 2011. redeveloped within the existing built urban superblocks (Salat, Labbe, and Nowacki footprint by dividing superblocks into smaller 2011). A finer-grain urban fabric could be blocks and increasing intensity inward rather obtained by subdividing the superblocks into than directing the growth outward toward small blocks of 100–150 meters a side and spatial expansion. Redevelopment within the reorganizing the spatial layout by construct- existing footprint would create more com- ing additional medium-rise buildings that pact cities, would foster short-range acces- redefine the boundaries and internal structure sibility and interactions, would diversify the of the block. China’s unprecedented effort of economic fabric at the local scale, and would the past three decades to build large struc- decrease the environmental loads of cit- tures has left space to build the intermediate ies. Small blocks in the Chinese context can and small elements in the space in superblocks achieve an average gross FAR around 2.5— left empty by the low building coverage ratio. doubling at a minimum the FAR of the current Filling in this empty land with new low-rise 144 URBAN CHINA dense and continuous construction, recreating functions, but a lot will depend on regula- vibrant streets inside the existing blocks, and tory and institutional issues discussed earlier. connecting the whole city by narrower streets Relaxing the block control rules is one of the running from block to block with walking key policies necessary for the Chinese urban and cycling paths is a challenge—but it is also landscape to evolve toward a more efficient a source of new profits generated by the use of mixed-use form. Chenggong’s Master Plan, high-value existing urban land. revised by Calthorpe Associates,7 is based Several innovative strategies for infill on smaller blocks and articulated density development within existing superblocks in along transit systems. The Kunming Urban Chinese cities have been proposed in a joint Planning and Design Institute designed it to Massachusetts Institute of Technology (MIT) conform to block control regulations, which and Tsinghua University project for designing resulted, even with “special case” status, in more energy efficient and cleaner neighbor- a plan with a core area made of 11 control hoods that would spur economic growth and units, 65 superblocks, and 384 parcels, with a quality of life of neighborhoods and cities net decrease in the street density. The revised (Frenchman, Wampler, and Zegras 2011). plan is a significant progress compared with Key concepts of the high-low-rise block current practice, although it is still behind the are the following: level of fine-grained and mixed-use cities like Manhattan or Paris. • The integration of high-rise with low-rise Removing barriers and introducing flexibil- forms creates a high-density neighborhood ity in the local planning and building regula- that is human scaled, combining valu- tions is key for implementing mixed-use small able properties of both low- and high-rise perimeter blocks. Success can be tested during development. a transitional phase through an assessment of • The new urban form is energy efficient. the environmental performance of a building According to MIT calculations, it reduces and neighborhood that considers such things the overall energy consumption per house- as smart growth, energy efficiency, resource hold by more than 40 percent compared recycling, environmental quality, and sustain- with conventional superblocks and brings ability. Examples, such as the Comprehensive the energy consumption close to the same Assessment System for Building Environmen- level as traditional forms and at the same tal Efficiency (CASBEE) in Japan or the Lead- level as small-block grid-based neighbor- ership for Energy and Environment Design hoods (Frenchman, Wampler, and Zegras for Neighborhood Development (LEED-ND), 2011). could be introduced and used to assess the • The new urban form provides services and effectiveness of local regulation and pave the amenities that residents need daily within way for changes. Current local codes do not close walking proximity, creating a highly allow small perimeter blocks, and negotiating functional and livable environment. with planning bureaus to get an exemption • The basic unit of development consists of a can be an extremely long and bureaucratic mixed-use small perimeter block of four to process. Even in special zones such as the six stories enclosing an interior courtyard Chenggong New Town, environmental and and includes one or more high-rise towers. energy efficiency improvements were compro- The courtyard provides semiprivate space mised considerably by the 50-meter setbacks for residents in the cluster. rules on the main roads. • Towers are carefully placed in each cluster Revision of planning and building codes is to ensure adequate sunlight in all residen- urgently needed to bring them into line with tial units and beneficial shade in the sum- international practice and allow for more mer months. efficient and sustainable urban development. The following changes would introducing As the above example shows, there are more flexibility into the block control sys- design options to adapt the current super- tem and increase the kilometers of streets per block and intensify its use to serve various square kilometer of area: PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 145 • Introduce conforming line ratios requiring The development of a fine-grain street net- that a minimal proportion of the buildings work is more expensive in absolute value, as to be aligned along the street and sidewalk shown in box 2.6: RMB 58 million per square (without a setback). The conforming line kilometer compared with RMB 35 million ratio can be modulated according to the in the more traditional developments. How- type of building (more than 60 percent for ever, the increase in density made possible by residential buildings, more than 70 percent the finer grain of urban fabric leads to lower for commercial and office buildings). pavement costs per capita—RMB 3,700 per • Insert zoning at the parcel or lot level to capita, compared with RMB 5,514 per capita encourage mixed use at the block level. for the superblock. This inversion of absolute • Reset standards on building coverage investment costs and per capita investment and green coverage to allow a continuous costs shows the importance of implementing façade of buildings. financial mechanisms to finance the absolute • Reduce minimum building setbacks. Many additional costs with the increase in FAR. American cities are suppressing their set- This approach makes economic sense only if back rules to promote pedestrian-friendly densification takes place. In Europe, the pub- environments with active street edges. lic authority finances the fine-grain street net- As an example, in Chenggong the mini- work and captures the value in the long run mum setbacks are being reduced to 10 through land sales and property taxes. meters along roads wider than 40 meters, to 5 meters for roads 40 meters wide, and More dense, mixed-use, and between 1 and 5 meters for roads less than well-connected neighborhoods 40 meters wide. • Introduce more flexibility in solar protec- A high density of streets with a good balance tion lines. of different street sizes promotes walking and • Reduce turning radius at street intersections. cycling. A high density of narrow streets with close intersections creates a vibrant, safe, and walkable urban landscape. Destinations tend Market diversification and other benefits of to be within walking distance, and the sys- smaller blocks tem of close intersections enables the pedes- Subdivision of land leases and market open- trian to change direction easily. The connec- ing to smaller-scale investors are key for tivity of streets of different sizes ensures the incremental densification. Land leases should continuity of public space that is an essential be subdivided into smaller plots, and fi nan- feature for walkability (box 2.7). The dif- cial mechanisms should be created, to fos- ferentiation of street widths goes along with ter the coexistence of a few large projects a differentiation of travel speeds. Narrow with large-scale fi nance, a medium number streets are designed for low-speed traffic with of medium-scale projects, and a myriad of bicycle lanes, while larger streets can accom- microprojects fi nanced by small and private modate faster traffic. local initiatives. A sublayer of connective public streets Except for rare and justified situations and well-defi ned and designed public spaces (large infrastructures, key urban amenities), inside the existing superblocks would cities should avoid the super block approach increase connectivity in Chinese cities. Pro- to land division. Rather, cities should divide gressive development of a small-mesh street superblocks into a few dozen urban plots network would end up by reconnecting the (about one hectare in size) with diversified full city. International best practice shows uses. To do so, national and local authori- that this finer grain also better optimizes ties will have to implement the following key traffic flows while creating more direct routes actions. and maximizing pedestrian mobility. The higher cost of fine-grain urban devel- Local street patterns should be integrated opment can be covered through the increase with surrounding networks to provide flex- of FAR and the implementation of FAR rights. ibility and accommodate changes in built and 146 URBAN CHINA BOX 2.6 Cost analysis of street network for various size blocks This box compares infrastructure costs associated with three models of street network. The fi rst model cor- responds to the traditional Chinese superblock, which typically has 500 meters between between intersections and multilane roads every 500 meters. The third model corresponds to the European model, based on empiri- cal figures for Paris (Bourdic and Salat 2013). Model 1 Model 2 Model 3 “Traditional” Medium-grain Fine-grain Chinese block small block small block 500 m between 170 m between 130 m between intersections intersections intersections 1 km 1 km 1 km Black lines: 10 lanes Light blue lines: 4 lanes Light blue lines: 4 lanes motorized streets (10L M) motorized streets (4L M) motorized streets (4L M) Dark blue lines: 6 lanes Green lines: 2 lanes Green lines: 2 lanes motorized streets (6L M) motorized streets (2L M) motorized streets (2L M) Street length 10L M: 2,000 m 4L M: 2,000 m 4L M: 2,000 m for 1 km² 6L M: 2,000 m Diagonal 4L M: 2,800 m Diagonal 4L M: 2,800 m 2L M: 10,000 m 2L M: 14,000 m Street length Motorized way: 32,000 m Motorized way: 39,200 m Motorized way: by type Bicycle lanes: 8,000 m Bicycle lanes: 29,600 m 47,2000 m Pedestrian lane: 8,000 m Pedestrian lane: 29,600 m Bicycle lanes: 37,600 Pedestrian lane: 37,600 m Street area Motorized way: Motorized way: Motorized way: by type 115,200 m² 141,120 m² 169,920 m² (m² for 1 km²) Bicycle lanes: 16,000 m² Bicycle lanes: 59,200 m² Bicycle lanes: 75,200 m² Pedestrian lane: 16,000 m² Pedestrian lane: 59,200 m² Pedestrian lane: 75,200 m² Pavement costs 35.1 million RMB 47.8 million RMB 57.8 million RMB for 1 km² Block length 7.4 km 19.4 km 26.0 km facing street (km/km²) Human density 7,500 cap/km² 15,000 cap/km² 20,000 cap/km² (job+housing) Nb of 4 36 78 intersections per km² Pavement cost 5,514 RMB/cap 4,033 RMB/cap 3,700 RMB/cap per capita (RMB/cap) PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 147 BOX 2.7 Street patterns in Paris, France The street network in the central areas of Paris is dis- 700 kilometers of medium-scale streets that ensure tributed according to a long-tail distribution: 60 per- high walkability and accessibility and that foster cent of the streets (the historical street network) are smooth traffic diffusion in the city. There are in com- less than 12 meters wide and accommodate only low- parison, few large boulevards providing room for a speed traffic. Avenues and boulevards are 20 and 30 variety of modal choices (public transportation, car, meters wide and can accommodate faster transit and bicycle, pedestrians). public transportation (bus and tramway). There are 60 50 Street width (m) 40 30 Large network of medium-to narrow- 20 width streets 10 0 0 10 20 30 40 50 Frequency (%) Paris street network (left). High proportion of medium-to-narrow-width streets (right). Source: Bourdic and Salat 2012. social environments. Street networks should, to provide for choices in quality housing that in general, be connected at all scales and in meets a greater variety of needs and prefer- between scales. Connected or “permeable” ences. Affordable housing development needs networks not only encourage walking and to be better integrated within the city fabric. cycling but also lead to a more even spread of Density levels in suburban areas of many cit- motor traffic throughout an area and so avoid ies in China are much lower than in the city the need for distributor roads. A development core, which occupies only 4 percent of the with poor links to the surrounding area cre- land, but accommodates 29 percent of the ates an enclave, which encourages movement total municipal population. Because local to and from it by car rather than by other governments have limited revenue sources, modes. New developments and alterations to low-income housing is built in suburban loca- existing street networks should be designed tions where land is cheap, and where support- with multiple access points that connect with, ing social and economic infrastructure (such and complement, existing street patterns. as schools, health centers, transportation, The traditional planning approach favoring and jobs) lag behind. This practice creates the mobility should be limited, and accessibility risk of ghettoizing low-income households should be encouraged. and contributes to urban sprawl. Housing choice and diversity should be Record land prices and strong property provided. Neighborhoods must be planned markets in many Chinese cities have raised 148 URBAN CHINA BOX 2.8 China’s urban villages Urban villages (chengzhongcun, or literally “village in percent of migrants and 40 percent of the total urban the city”) are a phenomenon of China’s urbanization population. The average monthly rent for an urban process, particularly in major cities, directly linked to village space in Guangzhou is around RMB 16 ($2.60 the dual urban-rural land market. As cities expanded, per square meter—half the city average (Lin and de local governments acquired agricultural land from Meulder 2012; Zheng and others 2009). rural collectives, converted it into state-owned urban Urban villages are often overcrowded with poor construction land to build modern infrastructure and sanitary conditions. To maximize rental income, resi- buildings. However, acquiring the associated rural dents have expanded houses, in some cases up to eight residential properties and relocating households, stories high. As these urban villages are outside the particularly from well-established, concentrated vil- responsibility of the municipal authorities, the design lages, proved difficult, not to mention expensive. So, and construction of buildings are not constrained by in many cases, these collective villages were left to urban building and safety standards (Song and Zenou be absorbed by the cities even though they were not 2012). Standards for rural housing usually limit part of the approved master plan. They are now sur- buildings to two and a half stories and certain perim- rounded by skyscrapers in the center of cities or by eters (Wu, Zhang, and Webster 2013), but enforce- high-end gated villa communities in the suburbs. ment by village committees is weak. in the result Rental housing in urban villages has proved a has been high-density neighborhoods, inadequately valuable source of replacement income for residents. served by basic public utilities, with poor ventilation Residents of urban villages commonly retain their and drainage and often lacking basic facilities. A sur- property rights and their housing plots within the vey of facilities in 50 urban villages in Beijing in 2008 collective land tenure system (Liu and others 2010). showed that the majority did not have bathrooms, To make up for the loss of agricultural income, resi- kitchens, or heating. (Zheng and others 2009). dents expanded and subdivided residential build- Many municipal authorities and city residents con- ings on their properties to rent to migrants looking sider these urban villages to be eyesores (Du and Li for affordable housing in major cities close to job 2010). A recent study in Shenzen, where urban vil- opportunities. In Guangzhou, for example, there are lages are scattered throughout the city, found that an estimated 138 urban villages covering about 20 proximity to urban villages has a negative effect on percent of the municipality and housing around 70 the prices of nearby residential developments (Song concerns about the affordability of housing but much more expensive in the long run. in many cities, where the costs of buying or Regeneration of urban cores in established renting a home are increasing much faster cities has higher up-front costs because of than incomes. Instead of intervening in the more complex construction, upgrading of land markets and limiting the maximum public spaces, and improvement of existing bid prices as Beijing recently did, implemen- services, but once revitalized, urban cores tation of a property tax system could be an become self-sustaining by attracting further important instrument for local governments investments and for a considerably longer to capitalize on the heated market and cross- period of time (Licciardi and Amirtahmasebi subsidize and expand the supply of affordable 2012). Mixed land uses also prevent central homes. Policies include the use of increased areas from closing down at night, improve tax revenue associated with higher property diversity in housing supply, stimulate a range values and an active real estate market, as of diverse economic activities, and reduce well as requiring the inclusion of a modest transportation costs. number of affordable homes within new resi- Other important instruments that several dential developments. countries have used to provide affordable Experience in South Africa and Mexico housing include “inclusionary zoning” or illustrates that affordable homeownership “incentive zoning” policies. Zoning policies programs on the outskirts of the city can be could require (inclusionary zoning) or create significantly less expensive in the short run, incentives (incentive zoning) for developers to PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 149 BOX 2.8 (continued) and Zenou 2012). However, urban villages have Redevelopment of urban villages needs an played a role by providing affordable housing for approach that considers all levels of government, all migrant workers to support the urban economy. stakeholders, and multiple strategies based on thor- Migrants living in urban villages are not limited to ough understanding of village attributes as well as the unskilled labor. University graduates live in urban vil- city’s strategic priorities for housing migrant workers. lages and and work in high-tech sectors such as infor- The top-down approach, mainly based on a “demol- mation technology. One study in Guangzhou, found ish and redevelop model,” is unlikely to work in many that 10.3 percent of migrants renting housing in the cases. Many large-scale redevelopment projects have surveyed urban villages were university graduates been proposed in recent years, but the majority of (Du and Li 2010). them have not gone beyond the initial study stage Because the land in urban villages belongs to the because of conflicts of interest among stakeholder rural land system, residents cannot sell their land groups (Lin, de Meulder, and Wang 2011). Bottom- directly to developers. The state may acquire the land, up approaches, to gradually reshape urban villages, compensating the current residents, and lease it to are also unlikely to fully solve the problems of infor- developers in the urban land market. However, these mality and lack of regulation on their own (Lin and urban village collectives have strong vested interests de Meulder 2012). Different approaches are required in retaining their properties and rental and commer- for different types of urban village. Those in the inner cial incomes. Nonetheless, most major cities have city areas, for example, tend to have higher popula- already begun or are planning redevelopment proj- tions and building densities and higher socioeconomic ects to bring these, often prime pieces of land, into status but poorer housing status. Understanding the the urban land system and essentially to make them physical form is not sufficient, however, to find strate- more governable (Wu, Zhang, and Webster 2013). gies to integrate these communities into urban soci- Cities have taken different approaches to redevelop- ety. That will require a better understanding of social ment of urban villages, with some cities compensating relations and the organization and management of residents generously to encourage resettlement; others the urban villages as well as recognizing the role of are working in partnership with developers and urban market forces and need for adoption of market rules villages in the redevelopment process. This process is (Liu and others 2010). likely to lead to the introduction of more land within existing cities for infill development. Contribution from Joanna Masic. include a certain percentage of low-income such as large parking lots around government housing (usually 10 –20 percent either in buildings and low-density structures in areas rental or ownership) in new large-scale hous- zoned for high-density development, can be ing or mixed-use developments (those with used for affordable housing. The rehabilita- at least 100 units, for example, or a mini- tion of older buildings to minimum safety mum surface area, say, at least 50,000 square standards could also provide reasonable and meters). A well-designed program could ben- affordable housing for low-income people. efit the community, low-income people, and developers alike. Fairfax County in Virginia approved a plan to rezone an area around a Connecting people, linking metro station that will increase density sub- businesses stantially and required the developer to make Expanding the economic reach of cities at least 5 percent of the new housing “afford- through improved connectivity able.” In addition, the government could pro- vide special subsidies for the construction of Improvements in connectivity within and affordable housing units (box 2.8). between cities have considerable bearing Governments can also make abandoned on enhancing economic efficiency. 8 They or vacant land and properties available for enable firms to access local, regional, and affordable homes. Government-owned land, global markets—both to buy inputs and 150 URBAN CHINA sell outputs—as well as to exchange ideas, high-speed railways (HSRs) helped cut inter- thereby stimulating innovation. Connections city travel time by 50–70 percent. also give consumers options and in many Such improved intercity connectivity is cases better prices. Within cities, connections redefi ning the level of economic integration enable people to access employment and ser- and accessibility for most Chinese cities. vices, and they enable firms to attract work- First-, second- and third-tier cities are gradu- ers, access other inputs, and sell their prod- ally being connected through modern trans- ucts in local markets. port infrastructure and benefit from a broad- Intercity connectivity has dramatically ened range of alternative services for both improved over the past 20 years in China, for freight and passengers. Disparity in acces- both freight and passengers. The scale and sibility among cities in China has dropped pace of network expansion is unprecedented. as a result of transport investments over the China undertook major upgrades in each of past decade with the coefficient of variation the transport modes, particularly road and dropping by nearly 50 percent (box 2.9). The rail. Between 2006 and 2012, China added development of the expressway network has 780,500 kilometers of roads, 50,860 kilome- facilitated growing exchanges between firms ters of expressway, 65,230 kilometers of rural leading to agglomeration benefits. Based on highways, 20,900 kilometers of railway, 41 econometric analysis in Guangdong, it is esti- airports, and 2,361 kilometers of high-grade mated that the real wage rate would increase inland waterways. The new expressways and by 10 percent when the economic mass BOX 2.9 Improvement in intercity accessibility (2000–10) The map shows the change in accessibility in 287 prefecture-and-above level cities in China dur- ing 2001–10. The size of the dots is proportional Heilongjiang to the magnitude of improvement in accessibil- ity measured in terms of economic mass. Three Jilin groups of cities experienced significant improve- Xinjiang ongol Liaoning Nei M ment in economic potential during this period, BEIJING Tianjin as joint outcomes of different types of transport Shanxi Hebei Ningxia Shandong infrastructure development. Qinghai Gansu Jiangsu Cities that are located along a belt from Shaanxi Henan northeast to southwest China, the frontier of the Xizang Sichuan Hubei Anhui Shanghai “Grand West Development” national strategy, Chongqing Zhejiang have experienced the greatest improvement in Improvement* Hunan Jiangxi Guizhou Fujian economic potential. These cities have benefited *Larger dots = Taiwan more improvement Guangdong greatly from the expansion of expressways and Yunnan Guangxi Hong Kong SAR conventional railways to remote regions. The sec- Macao SAR ond group of cities in mid-to-north China most Hainan likely benefited from the expansion of the conven- tional railway system, completion of the express- way network, and opening of new airports (such as Changzhi, Qingyang, and Erdos). The third IBRD 40997 | JUNE 2014 This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other information group consists of those cities that lie along the shown on this map do not imply, on the part of The World Bank Group, any judgment on the legal status of any territory, or any high-speed rail lines. A typical example is the endorsement or acceptance of such boundaries. Wuhan-Guangzhou line running from middle to south China. Source: Fang 2013. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 151 BOX 2.10 Impact of highway connection on Guangdong Special Economic Zone A recent study estimated the productivity elasticity otherwise more distant from the main economic cen- with regard to spatial proximity to economic mass ters, had a growth rate of 13 percent a year in the in Guangdong implying that a doubling of the eco- same period. By contrast, Shantou was designated nomic mass would raise productivity by 10 percent. the third SEZ in Guangdong on the strength of hav- The study, which reviewed the relationship between ing strong familial connections to overseas business agglomeration and productivity in Guangdong, was communities in Europe and the United States, despite based on economic and travel time data for 88 county being more than 450 kilometers away from the pro- and urban districts from 1999 to 2009. The estimated vincial capital, Guangzhou. It was not connected to elasticity is just above the consensus range for devel- the national expressway network until after 2003. It oped countries (3–8 percent) and is 2.5 times that has had the slowest GDP growth among all Guang- of the United Kingdom (3.5 percent) (Rosenthal and dong municipalities (9 percent a year for 2000–08). Strange 2004; Rice and others 2006). Meanwhile, those municipalities that are physically These results are consistent with the markedly close to Guangzhou and Shenzhen, such as Dong- different development trajectorys taken by the ini- guan, Foshan, Qingyuan, and Zhongshan, achieved tial three special economic zones (SEZs) set up in the highest growth rates over this period, all over 15 Guangdong. Shenzhen, adjacent to Hong Kong SAR, percent a year (although from lower bases). The more China, and thus exposed to that large economic mass buoyant innovation associated with higher domestic at the time, flourished: it grew from a sleepy border business and consumer demand in Shenzhen contrasts town to a metropolis of over 10 million residents, and strongly with the backwater development in Shantou its annual average economic growth rate during over the past decade. 2000–08 was 15 percent. Zhuhai, next to Macau but Source: Salzberg, Bullock, Jin, and Fang 2013. (measured as the number of jobs in connected metro), or 1.8 percent of the GDP of 657 cit- cities divided by the cost of travel to those cit- ies in 2011 (64 percent of total investments ies) doubles (box 2.10) (Roberts and others by the cities). Road networks in cities have 2012; Salzberg, Bullock, Jin, and Fang 2013. expanded from 2.4 billion square meters to High-end service sectors (fi nance and infor- 5.2 billion square meters and by 159,617 mation technology) and the tourism indus- kilometers to 294,443 kilometers between try appear to be benefiting the most from 2000 and 2010, reaching about 13.21 square improved accessibility,9 but manufacturing is meters per inhabitant. The metro networks also gaining from the expanding ease of road grew from 117 kilometers in 2000 to 1,755 connection with other firms. kilometers in 2012 in 16 cities. Moreover, Accessibility brought by high-speed rail is metro systems in 20 additional cities have also redefi ning business interactions. A case been approved or are currently under con- study on the Wuhan-Guangzhou HSR cor- struction, and the total length in operation ridor indicates that the regional urban hier- is scheduled to reach 6,000 kilometers by archy in South China is evolving toward a 2020. Cities also placed growing emphasis more interwoven structure, with remarkable on bus transport during the period. The total growth in interprovincial trips between third- length of bus lines in operation increased tier cities and upper-level cities that they do from 126,000 kilometers in 2006 to 521,000 not belong to administratively (Fang 2013). kilometers in 2011. Total annual bus and Cities have also invested massively in trolley ridership reached 67.0 billion in expanding their inner connectivity. Esti- prefecture-level cities, growing 8.5 percent mated investments in urban connectivity a year. The total ridership of urban rail in (road, bridge and metro) amounted to RMB 2012 reached 7.1 billion growing at 31 per- 902 billion (including RMB 194 billion for cent a year (China City Statistical Yearbook 152 URBAN CHINA 2011, 2012; Li 2013; China Statistical Year- networks at present. These networks require book 2007–12). a large upfront investment and will likely Despite such improvements, much remains require substantial operational subsidies in to be achieved to ensure sustainable connec- the future. To improve the effectiveness and tivity. At this stage, land use and transport efficiency of such systems, land use planning plans are often not sufficiently aligned to will need to foster high densities of residence address current and future economic needs. and employment along mass transit routes to Densities in the central areas of Chinese cit- ensure high ridership. ies do not vary sufficiently across the urban Where major hubs such as HSR stations space to reflect the availability of transport have been created, land use planning often network and mass transit. Uniformly regu- fails to leverage the connectivity gains those lated FAR values suppress location premi- generate. Many cities in China have actively ums from being reflected in the price of land. embraced a new, peripheral station location When they vary, FAR values are not publicly as a catalyst for the development of a new available on citywide maps as guides to devel- urban district, sometimes located as far away opers but are the subject of detailed planning from the city centers as airports are (figure at the block level, an approach that fails to 2.10). Such stations are easier and cheaper to signal the value of land based on location and build than central stations but they require leads to its suboptimal use. Such approach substantial accompanying measures. In the undermines the development of strategically short run, a peripheral location will dampen located high-density nodes around mass tran- rail ridership and hinder connectivity, with sit stations and leads to the development of longer and more challenging access times and high density areas unsupported by mass tran- more difficult transfers to conventional trains sit and prone to traffic congestion. As cities in and long distances buses. This effect may be China continue to expand spatially, suburban mitigated to some degree by urban develop- housing uncoordinated with transport infra- ment migrating to HSR stations, even those structure will also increase automobile use, located outside of the existing urban core, energy consumption and travel time. but that presupposes close attention to sup- The coordination between land use and portive planning and development processes. access and mobility policies is always most Current evidence indicates that the dual effective in the early stages of motorization, role of stations, as transport node and core when worst excesses are potentially avoid- urban economic space, generating substantial able through proper planning. Chinese cities potential for agglomeration economies, has are rapidly developing their public transport not yet fully been leveraged by many cities. In FIGURE 2.10 Station locations in Wuhan and Paris Source: World Bank 2013b. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 153 FIGURE 2.11 Travel mode shares in Beijing, 1986–2010 Travel mode split in Bejing 100 0.30 3.80 7.60 8.10 7.70 7.40 7.10 6.60 8.80 1.80 2.60 2.40 2.20 1.90 1.90 3.10 90 27.70 20.30 18.10 16.40 80 23.00 30.30 70 38.50 8.00 10.00 11.50 7.00 60 5.80 5.70 Percent 62.70 50 3.60 24.40 28.80 28.90 28.20 27.50 24.10 40 1.70 24.10 30 20 26.50 31.60 32.60 33.60 34.00 34.20 29.80 10 23.20 5.00 0 1986 2000 2005 2006 2007 2008 2009 2010 Taxi Company bus Bicycle Metro Bus Private car Source: Beijing Transport Research Center 2007–11. such cities, only the node function is consid- FIGURE 2.12 Travel mode shares in Shanghai, 1995–2009 ered, with limited emphasis on concentrating activities around stations. Travel mode split in Shanghai 100 Rising economic costs of 90 connecting cities 30.4 27.3 26.1 80 Urban mobility is plagued by long commutes; 70 13.5 overcrowded public transport rides at peak 25.0 60 hours; and a high or growing level of conges- Percent 50 38.7 15.2 tion, energy consumption, air pollution and 5.3 traffic accidents. This pattern is symptom- 40 17.8 20.0 atic of large cities with rapidly growing car 30 3.0 and truck traffic. In first- and second-tier cit- 7.9 20 ies, the rapid growth in the vehicle fleet has 10 24.6 25.2 overwhelmed growth of the road network 20.0 and strongly contributed to growing conges- 0 1995 2004 2009 tion levels and longer commutes (figures 2.11; 2.12). Overall, China counted more than Public transport Private car Electronic bike twice as many vehicles per square meter of Bicycle Walk urban roads in 2010 as in 2000. The urban road network that enabled high average travel Source: Shanghai Urban and Transport Planning Institute 2011. 154 URBAN CHINA speed when car use was low can no longer be products as in most other countries, even over expected to do so. The average commuting long distances, generating high pollution and time is estimated at 52 minutes in Beijing, 48 contributing to relatively high logistics costs. minutes in Guangzhou, and 47 minutes in Road transport accounts for 78 percent of the Shanghai (China Academy of Science 2010), 41.2 billion tons of freight moved in 2012, and travel speed fluctuates widely depending and 35 percent of freight ton kilometers. on the time of the day. Short of taking preven- However, the relative lack of development in tive actions, this pattern, prevalent in large the freight industry leads to much inefficiency cities, is likely to appear in most other Chi- (ADB 2012b). Some estimates suggest that 40 nese cities over the next two decades as their percent of trucks run empty for intercity trips, car ownership continues to grow rapidly. and that it takes on average 72 hours to load Time lost to congestion and associated and unload a truck (Clean Air Asia 2013). higher fuel use cause by far the highest exter- Short-haul truckers frequently return home nal, or indirect, costs from transportation, empty and long-haul truckers have to wait an followed by air pollution, traffic safety, and excessive amount of time to pick up a return noise pollution. International estimates of loads, a wait estimated to cost truck opera- total indirect costs from road transport range tors between RMB 700 and RMB 1,000. from 5 to more than 40 cents a kilometer Further, of all road transport emissions in (Proost and Van Dender 2011). This high China, freight trucks account for 36 percent level of externalities is prevalent in China, as of carbon monoxide, 60 percent of nitrogen reflected in two studies estimating the indi- oxides, and 76 percent of particulate matter rect costs from transport in Beijing. Mao and (Ministry of Environmental Protection 2012). others (2012) put the figure at 4.2 percent of The breadth and depth of logistics services GDP for congestion costs only, while Creut- could be improved on several measures. zig and He (2009) put it a 7.5 percent to 15.0 According to a 2012 review by the Min- percent of GDP for all types of externalities, istry of Transport and the Asian Develop- most of which are created by private car use. ment Bank, the logistics industry is highly Despite renewed emphasis on public trans- fragmented (ADB 2012b). Aside from a few port, greater integration among transport large and modern logistics companies cater- modes needs to be achieved if public trans- ing to the needs of large fi rms, the industry portation is to remain attractive against car is populated by many low-cost providers transportation. Chinese cities have benefited with limited capabilities and resources, cre- from major investment in metros, bus rapid ating an unhealthy environment of distrust. transit, and bus systems since the issuance of The industry is faced with poor standard- State Council Directives 46 and 64 on public ization and insufficient intermodal facilities. transport, and each component of the public This is in part caused by national policy that transport system is usually of good quality, favors large companies over the needs of the taken individually. But door-to-door trips by many small to mid-size companies and their public transport are inconvenient because of logistic providers. It is reinforced by a body poor physical and service integration, often of law and regulations that regulate various characterized by excessive transfer distances, aspects of logistics operations by transport mismatched schedules, separate ticketing mode making synergies across modes more systems, or lack of easily accessible trans- difficult. The China General Chamber of fer facilities, all issues that Chinese cities Commerce estimates logistics costs in China are starting to address. These problems are at 18 percent of GDP, a relatively high level caused mostly by institutional fragmentation compared with 8 to 10 percent in advanced at the city level, where different agencies are countries. In particular short distance trips responsible for each different aspect of urban within metropolitan areas have a high ton transportation (metros, buses, road construc- per kilometer cost (figure 2.13). As the econ- tion, traffic management, land use). omy becomes more complex and e-commerce On the freight side, road transport domi- expands, gaps in urban logistics and inter- nates the transport of semifinished or finished urban multimodal transport have started to PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 155 appear, leaving cities with excess pollution FIGURE 2.13 Road transport cost per ton-kilometer and shippers with excess transport time and excessive logistical costs, due to high inven- Freight cost on highways from Suzhou Industrial Park to nationwide destinations tory and management costs. 2.5 So what are some of the practical options for improving connectivity? First, the many 2.0 public and private participants involved in Cost per ton-kilometer connecting businesses and people will need 1.5 to factor in more systematically the poten- tial economic and social changes, sufficiently 1.0 ahead of their occurrence, to adjust and align land use and transport plans. They will need 0.5 to develop and optimize the infrastructure capacity to handle demand sustainably, as 0 well as to optimize the delivery of freight 0 200 400 600 800 1,000 1,200 1,400 1,600 and passenger services. Sustainable connec- Distance to destination (km) tivity will need to be safe, clean, inclusive, 3-ton truckload 5-ton truckload 20-ton truckload economically efficient, resource efficient, Source: World Bank Survey of Freight Forwarders. space efficient, and resilient to major weather events, particularly those expected as a result of climate change. China has issued many opportunity to create vibrant urban spaces policy statements to address these aspects, around many of the new mass transit stations including the need to strengthen public trans- under development (World Bank 2013c). port or to better integrate various transport These stations, centered at the intersection modes. Despite the progress to date, there is of urban mass transit systems, will achieve no room for complacency as the demands of their fullest impact if they are surrounded the economy of 2030 and growing concerns by a dense, fully integrated, mixed-use over environment, social, financial, and eco- space, friendly to pedestrian and bikes. They nomic sustainability call for yet further deep could balance the water and energy needs transformation in interurban and urban of the various businesses they will host. The connectivity. neighborhoods around these stations could Based on international experience, the fol- be turned into lively and vibrant places at a lowing key directions would support the goal human scale in the city and become a des- of sustainably connecting people and busi- tination for outside visitors. They could mix nesses, while addressing some of the existing people of different social background. While challenges: one could have a car in those neighborhoods, it would not be necessary for daily leaving. • Articulate land use planning and transport Beyond the metropolitan area, those sta- infrastructure to respond to and prepare tions would connect to one another through for economic changes. the high-speed rail stations, connected to • Develop and optimize freight transport the mass transit network. Only walking and focusing on resource efficient modes and mass transit would be required to go from interconnections, and increase efficiency in one node in a city to the next in the next city. services. Such transformation could take place pro- • Rebalance passenger urban mobility gressively based on market demand. toward public transport and nonmotor- ized transport, while making use of pricing mechanisms to manage travel demand. Coordinate land use planning and transport infrastructure Beyond those general directions, with the The economic structure of 2030 will deeply rapid development of mass transit and high- influence connectivity needs (Chicago Metro- speed rail, Chinese cities will also have an politan Agency for Planning 2013). The 156 URBAN CHINA needs of each city will be different and driven pedestrians; and, for midsize to large cities, to a large extent by its economic character- the introduction of pricing schemes like park- istics. Resource-intensive primary production ing charges or congestion charges to man- will require low transport cost and proxim- age travel demand and reflect both external ity. Intermediate manufacturing and produc- impacts and limitation in system capacity. tion for regional consumption will require The European Commission encour- good supply chain connections. Final goods ages European cities above a certain size to production for global trade will require reli- develop urban mobility plans, aligned with ability, flexibility, and export access. Service their integrated urban development plans. To industries will need rapid connection to other that end, cities can access an urban mobility cities for their staff like high-speed rail or portal (http://www.eltis.org) that provides air transport. In all cases, local consump- a rich array of tools and case studies. Such tion will also require good trucking access practices have been applied systematically for to the urban core for rapid delivery, particu- a long time in countries like France where larly with China expected to be the largest urban mobility plans (Plan de Deplacements e-commerce nation by 2015 with an esti- Urbains) covering all modes became manda- mated RMB 3.3 trillion in activity (Bain & tory starting in 1996 for cities of more than Company 2013). 100,000. While the plans are context spe- To maximize their success, cities need to cific, they are developed in the policy frame- align their economic comparative advantage, work set by law (box 2.11). land use, and transport planning. That will enable firms to be deeply knit within their Working at different jurisdictional scales supply chains. It will also allow for proper sizing of connectivity, ensuring accessibility Such planning needs to take place at the right but also avoiding either excessive connectiv- scale. Many countries have moved to a met- ity to places of limited economic value or ropolitan scale, because economic boundar- insufficient connectivity to rapidly expand- ies now frequently extend beyond adminis- ing economic centers. The planning task is trative ones. In China, improved highways complex, given the rapid evolution in clusters and high-speed rail lines are redefi ning the and the multiple agencies involved at the city notion of effective metropolitan regions that level, but is essential to developing coher- can be reached within a one hour. With the ent long-term strategies. Planning can make largest Chinese urban regions rapidly spill- effective use of city-level data and user feed- ing beyond their traditional boundaries, such back to adjust dynamically. City leaders are coordination of policies, investments, and well aware that integrated urban planning services is best addressed at a metropolitan is essential for sustainability for both freight level to improve their overall economic effi- and passenger movement. ciency. Since accountability for providing transport infrastructure and public transport becomes blurred when the natural boundar- Planning for urban mobility ies of a transport region include more than Urban mobility solutions are complex and one autonomous agency (Gwilliam 2011), need close tailoring to local circumstances. opportunities to provide more diverse and Size, urban form, topography, and climate integrated services risk being lost without all determine the needs of a city and vary proper coordination. markedly from city to city. Cities that have While different defi nition exists, metro- made significant progress in improving their politan regions are generally identified as sustainable mobility have done so through a large concentrations of population and eco- mixed strategy involving careful attention to nomic activity that constitute functional land use consideration; development of good economic areas, spanning multiple local gov- quality and efficient public transport sys- ernment authorities. As part of this study, tems, a hierarchical street and transport net- about 49 core metropolises were identified work, and a safe infrastructure for bikes and in China in 2010, defined as metropolitan PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 157 BOX 2.11 Urban mobility plan in France Urban mobility plans were introduced in France in ation of urban road network through sharing of space 1982 by law (Law on Inner Transport) and became across modes and traffic information sharing, on mandatory following the Law on Air and Rational street and off street parking management, transport Use of Energy in 1996. Their role was strengthened and delivery of goods, integrated tariffs and ticketing through the Law on Solidarity and Urban Renew- for mobility, and incentives to companies to facilitate als, which required the coordination of the plan with public transport and carpooling for their employees. urban planning. An urban mobility plan should seek The Urban Mobility Portal of the European to ensure a sustainable balance between the mobil- Commission collects good practice case studies and ity needs of people and the protection of health and shares them to help cities learn from one another. environment. See, for example, the Urban Mobility Plan of Lille It should cover improvement in safety, reduction in 2011: http://www.eltis.org/index.php?id=13&study_ car traffic, development of public transport and non- id=3080. motorized transport, efficient management and oper- Source: French Laws (legifrance.gouv.fr/); Wikipedia. areas around cities with more than 1 million the “GO TO 2040” comprehensive regional urban residents, where at least two-thirds of plan, for Chicago and seven surrounding the population was urban (Chreod 2014). In counties; the plan integrates transport with 2010, these metropolises represented 45 per- land use, housing, economic development, cent of the total urban population, 57 percent open space, and environmental and other of GDP, and 95 percent of population growth quality of life needs. since 2000. Intrametropolitan connectiv- At the urban scale, flexibility and respon- ity appears to matter for most metropolitan siveness to changes and development of inte- regions, given the strong correlation between grated solutions across government agencies the stock of expressways and the highest pro- ductivity per land area (figure 2.14). Higher FIGURE 2.14 Economic density and stock of expressways, 2010 levels of connectivity appear to be allowing agglomeration economies to strongly mani- fest in these regions. 250 At the metropolitan scale, governments need to closely coordinate land use plans, 200 Shanghai EMR infrastructure investments, and urban ser- GDP per capita per km2, RMB R2 = 0.6802 vices. Political and economic competition among municipalities often impedes the coor- 150 Shenzhen EMR dination of planning, investment, and service Wuxi EMR provision across administrative boundaries. 100 Guangzhou EMR To address this challenge, cities, internation- Beijing EMR Suzhou MR Changzhou EMR Dongguan EMR ally, have started to combine land use and Shenyang MR Tianjin EMR Quanzhou MR Hangzhou EMR Xiamen EMR transportation planning under a single metro- 50 Dalian EMR Nanjing EMR politan entity charged with the development Wenzhou EMR Chengdu EMR Shantou MR of a comprehensive plan. For example, the Baoding EMR Guiyang EMR Hefei EMR Nanning EMR 0 Chicago Metropolitan Agency for Planning 0 20 40 60 80 100 120 140 was established in 2005 as a combination Meters of expressway per km2 of the Metropolitan Planning Organization and the Northeastern Illinois Planning Com- mission. It now leads the implementation of Source: Chreod 2014. 158 URBAN CHINA are needed. China has, in theory, a relatively growth is their expenditures for capital rigorous urban planning process, but it is far improvements such as streets, parks, and looser in implementation. The actual plan- schools. Linking those expenditures to a ning process is often overwhelmed by the long-term strategic vision can be a powerful rapid pace of development. Approval of a motivator for private investment consistent master plan can take many years, by which with the vision. That would include the devel- time it already may be well out of date. In opment of a capital improvement program addition, the existing system of checks and that specifies needed urban service improve- balances is generally insufficient to ensure ments over time and identifies sources of that master plans, when approved, are not funding. arbitrarily modified by local government offi- The evolution of the economy toward cials. Most master plans are not fully imple- more services and innovation will lead to an mented within the time frame of the plan, intensification of exchanges and meetings which is usually 20 years. Practices at the city among businesses in the service industry. The level are silo based; departments and agencies vast network of metro stations (an estimated have varying missions, objectives, budgets, 4,000 by 2020) and high-speed rail stations governance structures, and staff profiles; (about 180 currently) being built provides a and these differences often hinder the types unique opportunity to develop a highly inter- of cross-sector and interagency coordination connected and concentrated network of ser- needed for transit and land use integration. vice fi rms at both the national and munici- pal scales. The transit-oriented development experiences in Hong Kong SAR, China; Articulating densities around mass transit Japan; Korea; and Singapore have shown how and high speed rail the combination of real estate, a highly walk- The level of alignment of the mass transit able environment, and mass transit solutions system and road network with economic can lead to a transformation of the urban needs and land use directly affects the level space (Calimente 2012; World Bank 2013c). of urban mobility requirements. Fragmented The precise value of such an integrated and single-use zoning development increases development would warrant a detailed anal- the need for connectivity. Easy and low- ysis for all key stations, when submitting cost parking, low densities, and large streets development plans. The development is likely encourage car traffic. Planning, when well to take place over long periods, and actual done, can channel higher densities along high- results will vary from station to station. A capacity mass transit systems and around rail 500-meter radius around a typical metro sta- stations (box 2.12). Such increased concen- tion represents about 785,000 square meters tration of activities and the resulting trans- of land and about 400,000 square meters for port flows facilitate investments in transport the train station (counting the space used by infrastructure and walkable neighborhoods, tracks and access and egress facilities). The resulting in more efficient mobility options. potential for development depends on the Several opportunities exist to improve function of the station, the floor area ratio accessibility for essential services within (typically a ratio of 2 to 8 between the build- the existing urban fabric through targeted ing floor area and the size of the land upon increases in densities. To that end, plan- which it is built), existing development, the ners should promote infi ll development that number of mass transit lines connecting to maximizes the use of existing infrastructure the station, and the business needs in each and services, including public transport, to specific location. In a city like Nanchang, an encourage investment in the existing urban order of magnitude for the gross floor area fabric. Planners should also direct growth around a metro station is 2 million to 4 mil- to locations where it would support the pro- lion square meters within 10 minutes walking vision of key community facilities such as distance, a percentage of which can typically schools and health facilities. An important be jointly developed with the construction of tool that local governments have to direct a station (Qu and others 2014). PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 159 BOX 2.12 Increase flexibility and variation in floor area ratio (FAR) values as in cities like New York New York has a wide range of variation in FAR metro network in the world. The FAR range of varia- values. The city spatial structure is one of the few tion is 15 in CBDs and 10 along main avenues (left monocentric cities in the United States, with two spe- map). The residential Floor Space Index (FSI) varies cialized central business districts (CBDs) in Manhat- from 0.6 in the suburbs to 10 in Manhattan next to tan. Thirty percent of trips are made by transit (60 CBDs (right panel). percent in Manhattan). New York has the longest Source: New York Planning Department 2011. Success in transit-oriented develop- of these plots with application to the Town ment requires flexibility in the application Planning Board for approval. Arrangements of laws and regulations and close coopera- through detailed regulatory and design tion between the local government and the guidelines for real estate development, as in developer. In particular, government poli- Singapore, offer another option. cies, land laws, and planning laws need to be well aligned. The combination of rail plus Accompanying measures property development with little to no finan- cial support from the city gives strong incen- Transit-oriented development needs to be tives to the developer to deliver high value. complemented by close attention to the space In Hong Kong SAR, China, the Mass Tran- allocated for pedestrians and bicycles com- sit Railway (MTR) company gets involved pared with the space dedicated to cars in early in urban planning to ensure that joint areas near stations. Cities like Paris, Seoul, rail and urban development proposals are and London have started to reduce the space integrated in a sustainable manner. The pre- for cars in their street landscape. They have liminary planning studies for plots along the converted former urban highways into pedes- rail can be discussed jointly with the Plan- trian roads, and turned throughways into ning Department and lead to the preparation slow local roads. These conversions empha- of a master layout plan for the development size that driving and parking a private car is 160 URBAN CHINA a personal choice, not a basic civil right, and Moving freight that the urban space needs to be shared. Intercity connectivity improvements are In parallel, the management of travel expected to be further pursued as part of the demand can play a large role in reducing 12th and 13th Five-Year Plans and subsec- the roles of cars, as outlined in the Green tor plans, linking by 2030 all major cities of Urbanization report. Regardless of the urban at least 500,000 inhabitants to express rail mobility capacity developed, traffic fluctu- services and all cities of more than 200,000 ates widely by time of the day and day of the week. Attempts at accommodating peak inhabitants to expressways.10 The 12th Five- motor traffic result in oversized and inef- Year Plan anticipates and investment of RMB ficient road networks. Cities like London, 8.2 trillion ($1.3 trillion) to upgrade the coun- Paris, and Singapore have made owning and try’s intercity transport (including rail). Road using a car an expensive choice, compared construction accounts for the main portion with using a well-performing public trans- of the investment, followed by railways and port alternative. The use of higher pricing inland transport. The strategies in place seek during peak demand periods has enabled to address major network gaps by 2020–30 cities to encourage a spreading of demand so that supply slightly surpasses demand and before and after such peak. meets economic and social needs, through comprehensive transport planning and close integration. Such investments will put China Actions to connect people in a competitive position compared with Considering the above, several follow-up other large developed countries. actions would support China in meeting its China can build on a number of proven connectivity goals: strategies to avoid or reduce the need for road freight transport by shifting road freight to • Set up Metropolitan Planning Offices for more energy-efficient and environmentally a number of pilot regions, with a mandate friendly modes like intermodal, rail, and to optimize their land use and transport inland waterway transport, and by improv- planning. ing the efficiency of vehicles through tech- • Require cities, when submitting mass tran- nology or management. Improved logistics sit network plans for national approval, to for road freight include the use of articu- provide land use plans demonstrating that lated trucks (“drop-and-hook”); increased densities are strategically distributed across loading on return trips; better matching of a metropolitan area to match the availabil- vehicle capacities to loads; and increased use ity of mass transit corridors and stations, of logistics information platforms, consortia with urban design facilitating access by between freight companies, and freight con- bikes or walkers around these stations. The solidation centers. Ample international best approved plan should be made public. practices exist on which China could build. • Select, with cities, a number of promising This approach can be combined with long- metro stations and high-speed rail stations terms policies requiring urban logistics to use to implement transit-oriented development vehicles with low environmental impact for concepts in practice. Those pilots would the final urban delivery, similar to the ambi- include a variety of typical sites like mega- tious goals for interurban and urban freight hubs, mass transit intersections, and vari- logistics set in other countries and regions. ous kind of stations. The implementation The European Commission, for example, would be focused on understanding any aims to achieve essentially zero-emission legal and regulatory aspects that need to transport in major urban centers by 2030 be addressed to bring the highest poten- (box 2.13). tial integration and redevelopment value, Such goals are worthwhile pursuing building on the rich experience of countries because they guide logistics providers in their like Japan, Korea, and Singapore. investments. In the European Union, the main PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 161 BOX 2.13 European Commission zero emission urban logistics In its 2011 White Paper “Roadmap to a Single Euro- The commission paper emphasizes the need to pean Transport Area: Towards a Competitive and organize the interface between long-distance and Resource Efficient Transport System,” the European last-mile freight transport more efficiently, by limit- Commission laid out an ambitious agenda for freight ing individual deliveries, the most inefficient part of mobility in Europe, in response to growing concerns the journey to the shortest possible route. It antici- over environment and economic efficiency issues. In pates that, with an intelligent transport system and particular it seeks to stimulate new transport patterns real time traffic management, delivery time can be concentrating freight and passenger flows to enable shortened and congestion reduced for last-mile distri- more efficient connectivity drawing on a combination bution. This distribution could be performed by low- of transport modes. The plan will require structural emission and potentially silent urban trucks (electric/ changes to ensure that rail and river transport gain hybrid) to allow a greater portion of freight delivery a greater proportion of mid- to long-distance freight. to take place at night. Source: European Commission 2011. policy thrust is to shift 30 percent of long- States, the number of containers and trailers distance road freight (over 300 kilometers) to transported by rail has doubled since 1990 other modes such as rail or waterborne trans- to 12.3 million units (half of it is for global port by 2030, and more than 50 percent by trade) and now accounts for 22.7 percent of 2050, facilitated by efficient and green freight revenue for the major railways. corridors, appropriate infrastructure, and a The challenge in improving freight logis- European multimodal transport information, tics is to move from policy guidance to actual management, and payment system. implementation. Logistics by nature involves Choices in allocations of investments many agencies with conflicting mandates. across the different modes strongly influ- The solutions are quite technical, and the ence choices by shippers. The shift in mar- topic is seldom a high priority compared with ket share over the past 10 years in China to passenger transport. China is no different, freight road traffic reflects in part higher lev- with responsibility split among 13 ministries els of service quality compared with rail or and until recently a separate ministry of rail- river transport but also the greatly enhanced ways. Funds for river transport and intercon- road network, while the railway and river nections have been limited. Policies, while networks remained too heavily congested for suitable in content, are not legally binding time-sensitive cargo. Rail container traffic and lack detailed measures and timetables for accounts for only 1.1 percent of port traffic, implementation. That has delayed the imple- for example, because most containers leave mentation in practice of many of the solu- ports by truck. tions being piloted, such as full trailer trucks, Internationally, shippers have shown which despite their promotion are still pro- great responsiveness to the cost and quality hibited on highways; a lack of standardiza- of alternative services, when active market- tion of drop-and-hook solutions means they based competition leads to the development are still unattractive investments for the mar- of new services. Such experience is particu- ket, and there are still gaps in intermodal larly relevant in the context of the shift of transport facilities planning. industrial activities to central and western While the public sector plays a valuable China, which will require low-cost and effi- role in setting the enabling environment cient transport for manufactured goods to be for logistics, by nature, logistics is a private price competitive. For example, in the United venture. The solutions proposed will work 162 URBAN CHINA only if they are commercially attractive. To government and encourage large-scale dis- that end, reaching a critical volume of cargo tributors to play such role. flow rapidly is a strong imperative, because • Consider the redevelopment of underused it determines the service level that can be but well-connected industrial zones into offered. The case of freight consolidation urban logistics centers. centers illustrates the challenge. While it is • Consider introducing market competition conceptually attractive to aggregate intercity for the provision of rail container traffic by freight before it is distributed to the various an international shipping line to accelerate urban areas, very few consolidation centers innovation and service improvement and have succeeded in practice, particularly when introduce modern technology. run by the public sector. Those that have suc- • Accelerate the setting of standards to facili- ceeded have often been set up by large retail- tate the introduction of modern logistics ers that have extended their control back practices, in particular intermodal trans- along the supply chain, generating economies port and urban distribution. of scale. The impact of publicly funded distri- bution centers at a metropolitan level needs careful review to avoid undermining the suc- Financing China’s cities cess of such market-driven initiatives. With China’s political and fiscal decentraliza- Considering the above, several follow-up tion process, local governments have become actions would support China in meeting its increasingly responsible for financing public freight connectivity goals: services. That has imposed a great challenge to cities and towns because transfers from the • Accelerate the development of the inland central and provincial governments account waterway system, freight railways, and for only 2 percent of the total public invest- their interconnections (ports) to ensure ment budget in cities and only about 10 per- that these networks have sufficient capac- cent in county towns (table 2.5). As a result, ity to carry time-sensitive goods. local governments have to raise the majority • Improve agency cooperation through the of the local revenues, and with limited avail- existing Steering Committee under the able resources, they rely heavily on land con- China Green Freight Initiative (led by the version and concession revenues to support Ministry of Transport), and engage more investment needs. broadly with the private sector through The strong urban planning framework associations like the China Road Transport in China, together with increased land rev- Association, the China Communications enues played an important role in promoting and Transportation Association, and the China’s urbanization, industrialization, and Green Freight Asian Network, to under- economic growth by fi nancing better infra- stand the sector needs and status and to structure standards and services and securing ensure better tailoring of policies. the provision of necessary public goods. Com- • Revisit the current practice of having con- pared with most countries, China has done solidation centers built and operated by the remarkably well in managing the rapid urban- ization process and providing the infrastruc- ture investments necessary to keep pace with TABLE 2.5 Sources of fiscal revenues for financing investment in the population growth. All four indicators of public service facilities, 2011 urban infrastructure increased over time in Percent both cities and county towns (table 2.6). The Cities County towns Separate towns level of urban infrastructure, however, has Central government 1 7 6 been higher in cities than in county towns. Provincial government 1 3 10 The level of wastewater treatment cover- City (county) government 95 85 32 Town government 0 5 52 age in particular shows exceptional growth Other sources 2 0 0 since 2001 in cities and especially in county RMB million 1,178,172 262,408 79,910 towns. This strong growth in environmen- Source: China Urban-Rural Construction Statistical Yearbook 2011. tal infrastructure is a reflection of increasing PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 163 TABLE 2.6 Provision of basic infrastructure services in urban areas 1990 1995 2000 2005 2010 Water coverage rate (%) 48.0 58.7 63.9 91.1 96.7 Wastewater coverage rate (%) 14.9 19.7 34.3 52.0 82.3 Road surface per capita (m2/person) 3.1 4.4 6.1 10.9 13.2 Urban population with access to natural gas (%) 19.1 34.3 45.4 82.1 92.0 Source: China Urban-Rural Construction Statistical Yearbook 2011. environmental consciousness that has periphery as growth leapfrogs over pro- recently focused more attention on sewage tected areas, weakened coordination of land treatment plants and industrial wastewa- use with public transportation, and reduced ter treatment. By the end of 2011, close to incentives to intensify land use within the 1,600 wastewater plants treated 33.8 billion city. The fragmentation of built-up areas at cubic meters of wastewater, or about 84 per- the urban fringe has become worse since the cent of all wastewater. There are still urban- early 1990s (World Bank 2008). rural gaps, but the gap is slowly closing, with City planning has not been coordinated wastewater coverage reaching 84 percent in with available financing, a situation that cities compared with 70 percent in county has had considerable bearing on the increas- towns.11 The percentage of separate towns ing inefficiency in capital allocation. Urban (that is, towns not connected to the facili- master plans are made for a horizon of 25 ties of cities or county towns) with industrial years, while capital investment planning cov- wastewater treatment plants or facilities is ers a horizon of 5 years. Land use planning less than 55 percent compared with 90 per- is done every year, with limited or no consul- cent in cities and over 60 percent in county tation with other planning units. Now con- towns.12 sider fiscal decentralization, which gave city How do China’s cities sustainably bridge governments functional and fiscal respon- the gap between readily available resources sibilities for urban development (economic and investment needs? What sources should development and employment, in addition to they tap? A good place to start would be to more traditional responsibilities for the pro- coordinate urban financing with urban plan- vision and management of a municipality) ning. Next, Chinese cities need to move away without providing much leeway to generate from their reliance on land sales and leases their own revenues. Without a sustainable and move toward a sustainable property tax financing mechanism and with a growing system and trading of development rights. imbalance between fiscal power and expen- Third, cities can strategically redevelop exist- diture needs, the municipal financing system ing urban areas to generate financing for is unsustainable (Wu 2013). Local govern- infrastructure and other durable structures. ments also require a balanced budget and are not allowed to borrow, except under highly restrictive conditions. Synchronizing planning and financing The lack of sustainable fi nancing mecha- of cities to encourage densification nisms does more than simply constrain Relying primarily on quantity regulations, China’s cities financially. Overdependence on municipal governments have rapidly urban- land revenue has created rapid urban expan- ized land and developed industrial estates and sion and fragmented land use. After more new towns, often in excess of need to demon- than a decade of rapid growth in off-bud- strate economic development and to generate get fi nancing for urban development, cities revenues locally. The national government need to move toward more sustainable and has actually passed regulations to protect forward-looking municipal fi nance mecha- agricultural land and control overconversion nisms. To support this move, the national of rural land, but these have produced unin- and city governments need to reform policies tended consequences—a fragmented urban on two fronts. 164 URBAN CHINA First, they need to refine the timing of vari- Property taxes reduce distortion in land ous plans so that development and land use markets and stimulate more efficient use of planning are synchronized. In the absence of land. An important benefit of a property tax sufficient funds, the local governments can is the incentive it creates to develop under- coordinate and adjust plans accordingly as a developed or vacant land, thus increasing package rather than piecemeal. Second, local land transactions. In the 1980s, low prop- governments should be provided with more erty tax rates in Japan provided incentives options to raise revenues locally and should to own land rather than other assets (stocks rely on recurring revenues that enable long- or security) but not to develop that land; term planning, such as property taxes, a value increasing the property tax was an effective added tax (VAT), tariffs on services, and even- instrument to control ownership of unused tually access to borrowing and issuing bonds. land and hikes of property prices (OECD- A well-designed property tax system and CDRF 2010). Property taxes could have a other innovative land financing mechanisms similar effect in China, helping to contain also can mitigate overdependence on land sprawl and to create incentives for develop- concession revenues. The diaspora bond ing vacant land or redeveloping land toward market, a stable and cheap source of exter- more efficient and productive uses. They also nal fi nance, can create an alternative source could entice homeowners to rent their vacant of fi nancing. It is often used when countries properties to collect the revenues needed to have limited access to international capital pay taxes. markets. India and Israel have each raised The correction of distortions in land pric- more than $35 billion by tapping into the ing would help limit overallocation at the wealth of their diaspora communities. For urban periphery. Most studies of land use diaspora investors, these bonds offer the in China have recommended reduced distor- opportunity to help their country of origin tions and greater transparency in the pricing while also providing an investment opportu- of land use rights to increase both equity and nity (Ketkar and Ratha 2010). In addition, land use efficiency. As is common in most any investment will be under the watchful countries, land use plans will continue to eyes of the investors, and investment will also dictate the conversion of rural land and the be efficient, based on market demands. use of urban construction land. Private devel- opers should be able to bid competitively for all land, and information on the trans- Property taxes to encourage actions and value should be made available redevelopment and increase revenues to the public. Land subdivision regulations In many countries, property taxes have should assign costs more clearly to develop- become the predominant source of revenue ers, municipalities, and higher levels of gov- for local governments. In addition, property ernment for various levels of infrastructure. taxes allow cities to recoup the increases in With more transparent systems and a com- land value that result from development and petitive market, land on the periphery would provide a very good alternative source of become more expensive, making its use more funding for land sales or development rights. efficient and higher in quality. Reducing dis- In advanced economies, property taxes torted incentives by pricing serviced periph- account for up to 70 percent of the revenues eral land at market rates would go a long way generated by local governments. Property tax to obviate the need for land conversion quo- revenues increase together with land values as tas. Limiting developers to serviced land and a result of investments and improvements in use of subdivision regulations to make them infrastructure, amenities, and overall devel- pay for services (a standard planning prac- opment of the area. As such, property taxes tice in market economies) would reduce the are a very good proxy for the benefits tax- amount of land being developed. payers receive from local services provided by Land value capture mechanisms should local governments. replace land leases to fi nance infrastructure PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 165 development. Experiences in cities like Hong of several types of fees levied on developers Kong SAR, China, and Tokyo show that “cap- requiring them to contribute land, facilities, ture value”—an infrastructure financing con- or funding to help pay for off-site capital cept that seeks to capture land value created improvements. The main purpose of impact by new infrastructure, particularly transit—is fees is to help finance off-site impacts and effective not only for sustainable finance but infrastructure costs of development, but they also for more efficient and sustainable urban also can be used to encourage more efficient development. Value capture is particularly development patterns. Cities can discour- well suited for financing transit infrastructure age development through higher impact fees in dense, congested settings, where a high in areas without infrastructure and encour- premium is placed on accessibility and where age development through lower fees in areas the institutional capacity exists to administer already served by public facilities (Nelson the program. Accessibility benefits, which get and Duncan 1995). capitalized into land values, present enormous Incentives for infill and brownfield redevel- opportunities for recapturing some of the opment can facilitate the reuse of industrial value created by transit investment. lots in cities. Incentives for developers can While China has experimented with some encourage high-density urban development level of property taxes, issues arise because in city centers, but this development must still the fundamental ownership rights legally respond to demand. On the one hand, rede- belong to the state. In a practical sense, how- velopers face many barriers, including high ever, long-term land use rights are traded as land prices, limitations on land use, and the an alternative for ownership rights. It would costs of demolishing and cleaning up exist- be possible to tax this “land use right.” ing facilities. On the other hand, brownfield Because there is currently no property tax in redevelopment offers many benefits, such as China, real property assets have an advan- urban revitalization, increased asset value of tage compared with other assets, which nei- the site and its surroundings, increased tax ther encourages owner to develop their land base, increased employment, environmental nor reduces the incentives for speculation protection, effective use of existing infra- and land banking. Introduction of a prop- structure, and prevention of urban sprawl. erty tax in urban areas would reduce these A split-rate or two-rate property tax is distortions. another approach that promotes infill and In addition to raising revenue, different redevelopment in urban areas. Under such a financing instruments can contribute to more system, a higher tax rate is applied to land compact urban development. To finance values and a lower rate for improvement infrastructure, local governments in devel- values such as buildings. This reduces the oped countries apply an array of instruments, tax burden on land-intensive uses (such as including tax increment financing, impact apartment buildings) and increases the tax fees, development charges, land conver- burden on land-extensive uses. A split-rate sion fees, and related instruments. All these property tax would provide the incentive of instruments use current, or anticipated future lower taxes for capital investment in build- increases in, land value to finance infrastruc- ing improvements and tax away the specula- ture in the area to be developed. Taxing tive value of holding undeveloped property vacant land more, for example, especially in within the urban growth area, thus promot- urbanized areas, can promote densification. ing infill and redevelopment. Experience in Property owners should pay the full costs of several communities in Pennsylvania indi- developing land on the outskirts of the city, cates that a split-rate property tax can be an including being charged appropriately for effective tool to stimulate central city revital- access to infrastructure networks. ization (Hartzok 1997) (box 2.14). Similar Development impact fees can direct devel- taxes have also been implemented in Sydney; opment toward areas already served by infra- Hong Kong SAR, China; and cities in Den- structures. Development impact fees are one mark and Finland. 166 URBAN CHINA BOX 2.14 Split-rate property taxes in Pittsburgh The city of Pittsburgh in Pennsylvania state adopted The result is that Pittsburgh has a more compact a split-rate tax system 100 year ago in 1913, where it development pattern than many cities because its tax taxed vacant land owners twice the rate it taxed own- policy discouraged leapfrog development. Instead of ers of developed property. In 1979, the city expanded hurting the economy, the split-rate tax system has the system, and it now taxes vacant landowners a encouraged development: Pittsburgh had a 70.4 per- whopping six times more than its taxes owners of cent increase in building permits in the decade after developed property. expanding its split-rate tax system. Innovative finance mechanisms to governments borrow against the future antic- foster infill development ipated increase in property taxes that result from certain types of urban infrastructure Traditional instruments of finance to support improvements. densification and redevelopment such as the Another innovative approach is provid- property tax and user charges can be com- ing development rights–based instruments plemented with more innovative instruments such as the sale or auction of development such as betterment fees, where the capital rights—the Certificates of Additional Con- investment costs associated with given infra- struction Potential (CEPACs) widely used in structure improvements are recovered from urban operations in São Paulo, Brazil, are those benefiting from the improvements. an example (box 2.15). These certificates This system is widely used in Colombian cit- allow the construction of additional floor(s) ies. Another option widely used in U.S. cit- above the current codes in designated areas ies is tax-increment financing, where local in return for a payment to a general fund BOX 2.15 Auctioning of land development rights: CEPACs in São Paulo, Brazil Traditionally, prevailing densities in São Paulo they are interested in redeveloping and then apply for Municipality have been uniformly low, with the floor a building permit accompanied and the appropriate area ratio in the city’s master plan ranging from 1.5 number of CEPACs to redevelop the property in ques- to 2.5—meaning for any given land parcel, the maxi- tion to its new development potential and land use. mum permissible built area ranged between 1.5 and The proceeds from the sale of the CEPACs are used 2.5 times the plot area. Such artificially low densities for infrastructure improvements required to sustain for a city with the land market and demand character- the increased development density in the area. Over- istics of São Paulo had several consequences, includ- all, CEPACs generate as much as $200 million a year ing high land prices, sprawl and serious congestion, for infrastructure improvements, roughly equivalent and the prevalence of underused or underdeveloped to 11 percent of the annual property tax revenues in properties in desirable areas. 2009 (Sandroni 2010). To increase the density within spacified areas, CEPACs are useful in that they enable local gov- São Paulo Municipality issues tradable certificates ernments to recover up-front the funds they need to (called certificates of additional development poten- finance urban infrastructure improvements in the tial, or CEPACs), which are sold in phases through given location where the development rights are sold. electronic auctions. Developers use the CEPACs to The phased sale of CEPACs and the use of an auction redevelop an existing property to its higher density as the disposition method allow local governments to potential or change the land use to another permis- gauge the market and assess the extent to which the sible use. Usually, developers acquire the property market supports densification. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 167 for infrastructure improvement in the city. strategic decisions, but the plans should make Another option is an impact fee, where issu- strategic links with regional development and ance of a building permit for certain land investment plans. uses or developments likely to generate an Local governments should become more additional negative impact on the city—usu- active players in the process, promoting a ally congestion—are made conditional on continuous dialogue among all stakeholders payment of a fee to finance the infrastructure on the best solutions to make cities competi- improvements needed to offset the adverse tive as well as attractive locations for people impact. Impact fees are used in cities as and investment. Developers and citizens diverse as São Paulo and San Francisco). New should also become more active players in York City has used a similar system, which the urban planning process. The private sec- provides additional building space in return tor should be able to purchase land in an for a developer-financed infrastructure environment of clarity of rights, develop it improvement; the fees have raised revenues according to demand, and then trade it freely. to fi nance 3.5 million square feet of public Market demand is critical to this process. spaces, arcades, and façade improvements in In the current system, planners focused on the city. defi ning land use in isolation often become pure designers, applying abstract predefined schemes to a spatial plan. Key actions moving forward Urban planners should have a city man- Urban planning and the role of agement approach and define smart regu- stakeholders lations, focused on a few parameters that leave room for the natural evolution of cit- Urban planning in market economies dif- ies. Interacting with other experts, they can fers greatly from urban planning in centrally forecast market dynamics within a reason- planned economies. In market economies, able time horizon, usually not more than 10 successful urban master plans leverage mar- years. Urban planners should also develop ket forces to support strategic objectives for innovative tools to assess environmental con- socioeconomic development. The city uses straints to development and potential risks, master plans to regulate land use. Because and introduce economic instruments to guide the value of a piece of land is determined development and leverage land value more by both its location and its land use, master efficiently to provide infrastructure. In that plans enable the private sector to fairly price sense, land in peri-urban areas still should be land by providing clarity on permissible uses. regulated carefully, but developers should be The private sector buys, sells, and uses the able to purchase land use rights and develop land in accordance with the permissible use. land that has been allocated for urban use at As China increases the role of market the fringe in a more competitive process. forces in shaping development, urban plan- ning will continue to be an important tool to guide development and create more efficient Relax control and increase flexibility, and sustainable cities, but the role of vari- accountability, and transparency ous stakeholders will have to change to allow Comprehensive land use planning (the master more flexibility and market intervention plan) has been an effective tool used in many (table 2.7). Instead of leading development, countries to control disordered conversion of the government should play a regulatory role rural into urban land. A comprehensive plan to ensure minimum standards and encourage is largely a policy statement of the future land competitive allocation of land among differ- use and development goals. It serves primar- ent developers, including industrial develop- ily to mitigate conflicts between different ers, to optimize land use and encourage the land uses and helps coordinate transport most productive use of land. Urban planning development with housing, recreational, and should be done at the lowest level, empow- commercial activities. The 1947 Finger plan ering local governments, which can make of Copenhagen epitomizes such an approach, 168 URBAN CHINA TABLE 2.7 Role of different agencies and stakeholders Current planning system Modern planning system Vision Urban planning is an end, a tool to achieve a layout, Urban planning is a means, a tool to help cities perform making concrete a crystallized image of the cities that “functions,” having long-term objectives of urban planners have in mind. sustainability in mind, while ensuring flexibility and allowing change. Methodology Urban planning is a top-down and ad hoc exercise, Urban planning has a bottom-up approach; it is a managed at the government level with little interaction dynamic process mainly driven at city level, aimed at with other stakeholders and consideration for actual connecting and financing cities for socioeconomic demand and processes to permit changes over time. development and ensuring basic quality of life and environment. Land Land is a free resource, without value, to be owned only Land should be seen as a limited, valuable resource, by the public sector and leased to others under very to be owned, developed, and used by a multiplicity of strict land use controls that are primarily supply driven. actors, depending on demand, with the public sector acting as a regulator. With a market approach, land is allowed to be traded freely and transparently. Property rights are guaranteed, and transaction costs within land markets are kept within acceptable limits. Results Cities easily become locked into outdated patterns Cities should be considered from an evolutionary with, for example, high percentages of industrial and perspective, leaving strategic choices for their future underdeveloped land in prime locations because open. Rather than prescribing and locking the city changes in land use, floor area ratios, and ownership are into a certain image to be achieved, urban planning very bureaucratic and therefore discouraged. encourages exploring innovative solutions, including those to finance interventions at a scale larger than individual plots. Urban plan features Plans include detailed drawings to be implemented Planning tools are sophisticated and dynamic. There over time, accompanied by volumes of regulations. is usually a higher-level planning, aiming at ensuring Since planning is conceived as a gigantic, once-and- rights of way for future infrastructure and maintaining forever exercise that is approved at the highest level of what are defined “land invariables,” that is, rivers, natural government, plans are not easy to update or adjusted to resources, and conservation areas. In addition, a lower, meet evolving needs and improvements in infrastructure more flexible level of planning addresses land subject and accessibility. to development, for housing, retail, industries, and agriculture. While the former layer is usually less subject to change, as invariables do not vary overtime, the latter layer can be more easily updated, giving the option of adjusting plans to the evolving needs and development of the city. Source: Based on a contribution by Ellen Hamilton, World Bank. because it combines land use regulation and • Requiring a more detailed fine-grain plan- transit-oriented zoning. The plan sought to ning at the plot level instead of superblock control sprawl and maintain a compact urban or higher level. Mixed-use zoning should form through a principle of accessibility. The be applied more widely. general idea was that large office workplaces • Improving coordination between trans- would generally be located within 600 meters port and land use plans and intensifying of the closest public transportation station. land use based on access and capacity of China should continue to control suburban transport systems (giving priority to public development by comprehensive land use transport). planning but should consider these reforms: • Strengthening strategic and regional devel- opment plans beyond the administra- • Regulating the conversion of rural to urban tive boundary of a single municipality, to land at the national and provincial levels, which a city plan should conform. but allowing for direct transaction between • Emphasizing governance in the planning private developers and collective owners. process, as a consensus-building mecha- • Delegating authority to municipalities for nism between levels of governments, and city planning and land use control plans. involving the public in the process. PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 169 • Including a more detailed and long-term quotas to these areas by allowing transfer of financing plan based on revenues from land conversion quotas from slower-growing government, the private sector, and income counties outside the corridors. and other revenue generated by the delivery The FAR regulation could be used by of infrastructure services municipalities to channel growth to desired locations and enable the emergence of high- The land conversion within a municipal- density nodes. By using FAR regulations to ity should prioritize conversion within urban discriminate between land with different growth boundaries and along growth corri- location premiums, municipalities can create dors. The fragmentation of the urban fringe the variations in the value of land that would leaves patches of farmland served by expen- encourage efficient use. Thus, locations in sive infrastructure networks while develop- the proximity of mass transit stations can ment leapfrogs beyond the built-up edge. be allowed higher FAR vales to encourage Infrastructure and transportation routes densification. should guide development and reinforce Citywide zoning maps should show the growth vectors with infrastructure delivery allowed FAR variations by zone to provide being given priority in nodes (such as subur- accurate valuation guides to developers. In ban subcenters). cities with functioning land markets, FAR Land use policy is an important facet of values are closely linked to local demand strategic planning that requires continual for floor space, being higher where demand adjustment to market forces and their impact is higher. In turn, higher demand will result on land. Ignoring market forces in land devel- in higher land prices, which act as the sig- opment projects includes, for example, not nals that drive efficient land use. In China, considering the annual effective demand for urban master plans need to show FAR values housing or the competitive supply of housing to enable developers to compare the value in local markets. Without this assessment, of different locations. Currently, FAR val- governments tend to convert far too much ues are specified only at the individual block land than is warranted by market conditions. level rather than as part of the publicly avail- To adequately measure urban land develop- able master plan documentation, and there ment, cities should keep data on the number seems to be no explicit spatial strategy to of housing units built in the past year, land guide the FAR values used in the detailed and housing prices, rents for office buildings plans. and factories, infrastructure deployment pat- terns, land subdivision patterns, and so on. Strengthen market forces to create Without this information, the private sector, livable and diverse cities in turn, may overbuild in markets that do not have an appropriate demand. Government policies should be size neutral A more comprehensive approach to met- and not favor specific regions. The changes in ropolitan planning would use FAR variations the distribution of city sizes in China are the as part of a strategic spatial strategy consis- beginning of an expected concentration that tent with consumer demand for accessibil- happens as part of the urbanization process ity and efficient functioning (high ridership and is observable everywhere in the world. with financial viability) of the mass transport During the next 20 years, this concentration network. The planning and development of is likely to increase further as China reaches specific corridors would need a long-term an urbanization rate of 75 percent or higher. horizon, setting land uses and building densi- Countries like Japan and the United States ties today with a view to future use. Along have achieved a high level of urbanization and with public transit improvements, corridors economic growth with reasonable levels of could be assigned higher development inten- concentration, while Korea has done the same sities. To support the growth of strategic cor- with high levels of scaling and concentration ridors with sufficient developable land, local of its urban system. The challenge for China governments could channel land conversion during the next 20 years will be to support 170 URBAN CHINA BOX 2.16 Planning and management to reduce risks from natural disasters Climate change will aggravate existing risks in coastal mum standards in service delivery should form the cities. China is home to two of the world’s 10 most bedrock of hazard risk reduction strategies. vulnerable cities in terms of number of people exposed Third, urban master plans, in particular zoning, to coastal flooding: Guangzhou and Shanghai. Natu- need to prohibit settlement in the most hazardous ral disaster risk management needs to become an areas. As cities are rapidly expanding and their econ- integral part of urban planning and management, omies are growing, it is paramount that these plans since disasters are frequently the consequence of incorporate assessment of natural hazards to avoid poor planning and management. Three aspects are costly disasters in the future. A recent study in the particularly important. First, hazard proofi ng new Yangtze River Delta shows that cities that maintain urban infrastructure should be standard procedure, a high degree of compliance with master plan mea- but it is frequently ignored. The incremental costs are sures, in particular with preservation zoning, had a often marginal and could be easily integrated into smaller amount of urban land located in high-risk the designs. Hazard proofi ng includes implementing zones (Saehoon and Rowe 2013). In addition, special structural engineering standards for public buildings, attention should be given to the more vulnerable poor but also sizing of drainage systems for peak events, or people and towns that are often disproportionately developing steeply sloped land without increasing the exposed to higher risks. While enforcement of zoning probability of landslides. laws may limit development in hazardous locations, it Second, maintenance of infrastructure and good can cut poor people off from labor market opportuni- basic service provision reduce the severity of hazard ties by forcing them onto cheaper land far from the events and prevent further indirect damages. a In city center. many cities, especially smaller ones, public services Public policies should facilitate the development of such as water, sanitation, sewerage, lighting, and market-based instruments for better managing disas- health services are not adequate, affecting household ter risk, provide the right regulatory environment, welfare, converting everyday hazards into disasters and selectively intervene where clearly defi ned social (Bull-Kamanga and others, 2003). For instance, and environmental externalities exist. Common insti- where drainage networks are poorly maintained, even tutions that allocate property rights, manage land moderate floods can cause deaths from waterborne use, monitor zoning compliance, and disseminate diseases and cross contamination between water and credible information on hazard risk are fundamental sewer lines. Roads on steep terrain that are not kept building blocks for balancing gains from economic in good condition can increase erosion and landslide density with risk from natural hazards. risk. These “institutional” efforts of achieving mini- Source: Based on Lall and Deichmann 2009. a. The poor record on infrastructure maintenance has been highlighted by Estache and Fay 2007, among many others. At 4 percent of GDP, estimates of required maintenance expenditures equal those required for new infrastructure investment. the pursuit of a concentration pattern while following lines: First, urban land use rights articulating density with transport systems for the development of industrial, commer- within metropolitan regions. Cities should cial, and residential areas should be allo- avoid fragmented development and sprawl cated through a competitive bidding process, and improve connectivity between cities so and the subsidized pricing of industrial land that the agglomeration economies will ben- should be completely abandoned. Second, efit all types and sizes of cities. Medium and land subdivision regulations should clearly small cities can support and benefit from the assign costs for various levels of infrastruc- economies and markets of nearby large cities. ture to developers, municipalities, and higher The pricing of land use rights needs to levels of government. Third, agriculture land be less distorted and more transparent. The needs to be priced based on its economic pricing system could be reformed along the value so that displaced farmers receive higher PLANNING AND CONNEC TING CITIES FOR GREATER DIVERSIT Y AND LIVABILIT Y 171 compensation, making development on the underdeveloped urban expansion areas might periphery more expensive, and thus more effi- help reallocate urban construction land at the cient in land use terms and higher in quality. national and regional level more efficiently. Adjusting the current pricing of agricultural It also offers an opportunity for urban con- land for conversion into urban land to more struction to be returned to rural land use. closely reflect market prices, combined with City clusters could be fostered by improv- an increase in FARs, would certainly increase ing connectivity and regional coordina- the economic efficiency of urban land. That tion. Coordination mechanisms or regional would be preferable to the current land con- authorities at the metropolitan level could version quotas, which cause spatial distor- be created to increase the efficiency of pub- tions in the development of Chinese cities. lic service delivery in critical areas such as Reducing the size of city blocks and urban public and mass transportation, water and plots would allow more potential buyers to sanitation, waste management and housing. participate in the process and increase the Managing scarce regional water resources number of land transactions (and revenue) and building energy- and cost-efficient waste over time. The substitution between land and systems will similarly require more coopera- capital inputs is restricted by the predeter- tion among county, district, and sometimes mined and inflexible floor area ratios as well municipal governments. The challenge for as by the fact that land prices are linearly cor- Chinese cities will be to facilitate such coop- related with the floor area ratio. eration across sectors and jurisdictional Revise the existing urban planning codes boundaries without significantly compro- and infrastructure standards to ensure they mising the strong culture of implementation more demand driven and service oriented. that has been at the core of economic devel- Redefi ne official norms, building codes, and opment in the past three decades. Often in urban planning codes and revise technical China, the best solutions will likely be local, standards for urban road and other infra- involving context-sensitive and pragmatic structure planning to allow for more flex- answers to particular issues, rather than ible and demand-based designs and avoid wholesale changes in approach. It will be oversizing of infrastructure. The urban street important to identify such solutions as they codes need to be immediately revised based emerge and find ways of mainstreaming them on function and hierarchy of streets within across cities. urban fabric. Investments should continue in regional Update the urban planning process. China transport infrastructure (such as highways, would benefit from a major review of its urban railways, and other transport systems) to planning systems. Such a review would facili- improve connectivity and the flow of capi- tate the move to more efficient land use. The tal, goods, people, and services. Regional misalignment of Chengdu’s planning with economic development plans should be on-the-ground outcomes in the 1990s was a developed, and local plans be required to reflection of this failure to undertake urban link to them. Pricing mechanisms should be land use planning based on a full awareness introduced to address critical environmental of the demographics, urban economic func- resource constraints (water, air, land) at the tion, market forces, and major planned public regional level. investments. Recent research by the Urban Metropolitan land use and transportation Planning Society of China reveals that the planning should be integrated and employ- urban planning certification and continuing ment and residential patterns aligned accord- education system has weaknesses and is not ingly. Municipal governments need incentives providing the necessary knowledge base to to stop treating cities as pools of state-owned address rapid urban growth. assets (especially land) that need to be mon- Creating a land use right transfer sys- etized and to integrate land use and trans- tem that allows rapid growing cities with portation planning for long-term efficiency. high demand for land to purchase land use Large metropolitan areas should accelerate rights of surplus urban construction land in development of mass transit systems aligned 172 URBAN CHINA with compatible land use. FARs should be 9. Based on Fang (2013), who estimated elastic- based on distance and accessibility from ity of urban economic performance to inter- main public and mass transport systems to city accessibility using panel data of 260 pre- encourage densification along corridors and fecture-and-above level cities during 2001–10. critical transport nodes. Such systems should 10. This section builds on a joint Clean Air Asia- World Bank Report 2013. rely on full or partial private ownership so 11. China Urban-Rural Construction Statistical that transit system operators have incentives Yearbook 2011, tables 1-1-1 (for cities) and to coordinate the network with employment 2-1-1 (for county towns). and residential patterns in order to maximize 12. See http://green.sina.com.cn/news/roll/2011-06- revenues. The governments would need to 13/220022633293.shtml. ensure, through development policies and investment programs, that there is supply of affordable land in areas of market demand. References High-density nodes linked by rapid transit ADB (Asian Development Bank). 2012a. Asian systems would reduce congestion, pollution, Development Outlook 2012: Confronting Ris- and travel cost. Currently, many systems ing Inequality in Asia. 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The challenges are intertwined, Introduction because if people move to the cities to receive better public services instead of moving to China has undergone a remarkable transfor- fi nd productive jobs, congestion and unem- mation, with the movement of over 260 mil- ployment result. Examples of this type of lion migrants from rural areas to urban areas. urbanization can be found around the world. Driven largely by this rural-to-urban migra- Conversely, if people do not move even tion, China’s urban population is projected to though there are jobs for them (for example, reach 1 billion by 2030. These migrants have because they cannot afford essential services seized the opportunities offered by urbaniza- in urban areas even with better jobs), effi- tion, leaving their agricultural jobs and tak- ciency losses and slower growth result, and ing up more productive and higher-paying the human capital of citizens will be under- jobs in cities. Through this process, China utilized and underdeveloped (Cai and Wang has managed to sustain high wage growth, 2010; Wang, Zhu, and Ma 2008). achieve even higher productivity growth, and China also faces the challenge of improv- reduce poverty on an unprecedented scale ing labor market integration and strengthen- (World Bank and DRC 2013). ing labor market institutions to help over- However, two closely related sets of come the new and old dualisms. An inclusive inequalities pose challenges to making and efficient labor market would allow urbanization inclusive: a new dualism within migrants to fi nd the best matches for their the urban population and the old dualism of talents and would provide the supportive urban and rural disparities. First, newcom- training and learning infrastructure to help ers to the cities—the migrants with nonlo- them continue this productive matching as cal hukou status—are often excluded from the economy evolves. Supportive labor mar- access to urban services because of their ket institutions would mediate the interests hukou status and may face greater fi nancial of diverse stakeholders in this market and and administrative challenges in accessing would balance policy objectives with respect 177 178 URBAN CHINA to national social objectives and economic including demographic shifts and the pro- efficiency. file of migrant workers, as well as oppor- The Chinese leadership is well aware of tunities and challenges for urbanization. It these challenges and presented social policies then describes the overall vision for inclusive to address them in the 12th Five-Year Plan urbanization and rural-urban integration, (2011–15) and China 2030 (World Bank providing a picture of where China could be and DRC 2013). The main social develop- if the necessary reforms can be implemented ment challenges identified by the 12th Five- successfully. The second section then focuses Year Plan include rising inequality of income on the challenges and options in ensuring and wealth, disparities in opportunities and equitable access to social services in urban in access to affordable and quality services, areas, starting with the shift from the hukou disconnected rural and urban systems, and system to a modern residence-based system. poor quality and undersupply of basic pub- That section looks at the current “urban lic services for poor and vulnerable groups. standard” of social services in China’s urban In light of these challenges, the vision of areas (that is, education, health, pensions, the Five-Year Plan is to build, improve, and social assistance, and welfare housing) by promote equalization of access to basic pub- reviewing how services are financed and lic services (that is, education, employment, delivered as well as analyzing the cost of health care, pension, social assistance, and extending services to migrant populations. housing) for all citizens, to build a harmoni- The third section takes a broader view of ous society and maintain social justice and social policy reforms in China, discussing the fairness. Similarly, China 2030 (World Bank need for rural-urban integration and equita- and DRC 2013) envisages promoting eco- ble service delivery across the country. It cov- nomic freedom through equal opportunities ers the areas of education, health, pensions, for all citizens to access quality public ser- and social assistance programs as well as vices (that is, not limited by place of birth, addresses the cross-cutting issue of account- gender, or other factors) and basic security ability in social services delivery. Finally, the from deprivation to prevent any irreversible fourth section focuses on reforms for ensur- loss of human potential. ing an inclusive and productive labor market, This report builds on the policy options specifically in the areas of skills accumulation laid out in these documents and attempts to (that is, technical and vocational education translate them into actions, using the prism and training [TVET] and higher education) of addressing both the new and the old dual- and key labor market institutions (that is, isms. It analyzes and provides policy alterna- wage setting, labor taxation, labor law, and tives to answer three interrelated questions labor dispute mediation). that are key factors in advancing the inclusive urbanization agenda in the next decade: The social context and challenges and opportunities for urbanization • How can access to basic social services in urban areas be equalized among migrants Over the past three decades, China has expe- and local hukou holders? rienced the world’s largest internal migra- • How should this equalization proceed tion in history, which has been instrumental across the vast and diverse spectrum of to the country’s growth and poverty reduc- rural settlements; townships; counties; and tion. Employment of rural migrant workers, small, medium, and large cities in China? nearly all working in urban areas, more than • What policies will support building a labor doubled from 79 million in 2000 to 163 mil- market that is productive and inclusive for lion in 2012. China also had 99 million local all? rural (nonagricultural) workers in 2012— together totaling 262 million migrant workers The structure of the report is as follows. (NBS 2012a). By 2013, rural migrant work- The remainder of this section provides a ers accounted for 44 percent of total urban brief overview of the current social context, employment (figure 3.1). This labor migration INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 179 FIGURE 3.1 Rural-to-urban migration trends in China, 2000–12 200 60 160 50 Ratio of urban employment (%) Rural migrants (millions) 120 40 80 30 40 20 0 10 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Rural immigrants (left axis) Ratio of urban employment (right axis) Source: NBS 2012a, 2012b. has contributed to the structural transforma- and settling down to become urban dwellers tion of the economy and the integration of the once they fi nd jobs in cities. In the Repub- labor market, and it has played an important lic of Korea, for example, rural-to-urban role in reducing poverty and narrowing the migrants become as socially mobile as urban income gap between rural and urban areas. natives within the fi rst generation. 2 In con- The hukou household registration system trast, China’s rural migrant workers have has given rise to unique characteristics in behaved more like guest workers—accepting China’s internal migration. In most countries, lower wages, migrating without their fami- the processes of industrialization and urban- lies, living in dormitories, and having limited ization have involved rural workers migrating access to urban public services (figure 3.2). FIGURE 3.2 Trends in urban resident population and population with nonagricultural hukou, 1978–2012 60 50 Share of urban population (%) 40 30 20 10 0 1978 1983 1988 1993 1998 2003 2008 2012 Urban residential population Nonagricultural population Source: National Bureau of Statistics, various years. 180 URBAN CHINA As China continues to urbanize rapidly, FIGURE 3.3 Relative wages of rural migrants and significant economic restructuring is taking urban formal employees, 2001–11 place. China is reorienting its growth model from a capital-intensive and export-oriented 0.75 one toward one driven more by deeper human capital and total factor productivity, increased 0.70 Ratio of rural migrant and urban domestic consumption, and movement up the formal employee wages value chain. On the demand side, many new 0.65 jobs are now generated inland in response to industrial policy, reducing the cost of migra- 0.60 tion for new migrant workers. Economic restructuring and industrial upgrading have 0.55 intensified the destruction of low-skilled jobs and the creation of semiskilled and skilled 0.50 jobs, necessitating human capital develop- ment among the current workforce. 0.45 China’s urbanization coincides with 2001 2004 2007 2011 major demographic shifts that have signifi- cant implications for migrant workers as Source: National Bureau of Statistics. well as for the broader economy. In particu- Note: Formal real wages are average urban wages reported in China lar, the excess rural surplus labor is nearly Statistical Yearbook (2012); rural migrant wages are from National Bureau of Statistics rural household surveys and rural migration exhausted—China is reaching its Lewis turn- monitoring surveys. ing point. China is also experiencing rapid population aging, which will place greater strain on family support networks and chal- characteristics.4 This result means that by lenge social programs, pensions, and health 2010, rural migrants were not systematically care. Population aging also has implications paid less within the same sector and own- for the labor supply because the pool of avail- ership type. Instead, lower wages for rural able labor has begun to shrink. migrants were due to migrants working in In response to these economic and demo- lower-paying sectors and ownership types. graphic trends, wages of migrant workers The demographic profile of the rural have started to increase rapidly. The end of migrant labor force is changing, with migrant so-called cheap Chinese labor has already workers generally being older and better been documented (Li and others 2012). The educated than the overall rural labor force. recent increase in relative wages of migrant The average age of rural migrant workers workers marks a reversal from the pattern rose from 34.0 years in 2008 to 37.3 years of 2001–07, when migrant wages substan- in 2012. In terms of educational attainment tially lagged those of urban formal employ- (table 3.1), in 2012, 5.7 percent of rural work- ees. From 2007 to 2012, rural migrant wages ers had three-year college degrees or above, increased by an average of 17.1 percent annu- 4.7 percent had completed vocational high ally in real terms3 (figure 3.3). school, 13.3 percent had completed regular Moreover, the wage differential between high school, and 60.5 percent had completed migrant and long-term urban resident work- middle school. In comparison, only 1.4 per- ers that is unexplained by differences in cent of local farmers had three-year college human capital has diminished considerably, degrees or above, 1.5 percent had completed which suggests improved labor market inte- vocational high school, 8.0 percent had com- gration. Results from the 2001 and 2010 pleted regular high school, and 47.0 percent editions of the China Urban Labor Sur- had completed middle school. vey (CULS) show that the negative impact Migrants are increasingly bringing their on wages of being a rural migrant declined children or their entire families with them to just 13 percent in 2010 and disappeared when they migrate. The National Bureau of after accounting for differences in their job Statistics (NBS) monitoring survey of rural INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 181 TABLE 3.1 Educational attainment of rural workers in 2012 Rural Local rural Rural Young Local migrant migrant out-migrant migrant farmers workers workers workers workers No schooling 8.3 1.5 1.0 2.0 0.3 Primary school 33.8 14.3 10.5 18.4 5.5 Junior middle school 47.0 60.5 62.0 58.9 57.8 Senior middle school 8.0 13.3 12.8 13.8 14.7 Technical secondary school 1.5 4.7 5.9 3.3 9.1 College and above 1.4 5.7 7.8 3.6 12.6 Source: NBS, National Monitoring Survey Report for Rural Migrant Workers 2012a. Note: Young migrant workers are those 30 years of age and below. migrants reports that 20.7 percent of rural have greater family ties or responsibilities migrants left home with their entire families that make them reluctant to migrate far away. in 2012 (NBS 2012a). However, this figure These trends point both to an opportunity does not capture the many cases in which and to an urgent need to reform hukou and multiple family members migrated while at other institutions that constrain mobility and least one family member stayed behind to impede access to social services, as well as farm the land or maintain the family’s claim to improve social service delivery across the to collective land or other benefits. The CULS entire country. For urbanization to succeed, found that among the children of migrants people need to move freely, but the hukou enrolled in school, the share that went to system still defines their residence status school in the city increased from 41 percent and rights to access public services. China’s in 2001 to over 70 percent in 2010.5 decentralized fiscal system—in particular, the Although the majority of rural migrants mismatch at the local level between resource are still concentrated in medium and large cit- availability and social spending responsibili- ies, intra-provincial migration has increased ties—also creates distortions because it does significantly. As shown in table 3.2, in 2012, not allow money to follow people. A sustain- 30.1 percent of rural migrants worked in pro- able fi nancing framework for local govern- vincial capitals or municipal provinces, and ments to provide mandated services, as in 34.9 percent worked in prefectural cities— the case of providing education for migrants, about the same proportions as in 2009. Intra- is absent. Furthermore, fragmented social provincial migration increased from less than security arrangements that lack portability 47 percent in 2009 to more than 53 percent of benefits discourage both mobility and for- in 2012. This increase could reflect the rapid malization in the labor market. development of second- and third-tier cities China’s urbanization can create new as well as greater diversity among migrants, opportunities for efficiency in social service including not only young, single people but delivery. With urbanization comes denser cit- also married and older individuals who may ies and the ability to provide services to more concentrated populations, which allows for efficient pooling and risk sharing for social TABLE 3.2 Distribution of rural-to-urban migrant workers by city level, 2009–12 services in urban areas. Cities also have a City 2009 2012 better pool of health and education provid- ers, and the possibilities for knowledge net- Municipalities under the central government 9.1 10.0 works within cities and learning externalities Capital cities 19.8 20.1 are much greater than in rural settings. Fur- Prefectural cities 34.4 34.9 thermore, the points of educational supply County-level cities 18.5 23.6 and labor market demand (fi rms) are closer, Towns 18.2 11.4 providing greater possibility of exploiting Source: NBS, National Monitoring Survey Report for Rural Migrant real-time feedback from the demand side. Workers 2009, 2012a. The potential for outreach is also higher, 182 URBAN CHINA with shorter distances and connection times ple and society to achieve maximum benefit between facilities and their users. In addition, from the human potential of China’s popu- the natural risk pools of jurisdictions (which lation, and are more efficient for risk sharing across • Equitable access to basic social services and health and old-age insurance) are larger in social protection across space, allowing all urban areas, with fewer coordination chal- citizens full integration into urban life. lenges in moving to higher levels of pooling (for old-age security and pensions). To achieve China’s vision for inclusive Urbanization can also foster greater labor urbanization and rural-urban integration, market efficiency. In the labor market, a sig- social policy reforms will need to follow nificant advantage of urban settlements is some cross-cutting guiding principles: that the high agglomeration of activity pro- vides workers and businesses with a wide • Provide appropriate incentives for citi- range of options if they possess or require zens and service providers. Residence rules skills. 6 Urban settings imply more formal should not encourage mobility that does sector employment than is found in rural not lead to higher productivity of work- areas, and the need for labor market institu- ing household members. Policies need to tions (wage setting and collective bargaining) be consistent with the strong incentive to is greater. A formalized labor market also work and to build human capital across allows for the development of more efficient the life cycle, while discouraging welfare social insurance institutions. dependency. Service providers also need to At the same time, urbanization brings the be given the right incentives, with built-in challenge of building cohesive communities checks and balances that conform to pro- in cities with more migrants. Higher demand fessional ethics. The current incentive struc- has intensified the competition for urban ture in health and to some extent education services, and infrastructure pressures from encourages public providers to act as profit- expanding urban populations are more diffi- maximizing private sector entities—for ex- cult to manage because of the cost of land and ample, one-third of hospital admissions congestion. In addition, the types of people in China are considered unnecessary, and coexisting in cities have become much more school selection fees drive a further funding diverse; for example, expanding urban areas wedge between “key schools” and regular have a diversity of dialects among migrants schools. A workable incentive framework and differences in students’ grade-level readi- is needed for local authorities to provide ness as a result of varying educational quality equitable access to basic social services and in rural areas. Service delivery providers need social protection. to tailor their services to accommodate these • Redefine the roles of the state, private sec- diversities while keeping the quality of pro- tor, communities, and households to sup- vision at a level acceptable to long-term resi- port a successful transition. The urbaniza- dents. Notably, social confl icts have ignited tion process is creating opportunities for in recent years; for example, labor disputes, the private sector to provide higher-end largely involving migrant workers, nearly services financed through user fees and, in doubled between 2005 and 2012 (Gallagher doing so, share the fiscal burden faced by and others 2013). local governments. Private provision and public-private partnerships could play a bigger role in education and health. The The vision for inclusive urbanization role of government would need to be reca- and rural-urban integration librated accordingly, with a transition from China’s vision for inclusive urbanization administrative measures to market mea- builds on two main principles: sures in some domains and a more direct state role in others. Stronger state capacity • Free movement of people to seek and maxi- to set policies, license, and regulate will be mize economic opportunities, allowing peo- needed, along with greater attention to the INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 183 financing and provision nexus and poten- and migrants differently—remains, along tial unbundling of who finances and who with some areas of divergence between offi- provides. Governments at all levels will face cial policy and its implementation on the challenges as they seek prudent balances ground (for example, the experience of urban between state- and market-based solutions. schools that are mandated to accept migrant • Improve affordability and efficiency. Re- children). This divergence is related in part forms should be consistent with fiscal con- to the behavior, attitudes, and incentives of straints and promote more efficient use local actors; for example, the urban old-age of public resources. Social sector budgets security system is open to migrants and man- will face increasing pressures as economic dated under labor legislation, but migrants, growth gradually slows, the population employers, and providers often behave as if it ages, and program coverage continues to is not available. rise. Addressing these challenges will re- Policy and practice must focus increas- quire greater efficiency in service delivery ingly on three different levels. First, high-level and value for money in public spending, policies can promote more equal treatment of within a sustainable fiscal framework. migrants and local hukou populations. Sec- Those changes, in turn, require new infor- ond, specific supporting reforms can facilitate mation and tools to assess efficiency and the realization of high-level policies, such as create new incentives through budgetary reforms of intergovernmental finance. Third, and other channels. Effective policies will nuts-and-bolts reforms of administrative sys- increasingly need instruments for both the tems and delivery platforms can aid in effec- supply and demand sides of service deliv- tively implementing policy reforms. ery. Reforms should also promote greater accountability of administrative systems, Reforms needed to achieve service providers, and citizens to help en- China’s vision sure efficient use of public resources. • Develop an integrated approach to deepen- As discussed in the remainder of the report, ing social policy reforms. Although a basic key reforms related to the household registra- social service system has already been es- tion system, public fi nance, service delivery, tablished in China, it is fragmented across and labor market institutions are needed to space and rural and urban areas, in part achieve China’s vision for inclusive urbaniza- because of the highly decentralized financ- tion and rural-urban integration. Realizing ing arrangements. Not only has this frag- China’s vision will require efforts to ensure mentation caused barriers in access to ur- equitable access to social services both within ban public services and transfers of social urban areas and across rural and urban areas entitlements, but it has also resulted in low nationwide as well as to foster an inclusive pooling and inefficient financial resource and productive labor market. Key reforms management, threatening the sustainabil- are summarized briefly below. ity of social services. As China continues to urbanize rapidly and move toward high- Ensuring equitable access to social services in income status, further reforms need to urban areas focus on integration and harmonization of social policies and programs. The key reform needed is a shift from the origin-based hukou system to a modern High-level mandates alone will be insuf- residence-based system for defi ning eligibil- ficient for achieving the desired outcomes. ity for basic services. This reform is critical The 12th Five-Year Plan explicitly addresses to promoting inclusive urbanization. Mak- social service provision for migrant workers ing the residence-based system meaning- and rural-urban integration, as well as set- ful will involve providing current residents ting quantitative targets for implementation. with access to the urban standard of social Nonetheless, policy-driven duality—whereby services, which includes nine years of free formal policies still treat long-term residents compulsory education, access to basic public 184 URBAN CHINA health care services, social security (medi- to localities with more expenditure needs cal and old-age pensions) for formal sector than revenue capacity. Local authorities could workers and for residents in rural and urban top up this package for their residents, and areas, a social assistance program for rural the private sector could also help create fiscal and urban areas, and some welfare hous- space through high-end medical services, pri- ing system in urban areas.7 Although enact- vate third-pillar pensions, and private schools. ing this reform will require additional fiscal Sectoral policy reforms in health, educa- resources, the costs should be manageable. tion, pensions, and social protection, as well The lower bound of the annual cost estimates as cross-cutting reforms in accountability for of extending this package to cover current service delivery, could help contain costs and rural migrants within the next one to two increase the efficiency of service provision. years is 1.22 percent of 2012 gross domes- Such reforms include the following: tic product (GDP). The cost increases to 2.51 percent of 2012 GDP, under the assumption • Education. Efforts are needed to narrow that all “left-behind” children move with the disparities in the quality of basic edu- their parents to the cities, and it increases cation and to expand access to senior sec- to 3.14 percent of 2012 GDP if, in addi- ondary and early childhood education. Fi- tion to the cash flow cost of extending the nancing reform would help set minimum urban old-age security to migrants, the dis- standards for every level of education and counted accrued liability costs are accounted ensure central transfers for equal access to for. Accounting for both of these costs and quality education for poor rural localities changing the assumptions about the increase and disadvantaged children. Demand-side in medical cost and social housing coverage, mechanisms that stimulate competition and the total cost could increase to 4.53 percent allow higher levels of private provision will of 2012 GDP in 2015 and to 4.78 percent of also improve education access and quality. 2012 GDP in 2020.8 In addition, teachers’ incentives need to be realigned to improve quality of instruc- tion and strengthen school management. Undertaking social policy reforms to foster Peer-tutoring programs, computer-assisted rural-urban integration learning programs, after-school support, To be truly consistent with the goals of effi- and support targeted to help migrant stu- cient urban development and rural-urban dents and their families will further support integration, efforts must extend beyond the integration of migrant children. equalizing access within urban areas, with a • Health care. A stronger urban health care longer-term goal of equalizing access to basic delivery system is needed to meet the ex- social services across provinces and urban pected increase in demand. This system and rural areas. A national minimum pack- could be achieved by improving primary age of social services and social insurance health care services and coordination among that is guaranteed by the central government providers; integrating and ensuring porta- would be a basis for this equalization. In the bility of health insurance to allow citizens short term, higher levels of government could to choose the best treatment; strengthening consider subsidizing cities for the increased health promotion and illness prevention costs of services to migrants. In the medium in urban settings; and implementing effec- term, fiscal system reforms for both revenues tive cost containment and quality improve- and expenditures will be necessary to finance ment measures. Provider payment reform the national minimum package of public should replace the dominant fee-for-service social services, irrespective of location. Such payment system with a diagnosis-related standards must be carefully calibrated to fit group-based system, which has a proven the fiscal resources China has available, and track record internationally for containing they should be phased in. At the same time, a the costs of inpatient care. gradual change in the intergovernmental fiscal • Pensions. Pension reforms are required to system should provide the necessary resources facilitate labor mobility, narrow the gaps INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 185 in pension benefits, and cope with an ag- better performance from service provid- ing population. In the short run, national ers by linking budgetary transfers to the guidelines could help make the transfer of performance of subnational governments. pension rights and benefits easier between Human resource management and com- schemes and locations. In the long run, pensation systems and facility-based man- the urban workers’ pension scheme could agement initiatives could also become more be reformed by introducing a notional performance based. Regulation, accredita- defined-contribution (NDC) design while tion, and licensing systems for providers developing a financing strategy to resolve are increasingly important tools and are the legacy costs outside the reformed pen- expected to be core elements of the mod- sion system. These reforms would lower ern and diversified system of social service the existing high contribution rates, pro- provision in China. Citizen-based chan- vide stronger incentives for employers nels could be strengthened by providing and employees to contribute, and realize more public information on service deliv- the objective of a targeted replacement ery costs and performance and by harness- rate. Migrant workers with wage income ing information efforts to generate citizen and labor contracts can be encouraged to oversight and feedback on service delivery join the reformed urban workers’ pension performance. Another channel for citizen scheme to reduce the government subsi- involvement is more direct incorporation dies needed for the rural residents’ pen- into management and oversight institu- sion scheme. Pooling could begin first at tions. Choice- and market-based channels the provincial level and then be expanded will require greater reliance on demand-side to the national level, supported by an inte- financing of services where appropriate as grated national data management system. well as greater public purchasing of social Finally, gradual reforms in retirement age services. and indexation would help ensure the ad- equacy of pension benefits and sustainabil- Strengthening institutions for an inclusive and ity of the pension system. productive labor market • Social assistance. Reforming China’s social assistance program (dibao) and other social An inclusive and productive labor market for assistance programs requires consolidation, all will allow people to seek and maximize standardization across space, and harmo- economic opportunities and will help unleash nization with antipoverty interventions in the potential of labor mobility. Geographic, poor counties and other social programs. occupational, and sectoral mobility could be Most high- and middle-income countries supported by measures such as the following: apply a unified formula for determining eli- gibility for national welfare programs while • Building a modern system for upgrading maintaining some flexibility, including re- the human capital of workers, both on the gional cost-of-living adjustments. China job and in learning institutions. Investment could gradually move toward a more sys- in skills development should focus increas- tematic approach in determining eligibility ingly on lifelong learning and continuous thresholds from county (city) to prefecture, upgrading of workers’ skills throughout from prefecture to province, and finally to a their careers. Policies should promote a nationwide setting. more modular and competency-based • Accountability for service delivery. More technical and vocational education and sophisticated service delivery and ambitious training (TVET) system, broaden ongoing equalization goals call for greater account- experiments with demand-side financing ability for outcomes, cost-effectiveness, and of training, encourage private sector train- transparency. Three broad channels can be ing providers to enter the training mar- used to promote accountability: govern- ket and provide a more level playing field ment, citizen based, and choice or market for them, and build institutions for skills based. Government systems can encourage accreditation to make skills certification 186 URBAN CHINA more portable and relevant to employers. Ensuring equitable access to Tertiary education reforms should focus on increasing the labor market relevance social services in urban areas of higher education. Such reforms would To achieve China’s vision for inclusive urban- include greater autonomy and account- ization, the current urban standard of social ability for universities and would explore services can be extended to migrant popula- the potential for private provision and tions. This section discusses one of the most financing of higher education. An over- critical elements of the necessary reforms: arching reform needed across TVET and the shift to a residence-based permit system higher education is to increase articula- that will delink access to social services from tion between the technical and academic hukou. It draws lessons from local experience streams so students can shift between them as well as international practices and lays out with due credit for competencies acquired various considerations and policy options for in either system. adopting the residence permit system. The • Strengthening labor market institutions section then examines the barriers migrant that can facilitate efficient labor market populations face in accessing the current transactions, balance wage and productiv- urban standard, focusing in particular on ity growth, and mediate labor disputes. As financing arrangements and delivery sys- a starting point, the basic function of the tems for compulsory education, health care minimum wage will need to be reoriented and insurance, pensions, and social assis- from a minimum income guarantee to an tance and welfare housing. Finally, build- instrument of collective bargaining and ad- ing on these fi ndings, the section suggests a ministrative labor market policy interven- framework for cost sharing and incentives for tion. Labor taxation reforms could help municipal governments to integrate migrants reduce the tax burden on workers and em- into urban areas. ployers, and there is potential for reducing the pension, unemployment, and housing contributions. These measures would re- Context and challenges quire accompanying reforms of the overall For migrants and their families, access to tax mix across factors of production and publicly financed services in urban areas has financing. Monitoring the medium-term been regulated by hukou, which has limited impact of the Labor Contract Law will be- their mobility and reduced their welfare. come meaningful to China’s competitive- The original rationale was that migration ness and job creation. Legitimate interests for work was temporary and that families of of both workers and employers should en- migrants would stay behind and access ser- ter the considerations of policy making and vices in rural areas. Although this was true in legislation so as to balance flexibility and the early stages of China’s economic transi- security. tion, the situation has changed dramatically over the past couple decades. Rural-to-urban Inclusive urbanization can bring a range migration has become more permanent, with of positive economic and social benefits to the majority of migrants having no aspira- China. Urbanization that is inclusive can tions to return to rural areas (Cai and Wang help China rebalance its economy, maximize 2010). In addition, a second generation of human capital to sustain its competitiveness, migrants, born and raised in cities, have no narrow welfare gaps, and promote social attachment to the rural areas from which cohesion. In this context, inclusive urbaniza- their parents migrated. tion is not only an issue of equity and social Hukou reform has been undertaken grad- cohesion but also a crucial underpinning ually since the early 1980s in response to the of the country’s evolving economic model, evolving economic and social situation. In which will depend on maximizing human particular, since the late 1980s the mobility resource potential to move China from restriction function of hukou has largely been middle-income status to high-income status. eliminated. Starting in 1997 and culminating INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 187 in a 2001 national policy, measures were cities and called for gradual rollout of the gradually introduced to encourage selected residence permit system. The unified national rural migrants to apply for urban hukou in residence permit system will be residence small cities and towns—the “small city free” based rather than origin based and will policy (M. Y. Wang 2002). In 2006, the State delink access to social services from hukou.10 Council promulgated a milestone document If access to social services is delinked from that provided a comprehensive policy frame- hukou, then for rural migrants, the remain- work for the fair treatment of rural migrant ing function of their rural hukou is to show workers in cities with respect to their entitle- their rural land rights. This is an important ment to social services, including employ- and potentially lucrative right—rural land ment, training, education, health, social values in developed areas are high, and rural insurance, housing, and family planning ser- hukou holders could receive a windfall from vices. All fees levied on rural migrants were land conversion. removed, such as temporary residence fees These reforms are an important step and management fees, family planning fees, toward rural-urban integration and equal- urban expansion fees, and management and ization of access to social services across the service fees (L . Wang 2010). country, which will improve the welfare of Most recently, the State Council formu- the population and benefit the economy as a lated a national policy on hukou reform in whole. A residence-based approach for access 2011 and issued reform guidelines linked to to social services will encourage mobility and the city’s administrative level.9 These guide- give workers an incentive to move to places lines set differential approaches to granting where they can earn the highest returns on local hukou in cities, depending on a city’s their labor, which will improve allocative effi- administrative level. In towns and county- ciency in the labor market and help enhance level cities, migrants can apply for perma- productivity. At the national level, remov- nent local hukou for themselves and family ing all mobility restrictions will play a major members (spouse, unmarried children, and role in narrowing rural-urban and regional parents) if they have legally stable employ- income gaps.11 Furthermore, making social ment and a residential apartment (including entitlements available to all workers and their leased). Cities that are facing major strains families in their areas of their residence will on their overall carrying capacity can spec- help deepen the human capital base, promote ify conditions for the scope and years of a healthier workforce, and alleviate social legally stable employment and designate tensions. places of dwelling. In prefecture-level cit- Although a residence-based system is a ies, migrants can apply for permanent local more efficient and fairer system for regulat- hukou for themselves and family members if ing access at the local level, the full benefits they had legally stable employment for over are realized at the national level, which may three years, lived in a legally stable place of reduce local government incentives for such residence, and contributed to social insur- investments. The full benefits of increased ance for a certain number of years. These population mobility, optimal allocation of requirements can be lowered in central labor resources, and improvements in the and western provinces if local conditions stock of human capital are realized at the allow, and they can be increased in cities national level, whereas the costs of providing facing serious pressures on carrying capac- these social services are largely borne by local ity. In municipalities directly under central governments in receiving areas. Moreover, management, vice-provincial-level cities, the uncertainty of returns to investing in and other large cities, strict quota control mobile workers further reduces the incentives policies will continue (Wang, O’Keefe, and for such investments. Local governments Song 2013). therefore have little incentive to provide free The State Council also requested that the or subsidized services to migrant families concerned institutions take steps to improve under the current intergovernmental fiscal the registration of temporary populations in system.12 188 URBAN CHINA The introduction of a modern residence Local experiments and international practices system needs to be national and unified, With encouragement from the central gov- accompanied by a change in intergovernmen- ernment, many provinces in China have tal fiscal responsibilities that would promote piloted hukou reforms and, more recently, fiscal sharing arrangements for social service the parallel residence permits. One such provision for all residents. The reform needs reform has been the unification of hukou to be led fi rmly by the national authorities registration undertaken by 15 provinces by and accompanied by change in the intergov- ernmental fiscal arrangements that would 2009. However, in the absence of support- ensure funds for minimum standards of ing entitlement reforms, this reform has social service benefits. It should also hold remained largely symbolic. Some provincial local authorities accountable for providing pilots have involved liberalization of hukou services to all residents. The operating prin- within their administrative jurisdiction, with ciple of such fiscal reform should be “money or without exchange of rural and urban enti- follows people” and could be implemented tlements. Chongqing, for example, adopted through a national net-settlement system or the “exchanging three rural clothes for five other reforms of intergovernmental fiscal urban clothes” policy—the rural clothes responsibilities. This would encourage all cit- being homestead land, farmland, and con- ies to use residence-based rules for access to tracted forestland, and the urban clothes public resources through an incentive-based being pensions, medical insurance, housing, approach rather than through command and employment, and education. A similar local- control. ized hukou conversion pilot in Chengdu did The concerns of urban residents regard- not require the exchange of rural and urban ing eligibility for social services in the cities entitlements. In a number of large cities and should also be taken into consideration. provinces such as Shanghai, Shenzhen, Zhe- Urban residents are concerned about poten- jiang, Guangdong, Jiangsu, Chongqing, and tial deterioration in service quality in cit- Chengdu, parallel residence permits have ies if their localities must absorb the costs been adopted, linking provision of social ser- of service provision for migrant popula- vices to these permits rather than to hukou tions.13 Managing such perceptions may be status (World Bank and DRC 2013). a signifi cant element of the reform agenda The conditions of the residence permit sys- and will require actions to improve services tem differ across cities, as described in box for all. 3.1. Some cities offer easier access to residence permits but more limited access privileges, whereas others offer a better package of enti- A modern residence system—An tlements but have stricter criteria for obtain- institution to regulate access at the ing a residence permit (for instance, Shang- local level hai). Other cities mix the two approaches for The shift to a modern residence system will individuals with temporary residence permits be a challenging process that could benefit and those with permanent and fuller entitle- from lessons of experience. This section high- ments (for instance, Zhejiang). lights some relevant experiences with similar The experiences of other countries and the reforms to date, both within and outside European Union (EU) during its enlargement China, to provide insight into the challenges provide useful insights on rules for establish- in granting residency and to point to possible ing residence and the associated benefits. In solutions. Building on these lessons, the sec- the EU, a “right to reside” is linked to one’s tion discusses some of the major elements to employment status for the working age eco- be considered for China’s residence permit nomically active population from EU mem- system, including sequencing and phasing of ber states other than the one where one is reforms, political economy considerations, born. Workers and self-employed people have and other factors that may affect the reform the right to reside without any conditions process. but must have the proper documentation INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 189 BOX 3.1 China’s experience with residence permits Guangdong is the largest migrant-receiving province, receive, unemployment insurance in the formal sec- housing nearly 30 million migrant workers. The pro- tor, and free or subsidized vocational training. Using vincial government introduced the residence permit a lottery, authorities in Chongqing give residence card in early 2010 to manage the floating popula- permit holders access to subsidized public housing tion in all cities of the province. Guangdong also is rentals, with the subsidy covering about half of the the first province to replace the traditional hukou market rental price. In the three rounds of lotteries to quota system with a point system for hukou conver- award subsidized public housing rentals, more than sion, gradually lowering the conversion criteria for 100,000 people were granted subsidized rental units. migrants. The points are calculated based on edu- These subsidized public rentals are also open to long- cation, vocational certificates and profession, years term residents who do not own residential property, of social insurance contribution, charitable activi- allowing for the creation of mixed neighborhoods. At ties such as blood donation and volunteer work, and this time, only intraprovincial migrants are eligible government awards. Between 2010 and 2011, about for subsidized rental units. 696,000 migrants were converted through the point Shanghai introduced a point system in 2013 to system. allow people with stable employment in the city to In Shenzhen (one city in Guangdong), a perma- apply for a residence permit. Points are calculated nent residence card is granted to nonlocal hukou resi- based on the resident’s age, years of experience, and dents over 16 years of age who are employed, have social insurance contributions in Shanghai, as well as investments, own properties, are overseas returnees, educational and technical qualifications. Residents or possess “creative talents.” A “temporary residen- who make a significant investment in Shanghai, or tial card” is granted to those who do not have jobs, who otherwise contribute to boosting local employ- investments, or private property in Shenzhen. Perma- ment, earn 100 points; those providing false infor- nent residence cards allow migrant workers to enjoy mation lose 150 points. Those residents who violate the same housing, medical, educational, and pension the family planning policy or have a record of crimi- benefits as those with local hukou. Shenzhen issued 5 nal offenses are disqualified. A total of 120 points is million such cards by the end of 2008. required for a residence permit holder to be entitled In Chongqing, a residence permit seeker must have to social benefits such as social insurance and to the a job and must have worked for five years in the cen- right to have their children take the national college tral city of Chongqing or for three years in a township entrance exam in Shanghai. The health insurance within the municipal boundary. They can become subsidy and the subsidy for social housing are not registered residents only in the places where they have automatically provided to residence permit holders. been working. The package includes free access to In 2013 Tianjin promulgated its point system (to compulsory schooling, the same subsidies for health take effect in 2014), and Beijing announced that it and retirement insurance plans that urban residents will formulate its residence permit system in 2014. Source: World Bank staff compilation based on policy directives and documents of various provincial authorities. to prove their status, such as a certificate of mentioned above. One can lose the right to employment or proof of self-employment.14 permanent residence only through an absence In the case of students or economically inac- of more than two consecutive years, although tive individuals (for example, unemployed the directive stipulates reasons for when such or retired), the right to reside involves prov- an absence is acceptable. ing that they have comprehensive sickness EU migrants to member states enjoy privi- insurance as well as sufficient resources to leges such as access to social assistance, edu- not become a burden on the host EU coun- cation, and health care, which make the resi- try’s social assistance system during their dence rules meaningful. The general working residence.15 The “right to permanent resi- principle is that EU citizens and their family dence” requires five years of continuous legal members residing in the territory of another residence in the host EU country, and once member state enjoy treatment equal to that acquired, it is not subject to the conditions of nationals of that host country. Box 3.2 190 URBAN CHINA provides details on the eligibility of EU before demanding services that are restricted migrants for various social benefits in mem- to residents.16 Durational residency obligates ber states. a person to show that, in addition to being In the United States, the bona fide and a bona fide resident of the state, he or she durational residence requirements regu- has resided there for a stipulated period of late local access. Bona fide residency simply time. For example, to be able to send their requires that the person establish residence children to public primary and secondary BOX 3.2 European Union migrants’ eligibility for social benefits in member states Goals set out in the European Union (EU) treaties of “habitual residence” is confirmed in the host coun- are achieved by several types of legal acts, including try. Such benefits (sickness, maternity and equivalent regulations, directives, recommendations, and opin- paternity benefits, old-age pensions, preretirement ions. A regulation, such as a social security regula- and disability benefits, survivors’ benefits and death tion, is a binding legislative act and must be applied grants, unemployment benefits, family benefits, ben- in its entirety across the EU. A directive, such as the efits in respect to accidents at work and occupational right to education, is a legislative act that sets a goal diseases) vary considerably from one member state to that all EU countries must achieve. However, decid- another. The EU provisions do not harmonize them ing how to achieve that goal is up to the individual but instead provide for their coordination, aided countries. by establishment of common rules and principles Right to education (under EU directive): Children that have to be observed when applying national of EU migrants are entitled to attend school in any laws. Every member state is free to decide who is to member country under the same conditions as nation- be insured under its legislation, which benefits are als of that country. They have the right to be placed granted, under what conditions (for example, based in a class with their own age group, at the equivalent on residence, employment or occupational activity, level to their class in the country of origin (regardless completion of certain periods of insurance), how these of language proficiency) and to receive free language benefits are calculated, and what contributions should tuition in both the language of the new country and be paid. The principal rule is that employees (and the the country of origin. self-employed) are covered by the social security sys- Right to health care (under EU regulations): tem of the country in which they are employed (work), Insured individuals moving temporarily to member irrespective of where they live or where the employer states are entitled to necessary medical treatment is based. For the unemployed (students, retirees), their upon presentation of a European Health Insurance right to social security is determined in accordance Card, issued by the competent authority of their home with the legislation of their country of residence. country. Treatment is provided by public health care Right to noncontributory social assistance and providers and is subject to the same user fees charged housing assistance: The EU rules on social security to local permanent residents of the host country. For coordination do not apply to (a) social and medical those residing for longer periods of time, European assistance benefits normally granted on the basis Commission regulations on social security coordina- of one’s means, (b) taxation, and (c) certain special tion provide that all insured persons are entitled to cash benefits that are noncontributory and aimed at health care (including long-term care benefits) pro- ensuring minimum resources for those without other vided for under the legislation of the Member State in means of support. Such assistance is provided by and which they reside. These benefits are to be provided at the expense of the institution of the country of by the institution of the place of residence in accor- residence and in most cases is paid to people whose dance with their statutory conditions, procedures, pension or income is below a certain level. The EU and rates, as though the beneficiaries were insured directive on equal treatment (2000/43/EC) applies under the host country legislation. to a wide range of spheres, including housing, and Right to social security or insurance (under EU prohibits discrimination, but responsibility for imple- law): Social security benefits have to be granted to menting the directives in its legal framework is left to people from other EU member states once their place each member country. Source: European Commission website, http://ec.europa.eu. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 191 school for free, families must establish bona some solutions. The main lessons and issues fide residence (actual physical presence plus include the following. intent to remain there) in the school district. However, for eligibility to pay lower in-state Large city bias (resident) tuition at public higher education Rules for accessing residence permits are institutions and to access state education most restrictive in large cities, where rural grants, most U.S. states enforce a durational migrants are concentrated. In large cities residence requirement of at least one year (Beijing and Shanghai are prime examples), (excluding any time as resident to enroll for strict conditions are imposed on the entry the sole purpose of attending an educational of migrants. At the same time, in small and institution). medium cities, social services and social pro- Japan uses two distinct registry systems to tection are less generous, contributing to the manage citizen information: (a) the basic resi- limited success of the policy in attracting dent registry ( Jūminhyō) and (b) the family migrants there. registry (Koseki). The basic resident registry lists sociodemographic information (name, Selection of migrants with desired address, date of birth, gender, nationality, sta- characteristics tus of residence, and so on), along with infor- There are systematic differences in the treat- mation related to social benefits and insurance. ment of migrants based on their socioeco- Registering in the basic registry is required nomic status, which runs counter to the when accessing various social services, includ- government’s goal of reducing inequalities. ing registering children at a local school dis- This situation is especially true in larger cit- trict or starting or renewing national health ies, where reforms have generally focused on insurance membership. It basically serves as selecting migrants with the desired charac- proof of residence, such as for opening a bank teristics and on attracting high-skilled and account or applying for government permits. wealthy individuals (B. Zhang 2012; Zhang Since 2002, Jūminhyō information has been and Tao 2012). In many cities, the result has available electronically through the Jukinet been that mainly the better-off migrants are electronic registration system, which is used able to obtain local hukou, thus widening by more than 1,700 local governments in the welfare gap between local and nonlocal Japan. The system has helped simplify proce- hukou holders Poorer migrants are excluded dures for moving in or out of the country and in a variety of ways, in some cases by explicit for obtaining a residence registry card, and entry barriers regarding skills, investments, has eliminated the need to attach a copy of the or income. Other cities achieve rationing resident’s record in administrative procedures. of hukou through strict interpretation of In December 2008, it also eliminated the need requirements for income or work and place of for pensioners to annually confirm eligibility residence—for example, by excluding those for benefits, because the basic resident regis- renting apartments and those without for- tration network reports directly to the Japan mal employment. Other cities impose stricter Pension Service on behalf of the pensioner. In time requirements for granting residence, for contrast, the Koseki is the formal record of a instance, five years of prior residence for low- family’s (rather than an individual’s) history income people versus two years or none for and is mainly used as proof of citizenship. It others. is not normally used to verify information or required to obtain government services (Sen Cities as welfare magnets 2014). Local governments are concerned about becoming magnets for so-called benefits tourism. Local governments in richer areas Lessons and concerns or areas with higher-quality services fear that China’s pilots point to a number of chal- residents from other jurisdictions may move lenges in granting residence, but the pilots in to shop for benefits. Long-time residents and international experience also suggest show or prove their connectedness to the 192 URBAN CHINA local government by paying taxes and paying with lower socioeconomic backgrounds were into the social insurance system, which also more reluctant to accept migrants, as were allows services to remain fiscally sustainable. residents of cities with higher employment Internationally, the evidence of wel- pressures. fare benefit–induced geographic mobility is These concerns are not unique to China, mixed. For example, little evidence has dem- and animosity toward migrants is docu- onstrated that immigrants within the EU mented across many societies.18 The United receive excessive welfare support relative to States and the EU, both large unions with natives. The general fi ndings are that immi- diverse residents and high migration, had grants are either as likely or less likely to be to manage these processes. These tensions receiving support, and no strong link is seen often arise from the perception that migrants between welfare generosity and immigra- compete for scarce jobs and are a drain on tion (Dustmann, Frattini, and Halls 2010). resources in the form of publicly funded ser- However, strong evidence from Brazil indi- vices. Confl icts between migrants and resi- cates that rural dwellers tend to move to the dents are likely to be more intense when the cities for better social services.17 Further- receiving area is ethnically homogenous and more, strong evidence from the United States migrants and native populations are easily showed that rural-urban migration has net identifiable, when migrants dominate cer- positive effects on cities, despite the initial tain economic activities, and when migrants concerns about fiscal costs and possible nega- fare better than natives. Some fi ndings also tive effects. In the United States in 1967, one show that antipathy toward foreigners is cor- of every five urban residents over age 14 had related with the proportion of migrants in the migrated from a rural area. Although such population. migration imposed short-term fiscal costs, Managing these perceptions will be a sig- in the long run, migrants paid more into the nificant element of reform for China. The system than they had taken out of it (Petersen national government has a distinct role in and Sharpe 1969). Their economic gains, this process as a mediator of stakeholder though low during the migrants’ first five interests. Some strategies for national and years in cities, increased rapidly thereafter local governments include improving services (Wertheimer 1970). for long-term urban residents and migrants alike, allowing private provision of high-end Social tensions and competition for urban services within the appropriate framework, services and encouraging remedial programs for Local urban residents in China have concerns migrants so they can join the mainstream. about potential impacts on service quality if their localities must absorb the costs of ser- Elements of the residence permit system for China vice provision for migrant populations. One survey of local residents in Guangzhou shows These experiences suggest that the shift from that more than half of urban residents agree the hukou system to a modern residence sys- that rural migrants deserve the rights to enjoy tem should be national and unified. It should health insurance, have compulsory educa- be based on a phased strategy and involve tion, join the labor union, and vote. However, consultations with various stakeholders to about the same number are against migrants explain the strategy for reform. Some key applying for unemployment compensation, steps and considerations in undertaking such dibao, and low-rent housing (Liu 2008). reform are described below. Another study, conducted in 2010 using the The shift from the hukou system to a mod- 2005 National Comprehensive Social Survey ern residence system for defi ning eligibility data, found that residents from places with for basic services will involve several steps. better public service provision and higher These steps include the following: public service quality tended to be more reluctant to accept migrants (L. Wang 2010). • First, the central government will need to The study also found that urban residents define the principles and national frame- INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 193 work of the residence-based system, includ- follows people,” which could be implemented ing the system by which local governments through a national net-settlement system or should grant residency to people living in other reforms of intergovernmental fiscal a specific locality and the sequence of en- responsibilities. titlements that accrue upon attaining a In developing this national framework, residence permit. It may not be practical to one important issue to consider is the extent expect common levels of eligibility criteria to which it should have common standards in the short to medium term, but the central for all types of urban settings. To date, the government should set minimum guidelines national authorities have promoted a variable for local governments to follow and create strategy for obtaining hukou depending on a time-bound pathway for extending access city size and status. It could be argued that privileges. making acquisition of local hukou in smaller • Second, under the national framework, lo- cities easier can help promote agglomeration cal governments can define the qualifying effects in regions where market forces may periods to move from one step of the en- not be as strong drivers as in more prosper- titlement sequence to the next. As discussed ous areas. However, global practice has above, many localities have already imple- shown that closer convergence of qualify- mented localized residence permit systems ing conditions for obtaining local residence with different approaches and require- permits across all types of cities would help ments. In the initial phases, it is unlikely achieve truly unified citizenship, although that all social entitlements of current local this is unlikely to be politically feasible in the residents could accrue immediately upon short to medium term and is best considered obtaining a residence permit, but for funda- a longer-run policy goal. mental rights, the requirements should be Another consideration is the core criterion very simple and low. to be used for determining residence when • Third, the conditions and requirements for granting a residence permit. The key ques- obtaining a local residence permit should tion is whether residency for a prescribed converge over time, supported by broader period should itself be sufficient or if some reforms such as fiscal and tax system re- additional criterion should be applied, typi- form, equalization of public services, and cally a period of employment. International rural-urban integration. experience is not defi nitive on this question, • Fourth, the residence system should be with variation across and even within coun- facilitated by an information technology tries and jurisdictions. For China, a residence (IT) platform based on a set of national permit system based purely on period of resi- standards for exchanging population data dence is unlikely to be workable in the short across jurisdictions, building on the unique to medium term in larger and affluent cities national identification (ID) and social secu- for a number of reasons: rity cards. • Political economy. Local hukou residents Although full convergence of residence and local authorities would be reluctant to permit policies may take a decade or more, accept such a mandate, particularly with- establishing an elaborated national frame- out an overhaul of the intergovernmental work for residence permits is an urgent pri- fiscal system to better match local revenues ority. Negotiations with subnational authori- and fiscal transfers with the total popula- ties will be required to balance the desire tion residing in a city. for common national standards with local • Gaps in the current registration system for discretion. Reforms also need to be accom- movement to or from different areas. Al- panied by a change in intergovernmental fis- though in principle migrants must register cal responsibilities that would promote fiscal their new residence within three months, sharing arrangements for social service pro- in practice, tracking such movements fully vision for all residents. The operating prin- between areas and even within districts is ciple of such fiscal reform should be “money difficult. 194 URBAN CHINA • Incentive structure. A purely residence- guiding socioeconomic principles, such as the based system may weaken incentives for following: migrants to participate in formal sector employment and accompanying social se- • Entitlements that generate externalities be- curity, labor protection, and other schemes. yond the individual city should be given pri- ority. As mentioned above, the most obvious For cities where demand for migrant example is basic education, given the na- workers exceeds supply, political economy tional economic benefits of a well-educated factors will differ, and the desire to expand population. Another example is the basic the local workforce may outweigh the second public health care package, as vector and and third considerations. disease control in one area has impacts be- If a permit system based purely on resi- yond that jurisdiction, given the mobility of dence is not feasible for the foreseeable future populations. A third example might be em- in larger cities, an argument can be made to ployment services, given the economic ben- make some entitlements subject to a period of efits of better matching workers and jobs. residence only (perhaps 6 to 12 months). The • Entitlements that increase the possibility obvious entitlement that should be based on for families to live together should also be residence alone is basic education for children prioritized. Basic education is again an ex- of migrants. This already has a clear basis in ample. Evidence on crime rates and other national policy, minimizes intergenerational socioeconomic issues among left-behind transmission of inequality, has substantial children is persuasive, as are the costs of di- lifetime externalities beyond the city, and vorce and family problems with split fami- would minimize the problem of left-behind lies. Facilitating family co-residence may children. Basic health care services is another also help address emerging challenges such example. as child care costs and the growing need for Beyond that very limited set of basic home-based care of elderly people. entitlements that should vest quickly and • Entitlements that are largely self-financing, be based on residence only, other entitle- such as urban worker pensions, health in- ments could be subject to a work require- surance, and unemployment insurance, ment of some form. Formal sector social should be immediately accessible to mi- insurance schemes already link entitlements grants. Efforts will also be needed to pro- to contributions through the employer. The mote their uptake among employers and more complex entitlements are resident pen- migrant workers through policies and in- sion and health insurance schemes, dibao, formation systems that improve portability and social housing. For migrant workers in and accelerate higher-level pooling of con- formal employment, the issue is one of sim- tributions to lessen the spatial fragmenta- ply deciding the appropriate prior period of tion of social insurance. residence and employment and the extent to • Entitlements that are primarily of a wel- which that period differs across entitlements. fare nature should be considered later in Migrant workers in informal employment the sequence, with the exception of short- pose a more difficult case, as verification of term support, such as disaster relief or employment is challenging. temporary social assistance, and probably Another consideration is the extent to specific groups such as people with dis- which the national framework should pre- abilities. The obvious examples of welfare scribe the sequence for all cities to follow in entitlements are dibao and social housing. granting entitlements to migrants and the cri- Although these entitlements should be part teria for prioritization. A case can be made of the overall package associated with ob- for mandating a common national sequence taining a local residence permit, for politi- for entitlement acquisition, rather than giving cal economy, welfare dependency, and other cities total discretion to specify conditions for reasons, policies may vest them only after acquiring certain entitlements. A common a more extended period of residence and national sequence could be based on some employment. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 195 The rationale for including such prioriti- for obtaining a local residence permit will zation in the national framework is to real- become a potential source of competition ize gains for the country that individual between cities seeking to attract workers. jurisdictions may not perceive as having This is already happening with respect to socioeconomic benefits. Strong guidance highly skilled or wealthy migrants, and recent to localities within the national framework experience in some Pearl River Delta cities would help promote fairness and common suggests that similar labor market dynamics treatment countrywide. It would also pre- will increase competition for workers with pare the ground for longer-run convergence midlevel and even lower skills over time. across different types of cities in the detailed In any reform of hukou policy, the set local criteria for residence permit acquisi- of complementary policies that will affect tion. If the national authorities provide a fis- migrant demand for residence permits must cal transfer for a transitional period to assist also be considered. Perhaps the strongest cities in taking on enhanced responsibilities is rural land policy and the implications of for basic services to migrants, adoption of assuming the urban residence permit for land the sequencing for entitlement acquisition claims in areas of origin. Studies suggest that could be a condition for cities to receive their fear of losing rural land claims is a signifi- central transfer. cant deterrent to migrants in converting their Development of an IT platform will be hukou.19 A range of other policies, such as important for providing quantitative infor- portability provisions (or lack thereof) in mation to facilitate fiscal allocations as well pension and health insurance schemes, may as for supplying data for monitoring and also affect demand for residence permits. evaluation. Setting up the IT platform should The interaction of such policies with the pro- start with establishing national standards posed residence permit reform will need close for information systems and the exchange of attention. data on mobile populations. A fully central- ized national database seems overly ambi- The current urban standard of social tious at present, but a common platform will services: Financing, delivery, and be essential. Such a system can serve as the the cost of extension to migrant information backbone of shared guidelines populations for social services, including a population registration system for the purposes of fiscal As China moves toward a modern residence transfers. The system could rely on match- permit system, it will be important to deter- ing of the unique residence and individual mine what the modality of service provi- identification, verification, and validation. sion will be and to ensure adequate funding Program eligibility can be consolidated to for the extension of services to migrants. allow individuals to move and still receive Although providing the current “urban stan- benefits from another location, as well as to dard” of social services is critical to making ensure that individuals are residents in only urbanization inclusive, the costs of extending one place at a time. Box 3.3 describes current such services can place considerable strain on efforts to build China’s resident population local government budgets. This section takes database. stock of progress in providing the urban Another factor that will influence hukou standard of social services and describes policy over the longer run is labor supply the fi nancing and delivery arrangements. It and demand. The discussion above assumes then proposes options for extending services excess demand among migrants for local to migrants and their families and provides residence permits, at least in larger and more indicative estimates of how much it would affluent cities. However, faced with a shrink- cost to equalize access to public resources ing working-age population—and more within cities for residents with and without specifically the shrinking pool of surplus local hukou. rural labor—cities will increasingly com- The current urban standard of social ser- pete to attract workers. If so, the conditions vices, which goes beyond the current basic 196 URBAN CHINA BOX 3.3 China’s resident population information system—Setting up a comprehensive population management information database Currently, the collection and management of data the resident population in China. Other government on the resident population in China relies on several departments, such as health, education, labor, tax, sources of information. These sources include the and fi nance, have also set up their own population Population Census (including the small-scale cen- information systems. sus), the Population Sample Survey System, as well as Recent national and provincial-level pilots can the information collected by various administrative inform the next steps in setting up the resident pop- departments, including most notably the Department ulation database. In 2002, the government released of Public Security (the police department) compiled the “National Informatization Leading Group’s into a basic population information database. Vast Guidance on How to Build E-government in China improvements in the accuracy and sharing of infor- forwarded by General Office of CPC Central Com- mation will be needed before these can be used for mittee and General Office of the State Council” and building a resident population database. the “Special Plan for Informatization of the National In the past, the police department was in charge Economy and Social Development,” recognizing the of all household registration, which included infor- basic population information database as one of the mation on births, deaths, temporary registration, four major national databases. In 2004, the State and household migration, according to the House- Informatization Office, Ministry of Public Security, hold Registration Rules of the People’s Republic of Ministry of Labor and Social Security, State Taxation China released in 1958. After the 1980s, with more Bureau, and National Standardization Management and more people not living in the place where their Committee jointly launched the pilot integration of households were registered, the accuracy of this sys- basic population information from these departments tem came under question. The 2003 Administration for select cities and provinces (Hunan, Shanghai, Approval Law made it no longer mandatory for citi- and Yangzhou). In June 2007, the Ministry of Public zens to show their birth control certificate to apply Security developed an “Online System for Checking for a temporary residence permit, and cities also lifted Citizen ID,” offering ID services for banking insti- the registration fee levied on migrants. Registration tutions. In February 2009, the Ministry of Human of the migrant population dropped precipitously, so Resources, Labor, and Social Security followed up by local governments attempted to reform their popu- preparing to build a nationwide social security infor- lation registration system through issuance of resi- mation inquiry system (using personal ID numbers as dence permits. Although registration is not universal social security numbers) to help beneficiaries check for migrants, it remains a valuable source of data on their pension and benefits records at any time. Source: B. Zhang 2010. package of social services, varies by loca- Financing of public social services is tion. The current package of social services highly decentralized, with subnational gov- in urban China includes nine years of free ernments accounting for 85 percent of total compulsory education, access to basic public government spending. As shown in fig- health care services, social security (medical ure 3.4, China’s subnational governments and old-age pensions) for formal sector work- dominate every major functional category ers and for residents, a social assistance pro- of public sector expenditure except defense, gram, and a welfare housing security system. accounting for at least 95 percent of spending The 12th Five-Year Plan commits to a wide for most major functions of government (edu- range of social services that go beyond the cation, social protection, and health). In com- current package. 20 The current urban stan- parison, the average proportion of financing dard varies across China’s provinces, regions, by subnational governments is 26 percent and cities and is financed from different in transitional economies and 32 percent in sources, both public (central and subnational) Organisation for Economic Co-operation and private. and Development (OECD) countries. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 197 The fiscal relationship between the central FIGURE 3.4 Central and subnational expenditure by function, 2011 government and provincial governments is defined by a system of tax sharing and trans- fers. 21 The fiscal relationship between the Education Social protection individual provinces and their subordinate General services units of administration (prefectures, coun- Agriculture ties, and districts) is complex. On the revenue Community affairs Transport side, each province has an arrangement for Health sharing certain taxes with its prefectures, Public security which in turn have arrangements for shar- Defense Energy ing taxes with their counties. Responsibilities Science for providing social services are assigned to Housing local governments at the subprefecture lev- Environment Vehicles els—counties and townships for rural schools Culture and clinics, and districts and street offices for Land affairs urban. Other Until 2000, the system had no transfer 0 2,000 4,000 6,000 8,000 10,000 12,000 14,000 16,000 18,000 mechanisms to ensure that local governments RMB (100 million) had sufficient resources to meet expenditure Central Subnational responsibilities, which amplified regional disparities. Subnational governments mobi- Source: NBS 2012 (China Statistical Yearbook 2012). lized extrabudgetary resources to support continued service provision. Schools, hos- pitals, clinics, and other public service pro- The large system of central-to-provincial viders collected fees and donations and gen- transfers strongly targets resources for social erated other revenues, including by running services toward rural areas and the western enterprises. Even in 2000, extrabudgetary and central provinces (figure 3.5). For exam- resources fi nanced as much as half of total ple, for the Two Exemptions and One Subsidy expenditures in schools. Since fees and other (TEOS) program and the New Mechanism extrabudgetary resources are tightly linked (described in box 3.4), the central government to per capita incomes, the high dependence provides 80 percent of the costs for western on extrabudgetary fi nancing has tended to provinces and 60 percent for central provinces widen regional disparities.22 but only a minor percentage for the eastern Reforms of the 2000s sharply increased provinces except Beijing, Tianjin, and Shang- the amount of central government resources hai. Differential treatment can also be seen for the social sectors. For example, bud- in urban and rural compulsory education, get expenditures for universal compulsory with central transfers targeted almost entirely education increased seven-fold in real terms at rural schools. The universal exemption from 2000 to 2010.23 An essential package of from miscellaneous fees was applied to rural health care, delivered through primary health schools starting in 2006 for the western prov- centers with funding from the central govern- inces and in 2007 for all other provinces. In ment, was introduced in 2009. A nationwide urban schools, the exemptions were mandated voluntary rural pension scheme was rolled to begin in autumn 2008. 24 Notably, for out, and the broad design was replicated in urban schools, the cost of subsidies to offset mid-2011 for urban residents, both subsi- revenue losses from fee exemptions are borne dized by the central government. To support entirely by subnational governments, mostly these policies, the central government has at the lower levels (State Council 2008). greatly expanded general inter-governmental Therefore, left to manage within their own transfers and introduced many program- budget envelope, municipal governments in matic transfers, starting its efforts with the urban, migrant-receiving areas find it dif- rural sector where financing problems had ficult to pay for social services for a float- been the most acute. ing population. These services are costly to 198 URBAN CHINA FIGURE 3.5 Per capita subnational revenues and transfers, of extending them to the migrant popula- by province/region, 2011 tion. The subsections elaborate on the system of delivery; the cost of extending services to Tibet the migrant population; and financing frame- Qinghai works for compulsory education, basic public Shanghai health care, social security (medical and old- Beijing age pensions), social assistance, and welfare Tianjin housing.25 Inner Mongolia Ningxia Xinjiang Access to compulsory education Liaoning Hainan Current status and challenges Chongqing The current official policy on the right of Jilin migrant children to universal compulsory Jiangsu education is residence based, which repre- Shaanxi sents a dramatic policy change that has taken Heilongjiang place over the past two decades. In 2001, the Zhejiang Gansu State Council’s “Decision on the Reform and Shanxi Development of Basic Education” introduced Guizhou the idea of the two mainlys: migrant children Guangdong should be accommodated mainly locally and Yunnan mainly in public schools. Several important Fujian policy documents followed in 2003 to 2005, Sichuan starting with the Central Document No. 1 of Jiangxi 2003, issued jointly by the Communist Party Hubei Anhui of China Central Committee and the State Guangxi Council, which emphasized the need to sup- Hunan port the migration of farmers into cities and Shandong to ensure that their rights are respected and Hebei that discrimination ceases, which includes the Henan right of their children to universal compul- 0 5,000 10,000 15,000 20,000 25,000 sory education. More recently, a 2008 State RMB per capita Council policy resolution extended free com- Revenues Transfers pulsory education to all schools and called on urban local governments to treat migrant children on the same basis as local children Source: NBS 2012c. in allocating school expenditures, both for those enrolled in public schools as well as for provide, and central government policies those enrolled in minban26 schools. on social service provision for migrants are The urban local governments receiving often considered to be unfunded mandates. migrants are required to establish a mecha- In Hubei province, for example, education nism for guaranteeing funding for the school- absorbed an average of 24 percent of county- ing of migrant children and to provide finan- level budgets in 2007. In Wuhan and Huang- cial assistance to schools that have enrolled shi municipalities, education accounted for more migrant children. In 2003, the Joint 25 and 26 percent of district expenditures, Notification issued by the Ministries of respectively, reaching as much as 37 percent Finance, Labor and Social Security, Public in some districts. Security, and Education, and the Family Plan- The subsections that follow take a closer ning Commission called for the establishment look at the different types of social services of a funding mechanism for public services in the current urban standard and the costs for migrant workers by incorporating their INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 199 BOX 3.4 Central government resources for compulsory education Education transfers. In compulsory education, the borrowed for school construction, including those central government introduced a program to provide for many village schools. free textbooks, which became known as the Two Exemptions [of the textbook fee and miscellaneous General transfers. In terms of general transfers, the fees] and One Subsidy [boarding subsidy] or TEOS. central government increased support for universal The government extended the TEOS to all rural stu- compulsory education in rural areas by supporting dents in compulsory education, beginning with the salary payments. One of the most important trans- western provinces in 2006, then all provinces start- fers is the wage adjustment transfer (WAT). First ing in 2007. To ensure adequate funding for schools, introduced in 1999 and intended only to offset the the government introduced a new transfer, the “rural cost of the wage increase mandated by the central education operating cost guarantee mechanism” government, the WAT has grown rapidly over the (often called the New Mechanism). As a long-term past decade as public sector wages have risen steeply. framework for upgrading the quality of school build- It now accounts for the vast majority of wage pay- ings, the School Safety Program was introduced, ments at the subnational level. In Hubei province, under which the central government provides subsi- for example, because teachers make up 60 percent of dies for a portion of agreed maintenance and con- public employees at the county level, this transfer is a struction costs of schools. Starting in 2006, the gov- principal source of central government fi nancial sup- ernment also rolled out a program to help resolve the port for rural universal compulsory education. education debts of subnational governments that had Sources: Chen 2005; interview with government officials from the Comprehensive Department, Ministry of Finance, March 2013; and “State Council Notification on Deepening Reform of New Mechanisms for Ensuring Funding of Compulsory Education,” State Council (2005) No. 43, December 24. expenditure needs—including for educating that 98 percent of migrant children ages 7 to their children—into the scope of recurrent 14 were enrolled in school. Among them, 69 budgetary expenditures (Ministry of Finance percent were enrolled in public schools, 25 and others 2003). A 2003 State Council cir- percent in private schools, and only 6 percent cular also directed that fee levels for migrant in “schools for children of migrant work- children should be reviewed and reduced to ers.”27 In 2010, Shanghai became the first be more in line with those for local students. municipality to declare that it had achieved For children of low-income migrant workers the aim of providing universal compulsory with unstable jobs and residences, fi nancial education places for the city’s migrant chil- assistance should be provided to defray fees, dren (Yuan 2013). Longitudinal data assem- provide free textbooks, and so on. bled by the Research Institute for Community Many migrant-receiving cities appear to Education show that in Beijing, the number have made great strides in enrolling migrant of school-age migrant children nearly tripled children in their public schools over the past during 2001 to 2010. The rapid increases in decade. A Ministry of Education (MOE) sur- migrant children in Beijing and their public vey found that in 2009, nearly 80 percent of school enrollment are shown in table 3.3. the 9.97 million migrant children enrolled in However, China still has many left-behind urban schools were in public schools, and in children who are not enrolled because they 19 provinces, this share reached more than remained in the villages or have dropped out 90 percent (Yuan 2013). Similarly, a 2009 of school. In some cities, the proportion of survey of migrant populations in Beijing, migrant children enrolled in public schools Shanghai, Shenzhen, Taiyuan, and Chengdu has stayed roughly the same, for example, at by the Family Planning Commission found about 40 percent in Guangzhou (H. Wang 200 URBAN CHINA TABLE 3.3 Enrollment of migrant children in universal compulsory education, Beijing municipality Migrant children Migrant children Migrant children as Share of as a percentage Migrant enrolled in a percentage of all migrant children of public school All students children public schools compulsory enrollment enrolled in public enrollment (number) (number) (number) (%) schools (%) (%) 2001 1,338,904 150,000 99,571 11.2 66.4 7.8 2002 1,286,082 180,000 134,980 14.0 75.0 11.0 2003 1,239,976 240,000 170,839 19.4 71.2 14.8 2004 1,220,442 320,700 212,263 26.3 66.2 19.5 2006 1,121,033 370,000 255,846 33.0 69.1 25.9 2008 1,082,036 400,000 276,047 37.0 69.0 29.5 2010 1,058,998 438,000 306,668 41.4 70.0 33.7 Source: Yuan, Wang, and Ding 2013, table 2–3. 2013). Some indicative data in table 3.4 show • High legal and regulatory barriers (Mon- the large gap between the potential number tegomery 2012). In general, the procedure of migrant children who could be enrolled for migrant workers to enroll their children and the reported actual enrollment numbers. in a local school is complicated. They are Several barriers continue to keep migrant required to submit many documents to the children out of the mainstream urban educa- local education department—the typical tion system, including the following: number appears to be five, as reflected in the common reference to “the five documents,” • Capacity constraints in urban schools.28 although Foshan requires 16 and Ningbo Lack of capacity is a common reason given requires 10 (Xinhuanet 2009). Table 3.5 for not accommodating all migrant children summarizes some of the conditions for en- in urban public schools. Migrant children rolling migrant children in public schools, are placed at the bottom of the waiting list including some hidden rules, such as having for school places and are admitted only after the necessary relationships or connections urban (hukou-based) demands have been (guanxi). The common perception among met. In cities with large migrant children migrants is that getting their children into populations, local officials cite the high cost urban public schools remains difficult. of building new schools as a reason for not • High costs of schooling. High costs con- being able to absorb all migrant children. tinue to pose a barrier for many families. Despite the repeated calls to treat migrant children on an equal footing and abolish all “rental” and school selection fees, many TABLE 3.4 Status of migrant children enrollment in universal public schools continue to levy them, of- compulsory education in selected cities, various years ten with local urban government approval. Enrollment of migrant children Total (thousand) One recent survey on migrant education in population Migrants Guangzhou found that annual costs were City/year of reporting (million) (million) Potentiala Actualb more than RMB 2,000 for over 60 percent Shanghai (2012) 24.3 10.5 1,155.0 500.0 of children in public schools, more than Beijing (2009) 19.6 7.1 775.0 393.1 RMB 3,000 for 31 percent, and less than Guangzhou (2011) 12.7 4.8 523.6 362.4 RMB 1,000 for only 15 percent (H. Wang Ningbo (2012) 7.6 2.3 251.7 289.0 2013).29 Migrant children who are not in Chengdu (2010) 14.1 2.6 288.3 173.8 public schools must usually pay tuition and China 1,370.5 221.4 24,356.9 12,000.0 other fees for the private schools they at- Source: 2010 Population Census. Shanghai figures are from Beijing Foundation 2013. tend. Shanghai is the exception, with tuition a. Based on the average 11.1 percent share of the population enrolled in universal exempted even in private schools (although compulsory education in 2011. This is likely an underestimate because rural migrants have a higher birth rate and hence a younger age structure than the overall population. only those approved by the government). b. Estimated from reported shares of migrant children and various news reports. Elsewhere, private schools receive little or INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 201 TABLE 3.5 Conditions for migrant children’s enroll in public schools, 2011 Share in public City schools (%) Eligibility requirements Ease of enrollment Hidden rules for enrollment Shanghai 70 The five documents, Relatively difficult Rely on guanxi (relationships) including proof of immunization Guangzhou 40 Residence for six or more months, Very difficult Large sponsorship fee stable job and income, graduated from local kindergarten Kunming 55 Three documents, including Family Difficult Rely on guanxi or large Planning Certificate sponsorship fee Beijing 70 The five documents, including a letter Relatively difficult Good schools require large certifying that the child cannot be sponsorship fee cared for in hukou jurisdiction Source: Adapted from Yang 2011. no government funding support, and the in providing free basic education to migrant costs are borne largely by the students. In children, although the subsidies seem small Guangzhou, where half of the enrolled mi- compared to the costs. The performance grant children are in private schools, a sur- measures include total number of migrant vey found that over 70 percent of them pay children enrolled in school, proportion of more than RMB 4,000 per year. migrant children who are enrolled in pub- • Policy requiring students to take univer- lic schools, proportion of enrolled migrant sity entrance exams in the province of children who are from outside provinces, their hukou. The policy also discourages and amount of fiscal input and subsidies pro- migrant children from enrolling in urban vided. However, there is little information on schools, especially junior middle school. how central subsidies for migrant children’s Because schools’ curricula differ across education are distributed. Data from selected provinces, students who did not study in available reports are presented in table 3.6, the local schools are often disadvantaged. which shows that financial assistance is avail- As a result, migrant children may be kept in able to the districts and counties that are the the cities through primary school but sent main recipients of migrant children, but that home for junior middle school. assistance covers only a minor portion of total costs. In 2008, the central government intro- Although reforms and increased central duced a program of fiscal incentives to government injections have greatly improved reward provinces that have performed well the financing of universal compulsory TABLE 3.6 Assistance in financing migrant children’s education Amount of Share of City Source of assistance assistance (RMB) Date cost per child Jiangsu Central government 671,000 2008/11 RMB 813 per child Nanjing Central government, province, and municipality 37,000 2012 RMB 523 per child Guangdong Central government 500,000 2012 RMB 140 per child Ningbo Central government 2012 2–3% Chengdu Central government 4,500 2012 5% Beijing Municipality 100,000 2009 3.3% Shanghai Municipality 2,000 per child enrolled 2012 10% Sources: World Bank staff field visit May 2013; Beijing Foundation 2013; H. Wang 2013; Yuan 2013. 202 URBAN CHINA education, these changes have not created GDP. Under the assumption that all left- a sustainable fi nancing framework because behind children will accompany their parents of insufficient local government funds. The to the cities by 2020, the cost of extending fi nancing framework provides little central compulsory education more than doubles to government assistance to municipalities to about 2.27 percent of 2012 GDP. fund the integration of migrant children. In At present, public schools are qualitatively most municipalities, nearly all of the respon- far superior to private schools in China, aside sibility falls on districts and counties, which from the small number of elite private schools often have inadequate resources and lack the that most of the population cannot afford. motivation to comply with central policy. This value is reflected in almost all conven- Moreover, the financing burden on grass- tional measures of inputs, such as school roots subnational governments is heaviest in facilities and buildings, student-teacher the rich, coastal provinces. Under the current ratios, and teacher qualifications. Numer- financing framework, these subnational gov- ous studies also confirm the superiority of ernments receive scant assistance from cen- public schools in educational outcomes. For tral government funds for universal compul- example, Chen and Feng (2013) found that sory education since they are predominantly migrant students enrolled in private schools urban and eastern. For them, the current performed significantly worse than their policies on education of migrant children are public school counterparts in Chinese and costly but largely unfunded mandates. mathematics. In principle, the system could be adjusted In this context, improving access to public to make the funding that is currently aimed schools would certainly raise the quality of at rural schools follow the children who education for migrant children, but it is not migrate to cities to help finance their transfer the only way. Efforts to reform education ser- to urban schools. The New Mechanism (for vices for migrant children need to include a nonsalary operating costs) is well designed mix of more concerted efforts to make pub- for this purpose, because the funds are allo- lic schools more accessible to migrant chil- cated on a capitation basis by school enroll- dren as well as improve migrant schools to ment. However, most of the central transfers match public school standards. The relative go to salary payments and thus cannot be importance of the two approaches will differ reallocated.30 depending on current policies, status of inte- Another solution would be to revise whole- gration, existing capacity of public schools, sale the revenue and expenditure assignments and so on. Political economy considerations for provinces and to give provinces a bigger are also important, and efforts will be needed role in both financing and managing service to assuage the concerns of urban residents provision. 31 The current system of central and the community at large and to address government transfers is complex and non- the unwillingness of public school officials to transparent, making it difficult to identify admit migrant children. all the transfers provided for compulsory Some lessons for a more cost-effective education. As a result, local officials either solution to providing migrant children with overestimate or underestimate the amount access to education may be drawn from the of assistance received. The system is also Shanghai model, in which the government administratively cumbersome and imposes has actively provided financial and technical high costs for monitoring and supervision. support. In 2008, when Mayor Yu Zhengsh- eng declared that Shanghai would strive to Considerations for next steps in urban provide free universal compulsory education inclusive education for all migrant children during the 11th Five- Under the current delivery modality and cost Year Plan period, the municipal government structure of the urban school system, the cost initiated a large program to build hundreds of of expanding access to compulsory educa- new public schools. It also undertook a pro- tion for migrant children who are in the cit- gram to selectively purchase places in private ies with their parents is 0.98 percent of 2012 schools to accommodate migrant children.32 INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 203 Although Shanghai is not alone in relying on purchases, and infrastructure investments, private schools to absorb migrant children, including the provision of an essential pack- what distinguishes it as a model is that the age of public health and basic medical ser- government has taken an active role in help- vices as described below. The second consists ing to upgrade the quality of private schools of two urban insurance schemes: (a) a man- with financial and technical support.33 These datory urban employee scheme (UEBMI), efforts made it possible for Shanghai to be which covers formal sector workers and first in declaring success in providing univer- is financed mainly through employer and sal compulsory education places for all of the employee contributions but with a small city’s migrant children in 2010 (Beijing Foun- government subsidy and (b) a voluntary dation 2013). urban resident scheme (URBMI), which cov- In light of the difficulties with cost con- ers urban nonworking residents and those tainment in the public school sector, the workers (typically informal) not covered by Shanghai model for private schools may be UEBMI and is heavily subsidized by differ- worth considering in the search for more ent levels of government. 34 Most migrants affordable, cost-effective solutions. At pres- with rural hukou are covered by the volun- ent, the private schools in Shanghai remain tary and subsidized national rural scheme, a second-best solution, since they are quali- the New Cooperative Rural Medical Scheme tatively inferior to public schools and are (NCRMS).35 supported at a fraction of the cost of public The essential package of public health and schools. With continued improvements in basic medical services is delivered through quality and conditions, they could perhaps be community health centers (CHCs) to urban converted gradually to public schools. Alter- populations—including migrants—in their natively, they could develop as a separate catchment areas. From the start, central gov- stream and impose competitive pressure to ernment policy included migrants as recipi- bring improvements in public schools. ents of the essential package of public health and basic medical services. The government specifies a national minimum standard for Access to health care and insurance fi nancing the public health and basic medi- Current status and challenges cal package. The package typically includes During the past decade, China has launched nine categories of services: health informa- two waves of reform to improve access to tion system, health education, immunization, health care, which have important implica- prevention and control of infectious diseases, tions for any efforts to expand coverage to child health promotion, maternal and geri- migrant populations. The first wave, initi- atric health care, chronic diseases manage- ated in the early and mid-2000s, expanded ment, and the management of severe cases health insurance coverage through the cre- of mental health problems. The package has ation of subsidized rural and urban insurance expanded over time to include interventions schemes. Building on these earlier reforms, such as hepatitis B immunization, screening the government unveiled a more ambitious for cervical and breast cancer for women and comprehensive program of health system 15–59 years of age, and cataract surgery for reform in 2009. Any effort to expand cover- poor patients. age to migrant populations must be viewed in The essential package is funded by a capi- the context of the organizational, fi nancial, tation grant based on the permanent popu- and delivery arrangements put in place or lation (including migrants) in the catchment planned under those reforms, particularly for area. On average, the capitation subsidy basic care access and insurance coverage. should be shared equally between central and Urban residents are covered for health local governments. In practice, however, the care through two fi nancing arrangements. contributions of central, provincial, and local The fi rst involves direct or budgetary subsi- governments vary considerably.36 dies allocated to facilities to cover operating Whereas some CHCs have been con- costs (for example, staff salaries), equipment verted to “fully funded service units” and 204 URBAN CHINA receive budgetary support for personnel and urban facilities) then seek reimbursement capital expenditures, most still depend on from NCRMS upon visiting their county fees charged to patients, which may hinder of residence, usually during long holidays access for migrants. Local governments often (Meng and others 2012). Few can afford receive little assistance in fi nancing primary to wait many months for reimbursement. care, including the essential public health and Therefore, though many migrants are cov- basic medical package. The burden falls most ered by NCRMS, they cannot realistically heavily on the municipal, district, and county and conveniently take advantage of benefits levels and even the street offices of towns and under the scheme when they access health townships). Nearly all CHCs attempt to make services in urban areas. up the financial shortfall by charging fees for many basic medical services rather than Proposed options and corresponding reducing benefits. Although the percentage of rationale for migrant conversion to urban total revenues from fees has fallen with the health insurance schemes increase in government subsidies, in 2010, 63 Equalizing access to health care services for percent of CHC revenues were derived from migrants in the cities implies incorporating “business income” (CCHDS 2011). them into one of the urban health insurance With respect to insurance coverage, despite schemes. Although the 2010 insurance law the government’s policy of open enroll- calls for merging the three social insurance ment, available data indicate that coverage schemes into a single scheme, it is generally of urban insurance schemes is low among agreed that implementation will be a long- migrants. Although migrant workers can in term endeavor, given the differences in insti- principle enroll in URBMI, in many cities tutional arrangements, benefit design, man- URBMI does not cover informal workers or agement systems, and risk pooling (World migrants and targets local residents, includ- Bank 2011). Table 3.7 summarizes the major ing the poor, elderly, disabled, and children. characteristics of the three schemes in terms Some URBMI schemes cover migrant chil- of eligibility, sources of financing, fund man- dren but not the migrants themselves (Harris agement, and service packages. and Wang 2012). Migrants with permanent The three health insurance schemes vary employee contracts are eligible for coverage considerably in terms of fund collection and under UEBMI and pay a reduced premium management, benefit package, health care of 2 percent of salary. However, the ben- utilization, and medical expenditures. As efit package is shallow, and reimbursement shown in table 3.8, UEBMI is the most gener- rates are low (World Bank 2011). In 2008, ous, with premiums being seven times higher about 31.3 million migrants (or approxi- than in NCRMS and URBMI. Although mately 21 percent) were covered by UEBMI co-insurance rates of the three schemes are (World Bank 2009). In addition, some cit- similar, co-insurance levels and in turn out- ies—Shanghai, Chengdu, Shenzhen, Zhuhai, of-pocket (OOP) spending as a percentage and Beijing—have created special schemes of total expenditures are much higher for for migrants, but coverage is also limited and NCRMS and URBMI. UEBMI has higher often requires high copayments. inpatient utilization, while outpatient utili- According to government data, the major- zation is similar across the schemes. Medi- ity of migrants are enrolled in NCRMS, but cal expenditures per outpatient visit under they are less likely to enjoy NCRMS benefits URBMI and UEBMI are two and three times compared to their counterparts who actu- higher, respectively, than those of NCRMS, ally reside in rural areas. NCRMS, which while medical expenditures per inpatient charges lower premiums than URBMI and visit are four times and five times higher, has deeper benefits, is county based, and respectively.37 reimbursement arrangements occur there This analysis considers two options for and are not portable for most rural migrants. incorporating migrants into the urban insur- Enrollees would fi rst have to pay for care (in ance schemes: (a) converting all migrants to INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 205 TABLE 3.7 Summary of characteristics of the three health insurance schemes Location of Service Schemes Eligibilities Source of fund fund pooling package NCRMS Registered rural Government subsidies and individual County Inpatient and population contributions outpatient care UEBMI Urban employees Employers and employees Municipal Inpatient and (prefecture) city outpatient care Self-employed workers Individual premiums Municipal Inpatient and (prefecture) city outpatient care URBMI Urban nonworking Government subsidies and individual Municipal Mainly inpatient residents contributions (prefecture) city care Note: NCRMS = New Cooperative Rural Medical Scheme; UEBMI = mandatory urban employee scheme; URBMI = voluntary urban resident scheme. URBMI and (b) converting workers with and to expand migrant enrollment in urban wage income to UEBMI and those with non- health insurance schemes. 38 In 2011, about wage income to URBMI. Cost estimates for 42 percent of government subsidies were these options include the fi nancial require- allocated to budgets (for example, direct sub- ments to operate and maintain the urban net- sidies) that supported program implementa- work of mainly primary care facilities that tion and facility operations and investments, are the main providers of the essential pack- including provision of the essential ben- age of public health and basic medical care efit package. Nevertheless, health insurance TABLE 3.8 Comparison of the three health insurance schemes Arrangements NCRMS URBMI UEBMI Premium and fund pooling (2011)a Per capita premium (RMB) 246 269 1,960 % from individuals 20 30 96.5b % from government subsidies 80 70 3.5 Fund pooling County Municipal Municipal Benefit package (2012)c Number of types of drugs in the list 1,138 2,150 2,150 Deductibles (RMB) 600 1,300 1,300 Co-insurance (inpatient care) (%) (policy) 30 30 20 Co-insurance (outpatient care) (%) (policy) 50 50 30 Ceiling (RMB) 75,000 100,000 100,000 Health care utilization (2011)d Outpatient utilization (%, last two weeks) 15.2 14.8 13.9 Outpatient visits (number, per capita, last two weeks) 1.7 1.6 1.6 Hospitalization rate (%) 8.5 9.4 12.8 Unit medical expenditures (2008)e Medical expenditure per outpatient visit (RMB) 72 150 200 % of out-of-pocket spending (generalized data) 65 60 30 Medical expenditure per inpatient (RMB) 1,440 4,000 6,000 % of out-of-pocket spending 67 50 36.8 a. World Bank staff compilation based on statistical yearbook and statement reports from the Ministry of Health and Ministry of Human Resources and Social Security. b. In the total fund from individuals, 76 percent from employers, 20.5 percent from employees. c. Estimated based on plans of the insurance schemes of selected counties and municipal cities. d. Based on data from a nationwide household survey conducted by the Ministry of Health in 2011. e. Based on data from the national health services survey in 2008. The figures are median. 206 URBAN CHINA schemes are absorbing an increasing share started to reform its pension system in the of government subsidies. In 2011, 45 percent mid-1980s and undertook a major struc- of total government health subsidies were tural reform of its urban pension insurance allocated to health insurance schemes and scheme in the late 1990s. By the mid-2000s, medical assistance funds. These subsidies are the traditional work-unit-based social insur- calculated by applying 7 percent and 9 per- ance program was transformed into a mul- cent annual growth rates in medical spending tipillar system. In late 2009, starting with to estimate fi nancial requirements for both rural areas, China rolled out a nationwide 2015 and 2020. voluntary pension scheme that combines a Assuming 7 percent growth in medical matching contribution subsidy to an individ- spending, improving health care access and ual account with a basic flat pension benefit expanding insurance coverage for migrants after retirement for workers who have con- will require additional government financ- tributed for 15 years. By the end of 2012, the ing (budgetary and insurance subsidies com- voluntary pension schemes were established bined) of 0.11–0.15 percent of 2012 GDP in in all counties and cities for rural and urban 2015 and 0.27–0.37 percent of 2012 GDP residents. in 2020, depending on the insurance option Currently, China’s pension system com- selected. Assuming 9 percent growth in prises four types of saving schemes: (a) the medical spending, government fi nancing of urban worker pension scheme, (b) the rural 0.12–0.16 percent of 2012 GDP in 2015 and and urban resident pension schemes, (c) 0.32–0.46 percent of 2012 GDP in 2020 will schemes for public service unit (PSU) employ- be required. As described earlier, implement- ees and civil servants, 39 and (d) voluntary ing robust cost-containment measures will enterprise and individual pension savings require deepening health sector reforms. arrangements. As this report was being final- The central government can help facilitate ized, the Chinese government announced and stimulate improved access and insurance that it combined the rural and urban resi- coverage for migrants by setting targets for dent pension schemes and allowed for the rural-to-urban conversion, with the aim of transfer of individual contributions from the achieving full coverage of both the essential resident scheme to the urban worker pension package and enrollment in an urban insur- scheme. The main characteristics of the cur- ance scheme. For the essential package, rent schemes are presented in table 3.9. CHCs can enroll migrants and their families Pension coverage in urban areas increased in their catchment areas and use tracer indi- significantly over the past five years. In urban cators to measure the effectiveness of access areas, the number of contributors to urban to the essential package (for instance, vac- employee pension schemes increased from cinations, prenatal and well-baby coverage, 104.5 million in 2000 to 229.8 million in registration of the chronically ill in disease 2012 (figure 3.6). During the same period, management programs, reduction in wait- total urban employment coverage increased ing times). For health insurance, the gov- from 45.1 percent to 61.9 percent. The num- ernment can set annual enrollment targets ber of urban retirees who received pensions under the selected option while also setting also increased from 31.7 million in 2000 benchmarks for increasing depth of coverage to 74.5 million in 2012. Among all urban (additional benefits such as ambulatory care workers who contributed, 16 million were and chronic disease coverage) and reducing from government and public organizations, reimbursement rates. accounting for 38.9 percent of total civil ser- vants and PSU employees. However, pension coverage among Old-age security migrant workers, the self-employed, and Current status and challenges workers in the informal sector has lagged. China’s pension system has reached two Based on administrative data from the Min- milestones in expanding its coverage. China istry of Human Resources and Social Security INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 207 TABLE 3.9 Summary of characteristics of the major pension schemes in China Urban Worker Pension Scheme Rural and Urban (UWP) Resident Pension Schemes (RPS) Eligibility/ Urban enterprise employees (equivalent to formal Rural and urban residents 16 years of age coverage sector workers, but excluding public sector workers), and older, excluding students including migrant workers and the self-employed Participation is voluntary for urban workers in the informal sector, the self-employed, and rural migrant workers Financing Individual contribution plus employer contribution Individual contribution plus government subsidies and/or subsidy from rural collectives Participation Mandatory Voluntary Contribution Individuals contribute 8% to the individual account RMB 100–1,000, 1,500, 2,000 annually and employers contribute 20% of payroll to the social pooling account Government subsidy Governments provide subsidies to fill in the shortfalls RMB 30 matching contribution to the of pension benefit expenditure individual account annually; RMB 55 basic monthly pension Benefits Accumulation in the individual account divided Accumulation in the individual account by 139, plus a basic pension from the social pooling divided by 139, plus RMB 55 per month account basic pension Individual account Accumulated benefits from the individual account Annuity from the individual account Social pooling Basic defined-benefit pension Basic flat benefit Vesting 15 years 15 years Fund management Partially pooled at the provincial level through an Specific account at the county level adjustment fund Source: World Bank staff compilation based on various policy documents. FIGURE 3.6 Pension coverage for urban workers in China, 2000–12 250 100 90 200 80 70 150 60 Millions Percent 50 100 40 30 50 20 10 0 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Contributors (left axis) Retirees (left axis) Pension coverage (right axis) Source: NBS, China Labor Statistical Yearbook 2012; Ministry of Human Resources and Social Security (MOHRSS) Statistical Bulletin of Human Resources and Social Security Development 2012. 208 URBAN CHINA (MOHRSS), the number of rural migrants Options for extending pension coverage participating in the urban employee pension to migrant workers and their cost and scheme increased from 14.2 million in 2006 financing to 45.6 million in 2012. This represents an In extending urban pension schemes to cover increase in the coverage rate from 10.8 per- rural migrant workers, it is important to con- cent to 27.8 percent, but it remains less than sider how the costs will be fi nanced as well half of the coverage rate of urban workers. as how the legacy costs of the urban pension Data from the 2005 and 2010 China Urban system will be addressed. Legacy costs are the Labor Survey (CULS) confirms that, although costs associated with past service rights for migrant worker participation in the pension civil servants and PSU workers who join the system roughly doubled between 2005 and urban workers scheme (UWS) with accrued 2010, it reached only about one quarter of rights (the so-called old men and middle migrants, much lower than the 80 percent men). The legacy costs are financed from participation among local workers. current contributions and necessitate large Two factors explain the low participation central government transfers to fi ll in gaps rate of rural migrant workers in the urban for provinces where the pension system runs employee pension scheme: First, high contri- deficits. From 2004 to 2011, government bution rates discourage both employers and subsidies for the UWS increased from RMB workers. China has some of the highest social 57 billion to RMB 207 billion, account- insurance contribution rates and labor taxa- ing for 2.0 percent of total general revenue tion in the world. Although participation in and 0.5 percent of GDP in 2011. In 2011, the urban employee pension scheme is man- 14 provinces could not cover their pension datory under the 2011 Social Insurance Law, obligations and ran deficits (Zheng 2013). employers have limited incentive to make the Following Dorfman and others (2013) and required matching contributions for their Wang and Dorfman (2014), this report rec- employees (Gallagher and others 2013; Giles, ommends developing a fi nancing strategy to Wang, and Park 2013). Instead, they often resolve the legacy costs outside the reformed collude with local governments and offer dif- pension system. ferential wage levels with and without social Options for extending pension cover- insurance contributions. Because most rural age to migrant workers could include par- migrant workers are quite young and have ticipation in the urban employee pension unstable employment, making contributions scheme, the urban resident pension scheme for old-age income support is not a high pri- (RPS), or some combination of both. Rural ority for them. Therefore, they tend to choose migrant workers are typically engaged in the higher wage levels offered by employers wage-based work with labor contracts or are for not participating in urban social insur- self-employed. For wage-based rural migrant ance programs rather than the lower wage workers with labor contracts, it is reasonable levels offered for participating. Employers to encourage them to participate in the exist- also avoid making social security contribu- ing urban employee pension scheme. Rural tions by hiring workers through subcontract- migrant workers who are not paid wages ing companies that are not subject to the could perhaps join the urban resident pen- same requirements. sion scheme (that is currently being combined Second, historically, full social insurance with the rural resident pension scheme). rights have not been portable. Rural migrant Two types of costs are associated with workers could only withdraw accumulated rural migrant workers who join urban pen- funds from their individual accounts if they sion schemes: left the city where they made contributions. In 2009, the State Council initiated measures • Government subsidies for basic pension supporting the transfer of pension rights and matching contributions under the ur- and benefits across provinces for the urban ban resident pension scheme. Although worker pension scheme in order to improve the design of the urban resident pension portability, but its implementation has been scheme is similar to the rural resident pen- limited so far. sion scheme, local governments are encour- INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 209 aged to top up the pension subsidies based caused a rise in urban poverty. Studies show on local fiscal capacity. Wealthier cities tend that in many countries in Latin America and to offer higher subsidies for basic pension South Africa (Ravallion 2002; Ravallion and and matching contributions. For each city, others 2007), urbanization was accompanied accepting nonwage rural migrant work- by the increased prevalence of urban slums, ers into the urban resident pension scheme crime, and violence (Rice 2008; Brenner and requires additional subsidies from the city Theodore 2012). Using the CULS data in government. 2005, Park and Wang (2010) found that the • Pension liabilities from social pooling ac- difference in the poverty rates of migrants counts under the urban worker pension and local residents is relatively small in China. scheme. The current design of the urban Including rural migrant families in urban worker pension scheme has a larger so- dibao and welfare housing programs can help cial pooling account compared with the foster inclusive urbanization. The subsection individual account in order to redistribute following discusses the issues of eligibility and income across workers and between gen- access to two welfare-enhancing programs: erations. Because the average wage of rural urban social assistance and welfare housing migrant workers is lower than the average for the migrant population. wage chosen as a base for social insurance contributions, rural migrant workers would Social assistance receive the benefits of income redistribu- The dibao program has become the backbone tion from the social pooling account. Given of China’s social safety net. Urban dibao was the pooling at city or county level and the introduced in 1997 to assist in the reform of pension account deficits in most cities, lo- state-owned enterprises (SOEs) and provide cal governments would be responsible for income support for laid-off workers and their those liabilities if the existing urban worker families, and then rural dibao was intro- pension scheme does not change. duced as a national program in 2007. The dibao programs provide nonconditional cash This analysis considers two options for transfers, with the aim to serve as the last incorporating migrants into urban pension resort of income support for poor households schemes. In the first scenario, one-third of with per capita incomes below locally deter- rural migrant workers participate in the UWS mined thresholds. The targeting approaches (the current baseline) and the rest participate are based on an income-plus-asset test to in the urban resident pension scheme. In the measure actual household income, and the second scenario, 80 percent of rural migrant amount is determined such that it fills the gap workers participate in the UWS, and the rest compared with local dibao thresholds. By participate in the urban resident pension 2012, China had 23.4 million urban dibao scheme. The fiscal cost of integration under beneficiaries, accounting for 3.0 percent of these scenarios is about 0.03 percent of 2012 the urban residential population, and 53.5 GDP in 2015 and 0.06 percent of 2012 GDP million rural dibao beneficiaries, account- in 2020. If both the government subsidies and ing for 8.3 percent of the rural population future pension liabilities are annualized and (figure 3.7). discounted to their present values, in 2015 the From the perspective of local city govern- cost increases to 1 percent of 2012 GDP in ments, extending access to dibao and other the first scenario and to 1.95 percent of 2012 social assistance programs poses an addi- GDP in the second scenario. In 2020, the cost tional fiscal burden. Because these programs would be 1.09 percent in the first scenario have been targeted at households with local and 2.19 percent in the second scenario. hukou, rural migrants in cities are ineli- gible for the programs. Extending coverage to rural migrants after they meet eligibility Access to social assistance and welfare housing and qualifying conditions should be consid- Although urbanization of poverty has been ered, but the increased burdens on already a policy concern for many countries, the stretched local government budgets will need massive internal migration in China has not to be addressed. 210 URBAN CHINA FIGURE 3.7 Urban and rural dibao beneficiaries in China, 1996–2012 60 50 Dibao beneficiaries (million) 40 30 20 10 0 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Urban dibao Rural dibao Source: 2012 China Social Statistical Yearbook; Ministry of Civil Affairs 2013; 2012 Statistical Bulletin of Social Services Development. Although central transfers for dibao have Managing the inclusion of rural migrant increased substantially, the amount var- families in urban dibao and other social ies significantly by province, with receiving assistance programs also poses a challenge areas for rural migrant workers getting no for local governments. Program thresholds central budgetary allocations. The urban and and benefits differ significantly between rural dibao programs were fi nanced largely urban and rural areas. With higher benefits by local governments in the initial stages, in cities, the inflow of poor rural migrant but the central government has increased its families would place greater pressure on public inputs and fiscal transfers significantly urban fi nance and could threaten the urban since then. For urban dibao, the share of social assistance system. If dibao eligibility is central transfers increased from 29 percent linked to a residence-based approach, clear in 1999 to 65 percent in 2012. Notably, the rules are needed on some minimum duration coastal provinces—the receiving places for of residence, such as three to five years), with rural migrants—receive no central budgetary or without additional criteria such as employ- allocations, while both the central and west- ment status or housing status to prevent fam- ern provinces—the sending places of rural ilies from moving simply to take advantage migrant workers—do receive allocations. For of social benefits. Verifying the income and example, in Zhencheng city in the Pearl River assets of migrants can be difficult, adding to Delta area of Guangdong province, 95 per- the challenge of program administration. cent of funds for urban dibao and 85 percent Cost estimates of the extra financial of funds for rural dibao came from local gov- resources needed if cities extend urban dibao ernment in 2012. In contrast, in Heilongji- to rural migrant workers are based on the ang province, 70 percent of funds for urban same coverage rate as for the urban popula- dibao came from the central government, 16 tion with nonagricultural hukou, which is percent from provincial government, and 15 4.6 percent. The total annual cost of extend- percent from local city government in 2012. ing dibao to the eligible migrant population Within a province, the richer prefecture cit- would make up about 0.04 percent of 2012 ies normally receive no or small budgetary GDP. allocations from the central and provincial governments, and the central and provincial Housing governments play a much more important Mainly as a result of the historical legacy, financing role for cities in lagging areas. nearly 84 percent of urban households INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 211 holding local hukou live in homes they own, several large cities, such as Guangzhou and which is a very high rate of homeownership Shanghai, long-term urban residents and by international standards. This high level of urban migrants have similar access to hous- home ownership is the result of government ing (Huang and Jiang 2009; Li 2012; Logan, policies in the 1990s to liberalize the housing Fang, and Zhang 2010; Zhang and Chen market by allowing occupants of work-unit 2013), suggesting that hukou type matters housing to purchase homes at heavily dis- less than income. counted prices (Man, Zheng, and Ren 2011). Privatized public housing accounted for Under the central planning system, housing the largest form of government assistance was publicly owned and allocated through in access to housing, but since this form of work units, resulting in low levels of invest- housing is a matter of historical legacy, its ment in the housing sector, chronic shortages, impact will continue to decline over time. substandard-quality housing stock, and poor Although many of these privatized units are living conditions for most urban residents, of low quality and will need replacing, many in part because the rent collected was not of the owners are unable to afford housing at sufficient to cover maintenance costs (Y. P. current rates. In 2010, less than 10 percent Wang and Murie 1996). Not until 1998 did of households had access to the subsidized the direct production and allocation of hous- home-ownership program—5 percent lived ing by employers truly end, and even then, in homes purchased through the Economic some employers continued to provide hous- and Affordable Housing Program, and 3 per- ing allowances so employees could purchase cent rented through the Low Rent Housing housing on the market. Gradually, housing Program, which was meant to serve the poor- was transformed from being a component est households. of the basic social welfare package to which The current investment in social housing is all urban employees were entitled to being a not reaching the intended beneficiaries. Gov- privately owned commodity largely supplied ernment programs that aim to support home by the private sector (Man, Zheng, and Ren ownership have primarily benefited middle- 2011). and upper-income households. The recently With the market dominating housing introduced Public Rental Housing Program production, housing prices have increased dramatically in recent years. The bulk of the housing supply is created through com- FIGURE 3.8 Modes of access to dwellings in urban areas, mercial housing development and is sup- by household plied through the private sector (figure 3.8). Returns on investment in the housing sector have been dramatic in the past 20 years, with Cheap rental Other housing prices across urban areas doubling between 1999 and 2010 and increasing by more than Privatized public 3% fivefold in cities like Shanghai and Beijing. 5% Other rental housing housing These prices are fueled by rising land prices, which are the primary source of fi scal rev- 17% 23% enue for local governments. This trend has Economically made the Chinese housing market severely affordable 5% housing unaffordable (Man, Zheng, and Ren 2011). 5% Affordability, rather than residence sta- 16% Resale tus, now poses the biggest barrier to having commodity 26% access to good-quality housing. People who housing Self-built did not benefit from privatization—such as housing New commodity the urban poor, young entrants into the labor housing market, and rural migrants—suffer most from the lack of affordable housing (Li 2012; Zhang and Chen 2013). Studies show that in Source: NBS 2010. 212 URBAN CHINA is a government rental program explicitly renters contribute to the efficiency of the open to migrants without a local hukou, but labor market. Research has shown that econ- it has primarily been used to attract talented omies with small rental sectors tend to face professionals and is not serving low-income higher migration costs and labor rigidity. wage earners or the poor.40 Given China’s fast rate of urbanization and The formal and informal rental markets economic development, it requires a more provide an important source of housing, and flexible and adaptable labor force. Renting their importance is likely to grow over time. provides tenants with the flexibility to adjust Since housing is so unaffordable in many of to employment and income changes and China’s large cities, the bulk of low-income requires little or no savings. housing is provided outside formally estab- A top-down approach to social housing lished government programs through col- policy exacerbates distortions in the housing lective housing (for example, dormitories market and results in a mismatch of supply provided by employers), private rental units and demand. A key challenge for local gov- in urban villages, or on the urban fringe. In ernments in China is that targets and objec- Shanghai, for instance, only 5.5 percent of tives for social housing are determined by the migrant households can afford to purchase central government. These policies outline the commercial housing, and about 80 percent range and level of coverage and even stipu- are renters.41 Although prices in the formal late planning, design, size, quality, and safety rental market have been increasing steadily, requirements, thereby creating a system of rental rates are still growing at a significantly unfunded mandates for local governments. slower rate than housing prices. Moreover, the social housing that municipal Although the informal rental market is governments provide in response to central vibrant, innovative, and diverse, informal government targets is not necessarily what is rental markets are inherently risky because needed or demanded by households. In many tenants lack security and have few protec- large cities, this results in relatively high tions. Half of China’s estimated migrant vacancy rates in suburban locations and lack population live in about 50,000 urban and of sufficient housing in more central areas. suburban villages across the country. Pockets Although the central government should of urban villages, such as the Gaojiabang area provide incentives for local governments and in Shanghai, provide low rents (and low qual- developers, planning for housing should be ity) in areas with spontaneously increased done by local governments through careful density (Wu, Zhang, and Webster 2013). analysis of local conditions. To better align This informal residential market has led to housing supply and demand, market studies fast growth of so-called small-property-rights should be carried out to fi nd alternatives to housing, although renters have no legal pro- building by some formula. A “housing obser- tections with such housing and the govern- vatory” is needed to collect systematic infor- ment has issued many documents prohibiting mation on housing markets and demographic them. Another example of informal rentals and socioeconomic data to capture trends is the secondhand rental of municipal public in housing affordability and finance. This rental units, part of the old housing stock that information will enable local governments to could not be privatized because the govern- defi ne the nature and scope of policy inter- ment considered their quality to be too poor. ventions required to effectively align hous- Despite their poor condition, all these rep- ing demand and supply. Without such ongo- resent desirable options for many migrants ing monitoring, policy interventions may be because they are affordable and located misguided. within the urban core. However, these units The development of a privately led rental are also primary targets for demolition under market that serves different market seg- the inner city renewal programs. ments (including low-income households) A policy that focuses primarily on home will enable the government to focus direct ownership is neither fiscally possible nor eco- assistance on those who need it most. A well- nomically desirable. By being more mobile, developed and competitive rental market INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 213 will promote affordability for all income example, the United States Department of segments, whether local or nonlocal hukou Housing and Urban Development provides holders. This market could be accomplished housing assistance to renters through a pro- through the formalization of housing devel- gram commonly known as Section 8, which opments in urban villages, which could trig- provides housing vouchers or direct pay- ger higher investments and introduce better ments to private landlords. Under the Section standards in housing for migrants.42 Urban 8 program, tenants pay about 30 percent of villages offer affordable housing to migrants their gross income for rent, with the remain- when urban governments fail to provide such der of the market-rate rent subsidized by the housing, and they offer rural collectives new program. and significant income sources that often off- set the negative impacts of the government’s Framework for cost sharing and incentives for previous land requisition. Urban villages thus municipal government to integrate migrants into provide support to the two most vulnerable urban areas groups in China’s urbanization: the migrant population and dispossessed farmers. The annual cost of extending access to com- To address the housing needs of the low- pulsory education, basic public health care est-income households, demand-side sub- services, social security (medical and old- sidies based on a means-tested targeting age pensions), social assistance, and welfare approach should be considered. Although housing to current migrants is estimated to national policies for housing often mention be about 1.22 percent of 2012 GDP (table low-income housing, the reality is that only 3.10). The cost increases to 2.51 percent of a small percentage of the allocation for new 2012 GDP under the assumption that all social housing is for low-rent housing. This left-behind children move with their parents low-income housing program is intended to to the cities, and it increases to 3.14 percent serve households that do not qualify for a of 2012 GDP if, in addition to the cash flow mortgage. A means-tested targeting system, cost of extending the urban old-age security which most likely would piggyback on the to migrants, the discounted accrued liability existing targeting process for dibao, would costs are accounted for. Accounting for both determine the level of support that will allow of these costs and changing the assumptions a household to rent through a private market. Rental vouchers could be used to implement the demand-side subsidies and will also help TABLE 3.10 Cost of extending urban social stimulate development of the rental market. services to cover rural migrants Percentage of 2012 GDP The annual cost of this option is between 0.02 2015 2020 and 0.11 percent of 2012 GDP, depending on the assumptions regarding coverage and the Education amount of the subsidy. Migrant children currently in the cities 0.98 0.95 International experience has shown that All left-behind children 2.27 1.97 maintaining decent housing over the long Health services 7 percent annual cost increase 0.15 0.37 term is almost impossible without such 9 percent cost increase 0.16 0.46 demand-side subsidies for a specific segment Old-age security of the population. Although such incen- Cash flow cost 0.03 0.06 tives involve significant fiscal costs, they are Accrued liability cost 1.95 2.19 much more efficient than supply-side incen- Social assistance 0.04 0.05 tives. Most countries with advanced hous- Housing ing and housing finance systems rely heavily 2 percent coverage 0.02 0.02 on demand-side subsidies such as housing 10 percent coverage 0.11 0.11 allowances, vouchers, or cash assistance to Total maintain affordability. It is extremely rare Lower bound 1.22 1.45 for a middle- or upper-income country to Upper bound 4.53 4.78 not provide housing payment assistance. For Source: Wang, Wang, and Glinskaya 2014. 214 URBAN CHINA about the increase in medical cost and migrants, in particular), this section looks social housing coverage, the total cost could more broadly at issues of rural-urban inte- increase to 4.53 percent of 2012 GDP in 2015 gration in service delivery and overall sector and to 4.78 percent of 2012 GDP in 2020.43 reforms. Following a brief overview of the Although a transitional subsidy would context and need for such reforms, it dis- help cities expand social service coverage cusses specific reforms in the areas of educa- for migrants, fiscal system reforms will be tion, health, pensions, and social assistance. needed in the medium term to finance the The section then addresses the cross-cutting national minimum basic package of social issue of strengthening accountability to services. In the short term, a transitional improve social service delivery. subsidy to entice cities to deliver social ser- vices would help accelerate the integration of Context and challenges migrants. The overall cost is high but man- ageable, and some cities with large concen- The social policy vision for urbanizing China trations of migrants will have high expendi- should have the goal of equalizing access ture needs. In the medium term, fiscal system to basic public services across provinces reforms of both revenues and expenditures and across urban and rural areas. Such an will be needed to fi nance the national mini- approach is truly consistent with the goals mum basic package of social services, which of efficient urban development and rural- should be phased in and carefully calibrated urban integration and supports the notion to fit fiscal capacity. of equality of opportunity. The 2009 World To increase the willingness of local govern- Development Report introduced the idea of ments to provide social services to migrants, spatially blind institutions as the bedrock of fiscal resources should follow people. The an effective integration policy. Spatially blind fiscal system should be closely linked to the policies—available to everyone regardless new modern residence system—once people of location, but based on their attributes— have moved to a new location, registration should also be universal in coverage, particu- would increase the population count used for larly for regulations affecting labor and social fiscal allocations. In addition to a gain in the services. Spatially blind social services are tax base, local governments would receive critical to rural-urban integration in ensuring larger transfers from the central government that people are pulled to cities by agglomera- for delivery of the basic package. Such a link tion economies and not pushed out of rural would help make receiving cities less resistant areas by a lack of schools, health care ser- to providing services for new arrivals. vices, and social security (World Bank 2009). Although China has made remarkable progress in basic service provision in recent Social policy reforms and years, further improvements are needed in rural-urban integration both the quantity and quality of services. China has achieved widespread access to a Beyond expanding access to services in urban range of basic services: basic health insur- areas, China faces the broader challenge of ance, compulsory education, postbasic edu- delivering services equitably across the entire cation, and a rapidly expanding pension sys- country. In addition to the reforms discussed tem. In both urban and rural areas, people previously, wider sectoral and cross-cutting increasingly expect not only quantity but accountability reforms will be critical to also quality of service provision. The quan- improving equity and distributional out- tity challenge is not yet met (for instance, for comes. Such reforms would also promote early childhood development and migrant greater efficiency and cost-effectiveness as pension coverage), but the biggest chal- well as quality improvements in services. lenges for now relate to ensuring quality and Unlike in the previous section, which focused improved outcomes. more narrowly on the modalities and costs The foundation for rural-urban integra- of extending services in urban areas (and for tion is a basic minimum package of social INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 215 services and social insurance that would pro- Resources will also be needed in urban areas mote equality of opportunity with basic secu- across the country to deliver services to the rity for all. Building on the “12th Five-Year large number of new qualified users, while Plan (2011–15): The National Basic Public maintaining quality for all. Social Services System” (box 3.5), this pack- To make efficient use of these resources age could include the following elements: and to promote equality of opportunity, sectoral reforms and cross-cutting account- • An expanded cycle of quality general edu- ability reforms need to be deep and aim to cation that is accessible for all. Preprimary affect the behavior of users and providers. In education would be available affordably to the case of users, reforms should target the all, with subsidies for the neediest, and se- incentives to co-fi nance. In many cases, the nior secondary schooling would be free of current institutional rules of service provision fees. do not provide sufficient incentives for users • Pension and health insurance systems that to co-fi nance services (as in the case of old- have full coverage and provide deeper and age insurance, given the lack of portability) more uniform financial protection, inte- or to consume the appropriate level of ser- grating rural, urban, and migrant residents. vices (as in the case of health care, with insur- • A social safety net that is available for ance payments favoring costly inpatient care). the poorest and most vulnerable and has With regard to providers, reforms should not greater coherence with different parts of the incentivize providers to induce demand (as is social protection system and across China. currently the case in health care) but should instead promote delivery of outcomes. Financing this type of basic minimum An important point to make is that pro- package across China will require a large viding services on an equitable basis does not amount of additional resources. In many require that services be equal for all citizens. localities—especially rural areas—the qual- Needs, resources, goals, and social values dif- ity of services needs to be raised substantially. fer widely across China. Although all residents BOX 3.5 12th Five-Year Plan (2011–15): The National Basic Public Social Services System: The basic package and beyond The 12th Five-Year Plan identifies the lack of integra- social assistance, and security. In education, for tion between systems of basic services in rural and example, it talks about establishing mechanisms for urban areas as a major challenge, and it makes rural- co-development and sharing of compulsory education urban integration and equalization guiding principles resources among urban and rural schools and one- for future actions. Integration and equalization will on-one exchange and assistance systems. In health, it be achieved by developing standards, implementing mentions expanding one-on-one urban-rural hospi- an integrated urban-rural basic public service facil- tal assistance efforts. The Plan outlines tasks such as ity, encouraging local areas to conduct pilot reforms, national coordination of pension insurance and inte- supporting rural basic public services (through gration of the basic health insurance system in urban greater investment in fi xed assets and improvements and rural areas, as well as enhancement of the con- in the professional capabilities of rural grassroots nection between urban and rural minimum security public service workers), and developing basic public and unemployment insurance. In addition, the Plan service programs for the mobile population (particu- stresses the need for greater sharing and integration larly rural migrant workers). of information resources and encourages the use of The Plan also outlines sector-specific initiatives to information technology to facilitate rural-urban inte- promote rural-urban integration in education, health, gration in all public services. Source: World Bank staff compilation based on the 12th Five-Year Plan (2011–15). 216 URBAN CHINA of a city should be given access to equal ser- and nearsightedness have profound negative vices, residents of different cities and urban effects on their educational performance.47 and rural areas may be given different ser- Middle-income countries that have tran- vices.44 The central government may wish to sitioned to high-income status have invested establish a basic minimum package of services heavily in education and human capital. that would be offered to all citizens, with When Japan and Korea were at China’s cur- nationally assured funding as needed for every rent level of development, they had achieved jurisdiction to meet this standard. Beyond universal high school education. In contrast, this basic package, provinces, cities, or towns countries that have not escaped the “middle may raise the standard for their jurisdiction income trap,” such as Argentina, Brazil, but would be responsible for providing addi- Mexico, Arab Republic of Egypt, and Iraq, tional funding. They could raise the standard have low human capital for their income because they are more affluent, because their (World Bank 2013). China has performed residents demand different or better services more like Korea than Brazil (figure 3.9), but and are willing to pay higher taxes, or because further improvements will be difficult unless they wish to attract new residents. the population has access to higher-quality, free education. Urbanization offers unprecedented oppor- Education tunities to further this agenda but can lead Current status and challenges to fierce competition for urban services if not managed properly. As mentioned in Although China has greatly improved its the first section, with greater urbaniza- human resource endowment, challenges tion comes denser cities and more people to remain in improving educational outcomes service in concentrated masses, giving rise across the country. Thanks to a positive pol- to economies of scale in service provision. icy environment and a high level of societal However, denser cities will also place addi- demand for education, China has universal- tional stress on existing education systems, ized access to nine years of basic education, as more migrants and their children become nearly universalized enrollment in junior sec- eligible for and demand equal access to qual- ondary education, and increased enrollment ity education at all levels.48 With the demand in senior secondary education to almost 80 for services exceeding the supply, rationing percent. Almost one-quarter of high school will result when services are free, or prices graduates are now going to university. None- (for instance, placement fees, informal pay- theless, China’s gross enrollment rates of 65 ments to schools) will be introduced for what percent for preprimary education and 24 are nominally free services. In addition, the percent for tertiary education are well below greater diversity in the types of people coex- the OECD averages of 90 percent and 68 per- isting in cities today means that educational cent, respectively.45 Moreover, these national- systems face a diversity of learners. All these level outcomes mask wide disparities across are potentially at odds with the interests of social strata, rural and urban areas, coastal long-term urban residents and can lead to and inland provinces, and migrant and local conflicts if not managed properly. residents. At one end of the spectrum, Shang- Some educational challenges are becoming hai’s star performance in the 2009 and 2012 more prominent and demand more immedi- international PISA tests captivated the world, ate policy attention as a result of urbaniza- as 15-year-olds in Shanghai ranked fi rst in tion. These challenges include defining a level math, reading, and science relative to peers and standards for providing minimum pub- from 65 countries.46 At the other end of the lic education for all and developing fi nanc- spectrum are school-age children in rural ing and accountability measures to ensure areas of Yunnan, Fujian, Hunan, and other provision to both rural and urban children. poor parts of the country whose neglected Integration will also require removing struc- diseases such as anemia, intestinal worms, tural rigidities and abolishing the hukou INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 217 FIGURE 3.9 Share of urban population with secondary and tertiary education in China, Brazil, and Korea 6 1.4 Secondary school, average years attended Tertiary school, average years attended 5 1.2 4 1.0 3 0.8 2 0.4 1 0.2 6 0 0 20 40 60 80 100 0 20 40 60 80 100 Share of urban population (%) Share of urban population (%) China Brazil Korea, Rep. Source: Barro and Lee 2001; World Bank staff calculations. requirement for entrance into senior second- budget appropriations constituted just over ary education and higher education. 50 percent of total funding in 1997, and by Since 2000, the public fi nancing of uni- 2010, they made up more than 90 percent of versal compulsory education has undergone total revenues (table 3.11). The acceleration major changes. Under policies calling for of public spending became especially marked improved public services, budget expendi- after 2006, when the new Compulsory Edu- tures in education have increased rapidly, cation Law (2006) stipulated that compul- with an 8.6-fold increase in nominal terms sory education would be “implemented free and a 7.0-fold increase in real terms.49 The of tuition and fees.” The law also laid out a composition of funding for universal compul- framework for financing to cover “the whole sory education has also changed significantly: of universal compulsory education,” with TABLE 3.11 Composition of funding in universal compulsory education, 1997 and 2010 1997 2010 Junior Rural junior Rural Junior Rural junior Rural Primary Primary middle middle primary middle middle primary school school  Share of total school school school school school school Budgetary appropriations 54.3 53.1 56.3 55.1 89.8 92.7 92.0 94.4 Earmarked taxes and surcharges 16.6 17.8 16.0 17.3 5.8 4.6 4.7 3.4 incl. urban education surcharge 4.7 1.1 2.7 0.7 4.3 3.1 3.5 2.4 incl. rural education surcharge 11.1 16.3 12.8 16.4 1.3 1.2 0.9 0.8 Other fiscal resources 0.6 0.4 0.4 0.3 0.3 0.3 0.2 0.2 Profits of school-run enterprises and services 3.5 2.9 3.3 2.7 0.1 0.1 0 0 Social contributions 10.3 12.7 10.0 11.4 0.9 0.7 0.8 0.6 Fees collected by schools 9.9 10.0 9.8 10.2 0 0 0 0 Other educational incomes 4.7 3.1 4.1 3.0 3.4 1.9 2.4 1.5 Source: MOE 1998, 2011. 218 URBAN CHINA funding to be shared by governments at all high schools generally use exams to select levels while responsibility for coordinat- their students. For example, a key primary ing its implementation was assigned to the school in Shanghai accepted 60 out of provinces. 3,000 six-year-old applicants through an Although the central government has intense one-hour exam consisting of 200 greatly expanded intergovernmental trans- questions,51 despite the national policy set fers and introduced many funding programs, out in the Compulsory Education Law that wide disparities remain both across and entitles a child to attend a neighborhood within provinces. Although central trans- school near home. fers have helped stem the trend of growing regional disparities, these disparities remain In urban areas, most of the privately oper- significant. In 2011, Beijing spent more than ated migrant schools charge fees and lack eight times as much per student in junior proper accreditation from the government, middle schools as Henan—nearly RMB qualified teachers, or adequate facilities. As 38,000 compared to RMB 4,600. Wide dis- of 2007, almost 80 percent of private migrant parities can also be found across counties and schools in Beijing were unlicensed (Tian districts within provinces. In Guangdong, for and Wu 2010). Even among government- example, the 2012 provincial average was approved migrant schools, education quality RMB 5,600 per student in primary schools, is still not on par with that of public schools, whereas the average for districts in Shen- as discussed previously. As the migrant pop- zhen municipality was RMB 16,000, and ulation in urban centers continues to grow, the province’s poorest counties spent barely unequal access to public education between RMB 2,000.50 migrant children and urban students will Equality of quality in basic education continue to be an acute issue. across different areas, social categories, and In rural areas, a school merger policy is income groups remains the key challenge. being implemented, with boarding schools The equality of quality agenda is relevant to becoming important providers of education rural and urban areas in distinct ways: services. Responding to demographic trends and out-migration, the Ministry of Education • Rural areas—and especially remote areas— launched a School Merger Policy in 1999. face significant challenges in the recruit- Under the policy, education officials closed ment, compensation, and retention of qual- down small, remote schools and focused ity teachers as well as gaps in the quality of their attention on improving teaching and educational infrastructure and learning in- facilities for larger, centralized schools. The puts. Poor households also face the chal- merger policy has improved the quality of lenge of shouldering the nonfee costs of education, at least in terms of the policy goals education, especially in the face of rising of hiring more qualified teachers and improv- opportunity costs as real wages have risen. ing school infrastructure. One of the most • In urban areas, disparities are evident notable problems with the merger policy was among local children, migrants, and chil- the dramatic increase in the distance between dren from poor households and without students’ homes and schools. The govern- social connections. This can be seen in ment responded with a program to build dor- the differential enrollment rates of local, mitory facilities, and by the mid-2000s, most migrant, and poorer children in higher- students who needed a place to board had quality “key schools” and regular schools access to dormitory rooms. Recent evidence and in indicators such as average class size shows that ensuring the provision of dietary and transition rates. The increased impor- quality in these establishments remains a tance of family connections and placement challenge. fees to get children into elite urban public Beyond the compulsory education sys- schools risks reinforcing existing social tem, access to other levels of schooling disparities. In megacities such as Beijing remains problematic in rural areas, as in the and Shanghai, key elementary and junior following: INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 219 • Senior high school. Official data on the qualified teachers. Disadvantages accumu- rate of graduation of rural children into the lating at various stages of childhood devel- academic stream of the senior high school opment for rural children tend to manifest show that this rate remained almost un- themselves in lower school readiness scores, changed between 1990 and 2006, increas- as documented by a recent study compar- ing from 7 percent to only 9 percent. The ing school readiness among rural and ur- newest estimates (taking into account rural ban children. Stunting, which has negative children who go to school in urban areas) impacts on cognitive development, affected indicate that about 20–30 percent of ru- over 20 percent of children under age five ral children progress to senior academic in poor rural counties, almost six times the schools, compared to 40–70 percent of ur- national urban rate. ban children (figure 3.10). Drivers of low rural progression into the academic stream Migrant students also face difficulties in include the entrance exam, the high costs accessing public high schools. In urban areas, of secondary education, the perceived low junior high school students must take a city- quality relative to cost, and the opportunity wide senior high school entrance examina- costs for students and their families In ad- tion as a prerequisite for entering any senior dition, the government policy direction to high school–level public institution (including achieve a 50:50 ratio between academic regular senior high schools and vocational and vocational enrollment might be push- high schools). However, for migrant stu- ing a higher proportion of rural graduates dents, the local government in Beijing grants into the vocational track. the opportunity to take the exam only for • Preschool. Only 30 percent of rural children vocational high schools, and even then, they attend preschools, compared to 80 percent must meet numerous criteria. In 2012, the of urban children. Among those who at- government of Shanghai also introduced a set tend early childhood development and of requirements that migrant parents would education (ECDE) in rural areas, half are have to fulfi ll in order for their children to in one-year-only programs. Furthermore, qualify for the exam for regular senior high rural ECDE programs have higher pupils- schools. As a result of such policies, migrant to-teacher ratios and a lower percentage of students’ access to high school education— especially regular high school education—is very limited in urban centers. FIGURE 3.10 Official promotion rates from junior high school to academic high school, urban and rural, 1990–2006 Proposed policy responses The most critical area for reform is educa- 80 tion fi nancing. Financing reform should be implemented in a way that (a) facilitates the 60 setting of minimum standards for every level of education and revises the revenue and expenditure assignments to ensure financing Percent 40 to meet those standards, especially for poor rural localities and disadvantaged children; (b) better defines fiscal and spending respon- 20 sibilities among various levels of government; (c) experiments more with demand-side 0 fi nancing mechanisms to stimulate compe- 1990 1994 1998 2002 2006 tition and choice that encourage higher lev- Total China Rural Urban els of efficiency in public spending; and (d) explores higher levels of private provision and Source: Rozelle 2011. fi nancing, in particular for upper secondary Note: Rural promotion rate includes promotions only in rural areas. education. 220 URBAN CHINA Given the mounting evidence on glaring China will also need to improve the cover- disparities in education quality, it is also age of ECDE programs (particularly for the imperative that the national government rural poor), for example, by increasing the start defining clear quality standards for level of public financing and using diverse basic education. At a minimum, these stan- delivery mechanisms. Preprimary education dards should specify pupil-teacher ratios, per is the most underfunded education sector in student public expenditure, and percentage China, accounting for 9 percent of the total of qualified teachers in each school. In the number of students in the system but receiving future, a desirable goal will be to introduce only 1.3 percent of the budget. Internation- more advanced quality indicators, such as ally, preprimary education commonly claims graduation rates and employment rates or 6 to 8 percent of the total education budget. even national and international test scores. Localities in China can use diverse mecha- Improving quality will require focusing nisms—including public-private partner- on teachers—teacher recruitment and career ships, home-based care, or a combination—to advancement, as well as allocation, compen- deliver ECDE. In particular, public-private sation, and incentive policies. A combina- partnerships are worth exploring to diversify tion of measures will be needed, including sources of funding and models of delivery and rotation mechanisms to promote programs to create markets with new ECDE providers. in which quality teachers spend time in dis- Some localities (particularly those with advantaged schools, twinning arrangements better economic conditions) are experiment- between stronger and weaker schools, stron- ing with free preschool or senior high school ger inservice training, incentives for hardship education. In more than 25 geographic areas postings, and a more fundamental examina- across China, students now receive free pre- tion of teacher compensation. school education, free senior high school For China to continue deepening its education, or both (table 3.12). Most of these human capital base, senior secondary school services are available only for children with completion rates must increase in the coming local hukou. Certainly, each locality needs decades. China has already set a senior sec- to develop a strategy for fi nancing such an ondary enrollment target of 90 percent (with extension. For evidence-based policy making, half in the academic stream and half in the more rigorous and continuous studies need to vocational stream) by 2020, which is compa- be conducted to determine the demand-side rable to Korea’s senior high enrollment rate constraints to enrolling in preprimary and in 2000. A case could be made for extending senior secondary education for rural children. public free education provisions beyond basic The government will benefit from set- education as conditions allow. ting clear expectations on the role of public TABLE 3.12 Examples of extended free basic education in China, various years Extension Length of Type of extended duration free basic free basic education (year) education (year) Areas of implementation Preschool 1 10 Xiamen (Fujian), Yan’an Zhidan (Shaanxi) 3 12 Dongying Hekou (Shandong) Senior high school 3 12 Zhuhai (Guandong), Wuqing (Tianjing), Ningbo Yinzhou (Zhejiang), Shanshan (Xinjiang), Haixi (Qinghai), Fuzhou Mawei (Fujian), Ankang Zhenping (Shaanxi), Xiangxi (Hunan), Yuxi Hongta (Yunnan), Zoucheng (Shandong), Nilka (Xinjiang), Inner Mongolia, Nansha (Guangzhou), Menghai (Yunnan), Linfen Gu (Shaanxi), Linfen Pu (Shaanxi), Linfen Ning (Shaanxi), Shuozhou Pinglu (Shaanxi) Preschool + senior 3+3 15 Ankang Ningshan (Shaanxi), Wuqi (Shaanxi), Shenmu (Shaanxi), Fugu high school (Shaanxi), Yanzhou (Shandong), Changzhi (Shaanxi), Tibet Source: World Bank staff compilations from various sources. Note: The name of the province is indicated in parentheses. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 221 fi nancing in education. If current trends in FIGURE 3.11 Health spending by source and location, 1995–2009 China continue, demand for education will continue to rise. The Chinese society values 14,000 education highly, and parents’ demand for education for their children seems insatia- 12,000 ble. Families should not face any barriers in seeking education beyond what the govern- 10,000 ment provides for free. Demand is already 8,000 high for private English language education, RMB tutoring for college entrance exams, addi- 6,000 tional extracurricular activities, and tutor- ing for entrance into overseas universities. 4,000 Over time, migrant families will have similar 2,000 demands. The government will need to place greater emphasis on regulations and quality 0 assurance to strengthen consumer protection 1995 2000 2005 2009 in these areas and to ensure that all public Government health expenditure and private money is spent efficiently. Social security funds Out-of-pocket payment Health expenditure in urban areas Health expenditure in rural areas Making health services more equal and responsive to needs Source: MOH 2011. Current status and challenges Reforms in the past decade have greatly diseases (NCDs), which account for more improved coverage and reduced out-of-pocket than 80 percent of the 10.3 million deaths medical expenditures, but the current escala- annually and contribute to 82 percent of the tion in health spending raises questions about total disease burden. A recent report shows the long-term sustainability of China’s health that migrants and those with lower education financing arrangements. As discussed earlier, levels tend to have a higher NCD burden, China has launched two waves of reform in another indicator of urban dualism (World the past decade to improve access to health Bank 2011). Urbanization itself also leads to care. At the same time, between 2007 and behavior change and exposure to risks that 2010, real annual growth in health spend- can increase demand for health care. ing averaged about 15 percent, compared to In terms of the health care delivery sys- annual GDP growth of approximately 8 per- tem, despite a massive expansion in grass- cent. As shown in figure 3.11, the lion’s share roots facilities and beds in both urban and of spending occurs in urban areas, a trend rural areas, hospitals continue to gain an that will probably continue for the foresee- increasing share of both outpatient visits and able future as China urbanizes. inpatient admissions. Chinese health spend- Urbanization and other demographic ing shows a strong hospital bias relative to trends will continue to place greater pressure OECD countries, with nearly half of total on the health care system. Rising incomes, public health spending in China going to hos- an aging population, and an increasing bur- pitals in 2010. This bias appears to be inten- den of chronic diseases together will likely sifying, and the system is becoming increas- raise demand for health care in urban areas. ingly top heavy, which will escalate costs and The share of people age 60 years and over contribute little to improved health outcomes. will increase rapidly in the coming decades, Between 2007 and 2011, the number of inpa- from around 12 percent in 2010 to almost 25 tients increased by 56 percent, compared percent by 2030 and more than 33 percent to 33 percent for outpatients (MOH 2011). by 2050. Another demographic challenge is Moreover, it is estimated that nearly 30 per- the growing epidemic of noncommunicable cent of hospital admissions are unnecessary, 222 URBAN CHINA which can inflate spending because the aver- manages patient referral through the deliv- age cost of an inpatient stay is nearly 37 times ery system, and promotes follow-up care higher than an outpatient visit (MOH 2008, as well as the continuity of long-term ser- 2011). Another factor that increases costs is vice provision. The concept is often based the average length of a hospital stay, which is on the strong role of primary care facilities double the OECD average. in coordination functions. In China, how- The perceived poor quality of primary ever, very limited cross-referral takes place care providers and higher insurance reim- across the three tiers of health care facilities bursement levels for inpatient care drive to ensure that health conditions are man- patients to upper-level health care facilities aged at the most appropriate and cost- such as hospitals. Patient surveys found that effective level. Patients tend to go directly to only one-third of patients considered urban hospitals even for outpatient care (about 53 community health centers (CHCs) to provide percent of patients have their first contact adequate quality of care (Bhattacharyya and with the system at a hospital), with little others 2011). Despite government training gatekeeping by lower levels. programs to upgrade these physicians and • The capital investment model for public general practitioners and despite outreach hospitals is not conducive to rational hospi- technical support from hospitals, most resi- tal planning and may lead to excessive hos- dents prefer to travel longer distances and pital capacity. The model involves a strong queue for specialty care in hospitals. One reliance on bank lending and project coop- major challenge is that the primary care sys- eration, whereby third-party capital inves- tem in China is institutionally fragmented, tors effectively take a role in management with highly fragmented financing arrange- and even ownership. This has reinforced ments. The primary care system consists of incentives for maximizing profits in public many often-uncoordinated actors, including hospitals, led to unclear ownership and con- family planning agencies, maternal and child trol of public facilities at times, and contrib- health programs, township health centers for uted to irregular practices. More broadly, primary and secondary care, village doctors, capital planning in China may contribute to and public health agencies. Funding sources an oversupply of beds and facilities. Inter- for primary care are also varied and include national experience shows that excess beds earmarked vertical program budgets, health are associated with overutilization of hospi- insurance, central and local budgets, and user tals (Delamater and others 2013). fees, all of which make financing highly frag- mented and unequal across space and social Providers have strong incentives to induce groups. Yet another barrier to primary care is demand, leading to overservicing, which the low level of reimbursement for outpatient threatens the sustainability of the insurance care. The insured have an incentive to seek and delivery systems. For all levels of care, inpatient admissions because insurance reim- the dominance of provider payment systems bursement levels for inpatient care are higher based on fee for service, emphasis on self- than for outpatient care.52 fi nancing of facilities (for example, sales or Other factors also contribute to the business income represented over 90 per- hospital-centered health care delivery system, cent of hospital revenue in 2010), and the such as the following: link between hospital business revenue and physician income have encouraged unneces- • China has yet to systematically adopt coor- sary care and inefficiency in service produc- dinated care approaches to service delivery, tion. 53 Distorted pricing for treatments has which increasingly dominate the service de- given health care providers strong incen- livery landscape in many OECD countries. tives to generate demand for profitable high- Coordinated care consists of a mix of mea- technology services and drugs in place of sures that links professionals and organiza- unprofitable basic alternatives. Considerable tions at all levels of the health system, em- evidence reflects cost-enhancing (and quality- phasizes patient-centered care integration, impairing) provider behaviors in response to INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 223 these incentives, including extended lengths behaviors and quality, coordinate care across of stay and prolonged treatment, unneces- different types of providers, and process sary admissions and complementary services claims reimbursements across provinces for (for instance, intravenous fluids), overuse of migrants. Another capacity issue relates to the high-tech diagnostics, misuse of antibiotics, role health insurers could play in altering the and overprescribing of drugs. In 2009, 43 behaviors of health care providers through percent of health spending in China was for effective purchasing strategies. Despite major pharmaceuticals, compared with 17 percent increases in health insurance financing by in OECD countries (Yip and others 2012). the governments, health insurance agencies In terms of China’s health insurance sys- remain largely passive payers of claims. tem, the fragmentation of risk pooling poses The quality of the delivery system remains a threat to long-term sustainability. Because nearly forgotten. Many of the essential and insurance funds are pooled at the level of systematic elements of quality improvement urban cities and rural counties, nearly 3,500 programs are still in their infancy in China, separate risk pools have been created for the including continuous quality improve- various schemes. Compared to those in other ment programs, performance measurement, countries, these risk pools are relatively small, monitoring and benchmarking, provider limiting the ability of insurers to spread risk accreditation, medical and nursing school among the healthy and the ill and to provide accreditation, professional credentialing (and adequate financial protection. Research also recredentialing), and disciplinary actions for shows that NCRMS and URBMI face the malpractice. As in many countries, a lack of problem of adverse selection (Chen and Yan reliable data on quality of care, systematic 2012; Liu and Tsegai 2011), which, when measurement, and institutional infrastruc- combined with low levels of risk pooling and ture for quality monitoring and evaluation government subsidization, may compromise frustrates attempts to assess quality at any the institutions’ long-term financial viability. facility or level of care. Lack of portability in the health insurance system is another concern. In general, bene- Proposed policy responses fits from URBMI and NCRMS are not porta- ble when workers change jobs or switch resi- China faces both new and unfinished reform dences between rural and urban areas. This agendas in addressing the health conse- lack of portability may impair labor mobil- quences of urbanization. As discussed in ity, access to health services, and continuity greater detail next, the new reform agenda of care, especially for workers with chronic involves the expansion of insurance to conditions. One possible barrier to portabil- migrants, integration of insurance schemes, ity is the lack of uniformity in benefits and and promotion of healthy urban living. The reimbursements across schemes (for instance, unfinished reform agenda entails dealing with higher out-of-pocket spending resulting from cost-inducing perverse financial and provider higher premium levels and copayments or incentives, an unbalanced and uncoordinated lower reimbursement ratios), making enroll- delivery system, and quality of care. ment in a new scheme unattractive. The health insurance system also suffers New agenda from low capacity. Agencies responsible for To increase equality and labor mobility, seg- operating insurance schemes generally lack mentation among the three health insurance sufficient staff, information technology, and schemes—URBMI, UEBMI, and NCRMS — managerial know-how to effectively manage must be reduced to create an integrated and and monitor the schemes, oversee provid- seamless system. Notwithstanding expan- ers, and navigate the increasingly complex sion of insurance coverage to migrants as array of norms and regulations (Yan and described earlier, continued efforts are needed others 2011). The lack of integrated data- to minimize differences in benefits, reim- bases and management information systems bursement rates, copayments, and deduct- impedes insurers’ ability to monitor provider ibles among the three insurance schemes. 224 URBAN CHINA The schemes should also be integrated into a Unfinished agenda common institutional platform while raising Service delivery needs to be reoriented based the pooling level of the health insurance sys- on primary and coordinated care. An alter- tem to at least the provincial level. Although native care delivery model should be consid- no blueprint is available for integrating insur- ered, one that would anticipate and shape ance schemes, the most appropriate approach patterns of care according to the projected for the Chinese context may be the consoli- health and medical needs of the population dation of multiple funds into a limited num- while boosting the role and quality of pri- ber of pools. Variants of this model can be mary care. The model should involve sig- found in Canada, the United Kingdom, Swe- nificant strengthening of community-focused den, Korea, Colombia, Chile, and Norway. care, vertical and horizontal integration of In the medium term, China can build on facilities to provide comprehensive services the experiences of several of its own provinces along a continuum or chain of care, and use in merging URBMI and NCRMS. Integra- of primary care as the point of entry into the tion can start with merging organizational system. Recent OECD experience suggests arrangements, including physical location; using a coordinated care delivery model that managerial, monitoring, and supervisory emphasizes primary care as a gatekeeper and functions; and information systems. Chongq- case manager, defined links among providers, ing, Guangdong, Ningxia, and Tianjin have and specialized outpatient and day surgical vertically integrated these schemes, although treatment, which reduces the need for inpa- the breadth and depth of integration varies. tient beds. The international trend is toward The next step would be to merge benefits, transferring services currently provided by reimbursement rates, and provider payment hospitals to community-based ambulatory systems. It will also be important to move centers or telemedicine clinics. away from the current model of individual- Pilot reforms to strengthen the role of pri- ized coverage in insurance schemes to house- mary care in China are already under way. hold-based coverage, to promote administra- Emerging experiences in Shanghai and Bei- tive efficiency, and to facilitate portability of jing demonstrate that CHCs are able to fulfill entitlements. Pending issues include selection primary care provision and case management of the government agency responsible for the tasks when they are equipped with a new set new organization and establishment of the of competencies and provided with profes- accountability arrangements for performance sional support. For the past several years, oversight. Shanghai and Ningbo have also provided In addition, reforms should recognize that promising examples of a functional model healthy urban environments depend on hav- using a family doctor. Beijing, Wuhan, and ing healthy urban design at the core of urban Shanghai are testing medical consortium planning. International evidence shows that models, which link CHCs, secondary hospi- healthy urban environments promote healthy tals, and tertiary hospitals in a two-referral living by incorporating design elements such system in which CHCs serve as entry points as pedestrian walkways, bicycle networks or gatekeepers. Specialists are also decentral- and infrastructure, parks, play areas and pla- ized to CHCs. zas, weekend pedestrian and cycling streets, To improve quality of care, China can pedestrian overpasses and traffic islands, and implement several short- and medium-term walking trails.54 These strategies are typically measures that are already being undertaken supported by promotional or soft activities in a number of cities, counties, and facilities. such as fitness events, childhood overweight The first measure involves conducting an and obesity programs, senior group exercise inventory of quality improvement initiatives events, promotion of exercise facilities and in ambulatory units and hospitals, including use of stairs in the workplace, antismoking any results of these initiatives. The second regulations and campaigns, access to mental measure is to require all hospitals to report health services, and community health fairs. a set of quality indicators on high-volume INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 225 tracer conditions. Third, hospital eligibility ment systems are under way, and although for insurance fi nancing should be linked to the number of facilities involved in these ex- threshold requirements such as accreditation periments is small, preliminary assessments or certification that the hospital meets speci- indicate progress in cost containment. For fied standards. A fourth measure entails pro- example, Hainan province introduced pro- viding financial incentives to improve quality, spective global budgets in six hospitals, known as quality-based purchasing, which resulting in slower rates of cost inflation, has become widely accepted in OECD coun- lower copayments, and slower increases in tries. Under this approach, insurance schemes expensive services compared with hospitals can use their purchasing power to stimulate paid on a fee-for-service basis (Yip and Egg- quality improvement, data reporting on qual- leston 2004). Expanding pilots to experi- ity, and patient satisfaction. ment with alternative payment methods will China can learn from the lessons and provide important information on which emerging innovations of OECD and other models work best in the Chinese context. middle-income countries that have an over- • Adoption of managerial cost control mea- supply (or underutilization) of beds. OECD sures. Such measures will help control countries are adopting alternative planning utilization or frequency of claims, lower approaches in the face of aging populations. spending for services provided, and detect They are applying coordinated, community- and control fraud. Measures typically used based medical models to address NCDs; rap- by health insurers and purchasers include idly advancing communication and telemedi- (a) inpatient management to reduce length cine technologies; emerging noninvasive or of stay and avoid unnecessary admissions minimally invasive therapies; pharmaceutical (for example, preadmission review, concur- advances; miniaturization of sophisticated rent review, second opinion before surgery, equipment; and increased use of ambulatory discharge planning); (b) programs and in- surgery, urgent care centers, and other forms centives to encourage the substitution of of “day hospitals.” In doing so, these coun- outpatient care for higher-cost inpatient tries have redefined the role of hospitals and care and the identification of new and less reduced bed-to-population ratios, lengths costly treatments for high-cost conditions; of stay, and ultimately the number of hospi- (c) provider profiling to enable the analysis tals—almost all of which are steps that need and characterization of providers accord- to be taken in China. ing to utilization, costs, quality, and other In terms of health insurance reform, con- performance-related features to help iden- trolling utilization and provider cost escala- tify high-cost providers and providers with tion are essential to the financial sustainabil- patterns of high utilization; (d) standard ity of any insurance scheme. International treatment guidelines and provider educa- experience shows that no single approach tion programs to encourage cost-effective to cost containment can effectively slow the practice patterns; and (e) programs and in- increase in costs over the long run. Used in centives to promote the use of generic drugs combination, the following three approaches and low-cost technologies. could contribute to effective cost contain- • Expansion of the institutional separation ment in China: between revenues and expenditures. Insti- tutional separation is an operational fea- • Design and implementation of robust pro- ture of the current health reform, although vider payment mechanisms. These mecha- uptake has been slow. Part of the objective nisms are already in practice in China. Pay- is to delink incomes of facility staff from ment reform is essential to achieving the revenue generation. Chengdu, Hangzhou, other components of the reform agenda, and Beijing have applied this reform to ur- avoiding uncontrollable cost escalation, and ban CHCs. All revenues are placed into a restoring public trust in the health system. special government account, then returned Some pilots with alternative provider pay- to the facility in the form of a negotiated 226 URBAN CHINA budget. The measure has reduced overtest- and mobile labor force. Addressing the his- ing and overprescribing, thus breaking the torically low coverage of rural, migrant, and link between sales of health care services urban informal sector workers remains a and physician income. The cities are experi- challenge. menting with contracts that specify and ra- Structural issues in the current pension tionalize the mix of services provided. system must also be addressed to support rural-urban integration. These issues include As mentioned above, sound institutional the following: purchasing can provide incentives to deliver more efficient, more appropriate, and higher- • Fragmented pension systems, which result quality care. For health insurance agencies, in low levels of pooling and limit porta- moving from simply paying the bill to actively bility. The urban worker pension scheme purchasing will help promote a system that pools its contributions and payout respon- puts patient care and cost-effectiveness above sibility at the municipal level, with only a providers’ focus on maximizing revenue. partial adjustment fund established at the International experience shows that purchas- provincial level. Rural and urban resident ers can do a great deal to incentivize providers pension schemes are pooled mainly at the to improve quality processes and results while county and city levels. The policy measure contributing to cost containment. Explicit to allow for transfer of entitlements across contracts linking payment to performance pension schemes was announced in 2014, have been shown to be effective instruments but the implementation modality still needs for improving patient satisfaction, quality, to be determined. The geographic fragmen- and efficiency (Preker and Langenbrunner tation and multiplicity of urban pension 2005). For example, in the Brazilian state of schemes for workers, PSU employees, civil São Paulo, the state government crafted con- servants, and in some areas residents and tracts with public and private hospitals that migrants, as well as differences in param- specified production targets for a large array eters, create disparities in benefits and bar- of services, along with cost-based budget- riers to worker mobility across space and ary caps. The contract also mandated qual- sectors. ity improvement measures and data report- • The “legacy costs” of earlier, more gen- ing requirements. A portion of financing erous urban worker pension provisions, was tied to successful compliance with these which are largely financed through current mandates. pension contributions, thus keeping contri- bution rates high and creating incentives for underreporting of wages and nonparticipa- Deepening pension system reform tion. These legacy costs are not affordable Current status and challenges for many local governments. • Design weaknesses in the pension system, Deeper pension system reform is needed to such as a low retirement age and outdated achieve the goal of a “full coverage, basic annuity factors can affect incentives and fis- protection, multilayered and sustainable” cal sustainability. pension system outlined by the 18th National • Low returns on individual accounts, such Congress of the Communist Party of China. that pension replacement rates that have As discussed previously, although much prog- been significantly lower than anticipated ress has been made in the past decade, China when the system was developed in the 1990s. still has a large unfinished agenda, in part • Weak management and service delivery because of the rapid pace of reform to date. capacities, particularly in the face of rapid Given the major demographic changes dis- pension system expansion. cussed earlier, the pension system also faces the challenge of remaining fi scally sustain- Proposed policy responses able while dealing with the dual challenges of handling a rapidly aging population and The proposed policy response is a design meeting the needs of an increasingly diverse vision that aims to provide an integrated INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 227 framework for pension policies, financing, FIGURE 3.12 Proposed overall design of the pension system and institutional development (Dorfman and others 2013). The policy framework supports a greater diversity of instruments for old-age Basic pillar Residents Social Pensions (RSP) income protection to better address cover- age gaps, support an increasingly mobile and diverse labor force, and ensure fiscal sus- Contributory Reformed Urban Reformed Residents tainability. The proposed fi nancing options pillar Workers Scheme Pension Scheme would diversify the sources of financing, rebalance the level of risk sharing between the citizen and the state, upgrade fi nancial Supplementary Supplemental Occupation and pillar Individual Annuities and risk pooling at the central level to relieve local budgets of some spending obligations, and ensure that pension promises can be hon- ored for China’s growing population reach- Source: Wang and Dorfman 2014. ing retirement age. Achieving an integrated national pension system will also require substantial institutional reforms, including and a voluntary defined-contribution pen- the development of a national information sion savings scheme for the urban and ru- and communication system and changes in ral populations with nonwage incomes (a modification of the current rural and urban incentives and accountability for information resident pension schemes [RPS]). sharing. • A supplementary pillar, which provides voluntary occupational and individual pen- Moving to an integrated design for the sion savings options that may supplement pension system. An integrated pension sys- other pension benefits, building on the ex- tem design would better address the needs of isting enterprise annuity scheme. all workers and retirees while allowing for diverse circumstances. Such a design would The three-pillar approach builds on fea- no longer differentiate along urban and rural tures of the existing pension system while locational or hukou lines. It would ensure providing a common basis for addressing that pension provisions take into account the fragmentation, portability, pooling, and sus- employment circumstances of workers, dis- tainability. For workers with wage incomes, tinguishing among those who are formally the NDC design proposed for the UWS employed and those who are self-employed would provide stronger incentives for par- and informal, and the capacity of individuals ticipation and will strengthen portability and to make contributions. fi nancial sustainability. 55 For workers with The proposed reform provides an inte- nonwage income, the proposed RPS is simi- grated framework of instruments supported lar to the current rural and urban resident by three pillars (figure 3.12). It uses a notional pension schemes in its voluntary and defined- defined contribution (NDC) approach to contribution design, while also sharing fea- anchor the design and the fi nancing of con- tures of the reformed UWS, such as quali- tributory pensions. The three pillars are as fying conditions and the benefit formula. follows: These parameters could support the transfer of pension rights and benefits across the two • A basic pillar, which provides minimum schemes. The combination of the RPS and elderly poverty protection through non- RSP mimics the design of the existing resi- contributory resident social pension (RSP) dent pension schemes but broadens the scope benefits. of benefits for all retirees and introduces a • A contributory pillar, with a mandatory benefit adjustment factor to reduce the fiscal NDC scheme for workers with wage in- burden on a sustainable basis. The introduc- comes and with labor contracts (a modi- tion of the RSP would help achieve the policy fied current urban workers scheme [UWS]) goal of full coverage. 228 URBAN CHINA Upgrading the pooling level. Although the financial pooling. A national pension system initial aim should be to achieve provincial- needs to be grounded in standardized policies level fi nancial pooling, the long-term objec- for contributions, qualifying conditions, and tive should be national-level pooling. As a benefits. Without unification of parameters, starting point, financial pooling is needed those communities with the lowest benefits at the provincial level, including consolida- can end up transferring resources to those tion of all contributions and (unified) ben- with more generous benefits. Local consump- efits. Cross-subsidies between regions with tion and poverty parameters should be used net surpluses and those with net deficits are in determining the social pensions benefit expected, as well as between regions with level. Support for accounting, fi nancial con- lower system dependency rates and those trol, and accountability systems can help with higher ones. ensure the integrity of the fi nancial pooling Financial pooling of contributions and process. Unique identification, validation sys- reserves helps smooth disparities and diversi- tems, data standards, and other policies are fies risks to members, but the level of pool- essential for recordkeeping and to enhance ing remains low across most of the country. information flows across space. Two types of financial pooling approaches A vertical management approach that are currently used in China: (a) full pooling builds on local capacity could help ensure of all contributions, accumulations, and dis- provincial-level accountability. Under this bursements and (b) partial pooling through approach, individuals in local social security the use of provincial adjustment funds aimed and fi nance departments would be account- at redistributing a portion of contribution able to provincial (not municipal) authorities. revenues. Among 31 provinces, Beijing, Tian- However, even with vertical management, jin, Shanghai, Chongqing, Shaanxi, Qinghai, legal, regulatory, and supervisory mecha- and Tibet have realized full fi nancial pool- nisms will be needed to ensure that national ing at the provincial level, while the other standards are applied at the local level (Wang provinces have partial pooling or no pooling. and Dorfman 2014). Transfers to provincial adjustment funds are levied based on total municipal or county Achieving financial sustainability. Financ- wage payrolls, pension account balances, or ing sources should be diversified from the budgetary contribution revenues. Table 3.13 current largely contribution-based fi nancing indicates the proportion required to be trans- to a greater mix of sources, with a rebalanc- ferred. Some provinces such as Guangdong ing of the level of risk sharing between the cit- have fully realized the fi nancial pooling of izen and the state (table 3.14). Social pensions pension contributions, accumulations, and and legacy costs would be financed from cur- disbursements at the prefecture city level, rent government revenues, whereas the other while a number of provinces have full finan- schemes would be contributory, with either cial pooling only at the county or city level. a pay-as-you-go or fully funded approach. Unification of parameters and pooling A separate fi nancing strategy is proposed to of data and management are essential for partially prefund future pension costs. Auto- matic benefit indexation using publicly dis- seminated indexes and GDP-linked rates of TABLE 3.13 Proportion of pension contributions transferred to return shields workers and retirees from risk. provincial adjustment funds Similarly, annuitization protects retirees from Province Proportion (%) Province Proportion (%) having to bear or pay for coverage of longev- Shanxi 3 Hubei 5 ity risks. Inner Mongolia 2 Hunan 0.5 Three policy measures would help achieve Liaoning 10 Guangdong 9 long-term financial sustainability and Jilin 5 Guangxi 1 improve the incentives to participate: Jiangsu 1.5 Hainan 1 Zhejiang 2 Sichuan 5 • Parametric changes, to reduce long-term Jiangxi 3 Xinjiang 1 costs, including gradually increasing the Source: World Bank staff compilation based on the latest provincial policy documents. minimum retirement age to 65, automati- INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 229 TABLE 3.14 Proposed financing arrangements for the pension system Scheme Financing approach Sources of financing Resident social pension Noncontributory and unfunded Government budgetary allocations Urban workers scheme • Contributory pay-as-you-go • Employer and employee contributions • Unfunded legacy costs • Government budgetary allocations • Separate external prefunding to address • Government external prefunding long-term demographic changes Resident pension scheme Contributory pay-as-you-go • Workers • Matching contribution subsidies from government at different levels Occupational and personal Contributory and fully funded • Employers annuities • Employees and self-employed Source: Wang and Dorfman 2014. cally adjusting the annuity factor to reflect vesting period, and initiating a process to the life expectancy at retirement age, and reduce contribution rates (linked to financ- automatically providing hybrid indexation ing of legacy costs from general revenues). based on wages and per capita GDP growth. • Increasing the matching contributions • A separate partial-funding strategy, to ad- provided under the RPS while initiating dress the future funding requirements that measures to delink a basic monthly ben- will arise as old-age dependency ratios in- efit social pension from a vesting period crease and contribution revenues prove in- of contributions. This reform can further sufficient for benefits. Such a funding strat- improve coverage, particularly for younger egy would lead to the establishment and workers and workers who may find it dif- financing of buffer reserve funds on a pro- ficult to satisfy the current 15-year vesting vincial basis, based on projected cash flow requirement. needs. • Taking preparatory design steps to inte- • Financing of legacy costs from general rev- grate the PSU, civil servant, and urban enues, rather than from pension contribu- workers pension frameworks. Ultimately, tions. Financing legacy costs from outside the aim should be to fully integrate the PSU the pension system would reduce contribu- and civil servant schemes with the UWS. tion rates, thereby substantially improving The key design question is how to integrate the affordability of contributions to the re- these workers into the UWS while avoid- formed UWS.56 ing a dramatic downward adjustment in re- placement rates. This would in turn require Sequencing of reform measures. To real- integrating policy development of PSU and ize the policy goals of full coverage, equity, civil service pension reform with broader portability, and fi nancial sustainability, the compensation reforms. sequencing of pension reforms will be criti- cal. Possible short-, medium-, and long-term In the medium term, measures are proposed below. In the short term, • Promoting greater harmonization across schemes and making progress on integra- • Initiating an increase in the UWS minimum tion of schemes for different groups. This age for receipt of benefits. Given the need includes (a) completing integration of PSU to do this gradually, initiating an increase in and civil servant workers into the reformed the pensionable age sooner rather than later UWS and (b) integrating the rural and ur- seems advisable. ban resident schemes and their manage- • Implementing other parametric reforms ment under one policy and institutional of the UWS. This measure would include umbrella.57 eliminating the minimum wage subject to • Putting in place the information systems to contributions, dramatically reducing the facilitate portability of pension rights and 230 URBAN CHINA pooling. Common data standards and data grams and special/temporary social assis- sharing protocols under the leadership of tance programs. Traditional social assistance MOHRSS are needed, along with develop- programs such as wubao in rural areas and ment of a data management system strategy the “three-no’s” program in urban areas for phased convergence. Social insurance were established to provide income support information systems within provinces also for those who do not have dependents, have need to be integrated to prepare the way for lost their ability to work, and have no income eventual sharing of beneficiary data and fi- sources. In 2012, wubao beneficiaries num- nancial information across provinces. bered 5.5 million in rural areas, and urban • Separating legacy cost financing using a three-no’s beneficiaries numbered 99,000. clearly defined financing strategy. A frame- China also has special/temporary social work for legacy cost estimation and identi- assistance programs such as medical financial fication needs to be developed and imple- assistance, education assistance, and housing mented. The legacy costs could be financed and heating subsidies, which provide tempo- by the different levels of government. rary cash and in-kind support for the poor • Meeting prefunding targets under the over- and low-income families. Medical fi nancial all financing strategy. This measure would assistance is the largest of these programs, require effective supervision and over- providing support for 84.5 million people sight, including supervision of investment in urban and rural areas in 2012. Table 3.15 management. shows the benefits and fiscal inputs for medi- • Completing provincial pooling of pension cal financial assistance and dibao, illustrating funds. This would require putting in place the relative scale of the programs. Other tem- the incentive framework to implement pro- porary assistance programs covered 2.6 mil- vincial pooling of financial flows and pro- lion urban households and 3.8 million rural vincial financial management. households in 2012. Inclusion of migrants into the urban social In the long term, safety net is an important policy objective, as discussed earlier; however, in addition, • Transitioning from provincial pooling and the social assistance system is also facing management to national-level pooling and a second generation of issues that must be management. The nationally pooled and addressed to promote greater rural-urban integrated system would need to be under- integration. Second-generation challenges pinned by an integrated national data man- faced by the social assistance system include agement system. (a) developing a more systematic approach to • Moving to a pension system that continues determining dibao eligibility thresholds and to distinguish between those with wage em- ployment and those without it, such as self- employed and informal workers. However, TABLE 3.15 Dibao and medical financial this could be undertaken as different pro- assistance in urban and rural China, 2012 grams come under a unified institutional Urban Rural framework. areas areas • Introducing funded defined-contribution Dibao programs pension instruments. This funding would Thresholds (RMB/month) 330.1 172.3 be done to the degree that the financial Benefits received (RMB/month) 239.1 104.0 markets are liberalized, well regulated, well Total fiscal inputs (RMB, billion) 67.4 71.8 supervised, and well governed. Medical financial assistance Medical cost reimbursement (RMB per capita) 858.6 721.7 Social assistance Subsidies for medical insurance Current status and challenges contributions (RMB per capita) 84.0 57.5 Total fiscal inputs (RMB, billion) 7.1 5.8 The social safety net in China consists of Source: Ministry of Civil Affairs 2013, 2012 Statistical Bulletin of Social dibao and traditional social assistance pro- Services Development, http://www.mca.gov.cn. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 231 benefit levels across urban and rural areas from prefecture to province, and finally from and across provinces; (b) focusing on the pri- province to the national level. A systematic mary objective of dibao; and (c) promoting approach is needed to ensure that the stan- greater synergies between social assistance dard reflects the true cost of living and is programs and antipoverty interventions in adjusted accordingly over time. The authori- poor counties. The high level of discretion ties could also consider adopting a common in setting dibao thresholds compromises benefit floor for all localities in China, while the goal of policy consistency in the area of allowing local government to establish a social protection. Although the design and higher level as capacities allow (Umapathi, objectives of dibao programs are conceptu- Wang, and O’Keefe 2013). The Ministry of ally clear in targeting income poverty, in Civil Affairs has made progress in this direc- practice, dibao programs are used to target tion, and its assessment of emerging experi- consumption poverty and even provide sup- ence can inform future policy development. port for low-income families. The ambiguity Improved targeting would help dibao that has arisen has resulted in low targeting and temporary assistance programs better efficiency. The protective versus promotional use the limited public resources available. role of dibao will need to be clarified to refine An additional consideration is the role of the policy objective. social assistance programs in addressing the equity issue between the poor and the near poor. Although the dibao program has per- Proposed policy responses formed well in excluding the nonpoor, its Promoting integration of the rural and urban design raises risks of poverty traps for house- components of social assistance programs holds just above the dibao eligibility thresh- requires clearly defi ned fi nancing roles and old. Eligible households have their incomes responsibilities of government at various lev- topped up to the dibao threshold and also els. The increasing role of the central govern- receive noncash benefits, including exemp- ment provides a channel for standardizing tions or reductions for education fees, sub- and equalizing dibao programs. The central sidized health insurance, and public housing government could assume a bigger role in the and subsidized utilities. As a result, they may dibao and temporary social assistance pro- be better off than households just above the grams by ensuring fiscal inputs and income dibao threshold that are not entitled to such transfers to cover both developed and lagging noncash benefits but have only slightly higher areas. This approach would ease the fiscal incomes. burdens of city governments in coastal areas In parallel, deeper reform of the social and provide incentives for them to treat long- assistance system is needed to help better term migrant families and urban residents achieve its poverty alleviation objectives and equally. improve coherence with other programs . To facilitate the convergence of approaches Additional resources will be needed to and equalization of dibao thresholds and ben- develop the information management system, efits, the central government could upgrade increase staffing levels according to the popu- the authority to establish dibao thresholds lation or families served, and develop busi- from the county (city) to the provincial level. ness processes and performance standards. Currently both the method of determining The reforms should also promote greater dibao thresholds and the levels themselves synergies and coherence among social assis- vary enormously, reflecting the highly decen- tance programs, social insurance schemes, tralized nature of implementation. Developed labor market programs, regional antipoverty countries often apply a unified formula for programs, and housing programs, as in the the threshold level for social assistance pro- following: grams, taking into account regional cost- of-living differences. Similarly, China could • For social insurance schemes, with the ex- gradually move the responsibility for setting pansion of basic pension benefits to rural thresholds from county (city) to prefecture, and urban informal sector retirees in the 232 URBAN CHINA coming years, the interaction with measure- of public sector service provision, resulting ment of household income for dibao needs in a lack of client choice and provider com- to be examined closely. Currently, basic petition. The potential of each channel of pension income is ignored in determining accountability will vary according to the type dibao eligibility, but in the longer run it may of service considered, the nature of the mar- be necessary to look more closely at the ra- ket in which it operates, and the nature of tionale for such an approach as the pension outcomes and performance improvement to system expands. be promoted. The following sections discuss • For labor market programs, some cities each of the three broad channels of account- provide job training for family members of ability in turn. dibao beneficiaries, encourage community works participation, and allow a gradual Government systems and accountability to reduction of transfers after they find jobs. promote better service delivery Those are good practices that could provide strong incentives for the poor to reenter the China’s overall level of budgetary trans- urban labor market. parency is low by the standards of Group • Regional antipoverty programs have been of Twenty (G20) countries and has fallen based on a regional development approach in recent years. Figure 3.13 shows China’s parallel to household-based social welfare overall rating on budgetary transparency support. More efforts are needed to facili- compared with G20 countries, and figure tate greater convergence of social assistance, 3.14 presents the individual elements of the social services, and antipoverty programs, budgetary system ratings for China in 2008 that is, building on the recent examples of and 2012. Although some indicators such as prioritizing dibao and near-poor households in-year reporting are relatively high, others in training under antipoverty programs. related to review and actual budget enactment • For housing programs, as discussed earlier, are very low. Stronger performance on these the government has placed greater empha- sis on affordable housing for lower-income households and public housing for the poor. FIGURE 3.13 China and G20 fiscal transparency indicators, 2012 Although this is a welcome policy direction, it will also require more rigorous valuation of the implicit value of social assistance South Africa packages that include free or subsidized United Kingdom public housing and of the subsidies offered France to households that are not receiving social United States assistance. Korea, Rep. Russian Federation Brazil Accountability and social services Germany delivery India To improve results in service delivery across Indonesia the social sectors, China faces the chal- Mexico lenge of increasing accountability through Italy three broad channels: government systems, Argentina citizen based, and choice based. Compared Turkey with most countries, China has traditionally China placed less emphasis on citizen- and choice- Saudi Arabia based accountability channels in the social 0 10 20 30 40 50 60 70 80 90 sectors. For citizen-based accountability, Score (out of 100) that reflects the lack of client voice in ser- vice delivery. Choice-based accountability is Source: Open Budget Survey 2012. http://internationalbudget.org underemphasized because of the dominance /what-we-do/open-budget-survey/. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 233 FIGURE 3.14 Elements of fiscal transparency and accountability. Over two-thirds of indicators for China, 2008 and 2012 OECD countries now include nonfi nancial performance information in their budget doc- uments, drawing on sources such as strategic In-year reports spending reviews, performance audits, and scorecards and benchmarking exercises.58 Audit report Because performance-informed budgeting places new demands on budgetary systems, Year-end report sectoral agencies, and service providers, the Pre-budget statement goals for making the budget process more performance oriented must be realistic and Budget proposal gradual. The outputs or outcomes measured should also be reasonably attributable to the Enacted budget service provider. The experience of Korea in introducing performance-related budgeting Citizens budget after the East Asian crisis is useful for under- standing some of the risks. It also points to Mid-year review a need to focus initially on the quality of 0 10 20 30 40 50 60 70 80 performance information and the capacity Score (out of 100) and willingness of both budgetary and line 2008 2012 agencies to use the information generated in a manner that constructively focuses on sus- tained improvements in performance and is Source: Open Budget Survey 2012. http://internationalbudget.org /what-we-do/open-budget-survey/. not overly mechanical in its application. Just as budget systems aim to increase accountability for performance through indicators will be needed to move from a various channels, human resource (HR) and budget compliance culture to a performance- compensation systems may do the same. The oriented budgetary approach. most obvious example is performance-related A lt houg h C h i na has subst a nt ia l ly pay, and China already has significant ele- increased central and provincial transfers to ments of it in education and health care ser- support social services in recent years, the vices. As of the mid-2000s, two-thirds of majority of China’s provincial and subpro- OECD countries had performance-related vincial governments have a low level of fiscal pay for public sector workers or were intro- transparency (OECD 2005). Information on ducing it (OECD 2005; World Bank 2013). actual expenditures, off-budget transactions, However, the evidence regarding its impacts and government performance is particularly is mixed. For example, studies in the United limited in the public sphere. Therefore, it is States have found no impact on learning out- difficult to assess the differential impacts of comes of bonus schemes for teachers in New central and even provincial spending on the York City and Nashville schools. In contrast, outcomes that matter most or the efficiency recent evidence from developing country in achieving desired outputs. Monitoring of evaluations of bonus-pay incentive schemes outcomes for poor and vulnerable communi- for teachers suggests a more positive picture, ties is a particular weakness. although none of the evaluations to date have The global trend for middle- and high- looked at long-term impacts. income countries has been toward increased However, performance-related pay has emphasis on performance budgeting (Arizti given rise to particular challenges in China’s and others 2010). Performance budget- health sector. Although fee-for-service pro- ing focuses on the results that are being vider payments and a strong emphasis on delivered rather than just on the amount of profitability of individual providers closely money being spent, and it aims to strengthen link pay with performance, the performance resource allocation, effectiveness, efficiency, indicators of volume and value of services 234 URBAN CHINA are not closely linked to quality and cost- that are more conducive to improved service effectiveness. As discussed earlier, overempha- delivery performance. One tool, employed by sis on volume and value indicators gives pro- about 26 countries by 2012 (including Brazil, viders the incentive to more services than are Indonesia, Mexico, and Thailand), is a “citi- necessary and sometimes even provide harm- zen’s budget,” which presents basic revenue, ful treatment. Future payment systems need expenditure, and fiscal data in a user-friendly to focus much more on quality-related infor- format to communicate directly with the mation (for example, infection rates, medi- public. OECD practice is also promising— cal error rates, and adverse events) to assess for example, Korea’s Web-based D-Brain sys- provider and facility performance, which in tem (http://digitalbrain.go.kr) offers real-time turn requires improved facility information access to fiscal data and citizen participation systems, improved measures of performance, throughout the budget process. Many OECD and revised case-based payment systems that countries also have sector-specific report encourage efficiency. cards generated by government agencies on China is gradually trying to strengthen facility-level performance, particularly in the its regulation, accreditation, and licensing health sector but also in education. capacity in the social sectors and beyond, The citizen scorecard or user satisfaction but realizing the potential of such systems to survey can provide useful quantitative feed- drive quality improvements remains a chal- back on citizen satisfaction with service deliv- lenge. The importance of more sophisticated ery. Some hospitals in China undertake their regulation, accreditation, and licensing sys- own user satisfaction surveys in an effort to tems will increase as private and nonprofit improve the efficiency of their facilities. Such providers become a more common fea- a citizen report card was developed and pro- ture of the service delivery landscape in the vided the basis for a large-scale survey con- future. The health sector, in particular, has ducted in 2006 by the World Bank in part- the potential to benefit substantially. Glob- nership with the Government of China in five ally, accreditation systems are playing an cities—Chengdu, Dalian, Shanghai-Pudong, increasingly important role in driving qual- Shenzhen, and Xi’an (Brixi 2009). Globally, ity and efficiency improvements in hospital three broad models are used for such surveys: care. Although China accredits its hospitals, by fully independent third parties such as the underlying hospital information systems nongovernmental organizations (NGOs), by needed to generate the data for more effective the service-providing government agencies accreditation are usually absent. themselves (who may contract out the survey but control the dissemination of findings), and by autonomous public agencies. Citizen-based channels for enhancing The social audit is a related tool that may accountability be more integrated into the regular pro- In recent years, China has made efforts at cesses of service delivery programs. It allows the subnational level to improve the public citizens to review and cross-check informa- fi nance information available to the public. tion on a public program against user feed- Guangzhou was the fi rst city to publish all back and perceptions. The social audit can budgets from 2009, and the practice sub- be useful where there is a solid authorizing sequently spread throughout the province. environment (such as a requirement in pro- China also has program-specific transpar- gram implementation regulations) and a clear ency initiatives such as the publication of channel for the findings and recommenda- dibao applicants for public scrutiny and new tions of the audit to feed into formal griev- requirements for budgetary management of ance and redress processes. Depending on the extrabudgetary funds. situation, facilitation of the social audit pro- Many countries, including OECD and cess by a neutral third party such as an NGO G20 countries, have found that increasing the may be desirable. Perhaps the most famous transparency of information on public service example of a social audit is India’s National financing and delivery has created conditions Rural Employment Guarantee Program. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 235 Institutions have growing experience providers. A good example is the experiments within China in incorporating citizens in parts of China (for instance, Jiangsu, and directly into management and oversight insti- Meizhou in Guangdong) with vouchers for tutions for services, echoing experiences from skills training. other parts of the developing world. 59 The A second area in which much more can directions for enhanced citizen involvement be done to leverage improved service delivery in social services are also clear in some sec- outcomes is public purchasing of social ser- toral policies, such as the National Education vices. This channel for promoting account- Development Plan. Globally, countries have ability has the most obvious potential in the had positive experiences in incorporating health sector and for any social services for client satisfaction information into formal which provision is outsourced. As discussed accreditation systems for hospitals. earlier, the dominant position of local health Chinese practice and global experience insurance agencies as purchasers provides also point to the importance of a sound legal an opportunity to improve provider perfor- and administrative environment for autho- mance. Considerable experience in shift- rizing citizen participation in oversight and ing to more active purchasing can be found management of social services. Unless citi- within the East Asia and Pacific region, such zens’ roles are required rather than simply as Thailand and Cambodia (Langenbrunner tolerated, and unless the redress mechanisms and Somanathan 2011). In the education sec- have firm legal backing to ensure that provid- tor, Shanghai’s experience in providing com- ers and administrators give authorized pow- pulsory education for migrants as described ers to citizens, such mechanisms will likely be earlier is also instructive. simply cosmetic and will not fundamentally A third major area for reform is leveling increase the accountability of providers to the playing field between public and private citizens. Some areas of China have already providers of social services in order to deepen made efforts to address this issue: for exam- choice and competition. There is a range of ple, Shandong province and Chengdu city social services for which private providers have regulations that seek to clarify the scope could potentially compete for public fund- of authority and the underlying processes of ing, such as higher-end health care, elder and the councils to give them firmer jurisdiction. long-term care, higher education, skills train- ing, and preschool education services. The government is looking to encourage greater Choice-based channels to promote accountability entry of private providers, including interna- To date, China has not fully exploited the tional health care investors who can bring potential of using client choice as a means of global best practices in facility management improving provider performance. Further- and quality assurance. Global practice offers more, the role of the private sector as a source lessons in contracting out management of of competition and quality comparison has public hospitals to nonprofit organizations, been limited in China. However, by offering as has been done successfully in middle- greater potential for agglomeration of service income countries such as Brazil and a num- providers, urbanization offers potentially ber of high-income countries. enhanced choice for clients. A fi rst step to enhance client choice and use it as a driver of performance improvement Strengthening institutions for is greater reliance on demand-side fi nancing an inclusive and productive of services where appropriate. China invests public resources overwhelmingly on the labor market supply side of social services, with notable In addition to equitable access to social ser- exceptions such as health insurance. Where vices, another critical component of inclusive feasible, some fi nancing could be shifted to urbanization and rural-urban integration is the demand side through direct payments an inclusive labor market. Matching people to citizens who then exercise choice among to jobs where the private and social returns 236 URBAN CHINA on their labor and human capital are maxi- informal sector. In 2010, over 60 percent of mized is crucial for improving livelihoods migrant workers were in the informal sec- and promoting economic growth. As urban- tor, and their movement to the formal sec- ization proceeds, efficient job matching needs tor was very limited (Park and Cai 2011). to be underpinned by geographic as well as Even when employed in formal sector jobs, sectoral and occupational mobility. Given the migrants have weaker attachments to for- increasing demand for skilled workers, con- mal sector employment. This divide is likely tinued improvements are needed in the skills driven by a combination of factors, such as of workers to make them more adaptable to migrants having shorter contracts and for- technological changes. This section looks at mal sector employment benefits being less the remaining challenges in reducing barriers attractive to younger migrants (Giles and to labor mobility in China, with a particu- others 2013). lar focus on the areas of skills accumulation and labor market institutions (barriers such Beyond the integration of rural migrants, as hukou and lack of portability of social China faces other labor market challenges. security were discussed in earlier sections). In Labor force participation is low among the area of skills accumulation, this section local urban workers over age 50, especially assesses progress and proposes reforms in the women, in part because of low retirement age technical and vocational education and train- and limited possibilities for lifelong learning ing (TVET) system and higher education. It (Giles, Wang, and Cai 2011). At the same then examines the labor market institutions time, young college graduates are experi- for wage setting, labor taxation, labor law, encing persistent unemployment (Bai 2006). and labor dispute mediation. Wage setting mechanisms have resulted in substantial wage premiums in the SOE and PSU sectors (World Bank 2013). Although Context and challenges China’s urban labor market has a relatively China has made encouraging progress in low degree of informality, a high tax wedge integrating migrants into the urban labor threatens to push both migrant and low- market in recent years. However, China still skilled urban workers into the informal faces challenges, including the following: sector. Policies must shape a labor market that • Improving worker skills. As discussed ear- is inclusive of migrants and efficient for all lier, migrant worker wages have increased workers (Wu 2004). As mentioned earlier, very rapidly in recent years, and the end of an inclusive and productive labor market so-called cheap Chinese labor has already requires geographic, sectoral, and occupa- been documented (Li and others 2012).60 tional mobility for workers. At the same When wage increases outstrip productivity time, worker skills need to be continually increases, it affects firm profitability, and in improved to meet the demands of a rapidly fiercely competitive sectors, this condition evolving economy. Labor market and related can lead to failure or relocation to lower- institutions must provide channels for life- cost countries. Workers must upgrade their long upgrading of skills, as well as balance skills so they can take up higher-skilled jobs, wage and productivity growth. These areas but rural migrants are considerably less edu- of reform are discussed in greater detail cated than the urban workforce. With avail- below. able jobs increasingly being generated at the higher end on the value chain, migrants will Deepening the skills base have difficulty finding and keeping jobs. • Strengthening labor market institutions. Although the overall quality of China’s labor Despite progress in enforcing the labor laws force has improved significantly since the and expanding social insurance coverage, 1980s, China remains a human resource– rural migrants are overrepresented in the poor country compared to more developed INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 237 countries. Of the 761 million employed Technical and vocational education and training workers, only 114 million are considered (TVET) high-skilled workers. Half the workers have Current status and challenges attained only the nine-year compulsory edu- China has made numerous achievements in cation, and only 20 percent have attained strengthening its TVET system. These achieve- an education at the upper secondary level ments include (a) dynamic school-industry or above, compared to an average of 74 per- collaboration at the majority of TVET schools cent for OECD countries and 47 percent in and colleges, including student internships, the United States (OECD 2013). According customized training for enterprises, “fac- to the 2010 census, only about 10 percent of China’s labor force is college-educated— tory in school” opportunities, establishment a rate well below that of Korea, Japan, and of training bases in industries for students the United States, where the college-educated and faculty, and even product research and share of the labor force is over 40 percent development (R&D); (b) improved image and (OECD 2013). Among technical workers branding for TVET; (c) greater labor market in China, only one-quarter are qualified as relevancy of TVET curricula, along with more high-skilled workers with skills certifications. student-centered and hands-on pedagogy; (d) Even in the less developed areas of the graduation of about 6 million students from country, skills shortages and mismatches secondary TVET schools annually, with a have begun to emerge. A 2012 survey in Yun- 95 percent employment rate since 2005, and nan province showed that as many as 28 per- about 10 percent continuing to tertiary-level cent of the firms identified worker skills and studies; and (e) graduation of about 3 million education levels as the most severe constraint students from tertiary TVET annually, with to growth, the second most common of all an employment rate of about 80 percent over factors.61 Lack of required skills was cited as the past few years. the main problem encountered by fi rms hir- However, a number of challenges still need ing for managerial and professional positions to be addressed, such as the level of enroll- as well as for operative skilled workers. Nota- ment in TVET. As mentioned earlier in this bly, among China’s 253 million rural work- report, the government set a policy goal for ers (including 159 million migrant workers), the enrollment ratio of TVET to academic as many as 69 percent have not received any programs to reach 50:50 at both the second- type of training (NBS 2012a). ary and tertiary levels. Although the current International experience shows that when ratios are very close to 1:1, it will be increas- economies move up the technology ladder, ingly difficult to maintain a 1:1 ratio at the their need for education and skills at all lev- secondary level as parents continue to favor els grows, particularly at the tertiary level. general high school over secondary TVET By providing high-quality skills relevant schools. Ultimately, it may not even be desir- to current and future labor market needs, able to aim for a 50:50 ratio between the higher education systems can improve human academic and vocational tracks. A large capital formation and enable entrepreneurs, majority of TVET students are from rural, managers, and skilled workers to perform migrant, or otherwise disadvantaged or blue well, thus supporting technological mas- collar backgrounds, and the 50:50 target may tery, productivity, and competitiveness. An have unfairly pushed more migrant and rural effective higher education system can also children into the vocational track. In several help develop a country’s technological capa- EU and middle-income countries,62 at least bility by undertaking research, supporting 60 percent of upper secondary students are technology transfer, and providing workers enrolled in general programs, even though with skills for innovation. The subsections prevocational and vocational programs are below discuss two important channels for offered. About 25 percent of total secondary skills accumulation in China: TVET and the enrollment in Singapore is in the TVET track, higher education system. and in Korea, approximately 40 percent of 238 URBAN CHINA secondary students choose to enroll in TVET student subsidies and localized examples of institutions (UNESCO-UNEVOC 2010). vouchers such as in Jiangsu and in Meizhou Another challenge is the continued frag- city in Guangdong With the current resource mentation of TVET governance, manage- allocation, huge disparities exist in second- ment, and provision across public sector ary TVET across cities and prefectures and agencies and a growing private sector. Both between urban and rural areas. Special funds the Ministry of Education (MOE) and the for TVET tend to disproportionally benefit Ministry of Human Resources and Social schools that are already stronger. Security (MOHRSS) and their local depart- In terms of adult and labor force training, ments are involved in TVET. For certain eco- although the government clearly considers nomic sectors such as transportation, health, such training to be a priority, the effective- and agriculture, line ministries share respon- ness and relevance of current government sibility for delivering sector-specific training. training programs need to be examined fur- No single government ministry or agency is ther. Training of surplus rural labor is critical in charge of TVET affairs in China, although for facilitating the movement of rural workers MOE has been charged with a leading role to the secondary and tertiary sectors of the in implementing TVET system reform under economy and preparing them for migration. the direction of the Medium- and Long-Term Recognizing the importance of such train- Education Development Plan. ing, the government has invested in a number Quality assurance also remains a chal- of national training schemes in recent years. lenge. Reflecting the education and human Although evidence suggests that such train- resources dual-track provision of TVET, two ing improves rural household income (Liang parallel arrangements govern quality assur- and Chen 2013), monitoring and evaluation ance for education and training providers in of the various government training programs China. Standards developed by both MOE are lacking. Furthermore, the training pro- and MOHRSS tend to be input based, requir- grams often do not have clear links with ing a minimum level of school infrastructure, employer demand. training facilities and equipment, number of Evidence indicates that work-based train- majors, and qualifications of the institutional ing is uneven across enterprises. The recent head and teachers. Occupations and the cor- government requirement for enterprises to responding competencies required have been contribute 1.5 to 2.5 percent of the wage bill changing rapidly, and the classification and to training left implementation to individual competency standards need to be updated enterprises. A recent study in Yunnan prov- accordingly with further input from indus- ince found that whereas 90 percent of enter- try. Because schools must rely on their own prises did provide some form of training, capacity to develop and modify training pro- most provided training to less than 10 per- grams, the quality tends to be very uneven cent of their employees. Small and medium across schools. The general lack of up-to- enterprises, in particular, face capacity con- date, industry-led, competency-based occu- straints in forecasting and planning for pational standards seems to have affected the employee training. overall quality of training programs. China does not yet have third-party accreditation of Proposed policy responses TVET providers. The effectiveness and efficiency of the TVET Allocation of TVET funding also needs system could be improved by greater coordi- to be improved. More than 80 percent of nation among government, education, and total TVET fi nancing comes from the gov- industry. In the short and medium term, the ernment. The allocation of public funds for role of existing coordination mechanisms TVET relies predominantly on a formula such as Interdepartmental TVET Coordina- based on the number of students and a fixed, tion Committees could be strengthened for per student expenditure. Allocation remains policy development, planning, and service primarily supply and input driven, with very delivery at both the provincial and local lev- few demand-side interventions, apart from els. In the long term, the government could INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 239 consider consolidating policy making, plan- In addition to financial assistance, techni- ning, financing, and service delivery for cal and institutional assistance would help TVET into an agency such as a new skills facilitate the provision of work-based train- development authority or into one of the ing, especially by small and medium enter- existing ministries. This would eliminate the prises. Technical assistance is particularly distinction between schools governed by the needed in the areas of needs assessment, Department of Education and those governed training design and implementation, and by the Department of Human Resources and monitoring and evaluation. Institutional Social Security, as Shanghai has already done support might include organizing groups of for its secondary TVET institutions. Con- small and medium enterprises to reduce the solidated governance and management will cost of training design and delivery. The gov- be even more critical for nonformal training, ernment can also systematically help firms which appears to be even more fragmented build partnerships with training providers. and less structured. To enhance the relevance and effective- Further efforts are needed to increase ness of TVET, the link between schools and demand-side interventions and on-the-job enterprises need to be strengthened. Industry training and to balance technical and non- and employer involvement can play a key role technical skills training, as in the following: in ensuring that the educational and train- ing system, especially at the TVET level, is • Nonformal and rural training. Public, pri- responsive to labor market demand. System- vate, and industry sources of funding for and school-level industry involvement should nonformal training could be consolidated be legalized and institutionalized and its into a single fund. A set of transparent cri- functions expanded to cover a range of policy teria for disbursement of funds would be issues, including setting skills development necessary and should be based on outcomes priorities, developing competency standards rather than input to ensure the quality of for skills certification, allocating resources, training. Training vouchers would be an- and monitoring performance. other option, creating a competitive market The existing qualifications framework for nonformal training while giving partici- needs to be updated with standards and com- pants more choice. petencies that reflect labor market demand. • On-the-job training. Employers are cur- In the long run, adoption of a common stan- rently required to dedicate 1.5 to 2.5 per- dard for assessing competencies would pro- cent of their total wage bill to training, but mote greater integration across the education efforts are needed to ensure the effective system and with other countries. A national implementation of that requirement. Other qualifications framework (NQF) could play mechanisms that provide more incentives an important role in this regard. Country- and quality assurance for work-based train- level frameworks have proved to be valuable ing should also be considered. In a few suc- in a number of countries, including the Rus- cessful East Asian countries such as Korea, sian Federation, the Netherlands, the United Singapore, and Malaysia, centrally pooled Kingdom, Ireland, and Australia. The EU has training funds have been used to improve also established a voluntary European Quali- the overall efficiency and equity of training. fications Framework to promote mutual rec- ognition of educational and skills qualifica- Public investment in TVET could be tions. The potential benefits of such a system improved further. More public resources in China, with its diversity of institutional could be directed toward promoting equity subsystems of education and training, are of financing and bridging gaps between rural substantial and could contribute to needed and urban areas and between schools. Public improvements in educational quality and fi nance should be targeted at helping TVET labor market relevance. schools in disadvantaged localities, poor- The TVET system could benefit enor- performing schools with more resource con- mously from greater private provision. To straints, and low-income families. help encourage greater plurality in TVET 240 URBAN CHINA provision, the financing system for TVET with due credit for competencies acquired in would need to allow for public fi nancing of either system. nonstate provision, within a solid regulatory framework that would ensure that nonstate Higher education providers meet quality standards.63 Licens- ing and accreditation for nonstate providers Current status and challenges is very underdeveloped in China and would Higher education in China has expanded benefit from the experience of countries with rapidly since the late 1990s. Historically, it well-developed training markets. For exam- was an elite institution, with a gross enroll- ple, in Chile, the Servicio Nacional de Capac- ment rate of less than 10 percent. In 1998, itacion y Empleo (SENCE), a specialized the Chinese authorities made the decision agency of the Ministry of Labor, maintains to expand higher education, starting with a no in-house capacity for training provision target of increasing the gross enrollment rate and procures training services from public from 9.1 percent in 1997 to 11.0 percent in and private providers. 2000.64 Rapid expansion took place between Stronger monitoring and evaluation are 1999 and 2009, with annual growth of more needed to help ensure implementation of than 20 percent for both college entrants and policies and gauge the effectiveness of TVET graduates (figure 3.15). By 2012, the gross efforts. The existence of a functioning moni- enrollment rate reached 30 percent (Yue toring system creates an incentive for local 2013). China aims to achieve a higher edu- authorities and schools to implement required cation gross enrollment rate of 36 percent in policies and adhere to standards. Evaluation 2015 and 40 percent in 2020 (MOE 2010). results can be further used to promote good This rapid expansion of higher education practices within the system and replicate has resulted in lower labor force participation them on a wider scale. among young people. With greater access to An overarching reform needed across colleges, millions of youths have chosen to TVET and higher education is to increase study longer and postpone their labor mar- articulation between the technical and aca- ket entry, which is one reason for the emerg- demic streams. The objective would be to ing labor supply shortage in China. At the enable students to shift between streams same time, college graduates appear to have FIGURE 3.15 Expansion of higher education in China, 1990–2012 30 25 20 Millions 15 10 5 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 Entrants Enrollment Graduates Source: NBS, China Statistical Yearbook, various years. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 241 difficulty finding jobs—the employment rate TABLE 3.16 Trends in employment and wages of college measured at six months after graduation graduates, 2008–12 declined from 93.7 percent in 1996 to 73.0 Year 2008 2009 2010 2011 2012 percent in 2004 (Lai and Tian 2005). Evi- Employment rate (%) dence also indicates that the increased sup- University graduates 87.6 88.0 91.2 90.8 91.5 ply of graduates has had a downward effect Vocational college graduates 83.5 85.2 88.1 89.6 90.4 on their wages (Y. Wu and Zhao 2010). Yet Average 85.5 86.6 89.6 90.2 90.9 according to other sources,65 sample surveys Monthly wage (RMB) show that the employment rate of university University graduates 2,133 2,369 2,815 3,051 3,366 graduates six months after graduation rose Vocational college graduates 1,647 1,890 2,142 2,482 2,731 from 87.6 percent in 2008 to 91.5 percent in Average 1,890 2,130 2,479 2,766 3,048 2012, and the average initial monthly wage Source: China College Graduates Employment Report (MyCOS 2010, 2013). increased from RMB 2,133 to RMB 3,366 Note: Employment rate is measured at six months after graduation; monthly wage is the average initial wage. during the same period (table 3.16). Nonethe- less, the same source estimates that underem- ployment (part-time work or working in an unrelated field) among university and college low-quality university was 28 percent, with graduates six months after graduating was the gap being larger for those who gradu- high at 14 percent in 2011. ated later. These fi ndings suggest that school Both supply and demand factors likely quality (or rank) provides some information contribute to the difficulties college graduates on graduate quality and subsequent returns, face in finding attractive, well-paid jobs. Col- and it is likely that students enrolled in new lege graduates now account for nearly half expansion colleges may be perceived to be of of new urban labor market entrants. On the lower quality. demand side, the urban labor market needs Decentralized financing and allocation time to generate opportunities for skilled of budgetary resources is an important fac- workers and absorb them. Another possible tor in the decline of higher education qual- contributing factor to higher unemployment ity. Although the expansion of higher educa- among recent college graduates is that new tion enrollments is impressive, the budgetary graduates with high expectations for jobs expenditure per student dropped from RMB may be willing and have sufficient resources 8,529 in 1998 to RMB 5,941 in 2005 (Yue to take time to find the right job. 2013). Most of the enrollment increase has Although China is home to world-class come from universities run at the provin- universities, the rapid expansion of higher cial level, but the allocation of budgetary education has led to a decrease in the aver- resources is severely biased toward key uni- age quality of graduates. China dominated versities and coastal provinces. 67 In 2011, the 2014 ranking of higher education insti- although provincial universities accounted tutions in BRICS and emerging economies, for 83.1 percent of total enrollments, the taking 23 slots among the top 100 univer- ratio of budgetary expenditures per student sities, with Peking University and Tsinghua in key universities to those in provincial uni- University ranked first and second. 66 On versities was 2:1. average, however, the rapid expansion of Insufficiently qualified faculty and varying higher education has been accompanied by standards have also contributed to a decline a decline in education quality. Li and oth- in education quality. To meet the ambitious ers (2012) found a 26.4 percent return to expansion targets, secondary vocational attending an elite university for new gradu- schools were often upgraded to vocational ates before controlling for student ability (three-year) colleges, and vocational schools (proxied by examination scores) and a 10.7 were upgraded to four-year regular colleges percent return after doing so. Analyzing without obvious improvements in the qual- data from 2002, Zhong (2011) found that ity of instructional staff or facilities. Some the difference in earnings between gradu- colleges also expanded enrollments without ating from a high-quality university and a matching the increases in student numbers 242 URBAN CHINA with comparable increases in teachers and Another gap is evident in the enrollment facilities. From 1990 to 2007, the student-to- disparities across different economic and faculty ratio rose steadily from 5.2 to 17.3. social groups. Although more than 60 per- The mismatch between higher education cent of the Chinese population resides in institutions and the skills employers need is rural areas, some surveys of university enroll- a critical issue for the quality of higher edu- ment in Beijing city in 2007 showed that only cation.68 The oversupply of college graduates 29 percent of non-Beijing enrollment was for some majors partly reflects a disconnect from rural areas (X. Wang and others 2011; with the urban labor market. Better match- Li 2010). The percentage of parents in China ing of graduates to jobs may be greatly facili- with college and higher degrees is only 5 per- tated by reforms to increase the labor market cent, but the same survey showed that 31 relevance of higher education. In addition to percent of enrollees had parents with college the problem of finding workers with the right and higher degrees. Ethnic minorities gener- job-specific knowledge, a broader criticism is ally have a lower participation rate in higher that the Chinese educational system—includ- education than Han Chinese. ing its universities—still does not sufficiently equip students with some of the general skills Proposed policy responses desired by employers, such as leadership, cre- Greater efforts are needed to increase the ativity, teamwork, and communication. labor market relevance of higher educa- The unfinished governance reform has pro- tion, for example, by strengthening the links found implications for the administration of between the higher education system and higher education institutions and the quality industry. Governments can improve their and relevance of higher education. China has stewardship by ensuring that private and taken a gradual approach to shifting from its public providers of higher education comple- traditional state-controlled model to a state- ment each other, especially in meeting the supervised model for universities (World skill needs of employers. They can ensure Bank 1997). The autonomy of higher educa- favorable policies, clear and efficient regula- tion institutions has increased with respect to tion and information, and better access to curriculum development, faculty recruitment, student loans for both public and private and international exchanges, and oversight providers. Governments can also connect for the majority of higher education institu- firms and providers of skills and research by tions has been decentralized from the central sharing best practices—from collaborating in ministries to provinces. However, universities curriculum development to setting up univer- are far from autonomous in their administra- sity incubators—and by offering incentives to tion and management (W. Wu 2011), and the make these university-industry links work. roles of government and universities are not Increased resources and improved invest- well defined. ment efficiency for higher education are Inequality in access to higher education needed, which includes tapping the potential is another significant challenge, in part the of private provision and fi nancing sources. result of university enrollment quotas. Uni- More public financial resources should be versity enrollment quotas for provinces have considered to improve teaching conditions been used since the 1950s, with a higher and facilities, especially in lagging regions. quota for the host province or city. In the Greater efficiency means being more selective late 1990s, some key universities—largely and performance based when allocating pub- financed by the central government—started lic funds across teaching and research insti- receiving support from local governments tutions and targeting scholarships and loans and started returning the favor by providing more effectively. One option is to review the even higher quotas to their host provinces current fi nancing approaches and resources or cities. As a result, the chance of getting for both recurrent and capital funding so as into any university in Beijing is significantly to reward efficiency. It is also important to higher for Beijing residents than for equally encourage the expansion of private univer- qualified nonresidents. sities. Variable fee policies combined with INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 243 effective loan schemes are one effective way focuses on four key labor market institu- to mobilize private resources while protecting tions that have important implications for the access for the poor and disadvantaged. urban labor market: wage setting (including Within the system for managing public minimum wage and collective bargaining), higher education institutions, universities labor taxation, labor contract law, and labor should have greater institutional autonomy dispute mediation. and accountability. An important aim will be to continue the transformation from a state- Building a modern wage-setting mechanism control model of higher education gover- nance to a scenario in which the government Real minimum wages have increased rapidly plays the crucial role of planner, coordinator, across China since the mid-1990s, as illus- and supervisor and is involved nationwide in trated by figure 3.16. With the exception of quality assurance in terms of standards set- 2009 (when in the wake of the global finan- ting, monitoring, and evaluation. Further cial crisis no provinces adjusted their mini- reforms include providing more institutional mum wages), the number of provinces mak- autonomy with clear accountability, a qual- ing upward adjustments has been increasing ity assurance and accreditation framework, a steadily (Du and Wang 2008; World Bank system of transfers of academic credits, stra- 2013). The average minimum wage as a per- tegic and equitable fi nancing, better coordi- centage of the average urban wage increased nation in overall planning (including the pos- from 22 percent in 2009 to 25 percent in sibility of setting up an autonomous higher 2012. According to the 12th Five-Year Plan, education commission), more exchanges with the policy goal is to increase the minimum world-class universities, and improved pro- wage by 13 percent annually, allowing the grams of student loans and scholarships. ratio of the minimum wage to the local aver- The current provincial quota system age wage to reach more than 40 percent in among higher education institutions should most provinces. Looking internationally, the be reviewed. Various proposals have sug- average ratio of minimum wage to national gested how to revise the current quota sys- average wage ranges from 20 percent in tem, which tends to favor provinces with the Mexico to 50 percent in New Zealand, with most tertiary institutions. The most favorable an average of 37 percent in OECD countries proposal is to slowly increase the quota for (World Bank and DRC 2013). more populous provinces rather than abol- Currently the minimum wage is not a ish the quota immediately, as the latter may wage that most workers face in the urban result in increased inequity if admission is labor market, and it serves as a reference based only on college entrance exam results. point in its relationship to the level of average wages and social benefits. Although mini- mum wages have adjusted sharply upward in Aligning labor market institutions to recent years, the vast majority of formal and better serve the needs of the urban informal workers in urban areas have labor labor market incomes above the official minimum. Empiri- Regulation of the employment relationship cal results reveal that almost all workers— has evolved with the transition to a market migrant or local, men or women—receive economy, with China’s legal labor standards labor income above the city-level minimum becoming more protective over time. Box 3.6 wage (Cai and Du 2011). The current mini- provides an overview of some of the coun- mum wage policy plays a significant func- try’s main labor laws. tion as a broader social policy tool, a device Labor market institutions can have impor- for signaling the government’s concern for tant impacts on labor mobility, income dis- low-income workers, and perhaps also as an tribution, and social cohesion. These institu- instrument of local industrial policy in terms tions are important for balancing the twin of cross-prefecture competition. objectives of maximizing productivity and The multiple policy objectives of the mini- ensuring distributional fairness. This section mum wage in China may at times dilute its 244 URBAN CHINA BOX 3.6 The main labor laws in China National Labor Law (1994): This first National for expansion of collective contracting in fi rms with Labor Law became a foundational law that set out trade unions. More recently, the National People’s key principles and institutions to guide the reform Congress has been working to close loopholes in the of labor relations in China, moving away from the 2008 law related to labor subcontracting. The 2012 previous system of state administration of employ- revisions to the Labor Contract Law placed new ment, lifetime employment, extensive enterprise-pro- restrictions on labor subcontracting and introduced vided welfare, and limited labor mobility. This law stricter regulations on the establishment of labor sub- enshrined features such as a labor contract system contracting agencies, including stipulating that labor that stipulates written contracts to establish a labor subcontracting can only be used for workers who are relationship; five types of social insurance that rely “temporary,” “auxiliary,” or “substitutes” for work- on employer and employee contributions to social- ers on leave. ized pools; a system of labor dispute resolution that Labor Dispute Mediation and Arbitration Law resolves labor confl icts via mediation, arbitration, (2008): This law changed some aspects of the resolu- and litigation; and legal standards for working hours tion system considerably and expanded access to the and vacation time. In important contrast to the pre- labor dispute process for employees. It reduced the vious system, which institutionalized deep divides fees for going to arbitration and litigation, lengthened between workers based on work-unit and hukou sta- the statute of limitations for labor violations to one tus, the 1994 law also aspired to cover most work- year (from 60 days), and simplified the dispute reso- ers in most types of fi rms. The law also contained lution process for some disputes, including making articles on minimum wage regulation, although more some disputes final at arbitration (without the oppor- detailed guidelines on minimum wage setting did not tunity for court hearings). The new law also placed emerge until 2004 and 2007. The fi rst provisions on more of the evidentiary burden on employers, even collective contracts can also be found in the 1994 when the employee initiates the dispute. In short, it National Labor Law, and a series of guidelines and followed the general spirit of President Hu Jintao’s regulations have been issued periodically since then. administration in placing more emphasis on media- Labor Contract Law (passage in 2007/imple- tion as the primary and preferred way to resolve labor mentation in 2008): The Labor Contract Law was disputes. passed to enhance legal protection for China’s work- Other noteworthy laws that offer increased ers, improve working conditions, increase wages, employment protection are the Employment Promo- stabilize employment, and improve participation in tion Law (2008) and the Social Insurance Law (2010). social insurance programs. It mandated that compa- The former strengthened restrictions on discrimina- nies sign open-ended contracts with employees after tion, and the latter extended social insurance to more completion of two fi xed-term contracts. It also pro- workers and increased the likelihood of portability of vided the legal framework (supplemented by the 2010 insurance across administrative jurisdictions. regulations for the “Rainbow Plan” of MOHRSS) Source: World Bank staff compilations from various sources. pure labor market function. The social policy may become necessary to adopt a different trade-offs of these multiple objectives have approach to minimum wage policy. been masked by a wide set of indicators and The basic function of the minimum wage criteria in China’s minimum wage guide- should be reoriented, shifting from the cur- lines and practice. To date, these trade-offs rent “living wage” approach to the “wage have perhaps not mattered because labor floor” approach, which is more common in productivity has outstripped average wage OECD countries. The primary function of growth and migrant and low-income workers the minimum wage is to ensure that work- have had to “catch up” after relative stagna- ers are not exploited as a result of their lim- tion in their real wages in the 1990s. How- ited bargaining power and that they receive a ever, this period will not last forever, and it wage that fairly reflects their contribution to INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 245 FIGURE 3.16 Urban minimum wage adjustments, 1995–2012 1,200 60 1,000 50 Monthly wages (RMB) 800 40 Percent 600 30 400 20 200 10 0 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2001 2012 Nominal minimum Real minimum % of average urban wage (left axis) wage (left axis) wage (right axis) Source: World Bank staff calculations, based on minimum wage dataset from labor bureau and yearbooks. productivity growth. The minimum wage is of productivity are available to the authorities not intended on its own to keep families out who set minimum wages. Deeper reforms of of poverty, which is the purpose of other pol- labor market statistics systems are needed, icies, particularly social protection programs. with regular surveys of representative sam- Placing too much emphasis on the poverty ples of firms and workers. function of minimum wages can actually More broadly, wage outcomes in the harm low-income workers by increasing urban labor market indicate that varied unemployment or pushing them into the mechanisms are driving wage setting. In the informal sector. competitive and private sectors, positive signs The major distinction between the liv- indicate rapid wage convergence between ing wage and wage floor approaches is that migrant workers and between migrant and the wage floor approach uses some mea- local workers, indicating that the labor mar- sures of productivity growth or competitive- ket fundamentals of demand and supply are ness. Like the current approach, the wage overcoming rigidities in wage-setting mecha- floor approach takes numerous factors into nisms. The convergence can be seen in the consideration in determining the minimum falling differential in average hourly wages wage, many of which are already reflected in in the 2000s and in the degree of difference China’s minimum wage guidelines. Although that can be explained by observable individ- price inflation and other factors remain ual and job characteristics.69 In contrast, evi- important under the wage floor approach, dence on wages in monopoly sectors (mainly the key distinction is adjusting minimum dominated by SOEs) shows that a high wage wages to reflect productivity growth. China gap remained between SOE workers and has elements of this approach in its current those in competitive sectors. About half of policy, but the balance between a needs- that difference could not be explained by the based approach and a productivity-based human capital characteristics of workers in approach is toward the former. Moreover, the monopoly and competitive sectors (Yue to shift toward a wage floor approach, the and others 2013). system of labor market statistics must be Enforcing wage discipline in the SOE improved so that timely and reliable measures sector will be challenging but could yield 246 URBAN CHINA significant benefits for the Chinese economy consultation has reduced labor confronta- and a more equitable distribution of wages tions in multinational corporations that across society. The current wage premiums have such mechanisms, but it is also clear of SOEs reflect underlying distortions in from the rising incidence of labor disputes in the operating environment of SOEs and are China that much remains to be done. A key difficult to justify on efficiency or equity challenge in developing truly tripartite wage grounds. A robust and transparent system bargaining is the role of the All-China Fed- of benchmarking wages could be estab- eration of Trade Unions (ACFTU), which is lished to determine SOE wages by reference still evolving toward a role as the representa- to relevant comparators in the wider labor tive of workers in wage discussions. Provid- market, rather than simply by the amount ing an effective voice for both workers and of profits available for distribution to work- employers in the bargaining process is impor- ers. In the case of local monopolies, it would tant for reaching a win-win situation. also be useful to benchmark their wages across regions to get a broad sense of within- Reducing labor tax industry comparability and identify outliers. Over the longer run, reforms could move China taxes labor at a high rate, with five toward having SOEs conduct collective con- compulsory social insurance schemes and sultation and bargaining in the same way as one urban compulsory housing fund pro- other firms under current labor legislation. gram that require contributions. As shown For the public sector, in which wage set- in table 3.17, employers are required to ting is determined separately, the main ques- contribute for all five insurance schemes tion is how and to what extent wages should (pensions, medical insurance, unemploy- be tied to performance and used to promote ment insurance, work injury insurance, and accountability. A big question for China is maternity insurance) and the housing fund the extent to which performance-related pay program, and employees are required to should be used in setting wages for workers contribute to three insurance schemes (pen- in the education and health sectors. As dis- sions, medical insurance, and unemploy- cussed earlier, pure performance-based pay ment insurance) and the housing fund pro- based on volume and value is not suitable gram. The rates of social contributions are for teachers and health providers because of high by any standard and vary considerably the perverse incentives that may result, so across cities and within provinces. Pensions if it is to be applied, a base compensation dominate social insurance contributions, with some degree of bonus would be more largely because of the high costs of funding appropriate. International experience also legacy pension costs. Contributions for the suggests that a one-size-fits-all approach to housing fund, which aims to provide fi nan- performance-based pay should be avoided. cial support when workers purchase new The issues in wage setting for PSUs are housing, are also high, and it is not clear somewhat distinct, with the additional chal- that this program has significant benefits for lenge of promoting accountability of public middle- and low-income workers. sector workers while ensuring that they are Furthermore, social insurance contribu- compensated adequately. Given the unsys- tions are based on a notion of minimum pay- tematic nature of PSU wage setting, a more ment that implies significantly higher con- desirable approach in the short to medium tribution rates for low-income workers. The term would be to develop a national strategy urban social insurance contribution requires for PSU wage-setting reform, including for a minimum payment for each employee social services. equal to what would be paid in the case of Collective bargaining is still at an early a worker earning 60 percent of the local stage of development and needs further average wage, with a maximum payment reform to transition from wage consul- of 300 percent of the average wage. There- tation to true bargaining in the interna- fore, if a worker earns less than 60 percent tional sense.70 Evidence shows that such of the local average annual wage, the worker INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 247 and the employer must still make the same TABLE 3.17 Social insurance and housing fund contributions in minimum payment contribution. This non- urban China, 2013 linearity at low-income levels introduces a Type Employer (%) Employee (%) significant disincentive for low-wage work- Social insurance ers—primarily part-time workers, migrants, Pension insurance Mostly 20 (10–22) 8 (no variation) and lower-income self-employed workers—to Unemployment insurance Mostly 2 (0.5–2.5) Mostly 1 (0.2–1.0) participate in social insurance. Studies show Medical insurance Mostly 8 (5–12) Mostly 2 that about one-third of all workers fall below Work injury insurance 0.5–2 No contribution the minimum contribution base threshold Maternity insurance 0.5–1 No contribution Subtotal 31–33 11 (World Bank and DRC 2013). Housing fund contributions Rough average 10 Rough average 10 An international comparison reveals that (5–20) (5–20) the tax wedge on workers in China is higher Source: World Bank staff compilation based on various documents of Ministry of Human than in many OECD countries as well as Resources and Social Security (MOHRSS) and the Department of Human Resources and Social Security (DHRSS). other large middle-income countries (such as Brazil, India, Indonesia, Mexico, and South Africa) and East Asian regional comparators. FIGURE 3.17 An international comparison of the Figure 3.17, which compares the tax wedge tax wedge, 2012 for a single worker earning the average wage in urban China, shows that China’s tax wedge (including the housing fund contribu- Australia tion) was 42.4 percent in 2012—close to the Brazil average for OECD countries.71 Even when Chile the housing fund contribution is excluded, China (1) China’s tax wedge is still higher than in China (2) most comparator countries. The share of France social insurance contributions in the total tax Germany wedge is relatively high in China, because the India tax wedge in most countries comprises social Indonesia contributions and personal income tax. An Japan average worker in China does not pay per- Korea, Rep. sonal income tax.72 High labor taxation has implications for Mexico China’s labor market dynamics and long- Netherlands run competitiveness. It places heavy burdens New Zealand on both employers and workers and likely OECD encourages informalization of the labor mar- South Africa ket. Employers game the system in numer- Turkey ous ways, while workers have the incentive United Kingdom to opt out of participating in social insur- United States ance schemes. Responding to employer and employee preferences, local city governments 0 10 20 30 40 50 60 may choose to treat social insurance and Tax wedge (%) housing fund programs for local and migrant workers differently to avoid high labor taxa- Source: Gandullia, Iacobone, and Thomas 2012; OECD 2013. Note: Results for China (1) exclude housing fund contribution; and tion. For example, Shanghai applies only results for China (2) include a housing fund contribution, as calcu- three social insurance schemes (pension insur- lated by the World Bank staff. Results for Brazil and India are for 2010; results for Indonesia are for 2009. ance, medical insurance, and work injury insurance) to rural migrant workers. Notably, most urban social insurance funds continue As in other countries, high mandated to generate significant surpluses, a situation contribution rates provide a strong incen- that is often observed in a maturing pension tive for employers to avoid compliance by system but not for other forms of insurance. using labor dispatch services and underre- 248 URBAN CHINA porting employment and wages (Aterido and used for workers’ training and related pur- Hallward-Driemeier 2011; Gallagher and poses (Chu 2013). Instead of using this source others 2013; Perry and Olarreaga 2007). This of funding, using general revenue fi nancing phenomenon is particularly pervasive among for this purpose would improve the efficiency private enterprises and smaller businesses, but of resource utilization for training that is it occurs even among firms with considerable not currently promoted through the guaran- state or foreign investment. Although esti- teed revenue of the unemployment insurance mated evasion rates have fallen from a high contribution. Some cities, including Beijing, of 41 percent in 2000 to 2.4 percent in 2010, Hangzhou, Guanzhou, have already reduced this apparent improvement comes with cave- contribution rates and used the surplus funds ats and should be interpreted with caution to provide training for workers. given the use of administrative data volun- Reduction of the housing contribution tarily provided by firms. could also be considered. The high share of Evidence from the 2010 China Urban workers and employers who have already Labor Survey suggests that similar evasion opted out of the housing scheme points to may be occurring among workers. As dis- low demand for the program, in large part cussed earlier, evidence suggests that employ- because of negative real returns, inadequacy ers and rural migrants may collude to avoid of benefits, and inequitable use of funds paying into social insurance programs in (World Bank 2013). Although the housing exchange for higher wages (Gallagher and policy for workers needs to be examined, others 2013; Giles and others 2013). This is housing funds have proved to be ineffec- likely related to a lack of confidence in the tive in providing the desired protection and portability of these programs among young may have helped inflate property markets migrant workers. The limited portability by serving as a cheap source of liquidity options may lower the expected value of for local authorities. The primary source of participating for migrants far more than for resistance to such a reform would thus likely local hukou workers, given the high mobility be local authorities rather than workers or of migrants. employers. As part of China’s overall adjustment of the tax structure, the tax burden on labor Implementing the labor contract law should be lowered over time. Even within the current system, labor taxation could be Provisions of the 2008 Labor Contract Law reduced without unduly lowering the ben- (LCL) have reversed the trend toward infor- efits that workers derive from their contribu- malization of China’s labor market. The tions. Another issue that could be addressed 2008 LCL introduced much more severe in such reforms is the high marginal con- penalties for failure to sign a written contract tribution rate for low-paid workers, which in a timely fashion. Firms that do not sign would be important to consider as part of written labor contracts after one month of a wider strategy to create incentives for for- employment must pay double wages for the mal sector participation. More specific mea- time the worker was employed without a con- sures are discussed below. tract (article 82, LCL). The fi rm can also be The pension contribution has potential for forced to sign a non-fixed-term contract with reduction, although it is a more complex mat- an employee who works for one year without ter if worker benefits are to be protected. a written contract (article 14, LCL). Given the surpluses of those employment The LCL and the overall trend toward funds and the sustained low unemployment increased worker protections have benefited rate in China, another option is to reduce the migrant workers. Despite weaker enforce- unemployment insurance contribution. The ment of the LCL after the onset of the global combined employer-employee unemployment fi nancial crisis in 2008, research shows that insurance contribution is 3 percent (see table the proportion of workers with written labor 3.17). Currently, the surpluses are nearly contracts has increased significantly, par- RMB 300 billion, and much of the funds are ticularly among migrant workers. The 2010 INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 249 CULS found that the proportion of local as of July 2013, the MOHRSS has yet to resident workers with written labor contracts release detailed guidelines on the maximum increased from 65 percent in 2005 to 71 per- proportion or number of workers that may cent in 2010, while the proportion of migrant be employed through labor subcontracting. workers with a contract increased from 12 After the 2012 revisions to the LCL were percent to 34 percent. However, enforcement passed, companies began looking for other and compliance with the law varies signifi- ways to avoid open-ended contracts, such cantly across regions. Social insurance par- as using outsourcing companies. Authori- ticipation has also improved since passage of ties in some localities (that is, Jiangsu) have the LCL, although the rates of participation responded by restricting the use of outsourc- are still much higher for local residents than ing companies. for rural migrants (Freeman and Li 2013; China’s labor laws now considerably Gallagher and others 2013). exceed the OECD average for employment The LCL’s restrictions on the use of short- protection (figure 3.18). In areas such as term contracts significantly raised costs for individual dismissal and collective dismissal, employers. Article 14 of the LCL states that China’s protections exceed those of many a worker who has concluded two fi xed-term other developing countries and those of all contracts should be extended a non-fixed- OECD countries. According to the OECD term contract for the third extension of the Employment Protection Indicator, in 2008 labor relationship, and workers on these the average rate of protection for OECD contracts can only be terminated with cause. countries was 2.25 (on a scale of 0 to 6). Showing cause for termination is a lengthy Among the 10 developing economies exam- process and usually requires significant docu- ined in the report, only Indonesia exceeded mentation and justification. Furthermore, the China’s protection level. Both Indonesia (3.0) earlier Labor Law required severance when and China (2.75) were considerably higher contracts were terminated early for cause but than the OECD average. not for expiration, but the LCL requires sev- The medium and long-term impacts of erance upon expiration, with one month of enforcing the LCL should be carefully moni- wages for every year of employment. tored so that improvements and amendments Given the reduced flexibility and added can be made as needed. With enforcement of costs associated with open-ended contracts, the LCL, raising labor costs would reduce the LCL created incentives for employers profit margins and might weaken the com- to expand the use of labor subcontracting. petitiveness of China’s companies. Therefore, According to a report issued by the ACFTU, monitoring the medium-term impacts of the workers hired under labor subcontracts num- LCL will support China’s competitiveness, bered 37 million, or 13.1 percent of the work- job creation, and employment protection. force, in 2011. The ACFTU found extensive As international experience shows, legiti- use of labor subcontracting in large SOEs, mate interests of both workers and employ- many government and social organizations, ers should enter the considerations of policy as well as some foreign-invested and private making and legislation so as to balance flex- enterprises (ACFTU 2012). Subcontracted ibility and security. workers usually earn less than formally employed workers and receive lower social Mitigating labor disputes insurance contributions. Since 2008, the National People’s Con- The number of labor disputes has exploded gress (NPC) has worked to close loopholes since passage of the Labor Dispute Mediation in the 2008 law related to labor subcontract- and Arbitration Law in 2008. As described in ing. The 2012 revisions to the LCL placed box 3.1, this law changed some aspects of the new restrictions on labor subcontracting resolution system considerably and expanded and introduced stricter regulations on the access to the labor dispute process for employ- establishment of labor subcontracting agen- ees. As shown in figure 3.19, labor disputes cies. While the revisions went into effect nearly doubled in 2008 and continued to 250 URBAN CHINA FIGURE 3.18 Protection of permanent workers about work injury insurance. Rural migrant against individual and collective dismissals, 2013 workers are involved in the majority of labor disputes (Gallagher and others 2013). New Zealand Labor disputes are becoming more com- United States plex, more difficult to resolve in a timely Canada United Kingdom fashion, and more likely to have large impacts Chile on public opinion and social stability (China Australia Labournet 2010). The dispute process can Estonia Ireland be long and complex, particularly for work- Hungary ers with lower levels of education and little Japan Switzerland legal assistance. Enforcement of arbitrated Finland and litigated judgments can be difficult, espe- Korea, Rep. Israel cially when they require action on the part Slovak Republic of employers, such as reinstatement and job Spain Norway reassignment. Aggrieved workers, while con- Denmark tinuing to make use of the resolution process Poland Greece and the courts, are also becoming more stra- Austria tegic in their use of the media, social media, Iceland and public opinion to garner sympathy and Turkey Sweden put pressure on the government, judicial Mexico institutions, and their employers to reach Czech Republic Slovenia favorable decisions. Portugal A large number of disputes are settled Luxembourg Italy through mediation before reaching arbitra- France tion, but the number of cases proceeding Netherlands Belgium to arbitration is still rising as a result of the Germany total increase in disputes. In 2012, there were Saudi Arabia about 1.4 million labor disputes, with 54 Brazil percent resolved by mediating units before South Africa reaching arbitration. Despite the push for Russian Federation India more mediation, the number of suits going to Argentina the courts has increased sharply. Arbitration Latvia Indonesia is compulsory, so all disputes after mediation China must go through arbitration. However, arbi- 0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 tration is not necessarily final because either Scale 0–6 side may appeal and proceed to civil court Individual dismissals Collective dismissals for a new hearing on the case. In 2005, more than 35 percent of all arbitration judgments in Shanghai were appealed in court (Dong Source: OECD Employment Protection Database, 2013, update. http://www.oecd.org/employment/protection. 2008). Note: Data refer to 2013 for OECD countries and Latvia, 2012 for other Many local governments have lacked the countries. The figure presents the contribution of EPR against indi- vidual dismissal and additional provisions for collective dismissal to capacity and expertise to handle the large the indicator of employment protection for regular workers against increase in disputes since 2008 efficiently individual and collective dismissal. The height of the bar represents the value of the EPRC indicator. EPR = employment protection for and effectively. China’s recent promotion of regular workers against individual dismissal; EPRC = employment mediation is unusual in that it relies on non- protection for regular workers against collective dismissal. specialists, local government officials or cad- res, and neighborhood volunteers to resolve rise. In 2011, 34 percent of all arbitrated dis- complicated employment issues. Local courts putes were about compensation; 25 percent report very large caseloads, long wait times, were about social insurance; and 20 percent and frustrated litigants (Zhao 2008). The were contract termination disputes. About 53 wait time for an arbitration hearing has percent of all social insurance disputes were lengthened to several months, and workers INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 251 FIGURE 3.19 Total disputes and disputes settled through arbitration, 2001–12 1,600 1,400 Labor disputes (thousands) 1,200 1,000 800 600 400 200 0 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Total disputes Arbitrated disputes Source: NBS, China Labor Statistical Yearbook 2012b; MOHRSS, Statistical Bulletin of Human Resources and Social Security Development 2012. who appeal rulings to civil courts often face United States and Japan, where administra- a one- or two-year wait for final resolu- tive agencies play an important role in inves- tion (Gallagher and others 2013). To man- tigating and handling statutory violations. age large labor confl icts that threaten social China’s system is also more open-ended than stability, local governments have developed processes in many other countries, which can cross-unit stability preservation committees. lead to a very lengthy resolution process. Although the resolution system may be The current dispute resolution system is effective in the short term, it carries the risk organized to settle rights disputes but not of inefficiency and creates incentives for interest disputes.73 As Chinese workers’ con- escalation. The current strategies for dispute sciousness of protections has increased, and resolution are very reactive to problems as with tight labor markets putting upward they occur, and they fail to prevent disputes pressure on wages for migrant workers from arising in the fi rst place. They lead to and manufacturing workers in general, an the loss of economic gains for employers and increasing number of disputes in China are employees and also rely heavily on govern- interest disputes rather than rights disputes. ment staffing and resources. Furthermore, Some of the recent high-profile collective in the context of large confl icts—sometimes work actions in China (such as the 2010 involving thousands of workers—there are Guangzhou Honda strike) involved such strong incentives for extreme action to draw interest disputes, but China’s system of labor the attention of the public and the media and dispute resolution does not include structures to put pressure on the government. to resolve interest disputes. This institutional China’s system of labor dispute resolution vacuum may partly explain why collective is much more centralized than the systems work actions such as strikes and demonstra- of the United States, Japan, and the United tions have increased in recent years. Kingdom. When disputes are numerous, as Developing a system to mediate and they have been since 2008, this centralized negotiate interest disputes is a pressing pri- system places great strain on arbitration com- ority. Because enterprise trade unions in mittees and local civil courts. China’s labor China do not serve as strong representa- inspection system is much less central to tives of the workforce, interest confl icts are the dispute resolution process, unlike in the often managed reactively, after workers have 252 URBAN CHINA spontaneously protested by striking or taking 6. Glaeser and Kerr (2009) found that industries some other kind of industrial action. Reactive employing the same types of workers tend settlement leads to loss of production for the to co-agglomerate. This behavior is advanta- company and loss of wages for the workers. geous to workers and firms: people can move among employers without retooling, and busi- nesses have access to a deep pool of labor with Notes the skills they need. 7. See 12th Five-Year Plan for National Basic 1. The hukou is a population registration system Public Social Services System. that defines people’s residence status. It clas- 8. For more details, see Wang, Wang, and Glins- sifies the population into rural (agricultural) kaya (2014). and urban (nonagricultural) according to their 9. See “A Notice on Actively and Stably Push- place of birth, and it defines people’s access ing Forward the Hukou System Reform,” an- to public services based on this classification. nounced by the State Council in March 2011 Apart from the system’s basic registration func- (the full text was released in March 2012). As tion, it provides the framework for managing this Urban China report is being prepared, population flows and defines entitlements for the Ministry of Public Security is formulat- a range of social services, including employ- ing a roadmap for hukou reform, aiming for ment, education, training, health, housing, and implementation by 2020. The December 2013 social protection programs. Urbanization Work Conference of the central 2. Lee and Phillips (1997) show that in the Re- government also called for an “orderly con- public of Korea, migrants to metropolitan ar- version” of rural migrants and proposed a nu- eas had earnings 32 percent higher than rural merical target of 100 million long-term rural nonmigrants. Although migrants to Seoul had migrants to be converted to urban hukou hold- a 5 to 11 percent earnings disadvantage on ers. These measures are to be supported by in- arrival compared with Seoul natives, after 15 vestments to renovate shantytowns and urban years migrant earnings converged completely. villages in central and western regions. See Although in 1970 more than 60 percent of ur- the media interview with Vice Minister Min ban household heads were rural migrants, by Huang, “Establishing a New Type of Hukou 1994 those migrants had become full-scale ur- System by 2020,” December 17, 2013, http:// banites with equal wages. www.newhuanet.com. 3. The rate of increase in rural migrant real wages 10. A typical notion of “residence” defines the ju- was lower than that of urban formal employ- risdiction under which laws and regulations a ees from 2001 to 2007. Since then, it has been person has rights and responsibilities with re- higher in every year except 2009, when 20 mil- spect to taxation and qualification for benefits lion migrants lost their jobs after the onset of and social services. Rights to vote and hold the global financial crisis. office are often also linked to legal residence. 4. See Giles and Park (2014). These results are A first residence is acquired when people based on the Oaxaca-decomposition equation, are born and are registered with the popula- using data from the 2001 and 2010 China Ur- tion registration system. A residence system ban Labor Survey. The wage penalty for rural is defined by (a) a framework and standards migrants increased from 24.1 percent in 2001 for eligibility for a residence permit and (b) to 42.2 percent in 2005, but then it declined the extent of access privileges offered once a to 13.1 percent in 2010. These findings con- residence permit is obtained, as well as the se- trast with studies of earlier periods that found quencing of such privileges. strong evidence of differential treatment of mi- 11. Completing hukou reform can have a dramat- grants within occupations and sectors (Zhang ic equalization effect between rural and urban and Meng 2007). incomes. See Zhai, Hertel, and Wang (2003) 5. According to the Dynamic Monitoring Survey and Whalley and Zhang (2004), which used of Floating Population in Urban China con- computable general equilibrium (CGE) mod- ducted by the National Population and Family els to explore the impacts of removing all mi- Planning Commission in 2011 (128,000 mi- gration restrictions, as well as Zhu and Luo grant households, 31 provinces), 78 percent of (2010) for a study of Hubei province on the rural migrants were married, and 74 percent positive distributional effects of labor mobili- had at least one child. Of those with children, ty. In addition, Zhang and Zhao (2013) show 72 percent had at least one child living in the that hukou restricts people from moving to city (Démurger, Li, and Xu 2013). the places they would be most productive. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 253 12. See supporting report 6, “Financing Urbaniza- available estimates from OECD (2011) indi- tion,” for a more extensive discussion of inter- cate that public social sector spending (as a governmental fiscal relations. proportion of GDP) in 2007 was 16.3, 12.0, 13. Numerous sociological studies find that urban 8.1, 6.5, and 4.6 in Brazil, Russia, South Af- residents are concerned about migrant work- rica, China, and India, respectively. According ers compromising the quality of services (Wat- to World Bank (2011), Brazil and Russia al- son 2009; Liu 2008; and L. Wang 2010). locate more than 60 and 50 percent of their to- 14. According to the European Parliament and tal government spending to the social sectors, Council Directive (2004/38/EC), every EU respectively. citizen has the right to move and reside freely 21. See supporting report 6, “Financing Urbaniza- within the territory of another member state tion,” for further details. for up to three months without any conditions 22. See NBS (2011), China Statistical Yearbook or formalities, other than the requirement to 2011, China Statistics Press. hold a valid identity card or passport. The ob- 23. See NBS (2011). jective of residence or status (for example, em- 24. In some coastal cities, exemptions began in ployed, self-employed, tourist, student, retiree) 2006 with local funding from the municipal has no bearing on this right during this time governments (Hu 2009). period. Jobseekers benefit from the right to re- 25. Detailed cost calculations are presented in side without any conditions and formalities for Wang, Wang, and Glinskaya (2014). a period of six months, and even longer, if they 26. Minban are private schools which charge fees continue to seek employment in the host EU and typically operate at much lower standards country and have a genuine chance of getting than public schools. work. 27. The third category comprises schools that ca- 15. The general rule is that EU citizens have suf- ter to migrant workers’ families and charge ficient resources if the level of their resources is low fees. They are often substandard and higher than the threshold under which a mini- have not been approved by the local education mum subsistence benefit is granted in the host bureaus. EU country. 28. Planning urban schools based on the hukou 16. Overall, residency is determined differently for population and limited resources, such as land, different purposes, and the criteria often vary contribute to the capacity constraints of urban by state. Also if a person has conducted a sub- schools. stantial amount of business in a state, some 29. Nanfang Dushi Bao 2010. In Zhuhai (Guang- states will recognize that person as an actual dong), for example, it was reported that public resident and grant them certain advantages schools charged migrant children a school se- of residency. http://legal-dictionary.thefree lection fee of RMB 5,000–10,000 as of 2011. dictionary.com/residency. In Hubei, the Provincial Education Depart- 17. Lall, Timmins, and Yu (2009) evaluated the ment sets the school selection fees, currently relative importance of wage differences and at RMB 7,200 in primary schools (field visit, public services in migrants’ decisions to move March 19, 2013). In Chengdu, school selec- in Brazil. Their findings showed a distinction tion fees are RMB 2,000–5,000 (field visit, in preferences according to income level: for May 31, 2013). Once the children are in public relatively well-off people, basic public services school, numerous costs associated with extra- were not important in the decision to move, curricular activities and tutoring lessons add to but for the poor, differences in access to basic the financial burden. public services did matter. 30. Among the main transfers, the wage adjust- 18. See World Bank (2013), based on World ment transfer (WAT) and rural fee and tax re- Values Survey (2005–08). form transfer are devoted wholly to salaries. 19. This is discussed in supporting report 3, The compulsory education transfer (CET) “China’s Urbanization and Land: A Frame- goes not only to funding the New Mechanism work for Reform,” including recent indica- but also to performance pay for teachers (Li, tions from the Third Plenum meeting about Chen, and Jiang 2011). Under the assumption willingness to undertake rural land reform. that performance pay made up just one-third 20. Although seemingly generous, it falls quite of the CET in 2011, support for salary pay- short not just when compared with the OECD ments was nearly two-thirds of central trans- benchmark but also when compared to the fers for universal compulsory education. BRICS countries, with only India having lower 31. This wholesale revision approach also would social sector spending than China. The latest mitigate the considerable resistance that would 254 URBAN CHINA arise if the government were to withdraw cur- framework similar to the urban employee pen- rent central transfers from lower-income prov- sion scheme was introduced for PSU employ- inces such as Henan, Guizhou, Gansu, and ees in 2009 but is yet to be fully implemented, Sichuan in the central and western regions and pending a separate reform to reclassify PSUs. give them to richer provinces like Guangdong, 40. For Beijing: http://news.xinhuanet.com 2011- Beijing, and Shanghai. 03/16/c_121196129.htm; for Shanghai, http:// 32. The government conducted a full audit of the news.ehomeday.com/2012-11/201211183205 more than 270 existing migrant schools and .htm. chose more than 100 of them for the munici- 41. See http://www.labour-daily.cn/web/New pally supported private school program. An- LabourElectronic/newpdf/PdfNews other 60 were selected for upgrading under a .aspx?Calendar=2011-9-24. three-year plan, during which they received 42. Supporting report 2, “Planning and Connect- funding, personnel, and other support from ing Cities for Greater Diversity and Livability,” the government. By 2010, 162 private schools provides further insights into the development had been approved for enrolling migrant chil- of the urban rental market in China. dren under government supervision, and these 43. Supporting calculations are presented in schools receive financial support based on a background paper, “Costing Out the enrollment. Residence-Based Access to Urban Social Ser- 33. Once selected into the program for private vices in China.” schools, each school receives a capital grant of 44. Similarly, the “Basic Public Service Equaliza- around RMB 500,000 from the municipality tion Five-Year Plan (2011–15)” refers to the and is eligible to apply to the district govern- concept that every citizen should have equal ment for supplemental funds. Thereafter, the opportunity of access to basic public services, schools receive grants for operating costs of up not necessarily that all services should be the to RMB 5,000 for every migrant student en- same. rolled. With this support, the schools are able 45. World Bank Data http://data.worldbank.org to stop collecting tuition and many other fees, /indicator/SE.TER.ENRR/countries/DE--XS- pay teachers a decent salary and provide them OE-US?display=graph. with social security, and improve facilities. 46. For 2009 PISA results, see Shanghai govern- 34. Unlike URBMI, UEBMI also contains a medi- ment website, http://www.shanghai.gov.cn cal savings account, which beneficiaries use to /shanghai/node27118/node27818 pay for copayments and uncovered services. /u22ai74238.html; for 2012 results, see 35. NBS (2012b) reports that population coverage OECD, http://www.oecd.org/pisa/keyfindings of UEBMI increased from 34 percent in 2003 /pisa-2012-results-overview.pdf. to 70 percent in 2011, and population cover- 47. Large-scale national survey conducted by the age of URBMI reached 82 percent by the end Chinese Ministry of Health from 2001 to of 2011. 2004. For Yunnan, see Steinmann and others 36. Yip and others 2012, and team field visits in (2008). May 2013. 48. According to the 2010 census, there are more 37. Financial inequalities are partly reflected in than 20 million school-age (6–14 years of age) per capita health spending data. In 2010, total children of nonlocal hukou migrants in urban health expenditure per capita was RMB 666 areas. This does not include a significant reser- for rural residents compared to RMB 2,315 voir of left-behind migrant children who stay for urban residents (China National Health behind with relatives in rural areas as their Development Research Center 2012). parents migrate for work but who could po- 38. “Programs and facilities” refer to funding re- tentially move if hukou restrictions are lifted. quirements for operating costs (for instance, 49. In particular, budget expenditures in educa- salaries), specific public health programs (in- tion increased from RMB 96.5 billion in 2000 cluding the essential package), and construc- to RMB 828.8 billion in 2010 (see Education tion and equipment. The main sources of fi- Finance Statistical Yearbook, 1997 and 2010). nancing for these items are direct budgetary 50. See MOE 2012, China Education Finance Sta- allocations and fees. tistical Yearbook, and 2013 Guangdong Sta- 39. The schemes for PSU employees and civil tistical Yearbook. servants are defined benefit schemes, with a 51. See China Youth Daily, July 11, 2012, generous replacement rate financed from gov- http://zqb.cyol.com/html/2012-07/11 ernment revenues. A reform program with a /nw.D110000zgqnb_20120711_3-09.htm. INCLUSIVE URBANIZATION AND RURAL-URBAN INTEGRATION 255 52. Reimbursement rates are directly related to a Japan, Korea, Mexico, New Zealand, Portu- hospital’s level of classification, providing an gal, and the United Kingdom. incentive for hospitals to upgrade to achieve 63. On the supply side, this could be achieved by a superior classification and thus gain higher allowing public financing of accredited non- reimbursement while building their reputation state training institutions. On the demand side, to attract more patients. public funds could be used to provide vouch- 53. Tam (2008) reports that hospitals or hospi- ers to students who could freely choose among tal departments often set up off-the-book ac- public and nonstate institutions. Local-level counts, known as “little treasuries,” in which experiments with training vouchers in China sales revenues are placed for distribution to (for instance, Meizhou in Guangdong, Jiangsu physicians. Hospital authorities set revenue province) can provide lessons for potential targets for clinical departments, although demand-side interventions. the clinical departments may also be held ac- 64. See Ministry of Education (1998). countable for unpaid bills of the patients they 65. See MyCos (2012). treat. 66. The World University Rankings, published 54. See supporting report 2, “Planning and Con- by Times Higher Education. http://www necting Cities for Greater Diversity and Liv- .timeshighereducation.co.uk/world-university- ability,” for more details. rankings/. 55. Combining the UWS with an occupational an- 67. Ministry of Education (2011), China Educa- nuity scheme can provide options for integrat- tion Statistical Yearbook, People’s Education ing civil servants and PSU employees into the Press, and Ministry of Education (2012). reformed UWS. China Education Finance Statistical Yearbook. 56. Simulations suggest that an average contribu- 68. Differences in employment outcomes could tion rate of 28 percent could be reduced to 16 also reflect differences in the ability of stu- percent with the same approximate replace- dents studying different majors or the quality ment rate for a full-term worker, provided that of colleges from which they graduated. Wage the retirement age was increased to age 65 (see regressions conducted by scholars at Tsinghua Dorfman and others 2013). University based on surveys of college gradu- 57. To date, 12 provinces have integrated rural ates from 19 colleges in 2010 found that recent and urban resident pension schemes. college graduates with majors in engineering 58. See OECD, International Budget Practices and had the highest starting salary. The other types Procedures Database, http://www.oecd.org of majors and their wage penalty relative to /gov/budget/database; Arizti and others 2010. engineers were other social sciences (not in- 59. See Gong and Yu (2011) on election of school cluding economics) and liberal arts (3.4 per- principals by parents, students, teachers, and cent), law (3.5 percent), natural sciences (8.1 experts (Kunming); school councils (Nanjing percent), management (9.2 percent), education and Shandong); and medical disputes councils (12.9 percent), economics (17.1 percent), and with citizen representation (Nanjing). agricultural sciences (26.7 percent). 60. For more on whether China has entered the 69. See Giles and Park (2014). Lewis turning point, see Cai (2010); Wang 70. See Shen and Benson (2008) for a useful com- (2009); Yao and Zhang (2010); and Zhang, parison of Chinese wage consultations and Yang, and Wang (2009). At present, the con- typical International Labour Organization sensus in the literature is that rural surplus (ILO) standard wage bargaining. Bai (2011) labor in China is depleted. discusses the role of ACFTU and interactions 61. The results also revealed that in professional with the interests of capital and labor. and managerial occupations, 34 percent of 71. The tax wedge is a percentage calculated as the firms consider leadership skills to be most (total labor cost – net take-home pay)/total important, followed by job-specific technical labor cost. Consider an example for China: skills and communication skills. For front- assume payroll = RMB 100, then total labor line operational occupations, communication cost (100 + 42) = 142; net take-home pay skills, job-specific technical skills, and numer- (100 – 22) = 78; and tax wedge = (142 – 78)/ acy skills were most commonly cited as the 142 = 45.1 percent. For many countries, one most important job-related skills. See Liang would also calculate the personal income and Chen 2013. tax levied after deduction of social insurance 62. Brazil, Canada, Chile, Estonia, Greece, Hun- contribution; OECD also allows for transfers gary, Iceland, India, Indonesia, Ireland, Israel, from the state (for instance, income tax cred- 256 URBAN CHINA its). In China, neither of these is included in the Brenner, N., and N. 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Since the late 1970s, land has been ensure that the benefits from urbanization an essential element in the government’s can be shared more equitably among China’s efforts to promote more market orientation. citizens. To achieve that aim, reform has to The government gradually developed a regu- tackle the dependency of China’s growth latory framework that consistently and suc- model on government-led rural land conver- cessively strengthened individual property sion and ensure the equitable treatment of rights to land and promoted a more market- oriented allocation of land (box 4.1). The for- rural and urban land and property holders mulation of China’s urbanization strategy for during urbanization. This reform will require the next decade now provides an opportunity further strengthening and protecting of indi- to further reform and deepen the regulatory vidual property rights to land, in particular and institutional framework for land and to rural land, and clarifying collective owner- modernize land administration and man- ship arrangements. agement to support efficient and inclusive Undertaking land reform, the reform of growth and urbanization. the public finance system (see supporting As urbanization accelerated over the past report 6), and the reform of the hukou system decades, the shortcomings of China’s dual- requires a carefully coordinated approach.1 track rural-urban land tenure system became Reform needs to recalibrate the use of land, more evident, stimulating many provinces improve the governance of the land, and and municipalities to experiment with inno- reduce the government’s dependence on rev- vative land tenure arrangements. Land enue from land conversion and land sales. reform can build on these local experiences Reform could also help facilitate the transition to establish the regulatory and institutional from land asset sales to modern taxation that foundation that can help guarantee the long- fits the needs of future sustainable urbaniza- 263 264 URBAN CHINA BOX 4.1 The evolution of China’s policy framework of land, 1978–2013 China’s land policy and legal framework has evolved vate use rights to publicly owned land. It also pro- continuously and consistently in response to eco- vided the legal basis for transferring such rights nomic and social changes and challenges. The broad between private users and thereby created the con- policy directions adopted over the past decades illus- ditions for mobilizing capital through land trans- trate that tenure security, property rights, and market fers. The revised Land Management Law of 1998 mechanisms are recognized as important prerequi- mandated that collectively owned farmland be con- sites for China’s future development. The history of tracted to rural households for a term of 30 years. land policy reform shows a consistent trend of gradu- The revised law also set forth procedures to govern ally embodying policies into laws to achieve a com- the requisition of farmland by the state but did not prehensive legal and institutional framework for land. include provisions on prior notification, participation The Household Responsibility System of 1978 in determining compensation, and appeal during introduced a rural property system whereby farm- expropriation. land, though nominally remaining under collective The Interim Regulations on Allocation and ownership, was contracted to individual house- Granting of Urban State-Owned Land Use Rights holds, initially for a 5-year lease period that was later of 1990 defi ned urban land rights as (a) unmarket- extended to 15 years (1984) and 30 years (1993). By able allocated rights available for public use and (b) 1983, virtually all arable land had been allocated marketable granted private use rights for a term of 70 to rural households. The Household Responsibility years. It also provided rules that govern these granted System was the most important driving force behind private use rights and thus created the conditions for China’s agricultural growth and poverty reduction the development of China’s urban land markets. during the first decade of the reform period. Central Document No. 18 of 2001 (Notice on Central Document No. 1 of 1984 (Notice on Rural Transfers of Rural Households’ Use Rights of Con- Work for the Year 1984) established the foundation tracted Land ) provided further guidance on rural of the present Chinese rural land rights system. The land by prohibiting the compulsory taking-back of document clarified the separation of collective own- land rights by collectives and contracting to nonmem- ership from individual land use rights and stipulated bers for value. that collective land be contracted to households for a The Rural Land Contracting Law of 2002 com- term of 15 years. It allowed for the voluntary transfer prehensively regulates the extent of farmers’ land of individual land rights between farmers within the rights. It provides that rural land contracting and collective. Central Document No. 11 of 1993 (Several operation, rights that are held by farmer house- Measures on Current Agricultural and Rural Eco- holds, may be transferred to other village house- nomic Development) further strengthened the House- holds, leased to nonvillage households, exchanged, hold Responsibility System. It required that farmland assigned, or transacted by other means in accordance rights be extended for another term of 30 years upon with the law. The law also provides legal remedies for the expiration of the initial 15-year lease period. It any violations. endorsed transfers of farmland rights for value with The Property Law of 2007 is China’s first compre- prior consent from the collective and restricted the hensive civil property code. It articulates that all types periodic readjustment of farmland rights through of property in China (state, collective, and private) administrative means of the collective. Central Docu- are entitled to the same level of legal protection. The ment No. 16 of 1996 (Notice on Further Stabilizing law clarifies that collectively owned land is owned by and Improving the Rural Land Contracting Relation- all members of the community rather than by the col- ship) explicitly prohibited large readjustments and lective entity. It characterizes farmers’ rural land use restricted small readjustments by requiring approval rights as property rights, as opposed to contractual by two-thirds of the villager assembly and the town- rights defined by previous laws, and provides greater ship and county governments. The document pro- protection for small farmers’ land rights. It also reaf- hibited all forms of compulsory, nonvoluntary-scale fi rms the provisions of the Rural Land Contracting farming implemented through administrative order. Law but categorizes farmers’ 30-year land right as The Land Management Law of 1986/88 adopted extendable upon expiration. Regardless of the type the Hong Kong Leasehold System and legalized pri- of land transaction, land rights transfers must adhere CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 265 BOX 4.1 (continued) to the principles of voluntariness and free negotiation land through the registering and certifying of their between the transferor and the transferee, compen- farmland, forestland, and residential land rights, and sation, freedom from compulsion, content and for- the need to establish a rural land registration sys- mal procedure, specification of contract terms, and tem. In Central Document No. 1 of 2013, the central a requirement that transferees possess agricultural authorities also advanced the target of registering and operational capacity. certifying farmers’ land rights within five years.a The Decision on Several Important Issues of Several central documents issued between 2004 Rural Reform of the Third Plenary Session of the 17th and 2013 set policy guidelines for protecting farm- Central Committee of the Communist Party of China ers’ land rights in the process of urbanization and (CPC), 2008, declared that farmers’ land rights will industrialization. The State Council’s Document be for “a long term without change,” setting forth the No. 28 of 2004 (Decision on Deepening Reforms direction for upgrading the 30-year land rights into and Intensifying Strict Land Management) requires de facto perpetual rights. The decision also distin- the state to follow the principle of restoring farmers’ guished between public interest use and commercial original living standards and ensuring their long-term use when converting agricultural land into urban livelihoods when determining compensation for land construction land, and required that conversions for expropriation. The State Council’s Document No. 9 commercial use outside the planned urban areas not of 2011 (Notice on Actively and Carefully Pushing be made through eminent domain expropriation. Reforms in the Institutions for Residential Registra- The decision called for affirming farmers’ land rights tion Management) explicitly prohibits compulsory through registration and certification. taking-back, directly or indirectly, of migrant farm- The Regulation on Expropriation of and Compen- workers’ land rights, including residential land, ara- sation for Buildings on State-Owned Land of 2011 ble land, forestland, and grassland rights, when they (the Urban Takings Regulation) defines, explicitly move to cities and obtain urban residential registra- and unambiguously, the needs of public interest for tion. In Central Document No. 1 of 2013, the Central which the state may resort to eminent domain power Committee and the State Council jointly require that to expropriate urban private property. The regulation farmers’ living standards be raised and their long- includes three unprecedented features: a list of the term livelihoods be ensured when their land is taken purposes for which the state may take private prop- for urbanization or industrialization. erty; a requirement that all public purpose projects Land policy and legal reform has progressed and must be implemented by government and for public deepened significantly, but ensuring fully secure, use by a public institution, a clause that emphasizes marketable, and long-term land rights for all farm- the public interest principle; and the exclusion of ers remains challenging. A revision of the Land Man- local governments’ discretion to expand the list for agement Law is expected to close important legal any nonlisted public interest purposes. The scope of gaps with regard to (a) clarifying the scope of state expropriation can be expanded only through law, expropriations for public purpose, (b) determining stipulated by the National People’s Congress, or compensation approaches for rural land takings and through administrative regulation, stipulated by the allocating compensation between the collective and State Council in accordance with China’s Legislation individual farmer, and (c) strengthening tenure secu- Law of 2000. rity and extending legal protection of farmers’ rights Central Documents No. 1 from 2010 to 2013 reit- to all types of land, including residential land and col- erated the need to affi rm farmers’ property rights to lective construction land. Source: Li and Wang 2013. a. Central Document No. 1 of 2010, Several Opinions on Strengthening Integrated Urban-Rural Development and Further Solidifying the Foundation of Agricultural and Rural Development; Central Document No. 1 of 2011, Decision on Speeding Up Reform and Development of Water Conservancy; Central Document No. 1 of 2012, Several Opinions on Speeding Up Agricultural Scientific and Technological Innovation and Sustainably Increasing Capacity for Provision of Agricultural Products; and Central Document No. 1 of 2013, Several Opinions on Speeding Up Development of Modern Agriculture and Further Strengthening Rural Development Vitality. 266 URBAN CHINA tion, deepens land markets, and clarifies for citizens. Reform could provide the founda- rural citizens their property rights and land tion for the redevelopment of urban fringe assets at home and their opportunities and areas in socially acceptable ways, formalize entitlements for integration into the cities. informal housing rights in urban villages, China’s dual-track tenure system still sepa- and strengthen market-based mechanisms rates collectively owned rural land and state- to promote the provision of low-cost and owned urban land, which are governed by legally protected housing for China’s migrant separate regulations and institutions. Reform population. New approaches to govern agri- should aim at gradually removing the com- cultural and nonagricultural collective assets plexity and contradictions inherent in this can be considered. dual-track tenure system, in particular, the In addition, China’s land administra- ambiguities of China’s collective rural land tion and management apparatus need to be ownership. The separation between rural modernized, including the development of and urban land governance contributes to modern institutions, skills, and professional the persistent disparities between rural and services. This modernization will likely be a urban residents. Reform, therefore, needs to longer-term task that will involve developing cut across the rural and urban spaces if dis- regulations and institutions for the manage- parity is to be reduced. Land reform should ment and governance of land, such as cadas- gradually reduce the role of government in tral systems, land use control mechanisms, the land allocation process and allow for land market regulations, land valuation and market allocation and the integration of the taxation approaches, and arbitration and rural and urban land markets. appeals mechanisms. The overhaul of China’s rural land req- The underlying issues that necessitate fur- uisition system could help reduce hard- ther reform of China’s land tenure frame- ship and discontent in rural areas and bring work and the modernization of its land social benefits by improving efficiency in the management system have evolved since the land allocation process. Reform will involve 1990s. As market reforms advanced, gov- amending China’s land laws and regulations ernment-led industrialization and urbaniza- to clarify and define the “public purpose” for tion policies and programs capitalized on which land can be expropriated by the gov- land but in distinctively different ways. Local ernment, restricting current rural land-taking governments successfully pursued an indus- practices, and introducing approaches that trialization model that built on the inflow of increase compensation standards for requi- foreign direct investment and globalization, sitioned land. Legal reform should protect an abundant supply of rural labor, and local farmers’ property rights to rural land through competition. In promoting growth, local gov- property rights confirmation and land titling. ernments could build on a highly conducive Building on international experience, the land tenure framework that allowed them the marketability of rural land and property exclusive power to acquire, convert, and sup- needs strengthening to supply land for urban ply rural land for industrial use. development more efficiently and support the China successfully industrialized using this consolidation of farmland that is needed for process, but it has not become an urbanized agricultural sector development and income society because the integration of China’s growth in rural areas. labor supply into the urban areas and the The integration of peri-urban collec- workers’ transformation into urban citizens tive land and property, along with migrant have remained incomplete. China’s many residents, into China’s cities and the urban migrant workers are the visible outcome economy needs to be supported. Reform of this incomplete transformation process. needs to focus on the integration of rural The partial urban integration of migrants is and urban construction land markets to apparent, for example, in the informal and allow more equitable sharing of the benefits mutual arrangements between migrants and of urbanization between rural and urban rural collectives in peri-urban areas. Migrants CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 267 in search of affordable housing have met with Fiscal dependence on land-based rural collectives that supply land and housing income at the urban fringe. The informal urbaniza- tion of rural peri-urban areas and migrants The combination of China’s land tenure and and the persistent rural-urban disparities are public finance system, including cheap access a result of China’s land conversion–based of local governments to land, monopoly industrial and urban development. power in land supply, and unbalanced rev- Local implementation of economic, land, enue and expenditure assignments, provides and fiscal policy and, at times, abuse of strong incentives for local governments to local government power have led to unin- generate local revenue from land sales. Many tended consequences that are widely viewed governments have become reliant on rural as unsustainable. The global fi nancial crisis land expropriation and land concession of 2008 and the subsequent stimulus policies income. Revenue from land sales provides have had a dramatic impact on China’s land- a significant share of local government rev- based economic growth model through accel- enues. They also have a widespread reliance erated land taking and conversion, bring- on mortgage loans backed by future land ing the inefficiencies of current land tenure sales, which are offered through local land arrangements and the need for reform into banks, that help circumvent restrictions on even clearer focus. local government borrowing. Both practices have contributed to the aggressive requisi- tioning of farmland, which contributes to Incentives and inefficient land unsustainable local finance and fiscal risk, allocation patterns unsound urban growth, and waste of land China’s municipalities are responsible for resources. economic development and employment generation, in addition to more traditional Emergence of landless farmers responsibilities of managing municipal ser- vices. Gross domestic product (GDP) growth Farmland expropriation and conversion is an important metric by which mayors are to urban uses reached nearly 5,700 square held accountable by higher levels of govern- kilometers in 2011. An estimated 53 million ment, which leads to a narrow focus on GDP farmers have lost their land and farm-based growth. Because local governments are the livelihood in the process of urbanization owners of all urban land in their jurisdiction, over the past 20 years (Xu and others 2013). they have strong incentives to supply cheap Low compensation for lost land and prop- land for industrial use to generate economic erty, combined with an underdeveloped rural growth. But because many local governments social security system, has made it often dif- follow the same approach, cheap land is not ficult for farmers and migrants to maintain a comparative advantage. Instead, excessive their livelihood. Those conditions—the loss supply of industrial land has fueled the inef- of property and livelihood, lack of transpar- ficient growth of urban boundaries and pro- ency in the process of land requisition, low liferation of industrial development zones. compensation paid to affected farmers, and Simultaneously, the tightly controlled sup- the large difference between such compensa- ply of land for urban use has contributed to tion and the price received by the government record prices for residential and commercial when the land is auctioned and sold for urban land, leading to housing price bubbles. Gov- development—have resulted in widespread ernments not only control land conversion social unrest and a growing sense of injustice. and land supply but also set policies and land use planning regulations, approvals, and Incomplete urban integration implementation, thereby contributing to inef- ficient urban growth patterns, violations of Migration is often temporary. Permanent land-related regulations, and rent seeking. relocation into cities is hampered by rural 268 URBAN CHINA citizens’ concerns over losing farmland and process. It describes recent land requisition residential land rights in home villages when trends, land allocation patterns and practices, an urban hukou is obtained. Obstacles to and the development of land concession rev- integration are mirrored in cities where social enue, as well as how such revenue is used by services are not available to migrants and local governments. It addresses issues related local governments are reluctant or unable to land collateralization practices and risks. to provide construction land for afford- A subsequent section then discusses selected able housing. Because migrants cannot inte- international approaches to the treatment grate into the city, informal settlements have of land development value and value cap- emerged in the urban periphery, housing an ture, city fi nancing, rural land registration estimated 80 million to 100 million people. and property markets, and property taxa- Generally, such settlements are situated on tion. The section following the international residual rural construction land that has been approaches reviews some selected pilots for informally and often illegally developed by reforming local land systems in China and rural collectives to meet demand for low-cost discusses their relevance to the national land housing, resulting in large numbers of unreg- reform efforts. These pilots include Shen- ulated and underserved peri-urban and urban zhen’s model of integrating rural and urban villages. At the same time, slow rural outmi- construction land, Chengdu’s rural-urban gration and underdeveloped farmland mar- integration experiments, experiences with kets prevent the much-needed consolidation land-trading centers in Chongqing, Beijing’s of agriculture, which would increase labor redevelopment pilots for urban villages, and productivity and help narrow the urban-rural Guizhou’s experiences in maintaining long- income gap. term rights to farmland going through demo- graphic change. Finally, the report closes Farmland protection and land supply with a land policy reform framework for the for urbanization next decade, with various options for reform- ing land tenure arrangements to make them The central government has stated a target more compatible with China’s goals for social of 120 million hectares of farmland to be stability and efficient, sustainable economic protected from conversion to ensure long- development. term food security. The concern over the loss of farmland has led to the institution of strict land-conversion quotas, and the farm- Land and urbanization in China land protection policy has sought to rein in Industrialization and urban uncontrolled land conversion, misallocation, development and inefficient urban expansion. Urbaniza- tion, however, is likely to continue to demand The emergence of China’s land-dependent more land into the future, and many locali- growth model in the 1990s and its prolifera- ties have devised innovative approaches to tion are an outcome of the combination of a reclaim inefficiently used rural land and make unique regulatory regime for land, competi- it available for urban development. The chal- tion for economic growth between locali- lenge that remains includes creating a better ties, and the fiscal centralization policy and balance of demand for agricultural land and tax reform of the mid-1990s. China’s dual- urban development through improved utiliza- track urban-rural land ownership system and tion, transparency, market-driven allocation, its rural land requisition regime and imple- and control mechanisms for the appropriate mentation practices have played a pivotal use of land. role in promoting this pattern of economic This report focuses on the regu latory, development. institutional, and policy aspects of China’s In the 1990s, land emerged as a promi- urban transformation as they pertain to land. nent instrument in China’s development, in The next section discusses how land is cur- a much different way than during the pre- rently being used in China’s urbanization vious decade. In the 1980s, decollectiviza- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 269 tion and the introduction of the Household FIGURE 4.1 Revenue and expenditure of subnational Responsibility System of 1978 marked the governments, 1978–2008 beginning of the economic reform period and stimulated extraordinary agricultural and 90 rural growth, including the development of 80 township and village enterprises on collec- 70 tive land. In the 1990, market reforms, the restructuring of and transition to sharehold- 60 ing systems for state enterprises, the decline 50 Percent of township and village enterprises, and inte- 40 gration into the global economy, along with foreign and domestic investments and abun- 30 dant labor supply, provided the impetus for 20 China’s industrial growth and urbanization. 10 Local governments assumed responsibil- ity for economic growth, industrialization, 0 and urban development. Decentralization 1978 1992 1998 2003 2008 provided flexibility and incentives to local Subnational revenue Subnational expenditure percentage percentage governments to evolve from the former rigid centralized economic management system. China’s growth performance and economic Source: World Bank 2012. and social achievements over the past 20 years are widely recognized as the outcomes supply of land for urban residential and com- of these successful policies. mercial use to capture the increased value Land became a critical resource of indus- of land as demand for such land increased trial development and growth when the fiscal in the course of urban expansion. A distinct reforms of the 1990s centralized the power pattern of industrial and urban commercial to collect budgetary revenue. The reforms and residential land allocation emerged that deprived local governments of a large share continues to shape China’s urban growth and of their revenue while their responsibilities has led to continuously decreasing densities for economic development and public and in many cities in China. social service provision remained largely Local governments seek to attract inves- unchanged (Wong 2013). 2 Over the past 20 tors by providing industrial-use land at subsi- years, the gap between municipal budget- dized prices and infrastructure at little or no ary revenue and expenditure widened con- cost to the investor. While governments are tinuously, as the ratio of subnational revenue supplying cheap industrial land they are often remained at less than 50 percent of total gov- incurring financial losses, because they need ernment budgetary revenue and the ratio of to pay compensation to dispossessed farmers subnational expenditure rose as high as 80 and finance infrastructure construction. But percent of total expenditure (figure 4.1). attracting investors is important not only to With the market reforms and changes meet economic growth targets but also to in the central and local fiscal relationship, generate sustainable tax revenue. Enterprises land became the single most important asset generate value added taxes and corporate under the control of local governments, income taxes, of which 25 percent and 40 which began to discriminate very effectively percent stay at the municipality or county between industrial and urban land use and levels, respectively. The multiplier effect of users. Governments increased the supply of the manufacturing sector in the services and industrial land to develop their local tax base: business sectors is important to local consid- business taxes accrue exclusively to local gov- erations. Because factories increase workers’ ernments, whereas value added and corporate financial means, businesses and services such income taxes are shared with the central gov- as markets, shops, restaurants, banks, and ernment. They simultaneously restricted the real estate developers establish themselves 270 URBAN CHINA to serve a growing consumer base. These same time, low compensation levels for req- spillover effects influence economic deci- uisitioned land and the insufficient coverage sion making, in particular, because business of the social insurance system made it dif- taxes accrue solely to local governments (Tao ficult for dispossessed farmers and migrants 2013). to increase consumption levels. With little In urban commercial and residential land flexibility, the central government had to use, local governments pursue a different but maintain a stable exchange rate and increase complementary strategy. By restricting the the money supply to ensure that the manu- area to be sold for urban development, local factured goods could be exported. Boom- governments are able to raise the price of ing exports, increasing labor productivity, urban land and maximize revenues from sell- and a stable exchange rate regime attracted ing that land. With accelerating urbanization large amounts of speculative money, thus boosting land demand and its value, land further increasing China’s foreign currency has become a key source of revenue for local reserves. By 2004, these reserves had grown governments. The strategy of discriminat- to US$609.9 billion and in 2006 to US$1 tril- ing between industrial and urban land also lion. In April 2009, foreign reserves exceeded allows local governments to cross-subsidize US$2 trillion, and in March 2011, reserves industrial development through the urban exceeded US$3 trillion. Excess liquidity land market and to generate the financing flooded into the commercial and residen- needed for infrastructure. tial land market and contributed to sharply The proliferation of industrial parks increased real estate prices (Tao 2013). throughout China and the high prices for Prior to 2004, the growth of China’s urban urban residential and commercial real estate house prices remained below 5 percent, but reflect the different allocative strategies for house prices began to increase from early industrial and urban land. Industrial parks 2004, growing by nearly 10 percent annu- emerged in China’s coastal areas in the late ally. The central government implemented a 1990s and have expanded steadily over the number of regulatory policies to stabilize the past decade. Inland regions did not join the housing market. However, these land market regional manufacturing competition initially control policies did not address the underly- because of relatively poor infrastructure ing problem, and house prices continued to endowment, but as infrastructure began to grow at double-digit rates. Neither the more improve in the 2000s, inland regions began competitive land allocation policies instituted to compete for investments as well. By the in 2006 nor interest rate increases were able end of 2003, China had 3,837 industrial to slow the growth in house prices. Only dur- parks and zones. By 2006, the total num- ing the 2008 global financial crisis did house ber of such parks and zones had increased prices decline briefly, dropping by 1.1 percent to 6,015, or an average of two industrial in the first quarter of 2009. However, real parks per county (Zhai and Xiang 2007). estate prices have since risen steadily in many The majority of these zones are operated by cities, fueled by demand. local governments, with only a small number having received approval from provincial or Rural land requisition central governments. Continuously rising real estate prices China’s urbanization is characterized by the across many cities can be attributed to this continuous outward shift of urban boundar- instrumental use of land, in particular ies and the expansion of territorial jurisdic- the undersupply of land at times of rising tions of cities, primarily through the expro- demand. Depressed factor prices over the priation of surrounding rural land and its past decade, including land and labor, and integration into urban areas. Between 2001 weak enforcement of environmental regula- and 2011, urban construction land increased tions, resulted in excessive investments and steadily by a total of 17,600 square kilome- production capacity in manufacturing that ters, reaching a total area of 41,805 square could not be absorbed domestically. At the kilometers in 2011, an increase of 58 percent CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 271 over the decade (figure 4.2). Urban construc- FIGURE 4.3 Requisition of rural land tion land expanded by 1,600 square kilo- meters per year, with about 90 percent of 6 the demand met through the expropriation 5 of rural land; the remainder came from the km2 (thousands) existing stock of undeveloped urban con- 4 struction land. From 2005 to 2011, 10,200 3 square kilometers of rural land were req- 2 uisitioned and converted to state land for urban construction use. Annual requisition 1 of rural land averaged 1,460 square kilome- 0 ters, closely matching the trend of increasing 2005 2007 2009 2011 urban construction land and urban built-up Total land requisition area during that period. Land requisition for urban construction Rural land requisition overall and its Urban construction land conversion into state-owned land was much higher than land conversion for the more nar- Source: China Urban Construction Statistical Yearbook, 2006–12; China row urban construction use (figure 4.3). Dur- Land and Resources Statistical Yearbook, 2006–12. ing 2005 to 2011, a total of 27,200 square kilometers of rural land were requisitioned and converted to state ownership. Up to ing increased infrastructure investment; the 2008, approximately 3,000 square kilome- expansion of industrial, urban residential, ters were requisitioned annually. Part of the and commercial land; and relaxed land use difference between the two land conversion controls. rates is explained by infrastructure construc- The sharp acceleration of land requisition tion and expansion of industrial land not yet may indicate that the requisition and con- counted as urban construction land. From version of rural land is, to a certain extent, 2008 to 2013, however, rural land requi- delinked from the real demand for urban sition increased sharply to around 4,460 and industrial land or infrastructure needs as square kilometers. Part of this sharp increase local governments have continued to increase is associated with the government’s 2009–10 their reliance on land-based concession reve- stimulus response to slowing growth, includ- nue and collateralization of land to meet their fiscal obligations. Rural land requisition rates exceeded the increase in total urban construc- FIGURE 4.2 Urban construction land tion land area by nearly 3,800 square kilome- ters. Notwithstanding infrastructure invest- 45 ments, this difference may indicate the scale 40 of how much land has entered land banks under the control of urban development 35 investment corporations (UDICs; so-called 30 land banks) since 2008 and is used in land- km2 (thousands) 25 based finance through collateralization. In terms of the composition of urban con- 20 struction land, industrial land saw the largest 15 expansion in absolute terms, with an increase 10 of 10,800 square kilometers between 2005 and 2012, followed by residential land 5 (6,081 square kilometers), public utilities 0 and buildings (4,290 square kilometers), and 2001 2004 2007 2011 commercial-use land (2,140 square kilome- ters). Land used for transportation infra- Source: China Urban Construction Statistical Yearbook, 2002–12. structure, reported only for the period from 272 URBAN CHINA FIGURE 4.4 Composition of construction land share of industrial land in China reflects local use increase, 2005–12 governments’ land-based economic develop- ment model. However, when comparing 2.5 China’s cities with others, one should note 2.0 that other countries may not include land for km2 (thousands) industrial use located outside municipal or 1.5 city boundaries in their urban land statistics. 1.0 0.5 Land price development 0 Prices for commercial- and residential-use 2005 2007 2009 2012 land increased steadily over the past decade Industrial Public management in response to rising demand, more competi- Transport and services tive allocation procedures, and higher land Residential Commercial development cost. From 2000 to 2010, the prices for commercial and residential use rose Source: China Urban Construction Statistical Yearbook, 2006–12. by 310 percent and 530 percent, respectively, according to a Development Research Center 2009 to 2012, increased by 3,500 square of the State Council, China (DRC 2013) sur- kilometers, or about 15 percent of the total vey on urban land prices of 21 Chinese cities. increase in state-owned construction land. In another survey across 105 selected Chinese Industrial land accounted for nearly half of cities, between 2006 and 2010 the average the increase in construction land area, fol- price of urban land increased from renminbi lowed by residential (26 percent), public utili- (RMB) 1,544 per square meter to RMB ties and buildings (18 percent), and land for 2,881 per square meter, an increase of 46 commercial use (9 percent) (figures 4.4 and percent. The average commercial land price 4.5). The high share of industrial land is went up by 52 percent, from RMB 2,480 to noteworthy. Internationally, industrial land RMB 5,185 per square meter, and the residen- usually accounts for less than 10–15 percent tial land price increased from RMB 1,681 to of total urban land in major cities. The higher RMB 4,245 per square meter, or 60 percent (DRC 2013). Figure 4.6 illustrates the devel- opment of residential, commercial, and indus- FIGURE 4.5 Shares of main urban construction land use categories, 2005–12 trial urban land prices averaged across China. Price increases were most pronounced in the eastern region and less pronounced in the 100 western and central regions. The 2008 global 90 financial crisis had only a temporary impact 80 on land prices, which was most pronounced 70 in the eastern region (figure 4.7). In compari- 60 son, the price for industrial-use land increased Percent 50 only slightly and has remained significantly below prices for commercial and residential 40 land, even as land became scarcer and land 30 prices were under pressure to move up, a pat- 20 tern that can be observed across the eastern, 10 central, and western regions (figure 4.8). The 0 average price for industrial land increased 2005 2006 2007 2008 2009 2010 2011 2012 from RMB 467 to RMB 705, or 5.5 percent Commercial Industrial Residential Public management annually, from 2000 to 2011 (table 4.1). and services Local governments have various means to manage prices of industrial land to attract Source: China Urban Construction Statistical Yearbook, 2006–12. investment. Most common is the transfer CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 273 of land use rights through negotiated agree- FIGURE 4.6 Urban land prices: National average, 2008–13 ments with an investor rather than through competitive bidding.3 Other practices include 6 lowering the actual transfer price, giving rebates for fees already collected, or delaying 5 RMB per m2 (thousands) payments on the transfer of land use rights. 4 Governments have also transferred land use rights to developers prior to the completion 3 of the requisition and resettlement process, 2 that is, before buildings have been demol- ished and compensation has been paid to 1 affected farmers. By implicitly transferring 0 the responsibility of resettlement and com- Dec May Mar Aug Jan Jun Nov Apr Sep Feb pensation payments to the developer, govern- 2008 2009 2010 2011 2012 2013 ments have allowed concession fee payments Commercial Residental Industrial in the form of resettlement compensation and allowance payments to farmers. Price con- trol and preferential policies and practices of Source: China Urban Construction Statistical Yearbook, 2006–12. local governments that are in the process of industrial land allocation can hinder the shift FIGURE 4.7 Urban land price: Eastern region, 2008–13 of the manufacturing sector from the eastern to the central and western regions. These pol- icies may create disincentives for upgrading 14 the industrial sector in the eastern region and 12 RMB per m2 (thousands) for promoting a more intensive and economi- 10 cal use of land. 8 Land allocation policies 6 4 Land concession income started to emerge prominently in the early 1990s following an 2 amendment to China’s constitution in 1988 0 and the stipulation in the Land Management Dec Jun Dec Jun Dec Jun Dec Jun Dec Jun Law in 1989 that allowed the transfer of land 2008 2009 2010 2011 2012 2013 use rights (DRC 2013). In the early 1990s, Commercial Residental Industrial nearly all land use rights were transferred through direct allocation and contracts Source: China Urban Construction Statistical Yearbook, 2006–12. between the government and land develop- ers. Gradually, more competitive allocation procedures were introduced to establish the land use rights to state-owned land. In 2002, rights transfer process for urban land alloca- the Ministry of Land and Resources5 stipu- tion and use based on market principles. In lated that the transfer of land use rights for 1998, Shenzhen was the first municipality to commercial use, comprising commerce, tour- provide land use rights to state land through ism, entertainment, and real estate develop- public tendering, with revenue generated ment, should be made through competitive from land auctions contributing about 3 per- tendering, auction, or bidding. In 2004, the cent of Shenzhen’s total land concession rev- government expanded the requirement of enue in that year. competitive bidding to transfers of land for Further reforms toward market-based industrial uses. In 2006, the State Coun- land use rights transfers and allocation began cil6 issued a policy that required use rights in 2001 when the State Council4 called for to industrial land to be transferred through competitive tendering, auction, or bidding of competitive procedures, and transfer prices 274 URBAN CHINA FIGURE 4.8 Industrial land price: Regional averages, 2008–13 land in 2001 to nearly 80 percent in 2006 and 2007. In parallel, land concession income 900 grew from RMB 542 billion in 2004 to RMB 800 3.2 trillion in 2012 (table 4.2). From 2008 700 to 2012, however, the share of land allo- 600 cated competitively again declined markedly RMB per m2 500 to below 50 percent, and direct allocation 400 of construction land increased correspond- 300 ingly. While around 3,400 square kilome- 200 ters of urban construction land were allo- 100 cated through competitive measures, more 0 than 3,600 square kilometers were allocated Dec May Oct Mar Aug Jan Jun Nov Apr Sep Feb through direct negotiation (figure 4.10). The 2008 2009 2010 2011 2012 2013 2009/10 stimulus package called on local Eastern China Western China Central China governments to deliver infrastructure invest- average average average ments to spur local economic growth and employment. In addition, local governments resorted to allocating and providing a larger Source: China Urban Construction Statistical Yearbook, 2006–12. share of construction land, particularly con- struction land for industrial uses, directly were to be above a minimum price set by the and not through public bidding to attract government. The Property Law of 2007 then industries more quickly. At the same time, provided that the use rights to land for com- however, governments continued to carefully mercial and industrial uses, including indus- manage the supply of land for residential and try, commerce, tourism, entertainment, and commercial uses through competitive allo- commercial housing, were to be transferred cation to maintain the income stream from through competitive means. public land sales in the primary urban land Land concession income grew overall market. A secondary land market, in which because local governments increased the sup- land use rights are transferred between users ply of construction land to meet increasing of nonstate land, remains relatively underde- demand and because a larger share of land veloped (box 4.2). Land concession income was allocated competitively in response to from competitive land allocation, in compari- the shift in central government policy toward son, increased continuously from 57 percent market-based principles. The annual supply in 2004 to 96 percent in 2012 (figure 4.11; of land for construction use increased from table 3.2). 1,786 square kilometers in 2001 to 7,113 China’s local governments have success- square kilometers in 2012, with an average of fully increased industrial land supply to gen- nearly 3,500 square kilometers per year (fig- erate growth while restrictively managing ure 4.9). The share of the total construction commercial land supply to generate income. land area allocated through public bidding The average price per square kilometer allo- increased from 59 percent of total supplied cated directly was about RMB 35 million, TABLE 4.1 Industrial land price development by region, 2000–11 Mean price (RMB/square meter) Area 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 21 surveyed cities 467 475 486 495 508 516 536 640 613 634 672 705 Eastern region 580 588 598 610 627 639 665 831 769 784 837 883 Central region 347 351 364 367 377 382 399 492 508 518 549 566 Western region 391 400 413 421 430 437 448 471 476 511 535 560 Source: DRC 2013. CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 275 FIGURE 4.9 Annual (urban) construction land was taken, and accelerated the wasteful con- supply, 2001–12 version of farmland in rural areas. 8 Land concession income, land sales 7 profit, and expenditure patterns 6 km2 (thousands) 5 China’s land concession income and expen- diture policies have evolved over the past two 4 decades. During the early 1990s, about 20 3 percent of the land concession profits were 2 allocated to infrastructure construction at 1 the local level, and the remaining 80 percent 0 were shared between the central govern- 2001 2004 2007 2010 2012 ment and the local government. The central government’s share of income continuously Source: China Land and Resources Statistical Yearbook, various years. declined from 40 percent in the 1970s to about 5 percent by 1992. Fiscal reform in 1994 defined land concession profits as local and the price for competitively allocated land government income. Local governments have was about RMB 930 million. Total supply full control over income from land sales, of construction land increased sharply from which does not need to be shared with the 2008 onward. Much of this land was allo- central government. cated through negotiated sales, which exac- Land concession income has since grown erbated urban sprawl and inefficient land continuously, from RMB 51 billion in 1999 use and did not generate the level of growth to an estimated RMB 3.2 trillion in 2012. expected. Many localities increased the sup- Gross revenues are estimated to exceed RMB ply of cheap land for industrial uses but could 3.3 trillion in 2013 (figure 4.12). The eastern not capitalize on the comparative advantage region’s share in total concession revenue has of that cheap land. Instead, they followed an decreased from 70 percent to about 58 per- unsustainable development approach, stimu- cent since 2010, and the shares of the central lated discontent among farmers whose land and western regions have gradually increased. TABLE 4.2 Supply of construction land and land concession income, 2001–12 Income Income competitive- Area Income Directly Competitively % total direct allocation allocation % Year (km2) (RMB, billion) allocated allocated area (RMB, billion) (RMB, billion) total revenue 2001 1,787 — 740 1,047 59 — — — 2002 2,354 — 881 1,474 63 — — — 2003 2,864 — 653 2,212 77 — — — 2004 2,579 542 621 1,959 76 235 307 57 2005 2,443 641 646 1,796 74 286 355 55 2006 3,068 588 638 2,430 79 169 420 71 2007 3,420 808 761 2,659 78 228 579 72 2008 2,342 1,222 624 1,718 73 214 1,007 82 2009 3,616 1,026 1,223 2,394 66 73 953 93 2010 4,326 1,718 1,383 2,943 68 88 1,630 95 2011 5,923 2,746 2,572 3,351 57 110 2,636 96 2012 7,113 3,213 3,771 3,324 47 131 3,082 96 Source: China Land and Resources Statistical Yearbook, various years. Note: — = Not available. 276 URBAN CHINA FIGURE 4.10 Construction supply: Direct versus Local governments have become reliant on competitive allocation, 2001–12 such income, which has comprised nearly 70 percent of annual local government rev- 4.0 enue in 2010 across China but has since then 3.5 declined to about 45 percent (figure 4.13). 3.0 Land concession income includes the km2 (thousands) 2.5 income local governments receive from leas- ing the use rights to state-owned land to 2.0 investors. It also includes the fees paid by land 1.5 users when the type of land use is changed, a 1.0 share of the profits made by renting buildings 0.5 on state land, and fees paid by prospective 0 land users in connection with land expropria- 2001 2004 2007 2010 2012 tion and relocation of previous land use rights Direct allocation holders. Net concession income is calculated Competitive allocation by subtracting compensation payments for requisitioned rural land and outlays asso- Source: China Land and Resources Statistical Yearbook, various years. ciated with the development of land by the BOX 4.2 China’s secondary urban land market: An invisible and unregulated market China’s urban land market is divided into a primary from industrial to commercial purposes and entering market and a secondary market. In the primary mar- the secondary market when such land is subleased. ket, the government, as the sole supplier of state- The conversion of already allocated land to other pur- owned land, grants construction land use rights to poses is illegal under current law. However, in light developers and other land users for a certain period of of high land prices, entities that have obtained land time. The secondary land market enables the transact- use rights cheaply often sublease land for other than ing and transferring of land use rights to state land. A the original purpose for profit. Others capitalize on secondary land market transaction occurs when enti- opportunities to use land as shares in joint ventures ties who have obtained land use rights from the state to develop the land. Still others simply sublease the lease, rent, or mortgage the use rights to other entities allocated land use rights. One of the most acute prob- for the remaining period of the original land alloca- lems is the illegal conversion and collateralization of tion. Whereas transactions in the primary land mar- collective land. It arises in the demolition and resettle- ket are between state and private land users, those in ment process of both rural and urban villages. Some the secondary land market are between private land rural communities and individuals, in the name of users, for which the government assumes a regulatory improving social welfare or raising capital for rural role. Since the establishment of the urban land mar- redevelopment, sell land that was originally intended ket, the primary land market has grown significantly for resettlement, taking a large profit in the process. in terms of both transaction volume and value. Laws Other villages transfer collective construction land and regulations governing the primary land market use rights to developers in exchange for investments. have also improved. The secondary land market, Some villagers rent out not only houses but also land however, has lagged behind. The lack of relevant laws use rights. This practice is especially prevalent in and regulations to govern the secondary land market urban villages, where leasing of land and houses pays renders this market largely invisible. Quality research much more than farming. In general, the types of ille- and statistics on the secondary land market is very gal transactions are getting increasingly varied. limited and does not allow for further analysis of the Many such transactions, particularly in sec- working of this market. ond- and third-tier cities, are not reported or reg- In general, land use rights to state-owned land are istered with the authorities. Regulations are often often leased or subleased. There seems to be a fre- unclear. Taxes on land and fees are avoided. When quent practice of enterprises altering the use of land land users change the original purpose of the land, CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 277 BOX 4.2 (continued) for example from industrial to commercial use, taxes istry of Housing and Construction, whereas land is and fees need to be paid to land resources authorities, under the Ministry of Land and Resources. Separate even if no other party is involved in the transaction jurisdictions over transactions create confusion and and the land user remains the same. The secondary are inconvenient for land users. Furthermore, the sec- land market has no registries or physical venues for ondary land market involves both state-owned land transactions. and collective land, making such transactions diffi- Often transactions involve not only land but also cult to regulate. Courts play a role as well. In legal property, which creates additional disincentives for disputes where land is involved, courts often order land users to register the transaction because differ- the indebted party to repay debt by auctioning off ent agencies are involved. Regulatory oversight of allocated land without the prior approval of the land property falls under the responsibility of the Min- resources authorities. Source: Zhang and others 2012. FIGURE 4.11 Local government income from land FIGURE 4.12 Revenue from land sales and sales, 2003–12 associated cost, 1999–2013 3,500 4,000 3,000 3,500 3,000 2,500 RMB (billions) RMB (billions) 2,500 2,000 2,000 1,500 1,500 1,000 1,000 500 500 0 0 2003 2006 2009 2012 1999 2005 2011 2013a Direct allocation Land granting revenue Competitive allocation Land granting cost Source: China Land and Resources Statistical Yearbook, various years. Source: China Land and Resources Statistical Yearbook, 2006–12. a. estimate. government prior to public auctions or direct land transfer. The net proceeds from land contracting. Compensation costs include the sales are available for local governments to costs for rural land and property requisition, finance infrastructure development and cur- resettlement, social security and subsidies to rent expenditure. affected farmers, and allowances to affected From 2008 to 2012, social security sub- workers of state or collective enterprises that sidies to farmers remained at about 3 per- are restructured or dissolved as part of the cent of total land concession cost, and costs land requisition process. Development costs for requisition of property and resettlement refer to government expenditures to develop decreased from 66 percent in 2008 to 60 and provide basic infrastructure prior to the percent in 2011. Land development costs 278 URBAN CHINA FIGURE 4.13 Revenue from land sales as a share RMB 627 billion, and as a share of gross of total local government revenue, 1999–2013 income. However, despite the associated costs, land concessions remain highly prof- 80 itable for local governments—about 44 per- 70 cent of all land concession revenue during 2008 to 2010 was profit—although the profit 60 share declined to 22 percent in 2012. 50 Local governments exercise wide discre- Percent 40 tion in the use of net income from land sales, 30 and rules and regulations concerning prof- its from land sales remain vague. The Land 20 Management Law stipulates that conces- 10 sion income from transfers of use rights to 0 new construction land should be allocated 1999 2004 2009 2013a to arable land development. Other policies require that some share of profits be allo- Source: China Statistical Yearbook, various years. cated to construction of subsidized housing. a. estimate. Local governments have been able to use a large share of the land concession profit for urban construction because of the absence of increased to about a quarter of the total land clear definitions of land concession costs and concession cost, and land administration– of specific rules on how big a share urban related costs, which include costs associated infrastructure construction can take from the with land reconnaissance and assessments, total land concession income, and how such land auctions, public notification, and so expenditure shall be used. forth, remained at 1 percent (table 4.3). Rural areas remain particularly disadvan- Profits from land concessions averaged taged in benefiting from concession profits. about 44 percent of total concession income Between 60 percent and 70 percent of land- during the period 2008 to 2010 and increased related profits are spent on urban infrastruc- in absolute terms from RMB 436 billion to ture, subsidized housing, and transfers to the RMB 1.22 trillion. However, during 2011 to state’s land profit fund (aimed at fi nancing 2012, land concession profits have decreased the acquisition of land reserves). The share in absolute terms, from RMB 943 billion to of profits directed to agriculture and rural TABLE 4.3 Cost structure of land concession, 2008–12 % of % of % of % of % of 2008 total land 2009 total land 2010 total land 2011 total land 2012 total land (RMB, concession (RMB, concession (RMB, concession (RMB, concession (RMB, concession billion) income billion) income billion) income billion) income billion) income Land concession income 994 1,424 2,940 3,348 2,889 Net income 436 44 658 46 1,222 42 943 28 627 22 Total cost 558 56 766 54 1,718 58 2,405 72 2,262 78 % of % of % of % of % of Total cost by item total cost total cost total cost total cost total cost Resettlement 366 66 499 65 1067 62 1,435 60 Subsidies to farmers 16 3 20 3 45 4 69 3 1,740 77 Subsidies to workers 78 14 107 14 334 19 329 14 Land administration 7 1 9 1 16 1 22 1 Land development 90 17 132 17 256 15 551 23 522 23 Source: DRC 2013. CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 279 TABLE 4.4 Expenditure patterns of land sales profits to local government, 2008–12 2008 2009 2010 2011 2012 (RMB, % of total (RMB, % of total (RMB, % of total (RMB, % of total (RMB, % of total Income billion) expenditure billion) expenditure billion) expenditure billion) expenditure billion) expenditure Land concession profit 436 658 1,222 Urban construction 302 66 334 61 753 67 556 62 320 55 Subsidized housing 15 3 19 3 46 4 66 7 59 10 State-Land Profit Fund 31 7 44 8 101 9 107 12 102 18 Farmland development 13 3 14 3 19 2 Fees for increased supply of commercial construction land 64 14 92 17 98 8 Rural infrastructure 34 8 43 8 102 8 99 11 49 8 Irrigation; water conservation — — — — — — 14 2 22 4 Education — — — — — — 50 6 27 5 Total expenditure 458 100 547 1,120 893 580 Balance –22 111 102 50 47 Source: DRC 2013. Note: — = not available. infrastructure development, in comparison, over the previous year. In 2009, the debt bal- remains about 10 percent. Expenditure asso- ance increased by 62 percent over the previ- ciated with the reclamation of arable land ous year, coinciding with the sharp increase and with land redevelopment to increase the in land requisition rates, a likely consequence supply of commercial construction land cur- of the stimulus package and attempts by local rently account for about 18 percent of local governments to prevent economic slowdown profits in 2012 (table 4.4). (figure 4.14). The total outstanding debt of local governments, as published by the National Audit Office, amounted to RMB Local government debt and land 10.7 trillion, or about 27 percent of China’s collateralization gross domestic product (GDP) in 2010. Of One of the unintended consequences of that, public sector debt accounted for about China’s land tenure framework and land policy implementation is the increasing risk FIGURE 4.14 Annual change in outstanding local government associated with the use of land as collateral debt, 1997–2010 for local government debt. Governments bor- row against future land-use revenue and use 70 the profits from land concessions to repay debt. In addition, land concession prof- 60 its are diverted from their intended uses to % increase from previous year cover public enterprise expenditures, office 50 construction, or even recurrent operational 40 expenses. Leakage of concession profits and illegal withdrawals are widespread. Those 30 weaknesses in expenditure management result in cuts or delays in fund appropriations 20 for agricultural land and irrigation develop- 10 ment, subsidized housing construction, trans- fers to state-owned-land profit funds, and 0 education support (DRC 2013). 1997 1998 2002 2007 2008 2009 2010 Since 1997, local government debt has been growing steadily. In 1998, local gov- Source: DRC 2012, based on data from the National Audit Office, Summary of Results of Local ernment debt increased by nearly 50 percent Government Liabilities Audit, June 2011. 280 URBAN CHINA 20 percent of GDP, and bonds issued by pol- and reforms advance. With improvements icy-based financial institutions accounted for in China’s commercial land supply system, 6 percent of GDP. Also in 2010, 78 city gov- and with more transparent allocation prac- ernments and 99 county governments held tices and a greater role for the market, the debt obligations totaling more than 100 per- costs of obtaining land use rights, especially cent of local GDP (DRC 2013). obtaining use rights to the existing stock of Land collateralization has become an construction-use land, are likely to increase important source of debt management for to match the real market price. In addition, local governments, which rely heavily on pro- the ratio between the newly increased land ceeds of land sales for debt servicing. Accord- supply for construction use and the exist- ing to the National Audit Office, at the end of ing stock of construction-use land is likely 2010, provincial and city governments, and to decrease. As a consequence, the price for the overwhelming majority of county govern- obtaining land use rights will increase, leav- ments, had leveraged land and committed to ing a smaller land-based profit margin for using land concession profits to repay up to city governments. RMB 2.55 trillion, or nearly 38 percent of Local governments have been using all local government debt obligations (DRC urban development investment corporations 2013). If land sale proceeds fall in the future (UDICs) to manage infrastructure construc- (a first indication was given in 2010, although tion and also to manage public land holdings such proceeds have increased again in 2012 (land banks), and those UDICs have bor- and 2013) and no other revenue sources can rowed heavily against land. According to the be mobilized in time, local governments may National Audit Office, the outstanding debt experience larger shortfalls in land profits, held by UDICs at the end of 2010 was RMB creating risks to their fiscal position. 4.97 trillion, or 46 percent of total local gov- Land concession revenues have grown rap- ernment debt (DRC 2013). Local govern- idly for more than a decade. In the future, ments have spent an estimated RMB 1.02 more fluctuation in land-based revenue, and trillion through UDICs to acquire and stock- even downward trends, can be anticipated pile land. Commercial banks are the biggest as the overall economic environment adjusts credit suppliers to local governments through UDICs. In 2010, total bank lending was RMB 8.47 trillion, accounting for nearly 80 FIGURE 4.15 Bank lending to urban development investment percent of all local government debt. China corporations as share of total infrastructure lending, 2009 Development Bank had about 70 percent of its infrastructure construction loans exposed 80 to such corporations (figure 4.15). City-level commercial banks, joint-stock banks, and 70 state-owned commercial banks and local 60 fi nancial institutions had exposure rates of 50 12 to 14 percent (DRC 2013). More than 55 percent of the debt held by Percent 40 UDICs is repaid through new loans. At the 30 end of 2010, 358 UDICs borrowed to pay off existing government-backed obligations 20 and related debt of about RMB 106 billion. 10 Rollover rates for government-backed loans for 387 universities and 230 hospitals were 0 above 50 percent (figure 4.16). The debt roll- China City Joint State-owned Development commercial stock commercial over rate for highway projects across China Bank banks banks banks was 55 percent. In 2011, the China Banking Regulatory Commission banned the roll- Source: DRC 2013, based on data from the National Audit Office, Summary of Results of Local ing over of debt, which increased the risk Government Liabilities Audit, June 2011. of short-term debt repayment defaults of CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 281 FIGURE 4.16 Bank exposure to loans to urban an additional 17 percent was to be repaid in development investment corporations, 2010 2012. From 2013 through 2015, 11 percent, 9 percent, and 7 percent would have to be paid 60 off. Debts maturing beyond 2016 account for 50 30 percent of local government debt. Because UDIC loans are mostly invested in public 40 welfare or quasi–public welfare projects, the Percent 30 investment recovery period is generally long 20 and cash flow generation is weak. By 2010, of the total UDIC loans, 1,734 (26 percent) 10 resulted in losses (DRC 2013). 0 Rollover Overdue Share Share rate rate of loss of debts Illegal occupation of land and maturing social tensions in 5 or more years Illegal land occupation and use have been widespread across China over the past Source: DRC 2012. decade. Illegal land use refers to the illegal purchase, sale, and transfer of land; dam- age to cultivated land; unapproved land UDICs. Overdue debt obligations as a share occupancy; unlawful approval of land occu- of total debt of UDICs has been rising. At the pancy; and the granting of land at too low end of 2010, 148 UDICs (2.3 percent of all a price. Although the trend of illegal land UDICs) held RMB 8 billion in overdue debts, use has declined since 2007 in terms of the with an average share of overdue debt of total number of cases reported and in terms 16.3 percent. Given the likelihood of a drop of land area, the total illegally occupied land in land concession revenue and profits over area appears to have increased again since the next few years, loan repayment through 2009 (figure 4.17). Approximately 10 percent debt rollover is inherently unsustainable, and of land requisitioned in 2011 was occupied or debt overdue rates of UDICs are likely to rise (DRC 2013). FIGURE 4.17 Illegal land use: Number of reported cases and area Statistics on land sales in 2011 suggest that affected, 2001–11 growth in the proceeds of land sales slowed, with a decline of 9 percent from the previous 140 900 year. The decline was most obvious in eastern China. Growth in land sales proceeds slowed 120 800 by 22 percent in Shanghai, 17 percent in 700 Ningbo, 13 percent in Xiamen, and 6 percent 100 600 Cases (thouands) in Zhejiang (excluding Ningbo) (DRC 2013). per sq km 80 500 The slowing growth proceeds increases the risk of default on local government debt 60 400 backed by land sales proceeds. During the 300 most recent round of local government bor- 40 rowing, 54 percent of the loans had a matu- 200 20 rity of over five years. About 45 percent of 100 local government debt in 2010 will have to 0 0 be serviced between 2012 and 2015. If land 2001 2004 2007 2011 sales proceeds continue to fall over the com- Number of cases  Land area (right axis) ing years, local governments will have a big- Cultivated land (right axis) ger shortfall and their solvency will be tested. About one-quarter of current local gov- ernment debt was to be repaid in 2011, and Source: China Land and Resources Statistical Yearbook, various years. 282 URBAN CHINA FIGURE 4.18 Illegal land use by violators in 2011 sions between local governments and rural residents and have led to a sharp increase in Provincial-level agencies the number of disputes over land. The pub- lic image of local governments has suffered Municipal-level agencies as a result of forced evictions, demolition of County-level agencies houses and property in rural areas, violations Township of due process, and neglect of appeals and Village-level agencies consultation in the expropriation process. and rural collectives As farmers have become more aware of their property interests and legal rights, the num- Enterprises and institutions ber of legal disputes over land has increased. Individuals Land-related disputes have become a threat to social stability in rural areas of China. Across the country, the government takes land from approximately 4 million rural people or Source: China Land and Resources Statistical Yearbook, 2012. 1.1 million households every year (Landesa 2012). More than 100,000 mass incidents (with more than 100 people involved) take used illegally. The increase is likely linked to place every year (Chinese Academy of Social the growing number of large infrastructure Sciences [CASS] 2013). According to the State projects as well as industrial land expansion Bureau for Letters and Calls, 60 percent of since 2008. Most of the violations are by all mass protests every year are land related enterprises, individuals, and rural collectives (DRC 2012a). Undercompensation for land (figure 4.18). and property requisitioned by the government Illegal land occupation by enterprises is is generally at the core of land-related disputes linked to the increase in construction activity in which compensation is perceived as unjust, since 2008, and the large share of violations such as undervaluing of land appreciation by individuals and collectives are indicators during the conversion process and the capture of uncontrolled expansion of residential and of most of the incremental value by govern- commercial construction on land in rural ments. An urbanization model that is based areas. Anecdotal evidence suggests that rural on the conversion of rural land to urban land, residential land has continuously expanded which offers no protection of property rights, into farmland, a trend that may have been no broadly accepted benefit-sharing arrange- exacerbated by remittances of migrants ments, no participation, and no procedural to the countryside and the desire for larger safeguards, is likely to contribute to social houses and housing plots or even secondary discontent. homes. Since 1978, 20 percent of the residen- Mass incidents related to land expropria- tial housing built in rural areas each year has tion were concentrated in the economically occupied arable land. This share increased developed regions such as Guangdong, where to more than 23 percent during 1999–2008 they occurred in 137 counties or districts (Tao 2013). At the same time, a large portion (DRC 2012a). Most of the farmers’ com- of existing rural residential property is unde- plaints were prompted by land expropriation rutilized or left empty when large numbers of for commercial purposes. Nearly 60 percent migrants go to cities. “Hollow villages” are involved expropriation for the construction often found in rural areas, with vacancy rates of commercial residential buildings, indus- as high as 20 to 30 percent. Regardless of the trial parks, or commercial business projects. reasons for illegal land occupation and use, Complaints were primarily about exclusion they highlight weaknesses in property rights from urbanization benefits and unjust com- protection under China’s current land tenure pensation. Large-scale infrastructure con- arrangements. struction projects were a secondary source of The scale and practice of rural land req- conflict. About 40 percent of the incidents or uisition have dramatically increased ten- complaints were related to the construction CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 283 of roads, railways, airports, green spaces, system, migrants do not have access to formal and other types. Despite such projects being public housing, nor are they eligible to par- considered public welfare, farmers appealed ticipate in the cities’ affordable housing pro- or organized protests because of low com- grams that target urban residents. Although pensation payments and nontransparent migrants have the option of purchasing distribution of land sales proceeds. Most of urban commercial housing, they usually can- farmers’ calls and protests were in response not afford the high prices. Many migrants to official misconduct in the expropriation also regard their presence in the cities as tem- process. More than half of the cases involved porary and, accordingly, tend to minimize insufficient compensation, below the legal their expenditures. In response to the loss of requirements, and 42 percent involved the farmland and the influx of migrants, farmers unauthorized expropriation of land. Con- developed housing space on their remaining flicts also resulted from perceived unfairness land, including collectively owned construc- in the distribution of the compensation, lack tion and homestead land, or they leased the of transparency in whose land was targeted land directly to migrants or enterprises. for expropriation, proposed use of expropri- A large gray housing market, operated ated land, and government mishandling of by rural collectives, has emerged in China’s the expropriation process. urban fringe areas, where informal land and housing development has thrived. These areas have become residential enclaves for Informal urbanization, urban villages, many of China’s migrants. About half of and migrants China’s 200 million migrants are estimated Urban villages are a social and spatial phe- to live in 50,000 urban and suburban villages nomenon closely associated with China’s across the country (DRC 2012b). The gov- rural-to-urban transformation and an out- ernments’ monopolization of urban land sup- come of successful industrialization. Urban ply, along with sharply increased residential villages have emerged as cities expanded and real estate prices in the formal urban market, surrounding rural areas were incorporated means that farmers and collectives continue into urban boundaries. As vast areas of farm- to have strong incentives to engage in com- land were converted to nonfarm uses under mercial real estate development for profit on state ownership, rural settlements were left collectively owned land. intact because compensation payments for The informal residential land market in rural residential and other rural property urban fringe areas has led to the fast growth were generally higher than those for farm- of what is called small-property-rights hous- land. Also, agreements between the local ing. This term refers to commodity housing government and rural residents often could units developed either by collectives on rural not be reached because farmers perceived construction land or by individual farmers their residential land as privately owned and on their homesteads that have been leased hence more secure. Consequently, many rural to migrants. These housing units cannot settlements were not included in the requisi- be transferred legally, and landholders do tion and conversion process, and rural resi- not have government-issued ownership cer- dents remained while surrounding farmland tificates. Small-property-rights housing has was developed for industrial or urban uses. expanded dramatically, despite the lack of Legally, rural residential land and collec- legal protection and a number of prohibitive tives remained classified as rural, but in real- government policies and regulations. By the ity they became part of the urban economy end of 2007, the total area of small-property- (Yuan 2013b). rights housing was estimated to cover 6.4 With the loss of farmland, rural collectives billion square meters and to account for 17 and peri-urban farmers developed an alterna- percent of China’s total urban housing stock tive livelihood strategy aided by the influx (Tao 2013). of migrants searching for low-cost housing. Urban villages play an important role in the Because of limitations imposed by the hukou urbanization process by providing affordable 284 URBAN CHINA housing for migrants when city governments collectives provide some level of public ser- fail or are unable to provide such housing. At vices, these remain disconnected from the the same time, urban villages offer collectives urban services, and many collectives do not new and important income sources, often off- have the capacity to serve the community setting the negative impacts of the requisition properly. Urban villages are also outside the of farmland. Urban villages aid the two most purview of formal government agencies and vulnerable groups in the urbanization pro- face social problems. For example, in Bei- cess: the floating migrant population and the jing a large number of security threats and dispossessed farmers. Depending on the suc- criminal cases are reported from urban fringe cess of future reforms, urban villages may be areas. Social confl icts are frequent, because a transitional phenomenon. the migrant population often vastly exceeds Currently, however, challenges to China’s the indigenous population. urbanization have arisen from urban villages, and many of these challenges are related to land and property issues. The redevelopment International approaches and of urban village areas and their formal inte- experiences gration into the city space pose challenges to Lessons from international experience urban developers. Municipal governments and real estate developers have realized the Land is a limited resource, and China’s chal- economic potential of redeveloping urban lenge is symptomatic of the global experi- fringe areas. As housing prices continue to ence: demographic change; rapid growth increase, there are strong incentives to demol- of urban populations; expansion of cities ish urban villages and develop these areas for and take-up of agricultural land in urban profitable urban housing projects. However, peripheries; increasing awareness of market, because urban villages provide dispossessed environmental, and other values of land; the farmers with considerable income through need for food production to keep pace with compensation payment, redevelopment and growing demand; and inadequate legal and renovation projects that target these urban administrative frameworks and capacities to villages are often strongly opposed. When keep pace with change and the expectations the compensation payments fail to material- of various stakeholders. ize or do not reflect the opportunity costs of As discussed earlier, the complex inter- the rental income, social unrest often follows. linking of rural land expropriation and con- Urban villages are generally rural settle- version and local public fi nance is a feature ments under the jurisdiction of collective of China’s urbanization approach that has authorities and outside the purview of city developed incrementally as China selectively governments, which therefore cannot gen- adopted market economy principles during erate revenue from informal housing con- its transformation. This approach to urban- struction and leases. Urban villages are also ization reflects China’s historical antecedents centers of informal economic activities that in these policy areas and how they could be circumvent taxation and market regulations. most easily harnessed to enable and sustain Because urban villages are not incorporated rapid economic growth. In international com- into urban master plans, city administrations parison, they do not represent a sustainable have little incentive to extend infrastructure long-term solution. With Central Document and public services to urban village areas. No. 1 of 20137 giving direction to implement Housing conditions and building quality are rural land registration nationwide, a new often substandard. Traffic conditions are dimension to the issues of urbanization has generally bad as a result of congestion and been added. uncontrolled development. Environmental A first broad conclusion from interna- conditions are usually poor because of the tional experience is that China’s interlink- lack of a water supply or proper sewerage ing of local public finance, land development and waste disposal systems. Although rural value and value capture, and expropriation CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 285 and compensation is not a typical feature rights and the security of land tenure and of of developed market economies. The more the whole set of institutions within which typical approach to these policy areas is to this process takes place, including record- separate the features to enable clear decisions ing of rights, valuation, taxation, regulated and more predictable, sustainable outcomes. spatial planning, and dispute resolution. For instance, although municipalities in • Effective institutions. For land markets to developed market economies may include in work efficiently, they need to be supported their balance sheet revenue generation from by a wide range of institutions and by the the disposal or sale of land and buildings, data sources and information they gener- those transactions are not usually a major ate. Where these institutions are poorly source of revenue, or a particularly predict- developed, inefficient, or poorly regulated, able and sustainable one. Essentially, that they lead to market inefficiency, with approach is the antithesis of what is required impacts on the economy and equity. Gov- to finance local governments in the long ernment institutions provide the policies, term. A sustainable strategy for municipal regulations, and implementation capaci- finance involves the core elements of stability, ties that govern all aspects of the use of predictability, a degree of inflation-proofing, land. Their interaction is often complex, and local accountability. In many countries, with functions divided between ministerial a local property tax is a significant element of departments and different levels of govern- such a strategy. ment. Modern land administration systems A second broad conclusion is that address- are information technology (IT) based and ing these issues as distinct policy areas and provide a holistic approach, encompassing building on and adapting solutions tried and land rights registration, property valua- tested elsewhere are likely to lead progres- tion, property taxation, physical planning, sively to positive results. The global com- and development control. munity recently agreed on and endorsed • Land markets. Land markets in developed Voluntary Guidelines on the Responsible market economies rely on the availability Governance of Tenure of Land, Fisheries of capital and credit and the functioning and Forests in the Context of National Food of fi nancial institutions. In well-regulated Security,8 which provides valuable high-level markets, land with secure title is often a guidance on responsible governance of tenure form of collateral, and access to mortgage that can complement the more detailed learn- finance allows owners to invest in proper- ing from other specific country experience. ties that they would otherwise be unable A third broad conclusion is that the rollout to afford. Banks and mortgage lenders are of rural land registration is likely to enhance the main source of mortgage finance, with land rights holders’ expectations of security governments retaining oversight and influ- and accelerate expectations and understand- ence over market activity through interest ing of market-based approaches. In turn, this rate setting and financial regulatory frame- factor may increase pressure to address some works. Insurance companies are critical of the inherent problems associated with the in supporting market activity by enabling current approaches to urbanization in China. effective control of insurable risks. International experience suggests that the • Professional organizations. Competent following issues are likely to be significant in professional institutions provide an essen- China’s developing strategy for urbanization: tial link between buyers and sellers and government institutions. Their specialist • Policy and legal frameworks. Policy and knowledge and skills are an integral part legal frameworks should recognize the of well-developed land markets. Such ser- importance of land and property tenure in vice providers include lawyers and con- the urbanization process. Developed mar- veyancers, brokers or estate agents, value ket economies have generally moved in the assessors, land surveyors and structural direction of ensuring clear definition of surveyors, and accountants, among others. 286 URBAN CHINA Land development value and or from public infrastructure development. value capture These approaches are not mutually exclusive but are often used in conjunction with each In countries with formal land markets with other (table 4.5). regulated spatial planning, which restricts the development of land according to zon- ing principles, land value is determined by a Approaches to capture betterment value range of factors of which location and land Government-led compulsory land acquisition planning designation are the most impor- involves the compulsory acquisition of land tant. When land in an appropriate location and the payment of compensation. It enables is designated for urban development under all of the incremental change in value that planning regulations, its value tends to occurs when land use changes to be fully increase substantially. There is a long history captured by the government. This approach of analysis of impacts of public decisions on is the one currently adopted by China. It land use and infrastructure and who should is resulting in considerable dissatisfaction benefit from them. Development value can be on the part of those whose land is being a major windfall gain in developed market acquired, with many thousands of mass pro- economies.9 The question, however, is who tests against expropriation, eviction, and should benefit from the development value demolition-related actions every year, which of land—the difference in value between the suggests that an acceptable political and existing agricultural use and the value with institutional solution has not yet been found. permission for development—or from infra- An annual land and property taxation structure investments that improve the value system, a typically local tax revenue system, of land by altering its locational qualities. is based on a well-administered land and The public sector commonly seeks to capture property tax. The approach is based on the some or all of the value created by the right to principle that the interest of the individual develop or by the public investment. taxpayer is enhanced by the planning deci- The question of value capture is always sion or new infrastructure, thereby resulting sensitive and reflects contemporary politi- in an increased tax liability. Regular revalu- cal balances and environments. A range of ations of the land will capture a share of the approaches are used to capture the value that increases in value from development planning results from development planning decisions decisions or as a result of public infrastruc- TABLE 4.5 Mechanisms capable of capturing betterment Mechanism Description Government purchase and ownership of land, Value increments created by rezoning (or the expectation with resale at developed land prices, or granting of of investment in social infrastructure) can be fully captured. development and use rights in the form of long-term Substantial practical difficulties are associated with such leases approaches unless acceptable political and institutional precedents exist. A uniform land tax, paid annually without This is an effective and nondistorting approach that would also discrimination appropriate increments generated within use classes and not only at the time of upgraded development rights (as is normally proposed with betterment taxes). A tax on income generated from the sale of land This tax would act as an effective betterment tax. Such a system and buildings at appropriate personal and business could replace capital gains tax (at least as it applies to land and tax rates, providing tax deductibility for the value of buildings). improvements Taxes or charges applying to the “unearned increment” The classic application of betterment taxation theory, this of value increases only mechanism seeks to capture the difference between the unimproved value of the land at its current use and its unimproved value following rezoning. Source: Medda and Modelewska 2011. CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 287 ture development for the community. The generally they are equally applicable to the annual land and property taxation system is capture of value in cases where development regarded typically as an effective and nondis- planning decisions create value. The Danish torting approach that allows for the capture example shows how a mix of approaches can of land value increases over the long term. successfully capture the value generated. The An income tax system is based on the Copenhagen metro development scheme used income earned from the sale of land and several of the approaches, including the fi rst buildings at the relevant tax rates after (through acquisition and disposal of land) allowing for the value of improvements. and the second (through real estate taxes). In The approach brings the benefits generated addition, using direct payments and operat- into the general tax system and taxes them ing profits from the Metro rail system itself accordingly. It requires an advanced tax allowed the total debt incurred to be repaid. regime and administration capacity to be In the Canadian example, the annual real effectively enforced, and it taxes at the point property tax was the core mechanism for of disposal. It is therefore different from the capturing value. In the Italian example, the annual land and property taxation system initial basis for value capture was a special approach, which provides long-term commu- levy, similar to the betterment tax approach nity benefit, and from the betterment tax. above, followed by a real estate transfer tax, A betterment tax (or capital gains tax) which has characteristics in common with seeks to capture some or all of the differ- the income tax. ence between the value of the land at its cur- rent use and its unimproved value following Specific issues of relevance to China rezoning after development planning deci- sions or as a result of public infrastructure Under China’s current framework, munici- development. palities use their monopsony and monopoly Table 4.6 illustrates how these differ- powers to capture land value by taking rural ent approaches have been used in practice, land for urban and infrastructure use. Com- including how they may be mixed to achieve pensation is based on the existing agricultural an appropriate result. They are framed in use value and may include limited elements the context of infrastructure projects, but of the future development value. Most of the TABLE 4.6 Transport sector investment projects and land value capture Project Description Copenhagen metro and The Copenhagen metro and Orestad scheme is a recent metro development costing Orestad scheme, Denmark, €1.6 billion. Value was created from the design and construction of the new metro 2002–07 rail line. The increased accessibility to the adjacent land raised demand among developers and investors. By the end of 2006, 52 percent of the whole site was sold or under construction, with overall sales totaling €623 million. Value was captured from direct payments (10 percent), real estate taxes (10 percent), and operating profits from the metro rail system (30 percent). The captured value paid for the construction of the metro by repaying the €2.3 billion debt incurred during construction process. Metro Toronto Subway, Metro Toronto Subway was constructed during the 1950s and 1960s. Analysis concluded Canada (built during the that the tax assessment value increased by 45 percent near the city center and by a massive 1950s and 1960s) 107 percent in the region of the suburban stations compared to a 25 percent increase in other areas. Along with these significant rises, rentable values of office space adjacent to the station were, on average, 30 percent higher than in the city. Between 1959 and 1964, 90 percent of new office space and 40 percent of apartment buildings were constructed beside metro lines. Milan Metro, Italy The special levy, INVIM (specific improvement assessment), was assessed on properties (1972–2002) within 500 meters of a station. This form of levy raised significant revenue, but following its initial success the levy was replaced by a real estate transfer tax that feeds into the local general fund. Source: Medda and Modelewska 2011. 288 URBAN CHINA development value accrues to the govern- Developed-country approach. The devel- ment. International experience raises many oped-country approach leaves existing ten- policy and administrative questions that are ure rights in place but changes the planning relevant to China. In particular, the follow- designation of the land and allows the gov- ing important questions need to be answered: ernment to capture some of the development What is a fair approach to dealing with the value through taxation. City planners rezone legitimate property interests of farmers from land to shape the city and guide investment. both an administrative and a value capture Rezoning includes defi ning the use, height, perspective when land is acquired for urban and density restrictions of the development expansion or for infrastructure development? area. Market forces, on the basis of exist- Should these legitimate interests attract a ing tenure rights, are then allowed to operate greater share of the development value? How freely, thus allowing collective construction should development value be defined and land to be directly sold to buyers. The mar- assessed? Which institutions will be respon- ket will determine the highest and best use sible for addressing and overseeing the urban within the planning restrictions. Purchase development? What type of appeals pro- and development of land will take place at cess will be available to the legitimate inter- a time and at a price that is supported by est holder, and what will the institutional the market, leading in principle to a more responsibility be? These questions may be efficient allocation of resources based on expressed as three scenarios. market demand. The recovery of all or an appropriate part of the development value Modification of the current approach based can be achieved through one or more of the on compulsory acquisition and compensa- range of tax or betterment levy approaches tion. This scenario would include the con- discussed above. A similar approach is the tinuation of the current expropriation prac- zone-taking approach practiced in Taiwan, tices, but compensation could more closely China. This model also demands substantial reflect the development (market) value of capacity, ranging from registration to real land. The development value could be shared property valuation, for which there is very equally between the acquiring authority and limited administrative provision or capacity the farmers whose land was expropriated. currently available in China. Whereas farmers would gain significantly under this model, municipal government Mixed approach. A possible mixed approach revenue from land development would be could give more freedom in the use of exist- halved. Municipal finance reform would ing farmer tenure rights and involve munici- need to proceed in parallel to ensure sus- pal authorities as partners through exercise tainability. This approach could also create of their development planning authority. The short-term municipal cash flow and solvency mixed approach could allow for leasing and problems if compensation is paid at the time shareholding options under which farmers of acquisition, and demand for the land or would retain their property interest in the land values may be reduced when the gov- land. Private investors could deal directly ernment sells the land. Such risks could be with farmers to assemble larger plots of land managed by avoiding land banking and for development. This approach also raises by deferring expropriation and compensa- the above issues of site assembly, valuation, tion payments until a buyer is in place. This management, and governance, and municipal scenario, though, raises sophisticated land authorities could become involved as third- administration and valuation issues that will party stakeholders, for example, by rezoning, demand substantial capacity, ranging from facilitating site assembly, and being party registration to real property valuation, for to agreements (thereby receiving part of the which there is very limited administrative development gain). Recovering the develop- provision or capacity currently available in ment gain would be complex and could be China. achieved through a variety of approaches, CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 289 including possible shareholdings in the enter- payer, including benefits to property values. prise or annual or other taxation regimes. Local annual property taxes are therefore often advocated as a means of improving the accountability of local governments to Land and property taxes and local residents. Annual property taxes are also less government finance prone to cyclical swings than other forms of Countries have different approaches to tax revenue. This stability is in part the result financing local governments. Most countries of tax assessments, where those assessments have policies of decentralization in common. are based on market-related property val- Although decentralization and subnational ues, being adjusted more slowly than actual government policy may differ, the authority prices of properties. Property taxes may even of decentralized governments to raise and restrain housing booms and land banking by spend revenue is normally related to their making it more expensive to buy and hold devolved functions and responsibilities, set homes and land for purely speculative pur- forth in the constitution, laws, and admin- poses. An Organisation for Economic Co- istrative provisions. Finding appropriate and operation and Development study (OECD politically acceptable bases for raising income 2010) suggests that taxes on immovable to fi nance decentralized expenditure, how- property are the least harmful type of tax for ever, remains a challenge in many countries. economic growth, particularly for urbaniz- Most developed countries impose real ing emerging economies with large informal property taxes of one form or another. These sectors. include property transfer taxes and capi- Despite the advantages, property tax sys- tal gains taxes levied on property sales, and tems can be expensive to establish and are inheritance tax or estate duty levied on inher- unlikely to provide sufficient funds to finance ited properties, both of which are usually all the expenditure requirements of local under the jurisdiction of the central govern- governments. Revenue from such taxes is ment. Annual property taxes, however, are normally limited to funding public services, usually imposed as a local tax, mostly to such as administration charges, street clean- fund local administration and services. In ing, refuse collection, among others. Capital addition, taxes can be designed to encourage expenditure on infrastructure, education, socially, economically, and environmentally and health and welfare services generally desirable behavior. Annual property taxes, require funding from central government as a source of both local and current bud- transfers, development charges, land leasing, get fi nancing, have a number of advantages: and public-private partnerships and other the concentration of wealth in land and real sources. For the administration of prop- property, particularly in urban areas, pro- erty taxes, the system must be efficient and vides a substantial base for taxation. Annual transparent, with well-trained professional property taxes are often widely accepted by staff. Assessments of valuations and taxable the taxpayers because they are often consid- amounts should be made public, and govern- ered to be fair; they are stable and predictable ment should provide taxpayers with a right to and provide a sustainable source of revenue appeal against valuations. and a hedge against inflation over time, thus ensuring the maintenance of revenue in real International practice terms. Annual property taxes are particularly The amount of revenue generated from recur- suitable for fi nancing local services because rent property taxes varies significantly. High- real property is locationally fi xed and prop- income countries tend to generate propor- erty taxes are generally difficult to avoid. tionately larger amounts than middle-income Also, a clear link exists between the types countries, whether viewed as a proportion of services typically financed at the local of GDP or as a share of tax revenue. Aver- level and the benefits received by the tax- age revenue from recurrent property taxes 290 URBAN CHINA in high-income countries represents gener- posal, returned € 16 billion, and commer- ally less than 5 percent of GDP (Norregaard cial activities returned €9 billion. The most 2013). However, this does not fully reflect important single source of revenues, how- the potential contribution that such taxes can ever, is grants from higher government levels, make. At the upper end of the scale, prop- at €49 billion. These come from established erty taxes account for almost 17 percent of mechanisms for providing designated grants GDP in the United States, whereas in Great from higher levels of government for local Britain and Canada the figure is around 12 infrastructure and urban renewal. An impor- percent. The significance of annual taxes on tant complementary element for financing land and property at the local level is often local infrastructure is a legal provision that evident when viewed as a proportion of over- enables municipalities to recover significant all revenue of local government. In the devel- amounts of these expenditures—usually up oped market economies of the United States to 90 percent—from property owners. and Europe, in particular, recurrent taxes on Table 4.7 highlights the challenge that the land and property provide a varying element property tax needs to be designed either so of municipal finance, with some jurisdictions it can be regularly revalued through com- relying more on such sources of revenue. puterized mass appraisals, or so revaluation Most land and property tax systems are tied is not a key element; otherwise it becomes directly or indirectly to the market value of politically difficult to update valuations. land and immovable improvements. In most Germany’s property tax system is frequently cases, this is the capital value, although, for criticized for favoring landowners by using example, the United Kingdom’s commercial implicitly low tax rates derived from out-of- property tax, the Uniform Business Rate, is date valuations. tied to the rental value. Other countries Germany The United Kingdom, with its long history of Local governments in Germany have a rela- substantial property taxation, has a higher tively modest level of dependence on recur- dependency on real estate taxes at the local rent taxes on land and property and have level than most other high-income economies. responsibility for water supply and sewage, Annual property taxes account for approxi- waste disposal, local roads maintenance, mately 9 percent of national tax revenues and local welfare and health services, as well as 50 percent of local government self-generated construction and maintenance of primary revenue. The United States has a similar pro- and secondary schools. Local governments’ fi le, having adopted property taxes as a sig- share of all government expenditure was 22 nificant revenue source at the local level from percent in 2005, representing 7 percent of the earliest stages of its urban development. GDP (Schlosser 2007). The German system Property taxes account for approximately 50 includes a strong element of revenue sharing percent of all local government self-generated and redistribution between different levels revenue. Annual taxes are based on regu- and units of government. Local authorities lar market-value assessments carried out by received €151 billion in 2005, representing assessment offices. These offices often main- 24 percent of the total income of all three tain an open-access website that contains government levels. Of the total local tax reve- practical information about property values nue of €54 billion, the dominant source is the and the assessment process, providing easily local business tax, with €23 billion, followed accessible comparable sales data and maps, by €18 billion from a 15 percent share of the together with information on liabilities, national income tax. The local property tax, exemptions, and so forth. which is much lower than in other countries, Globally, assessment methodologies have contributed €9 billion, or 17 percent of local recently been greatly improved, particularly tax revenue. Fees and rates, two-thirds of with the implementation of computer-assisted which are from water and solid waste dis- mass appraisal, which provides reasonably CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 291 TABLE 4.7 Land and property tax in Germany, 2003 Elements of the property taxation system Description Tax authority The state tax administration is responsible for assessment of the standard tax as the basis for levying the municipal tax. The municipality applies a variable “leverage ratio” to this standard tax. Object of taxation Agricultural land and forests; other real property Land: 61.5 million parcels; registered strata/condominium units: 14 million Taxpayer The owner is liable to pay the tax. In addition, the user of the property (usefructor) may be rendered liable to pay the tax. Tax base According to the valuation law, this is the price that could be realized in the case of sale. Land and buildings are supposed to be reassessed every six years, but 1964 data (price adjusted for 1974) have been used until 2003 without further update. Tax rate The state applies a standard base rate to the value, for example, for agricultural land: 0.6 percent, and for other real estate (with/without buildings): 0.35 percent. Municipalities apply a municipal leverage factor; national averages at 2000 were: agricultural/forestry land: 278 percent, and private/commercial real estate: 367 percent. Tax revenue Land and property taxes: €8.85 billion in 2000 (15.5 percent of total municipal taxes; 0.44 percent of GDP. Source: Spahn 2003. accurate and consistent, largely automated, on infrastructure, including roads, utilities, assessments. Similarly, developments in IT and transport networks. One of China’s main have made electronic billing and payment a concerns in considering alternative forms of key feature of both local and central govern- local government finance is that revenues ment financial management. In Japan, key from annual property taxation will be insuf- features of market-based value, regular reval- ficient to replace funding from the current uations, and significant contributions to local land conversion system. China’s challenge tax revenue are common (table 4.8). is to convert its local government fi nancing model to one that is sustainable, predictable, transparent, accountable, and less dependent Specific issues of relevance to China on cyclical land conversion markets. In China, municipal authorities use their reve- International experience shows that sepa- nue from land conversion to fund both current rating current and capital budgets creates a and capital expenditure. This model places more direct link between revenue sources an undue burden on a single, unpredictable and local authority functions and responsi- revenue source and encourages the geographi- bilities, which could be managed in different cally extensive development of cities, which and directly relevant ways. The introduction in turn requires further capital expenditure of recurrent property taxes could provide a TABLE 4.8 Land and fixed property tax in Japan Elements of the property taxation system Description Tax authority Municipalities (cities, towns and villages) assess, levy, and collect the tax Object of taxation Land, buildings and tangible business assets: 177 million parcels; 59 million buildings Taxpayer Owners of land, buildings, and depreciable property—of land: 37 million persons; of buildings: 35 million persons; of tangible business assets: 4 million persons Tax base Value (fair market value) as of January 1; land and buildings reassessed every three years Tax rate Standard tax rate: 1.4 percent; maximum tax rate: 2.1 percent Tax revenue ¥9.257 trillion at 1999; 45.3 percent of total municipal taxes; 0.37 percent of GDP Source: Kitazato 2003. 292 URBAN CHINA significant contribution to annual budgetary ning (including adequate resource planning), operating costs, possibly in the region of 50 and resolute action. Important questions will percent of locally generated revenue. None- arise such as: Which properties will form the theless, alternative sources will be needed for taxation base and which will be excluded? the balance. Alternative funding for capital What will be the basis for determining the investments will also need to be considered. market value of the property? What will be These might include, for example, the issuing the level of payment—what is a reasonable of long-term loans or bonds, central govern- amount and who will set the level? What ment grants, cost-recovery service charges, level of technology will be required to admin- user fees and licenses, and greater private ister the taxation system? Which institutions involvement, such as through public-private will be responsible for administering the tax: partnerships. valuing property and levying and collecting Although China has some experience with the tax? What levels of technical resources land-related taxes, the design and introduc- are required, and how will they be procured tion of a municipality-wide, equitable, and or trained? What changes to laws and regula- sustainable annual property tax system tions will be required? How will the initial should be undertaken in a planned and holis- setup costs be funded? How will taxpayers tic manner. The administrative (and political) be sensitized to accept such a new tax? Will challenges in resolving such issues and bring- the tax be phased in or introduced as a one- ing about local government fi nance reforms time reform? in China should not be underestimated (box Introducing annual property taxes will 4.3). The strategy for reform requires a strong require the development of strong institu- political will, clear objectives, careful plan- tional and technical expertise in land admin- BOX 4.3 China’s property taxation Taxes on land and real estate have become increas- Chongqing experiment covers only very high-income ingly important in China’s cities. The share of land- residential housing and less than 3 percent of all par- based taxes in overall tax revenue has grown fast in cels in the city. It involves no valuation (the tax base is recent years as a result of booming real estate mar- original purchase price less a standard deduction for kets (Wong 2013). China currently taxes property area) and yields annual revenue of only about RMB in the form of an urban land use tax, which is levied 100 million. The Shanghai experiment is similarly on the land area of the property; a real estate tax restricted to a small segment of the residential hous- for business use, which is levied on original value; ing stock and does not generate much revenue relative a land value added tax that is levied on the appre- to the size of the city budget. Because valuation is the ciation in land value; a farmland occupation tax, core of property taxation, these pilots do not move which is levied on land area; and a deed tax, which China significantly closer to implementation of a full is levied on the self-reported value of property at property tax that covers a significant portion of the the time of transfer. Real estate is mostly taxed at urban property base. the time of transfer. Land-related taxes have grown A possible approach for China would be to pilot to more than 16 percent of total local tax revenue a comprehensive tax on property in urban areas. The and have increased from RMB 51 billion in 2001 existing taxes might be combined into a new prop- to more than RMB 1 trillion in 2012. The taxes on erty tax regime that would include the annual prop- real property account for about 1.6 percent of GDP erty tax, a capital gains tax on transfers of real prop- (Man 2013). erty, and a set of value capture taxes on real estate. Broad-based annual property taxes and capital The capital gains tax is relevant in the discussion of gains taxes have not been introduced in China, except land market integration of collective and state land for small-scale pilots on annual property taxes in markets. Valuation, cadastre, and even collections Shanghai and Chongqing. The pilots, however, have could be combined, and the revenue yield could be been designed as levies with minimal coverage. The significant. CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 293 istration, including regulatory frameworks, priate advance consultation, participa- spatial planning, land records, valuation, tory planning, accessible mechanisms for financial management, and appropriate tech- appeals, and limits on administrative dis- nology. Those, in turn, will require academic cretion. Rules that place reasonable con- and professional training and the develop- straints on the power of the government ment of professional associations to enforce to expropriate land strengthen people’s licensing, standards, and ethics. Not least of confidence in the justice system, empower these challenges will be the development of people to protect their land rights, and a functional property market to facilitate the increase the perception of tenure security. transfer of land and property to its highest • Good governance. Transparency and and best use and to provide appropriate evi- checks and balances are features of good dence for an equitable basis of assessment. governance, and they reduce opportuni- ties for corruption and abuse of power. Officials who expropriate land should Expropriation and compensation be accountable for the good-faith imple- Countries retain powers of compulsory acqui- mentation of the laws. Laws that are not sition in order to acquire land for public pur- appropriately observed by local officials poses, usually relating to social and economic undermine the legitimacy of compulsory development or the protection of the natural acquisition. environment. The nature of these powers and • Equivalent compensation. Policies and the ways in which they are used are sensi- laws should ensure that affected own- tive and have wide implications. Compulsory ers, occupants, and users receive fair and acquisition is disruptive for those who are prompt compensation, whether in money affected and whose property is taken, and it or in alternative land. Regulations need to may have serious negative impacts on people set clear and consistent valuation bases for and livelihoods. Therefore, having satisfac- achieving this. tory approaches in place and implemented is important, including compensation that Most developed market economies have ensures that people are placed in situations resolved the core issues of concern and at least equivalent to those before the land achieved a working consensus that is accepted acquisition. Prerequisites for compulsory by most stakeholders. Periodic adjustments of acquisition include appropriate legal frame- policy and practice happen for many reasons, works, capacity for implementation, good but these tend to be marginal. The situation governance, and adherence to the rule of law. in transitional economies is often far more The expropriation of tenure rights is gener- complex because the interrelation of evolv- ally governed by relevant legislation and reg- ing legitimate tenure rights and municipal ulatory provisions, which generally address management and fi nance makes it harder to the circumstances under which expropriation make meaningful marginal changes to fix the may take place and for what purpose, what system. Instead, major integrated reforms are procedures are required, and how compensa- required. In China, the widespread discon- tion is assessed. Those provisions will deter- tent of those whose land is being taken is a mine to a large extent the political accept- clear indication that compulsory acquisition ability of the process. In circumstances where and compensation processes and results are acquisition is accompanied by a change of not working well. China is not alone in not use, land acquisition is likely to be particu- having found acceptable formulas for dealing larly contentious when the new use is more with this challenge. intensive and of much higher value. Most countries have therefore developed principles International practice dealing with three broad themes: Compulsory land acquisition is a problem- • Due process and fair procedure. Modern atic area of public policy in which norms, practice provides rules that ensure appro- regulations, and expectations change as (a) 294 URBAN CHINA political systems transition from one set of expropriation (or eminent domain) powers. political norms, (b) countries grow wealthier, The Fifth Amendment of the Constitution (c) people change their views on the value imposes limitations on the exercise of emi- of their resources, (d) technologies change, nent domain: the taking must be for public and (e) people recognize the impacts of pub- use, and just compensation must be paid, lic schemes on land values. Reviewing how both of which have largely been established other countries deal with the process and through determination by the courts. The implementation of compulsory acquisition is general premise is that public use, if left unre- helpful. stricted, could jeopardize private property rights. Courts have acknowledged the dif- ficulty of articulating a universal standard United Kingdom for defi ning public use. Historically, it was The United Kingdom’s provisions for com- held that the definition precludes the govern- pensation have varied significantly, reflecting ment from seizing land from the hands of the changing political balances, expectations, owner and turning it over to a third party and technologies. For example, the question on the vague grounds of public benefit for a of how to deal with development value caused more profitable use. However, state courts substantial oscillation of policies from the end have upheld the use of eminent domain for a of the Second World War to the early 1980s. variety of urban renewal programs. Expectations and ability to afford more than American courts have also held that the basic compensation were legislated for in the preferred measure of just compensation is fair 1970s in the form of supplementary home market value, that is, the price that a buyer loss payments. Also in the 1970s, the adverse would pay a seller in a voluntary transac- impact on properties near development was tion, with both parties fully informed of the increasingly recognized, along with the need property’s good and bad features. Also, this for compensation for the physical impacts of approach takes into account the property’s public schemes on properties where land was highest and best use (that is, its most profit- not taken, for example, air traffic noise or the able use), which is not necessarily its current impact of motorway flyovers. The principle use or the use mandated by current zoning, behind compulsory purchase (expropria- if there is a reasonable probability of zone tion) in the United Kingdom, embodied in change. The courts have also held that due existing legislation and case law, is that indi- process must be followed, which includes viduals whose land is expropriated should be consultation, negotiation, prompt payment financially compensated so they are left in of compensation, and the right of appeal. The no worse a position than if the expropriation property may be taken either for government had never taken place. Equally, landowners use or by delegation to third parties, such as should not make windfall gains simply as a utility companies, that will devote it to public result of public policy decisions that require or civic use or, in some cases, economic devel- substantial public investment. However, the opment. The most common uses of property amount of compensation for land should also taken by eminent domain are for government reflect the prospects for its development prior buildings and other facilities, public utilities, to the designation of the scheme. The level of highways, and railroads; however, property compensation to be considered is therefore may also be taken for environmental reasons. not limited to the existing use. The process of acquisition is based on consultation, negotia- Japan tion, and the right to appeal both the project and the amount of compensation. In Japan most land acquired for public pur- poses is through processes of purchase by agreement, a normal transaction under the United States Civil Code. Where agreement is not possible, Urban development in the United States has compulsory purchase powers will be invoked largely been achieved through private sec- under the Land Expropriation Act. The com- tor investment, with limited use of state pensation for the loss of the land is assessed CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 295 distinctly from the cost of removal or other compensation, the reforms will involve a sub- loss associated with the buildings. Just com- stantial overhaul of existing policy, legal and pensation refers to the full compensation administrative frameworks, and capacities. of the acquired property based on the fair market value that is identified as the normal Rural land registration and property transaction price that could be expected in markets the market. As in many other countries, land severed by the acquisition will be compen- The call for the registration of rural land over sated by any consequent reduction in value. the next five years under Central Document Where there is a leaseholder, the parties are No. 1 of 2013 is particularly relevant and asked to apportion the compensation value significant to China’s urbanization. Not only by negotiation. Compensation is also given to will the registration of rural land provide cover other losses, such as removal costs and increasing certainty and confidence to rural loss of business goodwill or profits. Finally, land rights holders, but it also will affect how since the 1960s, the Land Expropriation Act markets develop and how development value has provided for additional life-rebuilding is treated, how local governments can be sus- measures where appropriate, including, for tainably financed, and how expropriation example, training for new occupations. and compensation will function. Specific issues of relevance to China International practice Local governments in China use their expro- Markets are one of the principal mechanisms priation powers more frequently than do used around the world to transfer tenure those in most other countries. The degree rights and duties. Urbanizing areas are vig- to which China’s land expropriation system orous in terms of volumes of market activ- can be reformed is linked to and dependent ity, yet property markets are inefficient and on the wider land policy reforms, the state’s inequitable if not appropriately designed, monopoly in primary land markets, and the regulated, and supported with the appropri- associated dependence of local governments ate capacities. Developed market economies on income generated from land conversions. recognize the recording of tenure rights as The goal of significantly reducing the need vital to the governance of tenure. Appropriate to use expropriation powers will depend on and sustainable systems for recording tenure several assumptions, for example, that appro- rights should be maintained and updated to priate alternative sources of local government enhance their security and underpin all forms funding can be developed, that broader par- of market transactions. Land registration has ticipation in land markets will be permitted, been a key policy in the transitional former and that land use policies will be developed socialist economies of Central and Eastern to encourage the redevelopment and regenera- Europe and the Commonwealth of Indepen- tion of brownfield sites to more intensive uses. dent States. Since 1990, these countries have In effecting such reforms, China will need invested heavily in designing appropriate to respond to questions such as the follow- systems for the administration of tenure to ing: For what purposes may the compulsory ensure that real property, land, and buildings acquisition power be used? Which organs become a positive contributor to economic should hold the power of expropriation? growth, without compromising equity. What is the nature of the legitimate rights International experience shows that rural that exist, and how should they be compen- land registration programs often take decades sated? How can appropriate compensation be to complete. In Thailand’s land registration assessed, and what capacities are required? program, for example, completing the pro- What mechanisms for appeals should there cess of rural land titling took about 20 years. be? What institutional changes, including The Thailand Land Titling Program, which capacity development, will be necessary? In commenced in 1984, was one of the world’s addition to the process of developing appro- largest titling programs, issuing over 8.5 mil- priate policies for compulsory acquisition and lion new titles to landholders. Almost 19 mil- 296 URBAN CHINA BOX 4.4 Land markets and institutions in the United States Land and property, and their effective administration, implementing community goals and protecting com- are critical to economic growth. Urban development munity resources. At the federal level, land use con- in the United States is typified by private sector real trols provide environmental protection. For example, estate market activity, with private parties contract- the National Environmental Policy Act requires fed- ing with each other directly to transfer rights in an eral agencies to integrate environmental values into open market. Within the confi nes of the framework their decision-making processes by considering the set forth by state agencies, such as, zoning legislation, environmental impacts of their proposed action. The land has tended toward its economically most valu- National Historic Preservation Act requires federal able use. Market information in all sectors is avail- agencies to act as responsible stewards when their able from many sources, both the public sector (such actions affect historic properties. The Bureau of Land as the U.S. Department of Agriculture’s National Management maintains a cadastral survey of all par- Agricultural Statistics Service) and the private sector. cels and interests on all federal lands. Although interference in market activity is compara- Mortgage lending to fi nance property acquisition tively low, federal, state, and local governments are is the norm. Financial institutions are a fundamental responsible for significant aspects of the institutional element in the stability and functioning of the mar- support to real estate and its regulation and admin- ket system. In addition, a wide range of professional istration. Those aspects include responsibilities for services based on specialized approaches have devel- land use planning, recording of deeds, and the assess- oped in relation to real estate, which enable markets ment of real estate for property tax by the assessment to operate more efficiently. Those services include offices. the U.S. Appraisal Institute, National Association of Urban development is regulated at the local gov- Realtors, and attorneys. These entities are largely self- ernment level by land use and zoning laws, regula- regulating in terms of professional ethics and stan- tions, and policies that guide new development while dards and academic and vocational training. lion of the estimated 20 million to 30 million tration is a major policy and logistical exer- parcels in the country had been registered cise, requiring the mobilization of substantial by 2001. About 4 million registered parcels resources and capacity (box 4.4). Although were affected by some form of transaction the volume of investment in land titling has in 2001, of which almost 2.5 million were been less in Asia than in Central and Eastern transfers. On average, producing a certified Europe and the Commonwealth of Indepen- copy of a title took 30 minutes and complet- dent States, most countries have recognized ing the registration of a transfer took about the fundamental importance of secure ten- 2.5 hours. Despite some shortcomings, Thai- ure and are aware of the ample evidence of land’s program is seen as a success and as a increased property transactions following potential model for other countries. Land land registration. administration and land titling have gener- ally occurred in a fairly orderly and struc- Specific issues of relevance to China tured manner. The program is confined to nonforest land, and the rights of those living The policy laid out in Central Document in areas formally classified as forest remain No. 1 of 2013 to complete rural land registra- a major unresolved land issue. England and tion over the next five years is a major new Wales still have registered only about 80 per- development in land registration, land market cent of the land parcels in the Land Registry development, and urbanization, and the scale since the policy went into effect in the Land of activity envisaged is unprecedented. The Registration Act of 1925. timescale for implementation may be ambi- Although each case reflects the specific tious by international standards of achieve- circumstances, constraints, and priorities ment, but the effort will have a major impact of a particular country, global experience on all of the above areas. Progress in regis- shows that undertaking national land regis- tration is likely to be rapid in economically CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 297 advanced provinces, which are most subject reshape the social structure of rural China to market pressures, and in peri-urban areas and urban-rural relations (box 4.5). In view with development pressure and market activ- of the complexity of land reform and the dif- ity. The likely impact of large-scale registra- ficulty of reaching consensus on the direc- tion of rural tenure rights in China in rela- tion of reform, China’s local reform pilots tion to urbanization, and land acquisition and their institutional and policy innovations and assembly for urban development, will be can provide useful guidance for the broader a considerably greater propensity to conduct reform direction. The pilots discussed in this transactions, whether through sale, lease, section—Shenzhen, Chengdu, Chongqing, mortgage, or other permitted transaction. Beijing, and Guizhou—cover issues includ- Much will depend on what transpires in ing the clarification, confirmation, and titling other related policy areas. What will hap- of land rights; market integration of rural- pen in relation to development value and urban construction land and new arrange- to whom will it be attributable? How will ments for the transfer of collective land for municipal finance develop? Will compul- urban development purposes; benefit-sharing sory acquisition and compensation laws and arrangements involving incremental land practices change? Areas considered for urban value between rural and urban land holders; expansion could become both more active integration of urban-rural land use planning and more competitive, and types and levels and land allocation; and redevelopment of of transactions will likely be more sophis- informal industrial areas and housing areas ticated, particularly if municipal finances in urban villages. are effectively addressed and development The principal lessons from these pilot value is made more accessible to stakehold- reforms include the following: ers, notwithstanding policies to reclaim value through various mechanisms. • Optimizing land use can provide more flex- Critical questions will include the follow- ibility in the urbanization process. Despite ing: Have the impacts of rural land registra- the variability in development across Chi- tion and market development on urbanization na’s regions and different land demand and been effectively considered and, if so, how will supply conditions in different localities, all they be managed? What implications might pilot areas are exploring new institutional these developments have on the process of arrangements to increase land use effi- spatial planning? Addressing these questions ciency. The experiences in Chengdu and and the associated political and administra- Chongqing, for example, demonstrate new tive challenges requires major change in rela- approaches to optimizing land allocation tion to rural land registration and the develop- between urban and rural areas by combin- ment of markets. Planning at such a scale will ing a reduction in the inefficient occupation require strong political will, a clear and prac- of rural land in rural areas with increased tical vision and clear objectives, meticulous land supply for urban development. By program planning, development of resources comparison, the experiments in Guang- and capacity, and sustained action. Finally, dong, Shenzhen, and Beijing reveal that addressing these responsibilities appropriately large land inventories of low use efficiency requires the development of strong institu- are frequent across China’ s coastal areas tional and technical expertise in land admin- and big cities, resulting in great potential istration in the key areas identified. for better use of this land for urbanization. • Market entry for collective land is critical for long-term land supply for urbaniza- China’s land pilots: Guidance for tion. Various pilots have demonstrated new the national reform agenda approaches that allow collective construc- tion land to enter the urban land market Synthesis of domestic reform pilot to increase land supply and use efficiency. experiences These approaches have involved the restric- Reforming China’s land tenure system will tion of government-driven land sales, have extensive ramifications and will likely thereby allowing collectives to generate 298 URBAN CHINA BOX 4.5 China’s rural and urban land rights Agricultural land rights. The scope of agricultural should not be compulsory, nor should farmers’ inter- land rights is defi ned in the law as the right to use, ests be adversely affected through such land transfers. profit from, and transfer land contracting and operat- ing rights; the right of autonomy over production and Rural residential land rights. Rural residential land operation and over disposition of products; and the refers to land used to build residences for farmer right to receive the compensation for the land taken households. Rural residential land is categorized as by the state or collective for nonagricultural purposes. construction land that may be used for nonagricul- The Rural Land Contracting Law (2002) allows tural development without triggering increasingly rights to be transferred (to other village households); stringent control over farmland conversion; therefore, leased (to nonvillage households); and exchanged, it could have much higher market value than farm- assigned, or transacted by other means in accordance land. The total area of rural residential land reached with law. Land rights are for 30 years in the case of 166,000 square kilometers, almost five times the land farmland, 30–50 years in the case of grassland, and taken by urban construction uses (34,000 square 30–70 years in the case of forestland. The Property kilometers) (Wang and others 2012). This land, vir- Law (2007) permits the extension of the rights when tually untapped for development, may become an such land rights expire. The Third Plenary Session of important source of land for urban and nonagricul- the 17th CPC Central Committee in 2008 concluded tural development. The Property Law defines rights to that existing agricultural land rights should be main- rural residential land as usufruct property rights but tained stable “for a long term without change,” thus treats such rights differently than agricultural land expressing implicitly the intent to upgrade term-spe- rights and urban construction land rights. Rights to cific land rights into perpetual rights. rural residential land include only the right to possess China has also made substantial progress in laws and use the land, but the law is unclear as to whether and policies designed to increase tenure security. The these rights include the right to profit from such land. Rural Land Contracting Law emphasizes the princi- Central policies also declare transfers of rural resi- ples of consultation, voluntariness, and compensation dential land rights, either to the urban transferee or to prevent compulsory land transactions and land for nonagricultural development, as impermissible. rights violations. The Land Management Law, the Mortgaging of such land rights is also explicitly pro- Rural Land Contracting Law, and the Property Law hibited. Existing laws also do not specify the duration all prohibit village-wide land readjustments while of such rights, but the Central Committee’s Revised allowing small readjustments for individual house- Regulations on Rural People’s Commune, promul- holds in special circumstances, based on the consent gated in 1962, provide that farmers should be allo- of the village representatives and on approval by the cated residential land and be permitted to use it for a township government and county line agencies. long term without change, and farmers’ houses built Central policy has repeatedly expressed concerns on such land should be owned in perpetuity. Registra- over the potential threat of corporate land acquisition tion of rural residential land rights is managed at the to the livelihood of farmers that rely on land as their county level. primary income source. The central intent to tighten restrictions on corporate acquisition of rural land Urban land rights. China’s Constitution and Property rights for agricultural purposes is demonstrated in Law defi ne urban land as land owned by the state. Central Document No. 1 of 2013 (Several Opinions The State Council exercises land ownership rights on on Speeding Up Development of Modern Agricul- behalf of the state. Similar to its laws regarding rural ture and Further Strengthening Rural Development land, China has a dual-track tenure system under Vitality). The document distinguishes between land which the state assumes ownership of all urban land transfers to farmers and farmer associations and land but permits institutional and individual holding of use transfers to enterprises. While encouraging and sup- rights to such land. Such use rights are also usufruct porting transfers of use rights to rural land, including property rights. However, a different set of legal rules forestland, to farmers, family farms, and farmer asso- and policies are used to regulate rights to urban land. ciations, Central Document No. 1 also emphasizes Use rights to urban land are allocated directly or the need to establish rules on permitting and regulat- granted for value through contractual arrangements ing industrial and commercial enterprises’ leasing of between the government and the user. Use rights for arable land, forestland, and grassland. Land transfers residential purposes are granted for 70 years; for CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 299 BOX 4.5 (continued) industrial development projects, for 50 years; and for The land use rights holder has the right to possess, commercial, tourism, or recreational purposes, for 40 use, and benefit from the land. She or he may transfer, years. The use rights term of urban land is renewable. lease, and mortgage the acquired use rights for the Upon expiration, land use rights, together with struc- remaining years of the term. The granted use rights tures and other fi xtures, will be taken back by the may also be exchanged, bequeathed, or contributed state without compensation. Rights may be granted as capital investment. If the grantee is an individual, to any institution or individual through open auction, the granted use rights may also be inherited. How- tender, bidding, negotiated sale, or public listing. The ever, restrictions apply to these rights. Land may not granting of land to be used for commercial, tourism, be transferred for uses other than the uses identified entertainment, and luxury residential purposes must in the original granting contract unless the change in go through open auction or tender bidding. To pre- use is approved by the government and the transferor vent local authorities from abusing power in grant- pays the difference between the paid granting fee and ing use rights through negotiated sale, the Property the would-be granting fee under the new use. Where Law requires that tender bidding, auction, or other the transfer price is lower than the market price, the competitive approach be adopted when use rights to government can purchase these rights back. To pre- state-owned land are granted for industrial, commer- vent land speculation, the law prohibits assignment or cial, tourism, recreational, and commodity housing lease of granted rights when the land is not developed purposes, and where two or more potential users are and used pursuant to the provisions of the granting contending for the same land parcel. contract. Source: Li and Wang 2013. land use quotas from reclaiming rural con- city border be treated differently? How can struction land and transfer and trade such rural construction land rights be safeguarded as construction land conversion quotas in to prevent farmers’ interests from being the urban land market. These efforts have abused for compulsory urbanization by the resulted in increased and more efficient government to achieve its targets? land supply and greater capture of land value appreciation by collectives and rural • Secure property rights are the foundation residents. Reform efforts have also shown for China’s future efficient and socially new ways to reallocate industrial land to inclusive urbanization. Various pilots have urban land, improve planning and man- demonstrated that clear and documented agement regulations, and integrate govern- property rights to land are the key insti- ment functions with voluntary farmer par- tutional foundation for socially inclusive ticipation in the reform process. and equitable urbanization. Clarification, confirmation, and titling of land rights Although the various pilots have demon- are essential for facilitating rural-to-urban strated new approaches for encouraging col- labor transfer and farmland consolidation. lective construction land to enter the urban Secure land rights are also the foundation market, further experimentation and deep- for the redevelopment of peri-urban areas. ening of the pilots may help answer related In Meitan County of Guizhou Province, important questions: Should the entry of col- land allocation to households and demo- lective construction land apply to the current graphic change have already been decou- land inventory only, or should collective land pled for many years, and farmland rights supply be increased? Should entry patterns be have been granted without term limita- different for rural homestead land, collective tion. In Meitan the pilot reform has facili- business land, and collective land for public tated rural labor transfer to urban areas purposes? Should land outside and inside the and resulted in local industrialization, in 300 URBAN CHINA particular rural land consolidation, and land. In 2013, Shenzhen attracted nationwide urbanization. Chengdu municipality has attention when it relaxed the state’s monop- mobilized local land survey results and vil- oly in the urban construction land market lage authorities to conduct a comprehensive and allowed collectives (or succeeding collec- campaign of land and property rights con- tive shareholding entities) to sell land directly firmation, thereby providing a blueprint to urban users. The challenges of this pro- for rural-urban integration. Guangdong cess include integrating the informal collec- Province and Chongqing municipality have tive land market into the urban development also used property rights confi rmation as process, defining and clarifying the property a foundation for their reconstruction pro- rights to all land, and determining how ben- grams and land rights transfer approaches. efits from urbanization will be shared fairly Local land reform experiments have also and transparently between rural and urban identified the need for further experimen- citizens. Despite Shenzhen’s specific condi- tation in other aspects of property rights tions, the city’s policy innovation to con- confirmation, such as overcoming the cur- solidate the collective and state construction rent separation of institutional responsibili- land market is of national policy significance. ties in land rights registration. In 2004, the Shenzhen municipal govern- • Without the reform of the rural land ment promulgated the incorporation of all expropriation and public finance systems, remaining rural districts into the municipal opportunities for collective construc- urban boundary to promote urbanization. tion land to enter the market will remain Rural residents were issued an urban hukou, limited. Local government incentives and village and township administrations were the practice of land finance cannot be turned into urban subdistrict committees, altered without addressing land finance and rural collectives were transformed into and land collateralization through reform collective shareholding entities. About 260 of the public finance system. A possible square kilometers of collectively owned rural solution is to adjust the expenditure and land were converted to state-owned urban revenue assignments and the tax-sharing land. This made Shenzhen the only munici- ratio between the central and local govern- pality in China that owns all the land within ments, and to accelerate the introduction its jurisdiction. of a comprehensive property taxation sys- Across China, the taking and conversion tem. National-level legal reform can also of rural land occurs on a project-by-project ensure that collective land enjoys the same basis following urban land use plans. Shen- pricing and rights as state-owned construc- zhen’s nationalization of land is therefore an tion land. The reform of national laws is unusual case. The government converted all necessary for advancing the establishment rural land within its jurisdiction into urban of a unified rural-urban land market. land prior to the identification of urban con- struction projects (Wang, Wang, and Wu 2009). Remaining land for urban construc- Shenzhen: Integration of collective and tion had become extremely limited within state construction land markets10 the city boundaries, and extralegal construc- Shenzhen has been a forerunner in economic tion on collective land had developed uncon- and land policy innovation throughout the trolled in response to high demand for land. reform process. Over the past decades, a large Shenzhen nationalized all its land resources share of Shenzhen’s current built-up area has to avoid a situation in which the requisition been developed by collectives on collectively of collective land and property would have owned rural land. Shenzhen has allowed a become prohibitively expensive and prevented dual-track urbanization process whereby future urban development. Given Shenzhen’s extralegal development by collectives coexists status as a special economic zone and its his- with the formal urban land market in which tory of legal and regulatory breakthroughs in the state remains the only legal supplier of economic development, the Ministry of Land CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 301 and Resources allowed the nationalization of ognized. Collective entities thus face difficul- land on an exceptional pilot basis. ties in trading such land. Potential land users In 2004, Shenzhen also began to address are concerned that their rights would not the illegal development and construction on be protected after the purchase. Shenzhen’s former collectively owned land. It refrained 2012 agenda seeks to address this vacuum from demolishing extralegal construction by allowing collective enterprises that have and penalizing collectives. Although land received legal allocations of land to sell unde- was converted to state ownership, the gov- veloped land in the urban land market. In the ernment did not take the land but acquiesced case of extralegal construction, collectives are to the collectives’ de facto land rights and required to clarify property ownership, work allowed collective entities and their members out compensation plans, and then demolish to continue to profit from existing real estate. illegal construction before listing and selling Although collective ownership has ceased to land on the market. exist in Shenzhen with the nationalization of Shenzhen’s new policy remains consis- all rural land, new challenges over land con- tent with existing Chinese law that currently trol and management in the urban develop- does not allow the sale of collective land in ment process have arisen. the urban market. Shenzhen is the only city In 2012, Shenzhen announced a com- in China that owns all the land within its prehensive plan to reform the city’s land jurisdiction, which it achieved by nationaliz- management, backed by the Guangdong ing collective land and converting rural col- provincial government and the Ministry of lectives to shareholding companies in 2004. Land and Resources. The guiding reform From a regulatory perspective, the policy principles were to clarify property rights, deals with sales of state-owned land but not allocate land through market mechanisms, collective land and, specifically, with extra- promote a more efficient use of land, and legal construction land for industrial use regulate the city’s land market. The munici- (which accounts for only a small share of all pal government also announced a short-term extralegal urban construction). The policy is plan for 2012 to 2015 to complete all out- a first step toward extending property rights standing land rights transfers from former to extralegal property and legalizing its trans- collectives to the municipality, and to settle ferability in the urban land market. A larger disputes over land controlled by former col- share of extralegal construction involves resi- lectives with a view to remove the remaining dential property, for which reform is regarded obstacles to full marketability of land that is as more complex. under the control and management of collec- The policy is innovative because for the tive entities. first time it involves rural collective entities in Shenzhen outlined the city’s agenda for the process of land sales and allows them to spatial development in Opinions on Opti- engage directly with potential bidders and in mizing the Allocation of Spatial Resources the land transaction. Transactions are limited to Promote Industrial Transformation and to industrial-use land. Different from previ- Upgrading of 2013. The Shenzhen Commis- ous requisition and compensation practices, sion of Urban Planning and Land Resources the new policy allows collectives to benefit also released supporting guidelines that detail from the sale of land. Two schemes are cur- how transactions of collective construction rently being implemented: one requires an land are done in the market. The new policy equal sharing of proceeds from land sales targets industrial land under collective man- between the municipality and the collective; agement within the city boundary. Some of the second requires the collective to pass on this land has been formally allocated to col- 70 percent of the proceeds to the municipal- lective entities but has remained vacant for ity and retain only 30 percent. In addition, years. Other parcels have been developed by the collective is guaranteed a 20 percent own- collectives, but property rights have remained ership share in the property to be developed unclear, are disputed, or are not legally rec- on the land under both schemes. 302 URBAN CHINA Shenzhen’s policy advances are signifi- vasive and important for collective members’ cant. Although local governments rely heav- livelihoods, the municipal government can- ily on land sale proceeds and retain control not simply dismantle and demolish the sites over land allocation and investment plan- because such an action would likely lead to ning, Shenzhen has been willing to relax its social discontent. In addition, requisition of monopoly power in the urban land market to and market-based compensation for collec- respond to the need for more efficient urban tive property would exceed the city’s fi nan- development in view of limited land availabil- cial capacity. ity. Many other fast-growing cities in China Shenzhen’s policy of allowing collec- fuel their spatial expansion by aggressively tive entities to sell industrial land provides converting rural land to urban use. In Shen- a partial administrative solution to address- zhen most of the land suitable for construc- ing urban redevelopment challenges. How- tion has already been built up, and urban ever, the policy does not yet entail the estab- expansion land is limited. The redevelopment lishment of an integrated open market for of existing, poorly built property and inef- urban construction land. , in which collective ficiently used construction land is therefore and state land will be treated equally in the an important way to ease the development urbanization process. A real breakthrough in constraint. the market integration of collective and state The particular challenge for Shenzhen is land would allow collectives to retain own- that the majority of sites suitable for urban ership of collective construction land while redevelopment contain extralegal unregis- being able to lease use rights to urban users tered property with unclear property rights. and renew leases upon expiration. Current In 2011, of the city’s 918 square kilometers of policy allows the city government to take developed land area, 390 square kilometers back the land upon the expiration of the first belonged to former collectives, of which an lease period. Despite limited progress, Shen- estimated three-quarters either were illegally zhen’s policy change signifies a shift in the built up or suffered from property rights thinking of municipal governments that may disputes. Much of the extralegal develop- guide future land market integration. This ment is a legacy of Shenzhen’s bottom-up, shift is relevant for many cities where redevel- farmer-led industrial development during opment rather than spatial expansion will be the early reform era of the 1980s, when the main pattern for change. Many of China’s large areas of collective land were converted cities have to contend with extralegal and to nonagricultural uses and leased to inves- unregistered development sites and property. tors or developed by the collectives them- Clarifying and legalizing the property rights selves. That development contributed greatly of peri-urban rural communities provides to Shenzhen’s economic growth during the possibilities for more efficient redevelop- reform period as collectives provided fac- ment, equitable benefit sharing and inclusion, tory space and cheap housing for millions of growth in household incomes, and reform of migrants. The wave of development preceded the municipal finance system away from con- the promulgation of the Land Management cessions revenues and toward taxation. Law and the stricter enforcement of land use controls. The Shenzhen government toler- Chengdu municipality: Land reform and ated such development to advance its growth. urban-rural integration11 The extralegal development and unregistered property is now problematic in many ways. In 2003, Chengdu municipality started It falls outside the purview of the city’s for- implementing a “Three Concentrations” mal urban management, violates regulations development strategy, which promoted the of urban planning and construction, poses concentration of industries in designated threats to public safety and health, and hin- industrial zones, the consolidation of rural ders more efficient redevelopment. However, land to promote large-scale production in because extralegal development has been per- agriculture, and the resettlement of farmers CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 303 in rural towns. Chengdu is the largest pro- and measurement of land plots for titling and vincial capital in western China and a grow- over land adjustments prior to land titling. ing metropolis with a population of 14 mil- In some villages, the designation “long term lion people, including an estimated 1 million without change” was included in the formal migrants and 5 million registered rural resi- contract of the land management right, indi- dents in 2010. By 2007, the problems associ- cating that land management rights are con- ated with the collective land ownership sys- tracted for an indefinite (renewable) period. tem had become evident. The existing system The titling program included an assess- could no longer ensure the efficient allocation ment of all collective construction land in of land resources or the protection of farm- each administrative village within the munic- ers’ interests in the urbanization process. ipal area based on the Second National Land In response, Chengdu began to implement Survey. Titles to land use rights were issued a rural-urban integration reform pilot in for the rural homestead land of farmers. mid-2007 to reduce rural-urban disparities. Titles to homesteads were given on actually Among other aspects, the pilot promoted the occupied land, although household plot size titling of all rural land and assets. frequently exceeded the legal standard and Chengdu’s Three Concentrations strategy the area documented on past certificates. involved the resettlement of a large number This practice, in combination with close of rural residents, the construction of new consultation within the village, helped to houses, and the reclamation of old village minimize disputes over homestead land. Use sites. The relocation of people and assets also rights to other collectively owned construc- raised complex questions about farmer com- tion land, such as rural enterprises, public pensation and long-term economic interests interest, and land for other purposes, were and benefits. To implement an acceptable documented as well. resettlement program, Chengdu needed a With regard to farmland, inconsistencies clear and comprehensive picture of the his- in the particulars of farmland plots, includ- torical and current status of property rights ing the actual user, information on record to land and buildings. Particularly important with the village authorities, and migration, was to prevent infringements on property posed significant challenges to the titling of rights by collective entities, individuals, or farmland. Land use is often adjusted, but the government itself, in light of significant these adjustments are rarely updated on land and fast appreciation of land values. In 2008, use certificates and contracts, and the written the Chengdu municipal government com- records do not represent actual rural land use. menced the property rights reform and the An approach based on “land titling on actual titling program in rural areas by issuing Doc- land use” was therefore implemented. Every ument No. 1 of 2008, Provisional Opinion parcel within the village was remeasured and on Strengthening Protection for Arable Land recorded under the name of the actual user. and Further Reforming and Improving the Adjusted management contracts were issued Property Right System of Rural Land and for all farmland and included information on Buildings. The program was completed in location, size, and land management and use 2010, with issuance of 33,400 certificates of rights holders. The land titling approach also collective land ownership, 1.5 million certifi- supported a new form of village self-admin- cates of use rights to collectively owned land, istration and governance. An elected village and 1.8 million certificates for contracted council assumed responsibility for reviewing land management rights. The strategy made the results of the property survey, mediated significant investments in developing a uni- disputes over land use rights, and supervised fied registration system for all arable, forest, readjustments to contracted land. Village and rural homestead land. The titling pro- councils were also responsible for publicly gram was implemented under the authority disclosing the results of the land titling plan of administrative villages. Village councils prior to submission for county government were give the decision power over surveys approval. 304 URBAN CHINA Chengdu has now put in place a rural from land sales is used to compensate farm- land–titling approach that is based on rela- ers whose land is taken by the government tively clear operational principles and pro- for urban construction use as well as farm- cedures. It includes village mobilization, ers whose residential land is being reclaimed surveys and on-site measurement, public dis- to create the offset quota. The swaps allow closure, and statutory publication and title urban construction land to be made avail- issuing. Land readjustments have become able in areas where demand and land prices significantly more difficult, and as a result, a are high. Detailed research results are not stable property-rights structure in rural areas yet available, but the model is expected to has evolved. As part of the reform, Chengdu have facilitated the transfer of capital from has also established a fund to strengthen pro- urban to rural areas; promoted new rural tection of farmland. The fund is replenished settlements with better public facilities and by the city and county governments through services; and led to better compensation fees from transfers of land use rights and and resettlement arrangements for affected charges on newly developed construction farmers. Economic efficiency gains in land land. The fund is used for covering farmers’ allocation and agglomeration effects are contribution to the old-age pension insurance expected as land is sold where demand and and provides subsidies for land protection. prices are high. Reports of government misuse in the form of forced property demolition and involun- Dynamic balance approach and construction tary resettlement in some rural localities land swaps illustrate the risks inherent in this approach. In 2004, the Ministry of Land and Resources Infringements of the rights and interests of issued a new Construction Land Offset Policy farmers ran counter to the objective of inte- to provide implementation guidance to the grated and coordinated rural and urban “dynamic balance” provisions of the Land development, and farmers remain vulner- Management Law. These provisions stipulate able in terms of protection of their land and that any parcel of arable land converted to property rights. Local governments or other urban use needs to be offset by newly gener- entities with administrative power are some- ated arable land of the same quality and area. times dominating land transfers and land The offset policy aims to address the long- swaps. The approach also does not address term supply of urban construction land by the rural-urban disparity, because rural and getting local governments to reclaim under- urban communities remain segregated by utilized rural construction land and convert separate registration. Such segregation might it to arable land, thereby creating additional even be reinforced through the concentration urban construction land conversion quota. of the rural population in exclusively rural The policy has stimulated rural land con- settlements. Social impacts and risks involved solidation on a much larger scale than in in the concentration of the rural popula- the past. By late 2011, Chengdu had imple- tion in new settlements have not been well mented nearly 400 land consolidation proj- researched to date. ects, thereby reclaiming 28,000 hectares of The Chengdu Rural Property Rights rural construction land and relocating about Exchange, established in 2008, serves as a 900,000 rural residents into 1,400 newly platform for transactions of rural property constructed rural settlements. Infrastructure rights, including transactions of contracted investments associated with the projects had management rights to farmland, use rights to exceeded RMB 20 billion by 2010. collective construction land, rights to forest- Chengdu has applied the offset policy to land, property rights of rural residences, and allow swaps of reclaimed rural land and the agricultural intellectual property rights. The construction land quotas across the munici- exchange also allows transactions involving pality. Newly generated construction land construction land quotas, making such quo- is sold through public tendering. Income tas transferable objects. To some extent the CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 305 establishment of the exchange responded to use rights to a parcel of collective construc- farmers’ increased awareness of their prop- tion land of 34 mu for public bidding, the erty rights (confi rmed through land titling) first-ever case of farmers initiating a transfer and to their demand for more equal sharing of use rights to collective construction land. of the appreciating urban land values result- The fi nal transfer price was RMB 442,000 ing from consolidation and offset policy per mu. Total income received by the farmers projects. was RMB 13 million, an amount far exceed- The exchange aims to improve the land ing the possible benefits through the offset transaction system to become more mar- policy. Many similar cases followed. ket oriented and transparent. Governments The significance of Chengdu’s land are no longer exclusively involved in match- reform pilot is reflected in its comprehen- ing buyers with sellers of land use rights sive approach to property rights protec- and quotas. Instead, farmers and collec- tion, rural land titling, and asset verifica- tives have gradually become involved in the tion. These steps are critical in advancing implementation of offset policy projects and the protection of rural property rights and, are allowed to auction construction land even more important, promoting the mar- quotas through competitive bidding. As the ketability of farmers’ rural land use rights. autonomy of the collectives and farmers has The rural property rights reform pilot in increased, the government’s role has shifted Chengdu therefore offers valuable lessons to that of supervisor and service provider for gradually advancing a nationwide rural with responsibility for acceptance checks, land titling program but also points to the quality supervision, and dispute settlement. enormous challenges of getting the reforms Beginning in late 2010, the fi rst rural com- right. The central government has long been munities started to implement consolidation contemplating the reform of the rural prop- and offset policy–related projects. erty rights system and the nationwide rural Market-based practices for transferring land titling program, but progress has been collectively owned construction land for slow, and practical approaches have yet to be urban business purposes have also entered a defined. Rural land titling, asset verification, pilot stage. In 2008, Jingjiang District listed and the confirmation of rural property rights the use rights to two parcels of collectively will require considerable investment. Govern- owned construction land for public bidding ment support is essential to develop a rural by applying the procedures for land use rights property rights system; the role of the market transfers that are applicable to state-owned will remain limited for the foreseeable future. land. Several villages entrusted the develop- In addition, Chengdu’s arable land protec- ment and management rights of the collec- tion fund provides a model for generating tive construction land to a platform company the financial support for land titling but also under the district government. The company for simultaneously advancing the rural social consolidated the land, carried out primary security system. Chengdu has also shown the land development, and listed the land for pub- feasibility of a unified registration system for lic bidding. Two private enterprises obtained all types of rural property. use rights to the collective construction land In the course of urbanization, land at a selling price of RMB 800,000 per mu resources will undergo continued drastic (1/15 of a hectare) for a term of 40 years. changes in the form of a reallocation of rural The platform company issued certificates of land to urban areas. The offset policy for use rights to collective construction land. The arable land works well as an administratively company received the payment for the land managed control mechanism of land conver- on behalf of the collectives, deducted prede- sion that ensures, at least in theory, that total velopment and other costs, and distributed arable land neither decreases nor degrades. At the remaining income to the collective enti- the same time it allows usage swaps between ties for redistribution among the collectives lands of different value and location. The and villagers. In 2010, the exchange listed the offset policy has succeeded so far because it 306 URBAN CHINA exercises land use and land conversion con- the government should safeguard equitable trol while creating more flexibility for better and authoritative land titling and also assume spatial planning. responsibility to oversee and monitor the pro- The Chengdu land system reform pilot cess of land titling. has demonstrated ways to increase farmers’ A significant challenge will be to reform income from land transactions. The transfer the current regulatory framework to give of farmland through leasing has left farm- the transfer of collectively owned land, in ers’ land ownership unchanged and helped particular collectively owned construction to increase land-related profits. In the case land, a sound legal basis. Current laws do not of collective construction land, the transfer allow for such transfers, and if transactions through direct transaction rather than com- occur, parties fi nd themselves without legal pulsory expropriation has increased collec- protection. Also, collateralization of collec- tive profits by up to 10 times profits from tive land remains illegal. Chengdu allowed compensation. In the case of the construction mortgaging as part of its pilot and estab- land quota, the change from government-led lished a trial venture capital fund financed by transactions to transactions between private fiscal resources to cover any mortgage losses. entities or public bidding more than doubled Given such security, some local banks issued the average price of such quotas. loans backed by collectively owned land on a Chengdu’s pilot is also an important step pilot basis. However, because collective land in moving beyond the narrow, traditional is unable to play a financing role under cur- focus on rural land management contracts rent national law, demand for land transfers between collective entities and farmers. The remained suppressed. These and other issues pilot opens up new opportunities to increase undercut the incentives for legitimate land rural income by transferring rural land and property transfers and indirectly lead to rights and assets. Such rights were defined illegal and informal transfers. for urban areas many years ago. Closing the Government-led land expropriation legal and regulatory gaps between urban and remains an integral part of projects under the rural land rights transfers is an important offset quota policy. Although the pilot areas step toward allowing a more equal sharing of showed some signs of reduced land expro- the benefits of urbanization through the flow priation and increased market-based prac- and transfer of production land. tices, the overall scale of land expropriation Chengdu’s land system reform offers an has not decreased nor has the scale of gov- alternative approach to the current land ernment land management. In practice, con- expropriation system that may have poten- struction land quotas generated by demolish- tially far-reaching consequences. Because the ing rural residences followed by subsequent land-conversion quota system allows collec- resettling can be used for urban construction tively owned construction land to be sold in projects only when such quotas are assigned the urban land market, where demand and to a specific location in the planned construc- prices are high, economic efficiency gains tion area. However, the planned construction seem possible. In the process, rural income areas will still undergo a land expropria- may increase while disputes over expropria- tion process. More land expropriation will tion potentially decline. Further regulation increase demands for land quotas, which in also is needed to govern the private transfer turn will generate capital to finance rural of nonagricultural land between farmers. land consolidation. The continued demand A balance needs to be found between gov- for compulsory expropriation of rural land ernment intervention and village autonomy. at low prices will therefore run counter to Land readjustments, coordination, and arbi- the integrated urban-rural development tration should be the responsibility of the approach. village authorities. Governance mechanisms The Chengdu pilot experiences, along and transparency at the village level therefore with other local reform pilots, will remain need to be strengthened. At the same time, relevant only if the quantity of transfers CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 307 increases and the transfer mechanism is sup- or leasing their houses in accordance with the ported by a comprehensive national legal law and to improve the living conditions of and institutional framework. If legal reform urban residents. does not follow, Chengdu’s pilot reform will A nationwide cadastral survey should be remain a limited experiment, and solutions to carried out to support the measurement, defi- the more fundamental issues in China’s regu- nition, registration, and titling of property latory framework will be postponed into the rights for all types of land. Policies govern- future. Under China’s government-led eco- ing compensation for protecting arable land nomic development model, local governments should be developed and budgeted. Supervi- continue to have strong incentives to manage sion of land titling procedures and relevant land, despite their involvement in the reform acceptance checks should be enhanced with experiment. The underdeveloped property the aim to title land based on current actual tax system means that the sources of govern- use. As a follow-up to the completion of reg- ment income are limited, and therefore no istration of collectively owned land, govern- incentives will be made available to reform ment agencies should make land titling, cer- the land-based local fi nance system. In fact, tificate issuance, and other related work part the recent macrolevel control measures have of their standard services. further slowed down the land system reform. Land use control mechanisms should con- In response to the global fi nancial crisis, the trol overall quantity and quality and allow central government launched a large number flexibility in spatial planning of land. Land of state-invested projects to boost domes- quota exchanges between different localities tic consumption, thereby accelerating land should be allowed to both accelerate urban- expropriation. Without reform, urbanization ization in economically better-developed will continue to advance along the course of areas with higher population densities and wholesale expropriation with land-sourced strengthen arable land protection in areas fiscal revenues and land-based finance. with relatively low land prices. In implement- ing projects involving land transfers and con- centrations of rural residences, diversified Specific recommendations on land system reform resettlement arrangements should be made based on Chengdu’s pilot experiences available to meet the different needs and China’s Land Management Law should demands of farmers. Centralized planning be amended to restrict land expropriation should help lower the costs of supervision by the state to purposes furthering public over the reclamation of collectively owned interest. It should also accord equal rights rural construction land. to land for commercial purposes through The scale of land expropriation should be an integrated urban-rural market of state- reduced, and the current land-based fi nance owned and collectively owned land. Land to model should be reformed. Given local gov- be used for public interest purposes can be ernments’ high level of dependence on land- obtained through expropriation, provided sourced fiscal revenue, alternative long-term that strict procedures are enforced and com- fiscal revenue sources should be developed pensation is paid based on market prices. All to replace the cycle of land expropriation to land resources for purposes other than public land conversion to revenue generation with interest should be allocated through an inte- a comprehensive property tax system. In grated urban-rural market following market the short term, a dual-track system can be principles. With the mechanism in place to put in place for a transitional period. Dur- control land use, governments should con- ing the transition, the applicable tax and fee firm and recognize the rights to use, transfer, systems for state-owned land could remain lease, and mortgage collectively owned land. unchanged, but certificates of use rights to Farmers should be given the right to transfer collectively owned construction land could their land for building houses, both to ensure be issued to allow such land to be transferred that they receive incomes from transferring and developed for urban commercial pur- 308 URBAN CHINA poses. Property taxes should then be levied struction land across urban and rural areas, on such transfers and on the properties. transparent land use transfers, and new ways of capturing land value for migrating farm- ers. Specifically, the Chongqing pilot links Chongqing municipality: Balancing urban land supply to a simultaneous, deliber- rural and urban land supply12 ate reduction of rural construction land and Chongqing municipality features urban and allows for more efficient allocation of con- rural areas with wide disparities in income struction land across rural and urban areas and living standards. Large numbers of in the entire jurisdiction of Chongqing. migrants originate from its rural areas. In The Chongqing Rural Land Exchange is a 2007, 3.5 million migrants resided in urban market for integrated trading of urban and Chongqing, and an additional 4 million rural construction land rights. To foster the migrants worked in other provinces. From transfer of rural construction land rights to 1997 to 2006, migration drove an increase urban areas, Chongqing created land securi- in Chongqing’s urbanization rate, from 31 ties, which are tradable land development and percent to 48 percent. With urban devel- construction rights. In contrast to the gov- opment, demand for urban construction ernment’s quotas for rural land conversion, land increased significantly. But unexpect- which are issued annually and are limited edly, construction land in rural areas also in number and scale, land securities can be increased, despite a decrease in the rural created flexibly by various land rights hold- population. Rural-to-urban migration did ers to supply additional urban land at market not provide exiting farmers with the incen- prices. Other types of land use rights, such as tive or the mechanism to effectively dispose for arable land, forestland, collectively owned of and benefit from their rural construction construction land, and equity shares of rural and residential land rights in the urbaniza- land, can also be traded or exchanged; how- tion process. As migrants found settling in ever, the Rural Land Exchange is the only the cities difficult, they continued to invest trading place for the rural land securities. in larger rural homesteads, which resulted in Land securities quotas are created through underutilized rural settlements and inefficient reclamation of rural construction land out- use of rural land. side the urban development plan. Holders of rural land use rights can convert rural collective construction land into arable land Chongqing’s rural-urban integration model rights anywhere in Chongqing. Reclamation and land securities system is allowed for rural homestead land, land Chongqing redesigned its land management used by township enterprises, and land for system to match the conditions of urbaniza- rural public service facilities. Upon approval tion and migration and to better use its large from the collective, reclamation can proceed stock of fragmented rural construction land. in accordance with local procedures. Local Chongqing needed to devise a system that authorities confirm the reduction in the rural allowed for the voluntary and permanent exit construction land quota and the increase in of migrating farmers from rural areas while arable land and farmland quotas. House- protecting their land and property rights, and holds that apply for the conversion of their that promoted the integration of rural land homestead land must prove that they have a into the urban land market, including more legitimate permanent place of settlement else- efficient land allocation and land use plan- where. Reclaimed rural land can be turned ning and control, fair benefit sharing, and into a land security certificate, but rural con- farmland protection. In 2007, the central struction land already located in the urban government selected Chongqing to pilot a planning zone cannot be reclaimed and new rural-urban integration model. As part transformed into a security certificate. of the reform pilot, Chongqing established a Land security certificates can be traded at Rural Land Exchange to experiment with the the exchange. Various stakeholders involved market-based integrated allocation of con- in urban development may bid for the cer- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 309 tificates. Trading is open, transparent, legal, are more clearly defined. The system features fee based, and voluntary. Once the bidding voluntary reclamation, open trading, gains process is completed and land security quotas for the farmers, direct cash payment, and are awarded, the Chongqing Land and Hous- governance based on more clearly defined ing Administration issues a land securities rules. The land securities model has become certificate to the winning bidder, which pro- an effective means for farmer households to vides the right to acquire a certain quota of cash in on their homestead land and provides urban construction land in the urban devel- a workable approach to satisfy the demand opment zone. The holder of the certificate for land in Chongqing’s urbanization pro- can choose land earmarked for development cess. According to Chongqing’s master plan, within the urban-rural development area and during 2013 to 2020, the municipality will urban master plan area. Local governments require an additional 700 square kilometers are responsible for processing the application of urban land. Only 300 square kilometers for urban construction land, for carrying will come from the government-issued land out land expropriation and conversion pro- conversion quota. Reclamation of rural con- cedures in the designated urban development struction land and land securities trading will area, and for supplying the land rights to the be critically important to generate sufficient user. Land used for profit purposes, such as land supplies to meet actual demand. industrial and commercial land, is usually To provide the institutional foundation for supplied through competition, such as tender, the land securities system, Chongqing began auction, and public listing. to expand the systematic registration and The land securities system provides a issuance of titles to rural land and rural resi- mechanism for rural collectives and individ- dential property in 2010. The titling program ual rural households to use rural construction covered the registration and certification of land more intensively and to set aside excess collective land ownership; land use rights to construction land for reclamation, security collective land, including homestead land and trading, and transfer. Each land security cer- rural construction land; and farmers’ residen- tificate contains a quota for both reclaimed tial farm properties. Chongqing also created construction land and newly generated arable a specialized agency to oversee the rural land land. Holding a security obliges the holder to consolidation program and set forth trans- supply arable land (through reclamation) and parent principles and procedures for the rec- provides a tradable right to construction land lamation, inspection, trading, and use of land in the urban construction zone. On obtain- securities. ing a land security certificate, the holder Farmers or collectives can apply to the gains the right to convert farmland to con- authorities to reclaim construction land and struction land in the designated urban-rural obtain rural land security quotas to engage planning zone. Land securities can be used in land trading. The government does not for construction throughout the municipal- encourage or compel farmers to reclaim ity as defined in the urban-rural development land against their will but acts primarily as plans. Each security certificate can be used a service and information provider. Farm- only once. They are not tied to any specific ers can choose to implement the reclamation block of land. The value of the security is not individually or as a group or to recruit land dependent on where it was generated origi- consolidation agencies to help ensure that nally, although construction land in more appropriate engineering codes and quality remote areas with poorer infrastructure gen- requirements are met. erally has lower land value. Land transactions are managed centrally After seven years of experimentation fol- by the exchange, and the price for land secu- lowing the initiation of the pilot in 2007, rities is determined by the market. Informa- Chongqing’s land securities system has pro- tion is made public on the website of the gressively matured. Farmers’ land rights are Chongqing Land and Housing Administra- better protected, market operations in land tion. Public notices are also displayed in trading have improved, and property rights townships and villages regarding land that 310 URBAN CHINA has been reclaimed and is intended for trad- from urbanization. The possibility of trad- ing. Furthermore, the various stakeholders ing rural construction land has significantly can select land based on their preferences. increased the value of rural properties and Other issues related to land expropriation, land. Land sales profits are in the range of such as land hoarding and underutilization, RMB 120,000 to RMB 150,000 per mu, an are expected to be reduced, because prices for amount substantially higher than previous land securities better reflect the opportunity sales of homestead rights within the confines cost of delayed development. The distribu- of the collective. Furthermore, farmers enjoy tion of proceeds from land sales reflects the full property rights to the newly reclaimed property rights structure in rural areas. The arable land, which can be rented out. Land proceeds from land securities trading are dis- securities trading has had an impact on tributed between farmers (use rights holders) poorer areas in particular, with about 70 and collectives (land owners) at a ratio of 85 percent of all land securities generated origi- to 15. This ratio reflects the understanding nating from the less developed northeast and that homestead land and farmhouses are the southeast areas of Chongqing. Land securi- private property of the farmers, whereas the ties are an integral part of the urban-rural collective retains only a small stake in the reforms. In 2010, Chongqing also initiated land as formal landowner. Land securities a reform of the household registration sys- have been trading at RMB 178,000 per mu tem by linking rural land management and on average, providing a net revenue for farm- disposal of land offered by the land securi- ers of at least RMB 120,000 after deduction ties model to the conversion of rural land to of reclamation costs and various fees. urban hukou. By July 2013, 85,000 house- holds had vacated their homestead land and obtained an urban hukou. Specific recommendations on land system reform The land securities system has helped to based on Chongqing’s reform experience mobilize rural financial assets and improved Land securities have been demonstrated to access to fi nance in rural areas. Under cur- be an effective tool in land administration, rent national law, urban land can be collat- in particular for land use control. Land secu- eralized, but rural homestead land cannot. rities provide effective protection and supple- Urban land and homes can be traded freely, ment arable land amid rapid urbanization. whereas the trading of rural construction The economic leverage created by land secu- land, especially homestead land and farm- rities has reversed the trend of simultaneous houses, is allowed only within the boundaries urban and rural construction land expan- of the rural collective, generally resulting in sion. Rural construction land is gradually property prices below the reasonable replace- diminishing as the rural population declines. ment cost for farmhouses or buildings. Land Many rural settlements are being gradually securities trading has increased rural prop- consolidated and are likely to have more effi- erty values about 10-fold (from previously cient delivery of public services and environ- estimated RMB 10,000 per farmhouse to mental improvements. With the introduction more than RMB 100,000). Furthermore, the of land securities, the amount of arable land pilot reform has allowed financial institutions has stabilized and is increasing. The land to expand access to fi nance into rural areas securities model also has positively affected because rural assets have increased in value the quality of arable land because reclaimed and can be used as collateral under the pilot. construction land is generally returned to More than RMB 8.3 billion is estimated to arable land. By mid-2013, land securities have been provided as rural asset-backed covering about 7,600 hectares of construc- loans during the current pilot period. tion land had been traded in Chongqing, cor- Chongqing’s pilot reform has exposed a responding to an increase of 6,800 hectares number of shortcomings in China’s current in arable land. legal and regulatory framework for land Land securities directly increase farmers’ that need to be addressed through legislative property-based income and generate benefits reform at the national level. China’s rural CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 311 property rights reform will take time, and the use rights, making the scaling up of success- distinction between rural land use rights and ful pilot experiences difficult. ownership remains ambiguous. Chongqing’s Despite government’s recognition of land model of benefit sharing between land use rights to farmland and homestead land, the rights holders and owners can be interpreted transfer of rural homesteads remains con- as a prelude to further reform of rural prop- fined within the collective under current erty rights and a transition to stronger pri- law. This constraint poses a bottleneck to vate property. China’s legislation concerning asset mobilization, restricts collateralization, the protection of farmer’s land rights, how- and encourages the prevalence of vacant or ever, remains incomplete. Although the cen- deserted homestead land. Little policy and tral government has placed great importance regulatory guidance addresses the develop- on protecting farmers’ land-related rights ment of the rural land market. The Third in numerous policy documents, the current Plenary Session of the 17th CPC Central laws do not yet adequately recognize farm- Committee envisioned the establishment ers’ rights and do not offer sufficient pro- of a harmonized construction land market tection of property. No consensus has been between urban and rural areas. But the limi- found among lawmakers and policy makers tations associated with rural planning and with regard to the direction the revision of value appraisal have limited the progress the Land Administration Law should take. toward that objective. Finally, effective gov- Workable rules are still lacking regarding the ernance mechanisms at the grassroots level use of collectively owned construction land remain underdeveloped. The protection of for nonagricultural purposes, the right to farmers’ rights depends to a large extent on use and benefit from rural homestead land, local governance and control. But because of the respective roles of rural households and migration, limited knowledge of policy and collective economic entities in land transfers, regulations, and lack of participation and the expropriation of collectively owned land grassroots governance, farmers usually have and its conversion into state-owned land, little influence on rural land administration. and compensation for expropriation. A long- In particular, in land expropriation and land awaited law on the administration of rural securities trading, rural collectives have seen homestead land has not yet come into being. a rapid increase in their asset pool. An inclu- Despite a clarification of the role of rural sive, transparent, and well-governed decision- collective economic entities in relevant laws, making process could maximize the protec- questions of membership in collective eco- tion of farmers’ rights and interests. nomic organizations, their role in the market, Revision and modernization of the Land collective ownership rights, and collective Management Law, Property Law, and Regu- democratic decision making remain ambigu- lations on Land Expropriation and Requisi- ous and unclear. Administrative collective tion are needed. For provisions that are not authorities still dominate decision making yet fully compatible with the need to protect within such collective economic entities, and farmers’ rights and interests, immediate revi- participation of and consultation with all sions are needed. Encoding and institutional- members remain limited. Membership crite- izing proven best practices from various local ria for rural collective economic entities are experiences in higher-level laws is recom- not defined in any law, regulation, or judicial mended in the near to medium term, includ- interpretation. ing those demonstrating rural land reform, China has no unified rural land registra- land market development, and rural land tion system. Although use rights to farmland, asset distribution and management. Also forestland, and homesteads have been con- needed are new and clear definitions and fi rmed and registered, these have been done interpretation of the right to become a mem- separately by various authorities without a ber of the rural collective economic entity. unified set of procedures or technical speci- A revision of the Law on the Organiza- fications. The lack of accurate surveys causes tion of the Village Council or, alternatively, confusion and disputes of land parcels and the formulation of a law on collective assets 312 URBAN CHINA could be considered. As collectives see their holders’ cashing out on the property right to land asset value materialize, their asset pool rural construction land. These mechanisms will grow rapidly. Asset management and have allowed the municipality to discover the profit distribution are increasingly urgent market value of rural construction land out- topics. The economic mandate of collectives side the rural construction planning area. For could be defi ned in the Law on the Organi- legally obtained, collectively owned for-profit zation of the Village Council. Alternatively, construction land, the recommended reform a law on collective assets may be formulated would include transfer, leasing, and collater- with reference to the Law on State-Owned alization under the current land market man- Assets Held by Companies. The laws should agement system. clarify that the party to exercise the collective ownership right is the rural collective eco- Beijing: Redevelopment of nomic entity on behalf of its member own- urban fringes13 ers. Its corresponding rights and obligations, and the management procedures and norms, Beijing’s urban villages emerged in the 1990s should be clarified as well. when industry and service sectors began to Homestead land rights and their manage- attract large numbers of migrant workers ment, including the right to profit, require who sought affordable housing in the rural further clarification in the Land Manage- areas surrounding Beijing. Today, Beijing ment Law. Buildings and yards should all be municipality has an estimated 1,700 urban included in the concept of homestead land villages that house 3.7 million local residents rights and be subject to approval and registra- and an additional 3.5 million to 4.0 million tion as a whole. The right to profit on farmers’ migrants, accounting for more than half of homestead land should be clarified, allowing Beijing’s total migrant population. Beijing’s farmers to use their housing for profit without urban villages stretch over 700 square kilo- compromising their living conditions. When meters within the fifth ring road. About two- homestead land is allowed to be traded in the thirds of the urban villages are located within market, farmers should be able to receive the the eight urban districts of Beijing proper, proceeds, and when they vacate homestead and the remainder are situated in nearby land, they should be compensated. It may rural areas that are targeted for gradual inte- be advisable to remove the provisions in the gration into Beijing’s urban area. In many Regulations on Confirming Land Ownership places, rural migrants outnumber the native Rights and Land Use Rights that stipulate residents by a wide margin. that, on homestead land that has remained Since 2010, the Beijing municipal govern- vacant or on which housing has ceased to ment has been implementing a comprehen- exist for more than two years, the rural col- sive redevelopment and rural-urban integra- lective in the area of the homestead land may tion program in 50 selected pilot villages to apply to the county-level people’s government address issues associated with urban villages. and, with its approval, retract the land use The program aims to rationalize urban plan- right on the homestead land. For homestead ning, address informal development within land obtained by the farmer household based and around the city, and explore ways of on the “one home for one household” prin- integrating local rural residents into the ciple, such homestead land should have its urbanization process while protecting their property right recognized and protected. At property rights. Key reform elements include the same time, new administrative measures collective property reforms, integration of on rural homestead land should be promul- rural-urban construction land markets, and gated as soon as possible to provide the legal integration of the rural-urban social secu- framework for homestead land management. rity systems. The redevelopment program is To advance the trading of rural collective– also integrated into Beijing’s urban develop- owned land for construction, land securities ment master plan framework and involves were created as a flexible alternative to land- upgrading residential housing in situ and CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 313 integrating redeveloped areas into the urban agement also requires developing regulations public infrastructure and services networks. and procedures for electing village commit- The program, however, does not target the tees and clarifying conditions and procedures migrant population, nor does it address for establishing community residents com- issues related to migrants in peri-urban areas. mittees and for managing public facilities and The 50 pilot villages are located between Bei- community services in the redeveloped areas. jing’s third and sixth ring road in the districts The inclusion of the pilot villages in the of Chaoyang, Haidian, Fengtai, Shijingshan, urban development master plan requires Fangshan, Shunyi, Daxing, Tongzhou, and adjusting and optimizing the urban planning Changping. As of 2013, many pilot villages process. Planning needs to consider the spe- had completed the demolition of old villages, cific conditions of rural areas that previously including formerly illegal and informal devel- had been left to informal urbanization and opments, and begun to move former residents development while traditional urban plan- back into upgraded residential housing. Con- ning focused narrowly on urban development version of local residents to urban status was projects on government-requisitioned rural also completed in most of the villages, along land. The urban master planning process with the reform of rural collective property now needs to consider the extent of construc- arrangements. tion land required for upgrading residential units for resettling local residents and the associated public infrastructure, including Rural collective property rights and urbanization green spaces, transport infrastructure, utili- At the core of the redevelopment program ties, schools, and health care facilities. Provi- are land and property issues. Beijing’s pilot sions need to be made for setting aside land approach to peri-urban development departs for industrial and commercial purposes to from the conventional approach of govern- provide resources for economic development ment-led expropriation and conversion of of the remaining collective organizations. In rural land for urban development projects. the 50 pilot villages, new planning standards The government limits expropriation, con- included 50 square meters of floor space per version, and sale of rural land to just the person for new residential units and 50 square amount needed to generate sufficient rev- meters of floor space per person for industrial enue to finance the redevelopment program. or commercial development. In pilot villages The new approach allows rural residents in where rural construction land was still abun- peri-urban areas to fi nance their transition dant, land resources were divided into reserve to urban citizenship through capitalizing land (planned for conversion and sale for rev- on their own rural assets in various ways. enue generation), land for public infrastruc- Decisions on how much land needs to be ture development, and land for future eco- converted are based on an estimation of the nomic use by rural collective organizations. total redevelopment cost, including the cost In villages with insufficient construction land of demolishing old residential areas and con- stocks, the planning process needed to go structing resettlement units, compensation beyond individual villages, to pool remaining payments, and costs associated with hukou construction land resources, and to integrate conversion and access to the urban social the redevelopment program across several security system. Residents are generally com- villages or even townships. pensated with new housing for the demolition Collectively owned construction land, of previous residential property. The physical which is not expropriated in the redevelop- redevelopment allows for higher land use effi- ment process, remains with the collective ciencies in urban villages because residential organization for industrial or commercial areas are being modernized, concentrated, urban investment and development. A second and integrated into the urban infrastructure characteristic of Beijing’s pilot that departs networks. The transition from rural commu- from common practice across China is that nity organization to urban community man- rural residents no longer have to forgo their 314 URBAN CHINA ownership rights to rural assets as they total of 278 collective business organizations become urban residents. Instead, they retain paid out dividends on shares of RMB 548 their status as members of collective organi- million (US$84 million equivalent) or RMB zations and their property rights to collective 1,550 per shareholder (World Bank 2013). land and other collective assets. When fur- ther expropriation is needed, compensation Integration of collective construction land into the payments are shared by the members of the urban market collective business organization, thus also benefiting those with urban hukou. Beijing’s urban village program allows rural The reform of the rural collective prop- collective organizations to trade construction erty system toward collective sharehold- land in the urban land market subject to the ing arrangements is an important aspect of provisions of the urban master plan. Beijing’s peri-urban development and rural-urban program is a national pilot for constructing integration. As rural residents become urban rental units on collectively owned construc- residents and peri-urban areas are integrated tion land (fi rst piloted in Tangjialing, Haid- into the city proper, traditional rural collec- ian District). Prior to the redevelopment tive ownership arrangements are no longer program, many urban villages generated relevant. Whereas in rural agricultural areas income from leasing informal housing units land-related reforms focus on confi rmation to migrants or engaging in illegal construc- and registration of farmland rights, farmland tion projects. The redevelopment program transfers and rural land market development, created the possibility of converting illegal and agricultural sector modernization, in property into legally recognized commercial peri-urban areas, such issues are no longer properties or industrial parks owned by local relevant because collectives have lost their collective business organizations. Collective farmland resources and retain only some organizations can develop construction land construction land resources and other prop- by themselves or through leasing to private erty assets. Instead, cooperative shareholding investors. The government encourages collec- arrangements for collective economic assets tively managed urban development projects provide the opportunity not only to retain and has reduced administrative restrictions. the collective ownership system in urban Public agencies have intensified guidance areas but also to make collective assets por- and services to collectives, including train- table in the form of transferable shares, inde- ing in project application, public bidding pendent of the residency status of the share- procedures, technical supervision, and finan- holder. Portability and transferability of rural cial management. The pilot experiences are assets are an important factor in facilitating encouraging for advancing the integration of their integration into the urban society. the rural-urban construction land market. In many villages, collective property Collective organizations are still subject reform has transformed former rural col- to administrative restrictions and face chal- lective administrative entities into collective lenges in accessing fi nance for development business organizations that manage collective projects despite favorite locations of collec- assets based on shareholding arrangements. tive construction land close to urban centers. Although establishing a standardized valua- The urban village redevelopment program tion of collective assets remains challenging, involves resettlement and large-scale develop- collective property reform has progressed in ment of modern housing for local residents to recent years. The quantification of collective promote rural-urban integration. Urban vil- assets, including land, has created significant lage redevelopment is different from commer- capital stocks for many collective business cial real estate development in urban areas organizations. In 2012, collective business but is currently subject to the same restric- organizations in Changping District owned tions, such as a limited land conversion quota and managed assets with a total value of and government controls to limit the oversup- RMB 37 billion (US$5.7 billion equivalent), ply of commercial urban housing. Because of jointly owned by 354,000 shareholders. A current legal restrictions, collective construc- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 315 tion land cannot yet be fully mortgaged, spe- tion land market into the urban land market cifically when land still contains buildings and empowered the collective to trade or and has not yet been fully reclaimed. To over- develop construction land for profits. come these difficulties, Beijing municipality Restricting the scope of land expropria- offers loan securities for collective housing tion for fi nancing urban village redevelop- construction projects and provides preferen- ment needs to be complemented by rural tial allocation of construction land quotas to collective property rights reform. Collective collectives to facilitate urban market entry. ownership of assets can be protected in the urbanization process. Shareholding arrange- ments involving land and assets represent an Urban social security innovative approach to securing and manag- The urban village redevelopment program ing economic assets as rural citizens urban- also provides new avenues to integrate local ize. Collective assets can be monetized, and residents into the urban social security sys- collective business organizations can accu- tem. Although conventionally farmers are mulate significant stocks of collective assets enrolled in China’s rural social security sys- in the course of expropriation or of new tem, Beijing has allowed the enrollment of zoning for collective industrial or commer- local residents into the urban social security cial development projects and land appre- system, which is based on voluntary contri- ciation. A pragmatic choice for maintain- butions. Enrollment is independent of land ing and capitalizing on collective ownership and property issues. Whereas under the wide- is to introduce cooperative shareholding spread “land for social security” scheme, arrangements under transparent democratic compensation from land expropriation is management. being used by local governments to cover Social security enrollment is decoupled farmers’ contribution to the social security from land. Rural residents do not need to system, Beijing’s urban village program does forgo their rights to collectively owned land not link compensation payments with enroll- to be eligible for enrollment in the urban ment in the urban social security system. In social security system. As rural residents find reality, because enrollment is based on vol- employment that enables them to voluntarily untary contributions, entry into the urban contribute to social security, they are encour- social security system depends more on the aged to join the urban social security system employment and income opportunities of and bridge the gap between the rural and local residents than on compensation. urban systems. Social security enrollment is clearly separated from land and property issues and does not require liquidating prop- Specific recommendations on land system reform erty for enrollment. based on Beijing’s urban village program Collectively owned construction land can The implementation practices and experi- be integrated into urban development within ences of Beijing’s urban village redevelop- the framework of urban planning regula- ment program provide a new direction for tions. Owners of rural and urban construc- mobilizing rural assets for more inclusive tion land should have equal rights to develop urbanization and rural-urban integration in and participate in the market for construction urban fringe areas. Urban village redevelop- land. Beijing and other cities have allowed ment explores options for an autonomous and urban construction projects to be built on self-governed urbanization process of rural rural collective construction land within the residents based on more market-oriented scope of urban planning, although the land is principles. The program has provided the not expropriated. opportunity for urban villages to undertake Financial innovation is needed to allow resettlement and redevelopment projects for rural collectives to access fi nancing. Collec- higher land use efficiency and integration into tively managed urban development projects the urban infrastructure network. It has also are hampered by restrictions to collateralize allowed the integration of the rural construc- collective construction land and access to 316 URBAN CHINA finance, causing many collective construction ing 1979–84 to 3.3 percent per year during projects to seek capital investments from pri- 1985–87. Land reallocation also brought an vate developers. The lack of formal channels administrative and fi nancial burden to col- to access fi nance creates risks for collective lectives because it involved verification of property rights and adequate benefit-shar- land plots and land quality and discussions ing arrangements. Comprehensive reform is to reach consensus on land division and real- needed to address access to finance and pro- location within the village. tection of collective property in the urbaniza- In 1987, following the State Council’s tion process. endorsement of innovative land policy reforms, Meitan introduced a new policy to address the challenges related to its lim- Guizhou: Experimenting with land ited land supply and population changes. readjustment in Meitan County14 Although land was generally allocated The introduction of the Household Respon- based on the number of members within a sibility System in 1978 stimulated unprec- household and readjusted as household size edented agricultural growth in rural China. changed, Meitan decoupled land contract- The new system of contracting farmland ing from changes in household size, thereby to individual households also created chal- providing stronger tenure security to house- lenges for rural collectives that needed to bal- holds. Land readjustments in response to ance contractual land use rights with demo- demographic change were basically elimi- graphic change. Many collectives resorted to nated, and the Household Responsibility Sys- land readjustments. Although these adjust- tem became more stable and sustainable. The ments accommodated rural population pilot involved the following elements: Col- growth, they undermined tenure security, lective land ownership was confirmed to rest led to smaller and fragmented land holdings, with the administrative village and not with and caused a drop in land investments and townships or natural villages. The village and productivity. households entered into land use contracts, guaranteeing that land rights would remain unchanged for several decades. The scope of Meitan’s innovations in land use contracting land rights was clarified as well, including In the early 1980s, Meitan, an agricultural the rights not only to manage and operate county in Guizhou Province, began to imple- the land but also to profit from and transfer ment the Household Responsibility System, (subcontract, transfer, lease, have joint opera- and village collectives contracted village tions, and exchange) the land. As a result farmland to individual households. Experi- of property rights clarification, rural land encing strong population growth, the county became a more meaningful and important experimented with land readjustments and asset for farmers. The pilot also stipulated direct grain subsidies to safeguard the liveli- that the collective could take back allocated hood needs of new collective members and land for distribution through public bidding to protect equity. From 1983 onward, read- in the event that a household converted con- justments became more frequent, negatively tracted farmland to nonagricultural use, left affecting the perception of tenure security the land unused, or refused to pay agricul- under the new arrangements. In addition, tural taxes or fulfill state grain procurement land became more fragmented. Cultivated obligations, or when household members had land per household decreased from 7.3 mu passed away. in 1980 to 5.9 mu in 1987, and average plot Meitan’s approach, which decouples land size declined from 0.7 mu to 0.6 mu because contracting from demographic change, rep- of readjustments. In some townships, house- resented an important innovation in China’s holds had up to 15 plots, varying between collective ownership of rural land. Instead 0.01 mu to 0.2 mu in size. Investments in land of allocating collectively owned land equally were affected as well. Productivity growth of among village members through routine land dropped from 7.0 percent per year dur- readjustment, the new system specified that CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 317 only those farmers who had obtained land declined. In 2011, 47 percent of Meitan’s use rights before 1987 were eligible members rural residents were employed in agriculture, of the collective with ownership rights to col- while the industrial and services sectors had lective land, including the right to contract absorbed 26 percent and 27 percent of the farmland for a 30-year term. This definition local labor force, respectively. Farmers’ per of collective membership excluded all rural capita income increased from RMB 343 in residents that entered the village or were 1987 to RMB 5,841 in 2011, while the share born after 1987. These newcomers no longer of farming income out of total rural income enjoyed collective membership rights and, declined as more people engaged in nonfarm more specifically, were no longer eligible to activities. About half of the rural income was obtain 30-year property rights to land. derived from nonfarm employment. When the pilot started, Meitan’s total pop- Despite these structural changes, Mei- ulation of 380,000 people was overwhelm- tan remained a relatively poor country and ingly rural. Per capita land resources were 1.3 faced difficulties in addressing the so-called mu. The total rural labor force in the country san nong issues: improving agricultural pro- was 154,000, of which 30 percent were esti- ductivity, accelerating rural development, mated to be surplus labor. Unlike the coastal and increasing rural incomes. In particular, areas, Meitan had very few employment land transfers and consolidation of farmland opportunities in the industry and services remained slow, preventing agricultural effi- sectors. Annual income per capita was RMB ciency and productivity increases through 400. From 1987 to 2012, Meitan’s rural pop- larger-scale farming, as well as increases in ulation grew to 500,000. With land tenure farm incomes. In response, Meitan began to stabilized under the Household Responsibil- promote land transfers to increase voluntary ity System and Meitan’s new policy, an esti- and compensation-based land consolida- mated 25 percent of the population remains tion. Implementation guidance was provided outside the local collectives and is ineligible through a plan called Interim Methods for for land contracting from the collective. The Circulating the Right to Land Contractual fundamental challenge now is to find new Management in Meitan County, which out- ways to address the livelihood needs of these lined that individuals, enterprises, and eco- landless village members. Structural adjust- nomic organizations, including those from ment within the county, labor migration to outside the village, would be allowed to par- the coastal areas, and complementary new ticipate in land transfers; that the government policies on rural land transfer have become would provide subsidies to farmers who con- important for stabilizing the new land tenure tracted more than 50 mu to support a larger arrangements. scale of operations; and that the government Initially, in the early 1990s, the majority of would provide agricultural facilities to the the surplus labor force was absorbed through land-leasing parties under special circum- the reclamation of nonarable hillsides and stances. To protect the property interests and development of the household-based nonfarm rights of the transferor and transferee, the sector. Hillsides were contracted to villagers county government also issued detailed regu- without farmland resources and transformed lations for land transfers, including reporting, into tree crop plantations. The government registration, formation disclosure, filing of provided capital and subsidized loans for documents, eligibility requirements to partici- agricultural investments and encouraged pate in transfers, annual inspection of larger- enterprises to provide inputs, technology, scale operations, complaint handling and dis- and information to households. By 1993, pute resolution, and benefit assessments. Meitan had developed 155,000 mu of non- In 2009, Meitan further deepened the arable land resources managed by 15,000 local land management system by standard- households. An additional 11,000 villagers izing land transfer procedures, managing were employed at township and village enter- land transfers based on market principles, prises. As migration to the eastern coastal encouraging larger-scale land transfers, and areas increased, pressure on land resources strengthening rural land and property rights. 318 URBAN CHINA Meitan carried out baseline surveys of all the Third Plenary Session of the 18th CPC land across the county and registered and Central Committee in 2013. titled all contracted farmland, residential land and buildings, and forestland. In 2010, Specific recommendations on land system reform Meitan issued the fi nal Methods for Circu- based on Meitan’s experiences lating the Right to Land Contractual Man- agement in Meitan County, which stipulates From the perspectives of system reform and the principles, methodology, contract format, institutional change, changes in entitlement and management procedures for rural land to land rights, as implemented in Meitan, transfers, thereby providing the regulatory have profound impacts. They fundamentally basis for formal land transfers to support alter the rural collective economy and dem- larger-scale operations in agriculture. onstrate that institutional change is needed to In 2010, Meitan established its fi rst cen- modernize the agricultural sector and achieve ters for rural land transfers. These collect and efficiency and productivity increases that can manage information for households inter- provide incomes competitive with those from ested in land transfers, establish and maintain off-farm employment. During the implemen- a land transfer registry, contact enterprises tation of Meitan’s land system experiment, interested in land acquisition, and facilitate various issues emerged that are of wider rel- exchanges between farmer households and evance for national policy formulation and enterprises. By the end of 2011, the total land require further careful assessment and con- area transferred to new operators reached tinued experimentation. 126,000 mu, or 26 percent of the total reg- istered cultivated land area of 480,000 mu. Clarify collective ownership arrangements. About half of this land was obtained by Under collective ownership, the terms owner specialized farming households; 33 percent and user of the land, and their relationship, was circulated to 149 economic cooperation are ambiguous. The legal status of collec- organizations; and 17 percent was circulated tive organizations is often not clear under to agricultural enterprises. Meitan’s new sys- current laws. Uncertainty exists with regard tem has increased the perception of tenure to where the collective authority is located. security, resulted in more rapid land consoli- Disputes often arise between the three levels dation and larger-scale farming, and stimu- of rural collectives—townships, adminis- lated productive investments in land and trative villages, and natural villages or vil- input use, resulting in a 42 percent increase in lager groups—over collective administrative grain output, from 120,000 tons in 1987 to authority. In reality, many collectives at the 170,000 tons by 2011. administrative village and the natural village The experiences from Meitan have gradu- or village group levels exist in name only, ally been incorporated into central govern- without legal status or administrative, man- ment policy. From 1993 onward, the policy agement, and fiscal capacity. In Meitan, the of decoupling land contracting from demo- village collective authority is generally with graphic change was promoted nationwide, the administrative village. But experience which led to the stipulation of the 30-year has shown that collective administration and contract term for farmland in Central Docu- management are often difficult at the admin- ment No. 1 of 1997. The 30-year contract istrative village level because administrative term was subsequently embedded in the Rural villages cover numerous natural villages, Land Contracting Law in 2002. In 2008, the with hundreds of households holding several Third Plenary of the 17th CPC Central Com- thousand mu of land. By comparison, natural mittee stipulated the central policy of “long villages are often much smaller and are more term without change,” further enhancing and traditionally grown communities with com- protecting the property rights to rural land. mon perceptions and values; thus manage- This policy was further detailed in Central ment of collective assets is often easier at the Document No. 1 of 2013 and reiterated by natural village level. Further consideration is CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 319 therefore needed to determine where collec- frequent. In addition, little information flows tive authority should be located. between those interested in transferring land and those interested in contracting land. To Deepen collective ownership reform through address these issues and deepen rural land strengthened membership rights. Implemen- market development, and to capitalize on the tation of Meitan’s land system reform has structural changes occurring in rural areas, shown that the approach of decoupling land the institutional arrangements, policies, and contracting from demographic change can be regulations concerning land transfers need to regarded as part of the foundation of the cen- be developed and implemented. tral government policy of “long term without change,” but it requires well-developed sup- Integrate migrants into urban areas and portive policies in order to be successfully social security. In the course of Meitan’s implemented over a long time, especially policy innovations, conditions for land- given limited land resources and pressure less rural residents have emerged. How- from demographic change. Surveys among ever, strengthening property rights of those villages in Meitan have actually found that with land has not created social problems, villagers still view land adjustments as neces- because outmigration has provided alterna- sary during demographic change, which may tive income sources of nonfarm employment. reflect a deep-rooted sense of community To consolidate the stronger property rights responsibility for the sharing of resources. arrangements achieved in rural areas, com- Despite stronger tenure security, the approach plementary reforms are needed to support in Meitan has raised concerns about new the permanent integration of rural migrants community members being treated unfairly into the cities. The establishment of a rural because they are excluded from access to the social security and pension system is impor- village’s land resources. Migration and off- tant for addressing the livelihood problems of farm employment are more frequent among rural residents that do not have access to land households that are not eligible to contract under Meitan’s approach of decoupling land collective land. Local surveys clearly show contracting from demographic change. Deep- that views differ with regard to whether ening the social security system is important land rights should be readjusted from time to address livelihood risks that will emerge to time and who should be eligible for land as the central rural land policy of “long term allocation. without change” further develop. Deepen rural land market development. The implementation of the approach of A framework for land decoupling land contracting from demo- policy reform graphic change is an important condition Urbanization and land reform for agricultural-sector modernization and structural adjustment. Because employment Land is of central importance to China’s opportunities in agriculture are decreasing urbanization, economic growth, and social as a result of rising labor costs, land trans- stability. Beginning with the late 1970s, land fers provide an opportunity to consolidate has been central to China’s early transition farms and achieve larger-scale operations to greater market orientation. Decollectiviza- that allow those who remain in agriculture tion and the introduction of the Household to increase their incomes to levels competi- Responsibility System beginning in 1978 laid tive with off-farm employment. Rural farm- the foundation for rural and agricultural land markets are under development; land growth and the development of a rural indus- transfers are mostly informal and based on trial and manufacturing sector, which was in oral agreements, contract periods are short the form of township and village enterprises term, and transfer prices are relatively low. throughout the 1980s. In the 1990s, land Disputes over land and contracting terms are became a key resource when further market 320 URBAN CHINA reforms, along with China’s integration into The reform discussion that follows is the global economy, provided the foundation based on the directions and guidance given for industrial growth and urbanization. Land by the Third Plenary Session of the 18th will remain an essential factor and resource CPC Central Committee on how to advance in China’s urbanization process and for its reforms. The recommendations are based on industrial and agricultural modernization selected lessons from various institutional agenda. innovations piloted in the six provinces and China’s economic achievement has been municipalities discussed in in this report. accompanied by the gradual development of a legal and policy framework that gov- erns property rights to land. This change Definition and protection of land and has included a transformation of the previ- property rights ously uniform public ownership system into Clarify China’s current “long term without a property regime under which public own- change” policy ership of land is maintained. At the same time, use rights to publicly owned land have Farmers’ 30-year farmland rights remain been largely privatized, either through alloca- exposed to significant uncertainties because tion of land rights to individual households, of involuntary transactions for agricultural in the case of rural land, or granting of land and nonagricultural purposes and illegal tak- rights to entities and individuals, in the case ings, violations of farmers’ rights to land, and of urban land. Unlike many former planned uncertainty over whether farmland rights can economies in which reforming the traditional be extended upon expiration of the current public ownership of land was conducted 30-year term. Under China’s 2007 Property through privatization, China has focused on Law, farmland rights may be extended when strengthening and improving the security of they expire. But this extension provision is individualized use rights to land while main- weaker than the parallel provision on urban taining public (state and collective) owner- land, which allows the automatic renewal ship. This model has helped to maintain upon expiration of the present term. The social stability and has greatly contributed to different treatment of the length of tenure economic growth. rights to rural and urban land conflicts with Land and property issues have become the effort to improve long-term tenure secu- more complex over the past decades, thus rity in rural areas. Farmers’ rights are also requiring further comprehensive reform threatened by collective entities that readjust and modernization of China’s regulatory land to accommodate population growth, a and institutional framework for land. The practice that is in conflict with central policy. Third Plenary Session of the 18th CPC Collectives also often take land back from Central Committee, November 2013, has farmers who move to cities, violating the pro- already provided a broad, forward-looking visions of the Property Law. framework for future reform toward a uni- The Third Plenary Session of the 17th fied rural-urban construction land market, CPC Central Committee of 2008 stated that enhanced and clear property rights and enti- rights to farmland should be for “long term tlements granted to rural land rights hold- without change.” The Third Plenary Session ers, and new management systems and insti- of the 18th CPC Central Committee of 2013 tutional arrangements for land in rural and reiterates and confi rms the policy direction urban areas. In addition, the formulation of of strengthening farmers’ property rights the government’s urbanization strategy for to land. Given the central policy support to the next decade provides an opportunity to long-term rights to farmland, the term “long build on past achievements and harmonize term without change” should be defined and the existing regulatory and institutional clarified in the law through revisions of the framework for urban and rural land to sup- Land Management Law, Property Law, and port more efficient and inclusive economic Rural Land Contracting Law. Contractual growth and urbanization. rights to farmland could be defi ned explic- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 321 itly as indefinite property rights with no con- to document and register farmers’ land rights tracting period limitation. Reallocations of throughout the country. Specific reforms to farmland through the collective entity should be considered include the following. be prohibited, clarifying that those who cur- rently hold contractual rights to farmland Develop a unified land registration system will continue to hold them into the future. over time. A unified land registration system Legal revision should also clarify the scope will require the development of unified rules, of the associated rights, such as the rights to standards, and procedures in the land rights occupy, profit, transfer, and inherit. The laws registration process. Along with the establish- also need to clarify that collective land own- ment of the land registry, unified land classi- ership rests with the collective members and fication standards need to be developed and not with the collective administrative entities. applied to all types of land, including farm- Embedding these provisions in the law is an land, forestland, grassland, and rural residen- important step in harmonizing the treatment tial land, and to land surveys, cadastral data of rural and urban land rights and allow- management, and registration of land trans- ing rural citizens to enjoy the same property fers. Following international best practices, rights and tenure security on land that are the currently scattered administrative respon- accorded to urban citizens. The strengthening sibilities for rights and property registration of property rights to farmland will also help for various types of land should be consoli- ensure that local governments uphold these dated within one agency responsible for the rights and give farmers the possibility to bring registration (box 4.6). A transitional approach cases of land rights violations to the courts. could involve the requirement that various Secure rights to farmland are likely to lead to agencies follow unified procedures in land higher agricultural investment and a greater surveying and registration until a new single value creation in the markets for farmland. land registration agency has been established. Make the transition from the current Design and implement a unified land method of deed registration to title regis- registration system tration. China’s Property Law requires a A well-designed and functioning system title registration under which land rights are of land rights registration and documenta- created when they are registered. The Rural tion tends to strengthen farmers’ confidence Land Contracting Law, however, stipulates about their property, enhances transparency a deeds registration under which land rights in land transactions, and is likely to stimu- are established when the land contract is late investment and facilitate land market created, regardless of whether those rights development. Currently, documentation of are registered. Land title registration is gener- rural land rights remains weak. Boundar- ally superior to systems based on the regis- ies of individual farmland parcels are often tration of deeds (recordation) because it tends unclear and generally not well documented, to make land titles more reliable and is also making progress toward change problematic, simpler and less costly to administer once the such as enforcing use and contract rights, registry is built. For China’s rural land regis- resolving land-related disputes, and identify- tration system, a title registration system may ing those whose land is affected by requisi- be most appropriate in the longer term. How- tion, lease arrangements, or other actions. In ever, given the current de facto deeds regis- addition, a reliable and complete inventory of tration of rural land rights, uniformly apply- land parcels does not yet exist but is needed ing the rule of “no registration, no rights” to to provide a foundation for land tenure secu- land currently held by hundreds of millions rity, land use planning, land allocation and of farmers would be difficult. It is therefore conversion, taxation, and monitoring of land necessary to recognize the legal force of market development. After several years of rural land rights under the new system and, piloting various approaches, Central Docu- in addition, of those rights that remain to be ment No. 1 of 2013 now calls for a program registered and merged into the new system. 322 URBAN CHINA BOX 4.6 Documentation and registration of land China’s laws recognize the benefits of documentation responsible for ownership and use rights to collective and registration for collective ownership. The Land forestland. Rural houses on collective construction Management Law provides that collectives can reg- land are registered by the Ministry of Housing and ister their ownership with the county government. Urban-Rural Construction. Evidence of ownership is the county-issued ownership Despite many unresolved issues, the government is certificate. It also requires the collective entity to issue addressing the registration of farmers’ land rights. In land use contracts to farmer households. 2005, it began establishing a land registration system The 2002 Rural Land Contracting Law reiterates for farmland and conducted a land registration exper- these requirements and establishes a set of minimum iment in Anhui Province. In 2008, Central Document requirements for all such contracts and a parallel set No. 1 (Fortifying the Foundation of Agriculture) for contracts that involve transactions of rural land stated that the local governments would enhance the rights. The Rural Land Contracting Law also mir- administration and regulation of rural land contract- rors the legal requirements for documenting collec- ing and expedite the establishment of registration tive land ownership by requiring that county gov- systems for rural land use rights. Central Document ernments issue land rights certificates to farmers to No. 1 of 2009 (Achieving Steady Agricultural Devel- affi rm such rights. Also, the Property Law includes opment and Sustained Income Increases for Farmers) requirements for documenting and registering rural provided that the governments should carry out pilot land rights and stipulates that the state adopt a uni- projects for registering rural land use rights to verify fied registration system for all real properties. The size, location, and title documents of contracted land law also provides that the register guarantees the for each farm household. accuracy of the recorded information, and it imposes Central Document No. 1 of 2010 set forth that liabilities on the register if damages are caused by a the governments should scale up the scope of registra- registration error. tion pilots for rural land use rights, with guaranteed Many challenges remain in establishing a func- financial support. In 2012, Central Document No. 1 tional land registration system. Although the Prop- repeated the instruction on rural land use rights regis- erty Law requires a unified registration system, it tration and called for steadily scaling up the scope of does not provide guidance on institutional respon- registration pilots, with the costs to be covered by the sibilities or operating rules. Currently, the Ministry central financial resources. In January 2013, Central of Land and Resources registers collective ownership Document No. 1 called for a nationwide land regis- rights and use rights to collectively owned construc- tration initiative with a completion goal of five years. tion land. The Ministry of Agriculture is respon- To date, land registration pilots have been conducted sible for registering use rights to collective farmland in 230 towns and have registered 7,936,000 mu of and grassland. The State Forestry Administration is farmland belonging to 653,000 rural households. Consider moving from household-based reg- in future land registration. Eventually, a uni- istration toward parcel-based registration. fied rural and urban land and property rights Another step to consider would be how to registration system could become the institu- make the transition from the current system tional basis for land and property rights pro- of registering all land plots of a household on tection and transfers. one single document (land use contract and land certificate) to a system where individual Reform China’s collective ownership plots are registered separately. A land parcel– arrangements based registration and documentation system would simplify future land transfers and the Under Chinese law, collectively owned land recording of transfers of individual plots. and assets are owned jointly by members of Legal reform should also explicitly require the collective (box 4.7). The Property Law registering both husband and wife as house- authorizes the collective administrative entity, hold representatives to improve gender equity such as the administrative village, natural vil- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 323 BOX 4.7 China’s collective land ownership Under China’s Constitution, all land in rural and tive has an indivisible ownership interest in all col- suburban areas, except that owned by the state, is lectively owned land. Accordingly, as a nonowner of owned by collectives. The Land Management Law rural land, the collective entity should not have any (1998) authorizes collective economic entities at property interest in the land. The collective entity various levels to operate and manage collective land. exercises ownership rights that have been delegated Neither authority further clarifi es the relationship by its member owners. The exercise of collective between collective members (farmers) and the col- ownership rights must be subject to the approval of lective administrative entity on questions of land member owners, which is authorized by the villager ownership. The Property Law (2007) provides that conference. collectively owned property is owned by all mem- Existing Chinese law permits all three levels of bers of the collective, namely, the households of the the collective—township, administrative village, and community. villager group—to assume ownership rights but does Regarding the relationship between member not identify any specific collective level as the primary owners and the collective entity, the law further owner of rural land. Recent Chinese laws are not even prescribes that the collective entity merely exercises as precise as the 1962 Sixty-Article regulation, which ownership rights on behalf of the collective. While clearly specified the lowest level of collective (produc- authorizing the collective entity to exercise owner- tion team, the predecessor of the present-day villager ship rights, the Property Law specifi cally requires group) as the owner of the land located within its geo- that the land contracting plan and the contracting of graphical boundaries. land to nonvillager units or individuals need to be To guide the reform of laws on registering collec- approved by the member owners. The 2010 Organic tive ownership, the Office of Central Leading Group Law of Village Committees further specifies the on Rural Work, Ministry of Land and Resources, relationship of member owners with the collective Ministry of Finance, and Ministry of Agriculture entity with respect to land. The law provides that jointly issued the Several Opinions on Reconfi rm- land contracting plans, residential land distribution ing and Registering Collectively Owned Rural Land, plans, and use and distribution of compensation for requiring that collective land ownership be ascer- expropriation of land shall be decided at the villager tained at the villager group level and that ownership conference. certificates be issued to the villager group. Only when Central policies on forestland reforms reflect this village boundaries are no longer existent can the land defi nition of collective land ownership. In 2003, the ownership be ascertained at the administrative village Central Committee demanded either allocating col- level. lective forestland to individual households, if the land The CPC Central Committee Decision on Issues is suitable for household contracting, or converting all Regarding the Improvement of the Socialist Market property interests in that land into shares and allo- Economic System, adopted in 2003, suggested new cating such shares among the member owners. The property structures and arrangements for rural col- 2008 Central Document No. 1 reiterated that prop- lective assets that facilitate the transition to a mar- erty interests in collectively managed forestland must ket economic system and strengthen the role of col- be ascertained and allocated to villager households in lectively owned assets in economic development. The the form of shares of stock. document asked for the clarifying and strengthening Both national law and central policy support the of property rights and the interests of collectives. principle that farmers, not the collective entity, are Central Document No. 1 of 2010 encouraged regions the joint owners of collective land. These provisions with suitable conditions to carry out pilot reforms assert that rural land is owned by the members of the of the collective property rights system and empha- community, not by an administrative entity, such as sized the importance of collectively owned assets for the village committee, villager group, or collective developing the rural economy and increasing rural economic organization. Each member of the collec- incomes. Source: Li and Wang 2013. 324 URBAN CHINA lage, or villager group, to exercise ownership Clarify collective membership arrange- rights on behalf of the collective members. ments . Membership, qualifications for However, collective ownership has become becoming a collective member, and termi- ambiguous since decollectivization because nation of collective membership need to be the introduction of the Household Responsi- clarified in the law. Currently, entitlements bility System in 1978 and subsequent policy of collective members to collective assets changes continuously strengthened house- are only generically defined, and guidance hold-based land rights. Collective ownership is needed for ongoing collective property is often mistakenly regarded as ownership by reform efforts across the country. Because no the collective administrative entity. Although legal code clarifies the criteria under which the Property Law has sought to clarify the a person becomes a member of a collective, relationship between collective members and approving or disapproving the membership the collective administrative entity in terms application is currently subject to the collec- of ownership of collective assets, ambiguities tive’s discretion. One approach to clarifying remain in that collective administrative enti- collective membership and protecting collec- ties often retain control of farmland contract- tive members’ ownership rights would be to ing, exercise power to take farmers’ land, and define a cutoff date after which a rural citizen often manage collective assets, including land moving into a community is no longer eligible and nonland assets, to generate profits for the to become a collective member. This measure collective entity itself rather than the collec- would prevent the dilution of collective assets tive members they represent. under conditions of demographic change. Reform of collective ownership of collec- tive assets should complement the reform for Clarify rights to collective assets. Legal strengthening property rights to farmland, reform should clarify the members’ rights which was discussed earlier. In particular, associated with collective property. Rights to reform should strengthen the ownership collective assets include the rights to occupy, arrangements and governance of assets by the use, profit, transfer, mortgage, guarantee, collective members; clarify the rights to col- and inherit property. The transfer (sale) of lective assets, particularly assets other than shares of collective property would allow land that has been contracted to households; members of the collective to exit the col- and clarify the arrangements for collective lective permanently. But reforms should, in shareholding organizations that will manage particular, clarify questions about the inheri- collective assets. tance of shares of collective assets. Currently women who married into households after Clarify collective ownership arrangements. the reform, and the children born subse- Many pilots for collective property reform, quently, cannot inherit shares and therefore particularly reforms for transforming collec- cannot receive dividends when the sharehold- tives into collective business organizations ing household member dies. This issue will and farmers into shareholders of collective become increasingly critical when members property assets, show that collective admin- of shareholding households die or move their istrative entities often retain a large portion residential registration outside the collective. of the shares of collective assets. Legal reform Their shares would eventually return to the should clarify that all collective assets belong collective instead of being retained within the to the members of the collective business household. Legal reform should also consider organization. The collective administrative broadening the bundle of rights to collective entity is not entitled to such property interest land by including the right to obtain a mort- in collective land and assets. Where collective gage, that is, to allow the collateralization of property is converted into shares, such shares assets to mobilize finance in rural areas. should be distributed to the members. As an entity that is authorized only to exercise own- Make a transition toward corporate gover- ership on behalf of its members, the collective nance in collective management. Collective entity should not retain any share of the col- property reform pilots have introduced a cor- lective property. porate governance approach to replace tradi- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 325 tional collective management. Reforms have tion would remove the current legal dualism promoted a governance arrangement that and inconsistency that discriminate against includes a shareholder representative board, a China’s rural citizens. A meaningful defi ni- board of directors, and a supervisory board. tion of public interest, both for urban and for The introduction of modern corporate gov- rural takings, should ideally be included in ernance has diminished the previous control the new Land Management Law. Because it of the village committees over a village’s eco- is not possible for the legislature to envision nomic activities. Reforms have also provided all permissible public interests at the time of institutional mechanisms to hold local cadres the legislation, a provision under an inclusive accountable and reduce the potential for rent list could leave room for future expansion at seeking and malpractice of collective prop- the legislature’s discretion. erty. Reforms should further seek to reduce Land for public infrastructure develop- administrative intervention by the collective ment could still be acquired through expro- administrative entity in the operation of col- priation channels, but controls need to ensure lective business organizations, separate the that conversion is conducted more prudently political and administrative functions from than in the past. Complementary reform is the economic functions of collective business needed to fine-tune the political incentives organizations, and strengthen transparency structure at the local government level. For in the distribution of profits made by the col- example, a current mayor would face reduced lective business organization. incentives to convert excess quantities of land and promote investment if the revenues gen- erated from such land conversion could only Reform of the rural land expropriation be invested several years later, and the mayor system would be able to gain credit for the growth Define legal limits for rural land taking for public years later. purposes by local governments Defining the “public interest” for which Increase compensation for rural land conversion the state can exercise its power of eminent for commercial purposes domain requires balancing the legitimate but Compensation for rural land conversion for often competing policy goals and interests of commercial (non–public interest) purposes various stakeholders. Preserving farmland should be increased up to the amount of the and narrowing the rural-urban income gap commercial value of the land, with deductions are important policy priorities. At the same for the costs incurred by local governments time, local governments depend on revenue for preparing the land for nonagricultural generation from land conversions and land use. Under the current regime, compensation sales, and urbanization would require more packages are capped at 30 times the land’s land to proceed. The reform of the rural land average annual agricultural output value. expropriation regime, and more generally Such a maximum ceiling is often insufficient the harmonization of the takings approaches for expropriated farmers to sustain their live- used for urban and rural land in China, could lihoods. Again, the reform of the rural expro- help rebalance these interests and reduce the priation regime could follow the principles of systemic disadvantages of rural citizens in the the Urban Takings Regulation, which have urbanization process. been applied in several provinces. The “needs of public interest” should be Because urban housing markets are well defined by listing those interests as part of the developed, the practical method to determine law. The reform of the rural land expropria- the level of compensation is based on market tion regime could follow the precedent of the prices. Under the Urban Takings Regulation, Urban Takings Regulation of 2011 and its the expropriating agency is required to pay principles that define public interest by listing compensation “no less” than a defined stan- all foreseeable categories of public interest. dard that is based on comparable market For rural land, defining public interest in the prices. But given the lack of a functional rural same way as in the Urban Takings Regula- land market, the regulation’s standard of no 326 URBAN CHINA less than market price may not work for rural benefits) social security to ensure long-term land takings. Thus, a benchmark tailored to livelihood security. From the mid-2000s, the fit the specific circumstances in rural areas central government began to enroll farmers in could be developed. Currently, under the a rural social security (pension) system with regulation local governments are encouraged the objective of covering all farmers under to formulate a “unified annual output value” the rural social security system by 2020. The and a “comprehensive regional price” for government called for contributions from var- determining compensation for expropriation ious levels of government, collective entities, in traditional agricultural and peri-urban and farmers to individual pension accounts. areas, respectively. These approaches may Recent implementation practices, in particu- be used as the benchmark or the minimum lar a “land for social security” scheme that standards. was pioneered in the Yangtze Delta and has spread to many locales, link farmers’ entitle- ment to compensation with their entitlement Improve the resettlement subsidy to sustain to social security. farmers’ livelihoods The “land for social security” scheme The Land Management Law created a has emerged as a result of ambiguous provi- resettlement subsidy to account for the fact sions in China’s regulatory framework with that compensation payments for the loss of respect to the relationship between compen- assets during land expropriations alone are sation and social security. According to the often insufficient for restoring rural liveli- Property Law, the state should pay compen- hoods. The current practice of determin- sation for the loss of land, provide resettle- ing the amount of the resettlement subsidy ment subsidies and compensation for fixtures is based on the amount of land expropri- on the land and for standing crops, make ated. Considering the small landholding per arrangements for the cost of social security household and the resulting small amount of for the farmers losing their land, and pro- resettlement subsidy per dispossessed farmer, tect farmers’ livelihood and their rights and the current system disadvantages small farm interests. The law does not expressly require households in particular. government to pay for social security as it To achieve the objective of raising dispos- does for the compensation package, and the sessed farmers’ original living standard and law remains unclear as to who should pay ensuring their long-term livelihood, reform for farmers’ social security. The Social Secu- should consider resettlement subsidies sepa- rity Law (2011) reiterates the need to make rately from compensation. Several provincial arrangements for the full cost of social secu- jurisdictions have already set the minimum rity of farmers who are being dispossessed resettlement standards per affected farmer. but fails to specify who should pay for that For example, in Jiangsu, such a subsidy is cost. between RMB 14,000 and RMB 26,000 per Probably because of this legal ambiguity, dispossessed farmer, depending on the loca- line agencies promulgated regulations that tion of the expropriated land. In Chongqing, favor channeling compensation packages the subsidy is RMB 28,000 regardless of the into the social security fund. The Ministry of location. In Beijing municipality, a farmer is Labor and Social Security in 2006 permitted entitled to 48 to 60 months of the city’s mini- local governments to pay for social security mum wage per dispossessed household farm by using resettlement subsidies and compen- labor in Beijing. sation payments owed to dispossessed farm- ers. The Ministry of Land and Resources in 2007 added a requirement that only when Clarify and define rural social security coverage as these two compensation items are not suf- a government financial obligation independent of ficient to cover the dispossessed farmers’ compensation for rural land expropriation social security costs would local governments China’s approach to compensation seeks to have to provide social security coverage. The compensate farmers for the loss of property “land for social security” scheme was quickly rights to land and to provide (among other adopted by local governments as an instru- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 327 ment to lower the cost of rural land expro- This articulation should be followed in any priation and accelerate urbanization. revisions of notice laws for rural takings. In Chongqing, although a dispossessed Provisions for periods for public comment farmer is entitled to 80 percent of the total should also be included. compensation payment for lost land (with the remaining 20 percent due to the collective) Establish the right to participate. New pro- and 100 percent of the resettlement subsidy, cedural laws for rural expropriation should all of the compensation and half of the reset- include a mandatory public hearing in the tlement subsidy were required to be paid into expropriation process, as already stipulated pension accounts, leaving the farmer with in central policies and the Urban Takings only 50 percent of the resettlement subsidy Regulation. The right to participation is even at the time of land expropriation. Sichuan more important if China adopts a “no less required the resettlement subsidy to be chan- than benchmark” standard in determining neled into the social security fund. Compen- the compensation package. Procedural laws sation for lost land was paid to the collective should empower farmers to negotiate the entity. In some cities in Liaoning Province, compensation package with the expropriat- the government provided 30 percent of the ing agency in good faith, starting from the social security contributions, and 70 percent benchmark standard. Central policies also was contributed from the compensation pay- require farmers’ confirmation of govern- ment and resettlement subsidy. ment’s land assessment as a necessary sup- Legal reform should clarify current ambi- porting document for reviewing and approv- guities by explicitly requiring social security ing the expropriation plan. coverage as a supplement to the compensation package. The rural social security system is a Establish the right to appeal . Like urban public welfare program unrelated to farmers’ property owners, rural citizens affected land rights or their entitlement to compensa- by expropriation should be given the right tion when their land is expropriated. Legal to seek administrative hearings or judicial reform should clarify that social security cov- reviews when they dispute a compensa- erage is a government obligation to all farm- tion decision. Existing laws on appealing ers, including dispossessed farmers. decisions permit expropriation to continue despite disputes over compensation and should be replaced with new rules permit- Embody in law the protection of farmers’ ting farmers to file an injunction when there procedural rights during land expropriation is a dispute over the compensation package. China’s procedural laws for rural land expro- Provisions prohibiting violent force under priation need improvement. The central poli- the Urban Takings Regulation should also be cies on farmers’ procedural rights and the incorporated into rural procedural laws. Urban Takings Regulation already provide guidance for developing relevant provisions Developing the construction land on procedural rights that should be embed- markets in urban and rural areas ded in the law, as follows: Construction land markets in rural and Establish the right to receive notice. Central urban areas are developed to different policies require that farmers be notified of degrees and remain incomplete and ineffi- all relevant information concerning the pro- cient. In urban areas, the government retains posed land expropriation before the expro- the monopoly in the primary land market, priation plan is approved. Planned expropria- while the market for subsequent transactions, tions should be publicized and made known the secondary land market, is underdevel- to each household that will be affected by the oped and nontransparent. Local governments proposed expropriation. The Urban Takings are poorly equipped to monitor transactions Regulation prescribes a three-stage notifica- in the secondary market, collect proceeds tion: predecision notification, in-decision from land transactions, or capture value as notification, and postdecision notification. land is being converted to higher-value uses. 328 URBAN CHINA In the industrial land segment, land is often and buyers that circumvent the registration allocated directly rather than in accordance requirements. Compulsory transactions or with national policy, which requires the com- urban land transfers through the land trans- petitive allocation of land for industrial pur- action centers would allow local governments poses, as given in Central Document No. 28 not only to collect fees from transactions but of 2004 (Decision on Deepening Reforms also to capture a share of the value increase and Intensifying Strict Land Management). in urban land, which currently provides no In rural areas, collective organizations can public value capture. use land for nonagricultural industrial and commercial activities only within the con- Develop the industrial construction land fi nes of the collective, or they can use land market. Reforming the industrial land mar- use rights as shareholding rights. However, ket will involve reducing the share of indus- collective construction land cannot be leased trial land in urban areas and pushing indus- to noncollective entities for commercial or trial land to higher-value commercial and industrial development. Furthermore, rights residential uses. With the expiration of the to rural homestead land are limited: trans- fi rst 40-year term for industrial land, local fer and lease is allowed only between mem- governments should be positioned through bers of the collective. Quotas for convert- new regulation to buy back inefficiently used ing farmland to collective construction land industrial land from industrial land users are limited as well, constraining collectives’ at current market prices for industrial land, opportunities for commercial and industrial allowing the government and industrial development and resulting in widespread ille- users to share the increase in value of such gal use of rural construction land. industrial land. The repurchased land would Land market development and deepening then be available for competitive auctioning in urban and rural areas, and the integra- for other than industrial purposes. Further- tion of rural and urban construction land more, land allocated to public service entities, markets, are important to increase land sup- which covers large areas within cities (such as ply for urban development and to gradually public spaces) and is often used inefficiently, replace current practices of government-led should be reclaimed by local governments land requisition and conversion toward more and be allowed to enter the market. efficient market-based allocation of land. This section discusses a number of reform Develop and integrate collective construction opportunities to promote the integration of land into the urban land market the rural and urban construction land mar- kets toward more equal benefit sharing and Large amounts of collective construction more efficient land use. land have entered the urban market illegally, particularly in China’s eastern coastal areas and large cities. At the same time, several Deepen the urban land market provinces, including Guangdong, Chongq- Strengthen transparency and effi ciency in ing, Anhui, Zhejiang, and Jiangsu, have the secondary urban land market. Reform experimented with innovative measures to let should enable local land administration collective construction land be leased, trans- authorities to strengthen efficiency in the ferred, and mortgaged. However, because urban land market with increased transpar- current legal prohibitions prevent collective ency in the secondary land market transac- construction land from entering the urban tions. Reform also should introduce regula- land market formally, such efforts remain at tions that require all urban land transactions the pilot and experimentation level. to register with local land transaction cen- The Third Plenary Session of the 18th CPC ters. Furthermore, transfers and leases Central Committee in 2013 provided a clear of urban land should be transacted and policy foundation and direction for collective recorded through land transaction centers construction land to enter the urban market. to curb direct transactions between sellers These policy decisions provide the opportu- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 329 nity to adjust the legal framework and legal- by the collective even if it ultimately fails to ize the entry of collective construction land adapt to urban life. into the urban market. Therefore the recom- The following are more specific recom- mended actions are to revise and amend the mendations for reforms to strengthen and Land Management Law, the Property Law, clarify rights to homestead land: Rural resi- and other relevant laws to clarify and formal- dential land rights should be defined as indef- ize the legality of such market entry. In addi- inite usufruct property rights, harmonizing tion, new implementation regulations need urban and rural property rights to residen- to clarify which rural land will be allowed to tial property. This definition of rights would enter the urban construction land market as include rights to use, operate, mortgage, well as defi ne the mechanisms for legalizing transfer, and profit from residential land use collective construction land that has already rights. Given the cautionary approach to entered the urban market. homestead land transfers stipulated by the Third Plenary Session, new regulations to guide this process should ensure that trans- Clarify and strengthen property rights to rural fers of rural residential land rights are volun- residential (homestead) land tary and contingent on the household’s ability Rural residential land management practice to meet certain qualifications, such as reloca- has created de facto property rights dating tion of all household members to cities, stable back to the 1960s. However, these rights employment, or an urban residential permit. remain largely undefi ned, and the Property Land use control mechanisms should also Law does not allow transferring or leasing prohibit villages from extending the existing of rural residential land. In reality, however, scale of homestead land, ensure that land homestead land has been dynamically leased rights transfers are legal, and prevent uncon- and transferred in many regions; therefore, trolled farmland conversion. Furthermore, to reform needs to address how conditions have curb the spatial expansion of residential land evolved in practice. Legalizing de facto prop- in rural areas, collective entities should no erty rights to rural homestead land is impor- longer be allowed to allocate homestead land tant for promoting rural-to-urban mobility as for free to new community members. New well as integrating construction land markets. arrivals in rural villages should buy home- The decisions of the Third Plenary Session stead land through market-based transfers of the 18th CPC Central Committee of 2013 based on market prices. call for clarifying and strengthening home- stead rights, and they provide more flexibil- Allow conversion of rural construction land, ity in developing new methods to transfer including homestead land, into transferable homestead land and in promoting market quotas to be traded in the urban land market entry of rural residential land. Previous cen- tral policies intended to restrict transfers of Provincial jurisdictions such as Chongqing homestead land because of concerns that full and Guangdong have started to permit the transferability of farmers’ residential land transfer of rural residential land rights in rec- rights may trigger uncontrolled conversion of ognition of the migration momentum created farmland to construction land. Such conver- by urbanization, as discussed in the sections sions were considered to pose risks to farm- on Chongqing and Chengdu. Such experi- ers’ livelihoods when they dispose of their ments could be adopted nationally through homesteads through transfers without hav- further legislative reforms, while ensuring ing adequate income sources and a residence that land use control mechanisms prevent elsewhere. Existing laws also preclude rural uncontrolled conversion to industrial or com- households from getting a new foundation mercial use. Specifically, the Chongqing prop- plot once they have transferred their origi- erty exchange experiment demonstrates effi- nally allocated plot. Once a rural household cient market-driven land conversion. Rural has transferred its residential land rights, it residents can convert their construction land would not be allocated a new foundation plot into agricultural land and obtain a tradable 330 URBAN CHINA right for the opposite conversion. This right kets, could increase land supplies for urban can be sold on the exchange, and developers, development. Integration would also provide with the agreement of the owners, can use it opportunities for boosting low-income hous- to convert agricultural land zoned for devel- ing availability and allow collective orga- opment in urban areas where demand is high. nizations and rural residents in peri-urban By unlocking construction land away from areas to benefit economically from urbaniza- the city, this method allows cities to optimize tion, because construction land markets are their spatial design and avoid inefficient city allowed to develop based on strengthened expansion that relies solely on available con- land rights. As discussed earlier, revisions of struction land near the existing city bound- the Land Management Law and other laws aries. This approach is of particular interest should proceed quickly, based on the deci- because it allows the efficient, market-driven sions of the Third Plenary Session of the transfer of construction land quotas from 18th CPC Central Committee of 2013. At remote rural areas to urban areas while ben- the same time the reform should include the efiting rural citizens through the mobiliza- formulation of implementation guidelines to tion of dormant rural construction land to allow rural collective organizations in peri- generate income, flexibility in decisions about urban areas to develop or lease collective migration, and recurrent income from leasing construction land to developers for urban of newly created farmland in the home vil- commercial and residential development lages. This approach could help unlock large within the framework of urban master plans. amounts of currently remote and underuti- Through appropriate zoning, local govern- lized rural construction land for city devel- ments could provide incentives to build low- opment in a market-driven way and reduce income housing in those areas while avoiding current social tensions that arise from com- resettlement and related costs, because collec- pulsory land requisition in rural areas. tive construction land remains under collec- tive ownership. Furthermore, formal recog- nition and legal protection of small-property Innovation in land institutions in rights to housing units on collective land peri-urban areas could provide rural migrants currently resid- The proliferation of urban villages, or infor- ing in informal housing with stronger incen- mal development of urban fringe areas, in tives to settle permanently in urban areas. many cities across China has created many land- and property-related challenges. Local Consider a zone takings law, following the model governments and real estate developers have of Taiwan, China discovered the economic potential of rede- veloping urban fringe areas. But the redevel- China’s advancing urban development will be opment of urban villages and their formal largely commercial. Negotiating with indi- integration into the city space pose serious vidual landowners to assemble land for urban difficulties to city governments and devel- cluster development may be impractical and opers, as discussed earlier. Reform should delay the urbanization process. To address address those informal developments, along this dilemma, the government may consider with underdeveloped public services, the legal introducing the experiences from Taiwan, vacuum around collective construction land China (box 4.8), where the legal framework in peri-urban areas, and the fi nancial chal- provides local governments with the option lenges of municipalities related to compensa- to rezone agricultural land for urban devel- tion and to resettlement as peri-urban areas. opment and allows commercial developers to conduct land transactions directly with rural property rights holders. Transactions are sub- Integrate urban villages into urban master plans ject to the provisions of urban master plans, Integrating urban villages into the formal including transparent public consultation. urban development process, based on inte- China’s Ministry of Land and Resources has grated urban master planning and rural- already planned to permit the reserving of urban integration of construction land mar- part of the expropriated (and thus converted CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 331 BOX 4.8 General and zone takings in Taiwan, China In 1953, the Land to the Tiller Act abolished the erty for commercial purposes, with landowners being tenancy system in Taiwan, China, through compul- entitled to higher compensation and better procedural sory government purchase of land from landlords safeguards. Landowners can claim a monetary com- and resale to the tenants. By 1956, the total area of pensation based on the market value of the land’s owner-operator farming had increased from less than agricultural use or, alternatively, take back 40 to 50 50 percent of total farmland in 1948 to over 85 per- percent of the expropriated land as offset land. Such cent. The government protected private tenure fol- offset land is the previous farmland that has been con- lowing the land reform using legal protection, a broad verted into higher-value urban construction land. The publicity campaign to improve farmers’ awareness of landowner may also select a compensation scheme in laws and government policies, and a government-led which one part of the compensation is paid in cash annual survey to closely monitor the implementation and one part is given in offset land. of the land reform program. In the subsequent urban- Procedurally, the government is required to pur- ization, authorities took measures to control the use chase land from landowners through negotiation of land for urban purposes and to facilitate nonfarm before launching zone taking. If negotiations fail, the development by farmers themselves. government may resort to zone taking. Prior to the taking, the government must conduct public hearings General and zone taking. Taiwan, China, takes an to explain compensation modalities to the affected approach of listing the circumstances under which landowners. Landowners who choose to take com- private land can be expropriated. General taking pensation in the form of offset land are given the refers to expropriation for the public interest. Zone opportunity to choose the location of the offset land taking refers to the expropriation and conversion of within the designated construction area. Landowners private farmland to nonfarm use for the purpose of are also given the opportunity to negotiate the exact (a) development of new urban areas; (b) renovation of compensation ratio (40–50 percent) to be applied. old urban areas; (c) farmland conversion in planned urban zones into construction land, or conversion of Infrastructure financing under zone taking. The industrial areas into residential and commercial areas; government is required to set aside a portion of the (d) development of nonurban land; (e) rural develop- expropriated land for public facilities such as schools, ment for improving rural public facilities and public roads, and public utilities. Although there is no legal health; and (f) other uses in accordance with relevant requirement with respect to the ratio of such public laws. General and zone taking are subject to different facility land, in practice, 40–50 percent is for pub- procedural and compensation laws. lic use. After setting aside 40–50 percent of land as For general taking, a compensation standard is offset land and 40–50 percent as public use land, the the agricultural land value that has been assessed for government retains 10–20 percent of the expropriated taxation purposes. Each year, the local land admin- land for sale to developers. istration bureaus publish the assessed values for To prevent irrational urbanization, the law requires farmland throughout Taiwan, China. That present- balancing the budget for the development using funds value standard has recently been replaced with a from the sale of the land acquired through zone tak- market-value standard that is based on recent com- ing and prohibits the use of other local revenues to parable agricultural land market transactions. The finance such development. The government therefore relatively simple procedures include public hearing, needs to rely on the proceeds from selling the 10–20 public announcement of the taking decision for 30 percent share of taken land to fi nance the construc- days, written notification of the affected landowner, tion of all public facilities within the zone. filing period with the local land administration Expropriated land is first converted and registered within 30 days in case of dispute over compensation, as state owned upon the completion of zone taking. appeal of the local decision to a land price review After offset land selection, such offset land will be committee, and filing of administrative litigation reregistered as privately owned land. The remaining with a court. construction land sold to developers will also be reg- Zone taking, in contrast, represents the de facto istered as developer-owned land. In the end, only the permission of the government to take private prop- land used for public facilities remains state owned. Source: P. Li 2013. 332 URBAN CHINA use) land for compensating affected farmers China’s household-based farming model, thus in planned urban areas. creating new challenges to the traditional The Taiwan, China, model may provide arrangements of land contracting under the an approach to balancing the property inter- Household Responsibility System of 1978. ests of collectives and farmers in peri-urban From 1996 to 2009, the total agricultural areas with the need for the government to labor force decreased from 317 million to provide and finance public infrastructure. A 259 million people, with an estimated 250 new zone taking and city redevelopment law million farmers working in cities for more could permit urban commercial development than six months every year. In 2011, about whereby farmers affected by the change in 1.28 billion mu of farmland (out of the 1.38 land use will be able to share the benefits of billion mu of total collectively owned farm- such development through compensation in land) was contracted to nearly 230 million the form of land for urban development and households. About 200 million households greater procedural safeguards. (85 percent of all rural households) owned If forthcoming reforms could permit farm- less than 10 mu (Xu and others 2013). Large- ers to retain part of the expropriated land as scale migration has resulted in the gradual resettlement land zoned for nonagricultural separation of contractual and management purposes, the legal nature of the ownership rights to farmland, which traditionally were of such land and the use rights to such land fully integrated in China’s smallholder farm must be determined. Because the expropri- operations under the Household Responsibil- ated land was collectively owned in perpetu- ity System. Migrating farmers have retained ity before it was taken by the state, the rec- their contractual (property) rights to farm- ommendation is to allocate the use rights of land but are increasingly transferring the the expropriated land being retained by the management or operating rights to others rural citizens as allocated urban land rights because they no longer work on the farm without term limitation. themselves. Transfers of management rights to farm- land have rapidly increased in recent years, Consider introducing property taxation for new in peri-urban areas as well as in many agri- construction land cultural regions. By 2011, about 20 percent In line with the reform recommendations of all farmland was subject to transfers, on the introduction of an annual property with shares as high as 41 percent in Jiangsu, tax discussed in Supporting Pillar Report 6, 40 percent in Zhejiang, and 26 percent in Financing Urbanization, collective construc- Guangdong (Xu and others 2013). More tion land that enters the urban land market than two-thirds of land transfers take place could be made subject to a capital gains tax. between rural households, although spe- Doing so would allow local governments to cialized cooperatives and enterprises have capture a share of the value increase when become more prominent in acquiring farm- such land enters the urban market for com- land through transfers. Most of the land mercial purposes as well as to collect an transfers are between 10 and 50 mu, allowing annual property tax. The introduction of individual rural households to achieve some such property taxes on new construction level of large-scale operation and specializa- land would be gradual and depend on the tion commensurate with labor and technical development of the various elements of a tax capacity and generating incomes competitive administration system, including land regis- with off-farm incomes from migration. In tration, valuation, and documentation. 2011, only about half a million households operated farms of 100 to 200 mu (7 to 13 hectares). Land reform and agricultural sector Land transfers and consolidation of small modernization farms face challenges. Small farm size, land Migration, land rights transfers, and farm- fragmentation, and the lack of regulated, land consolidation, as well as mechaniza- transparent markets for farmland are con- tion and technological change, are reshaping sidered to be some of the challenges imped- CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 333 ing China’s agricultural modernization. The tracting (property) rights, defi ned as indefi- central policy is to encourage voluntary and nite property rights without term limitation, market-based land transfers between house- and management (operating) rights to farm- holds and other agricultural operators and land and provide equal legal protection to entities. However, most of the transfers are both. Management rights, specifically, would informal and lack written formal agreements. include the rights to use and receive profits No formal market for rural land transfers from land. has been established, prices are negotiated individually and may not reflect real land Clarify mortgaging of management rights value, procedures are not developed, and no to farmland . Agricultural modernization formal documentation of such transfers takes will also depend on farmers’ ability to access place. With confusion about contractual finance and make longer-term investments in (property) and management rights, lack of land. Central Document No. 1 of 2013 pro- contracting documentation, and the absence vides strong support to the household-based of standardized land transfer procedures and farming operation, and such larger-scale recording, disputes over farmland rights have family farms are expected to rely to a greater significantly increased. Illegal conversion of extent on capital investments and mechani- farmland to higher-value nonagricultural zation. With a complete ban on mortgaging purposes in the transfer process has become of rural land and assets, both small farmers more widespread. and larger-scale family farms are unlikely to access credit to finance investments and oper- ations (box 4.9). Prohibition of rural land Promote market development for rural farmland rights mortgaging was enacted in the mid- Safeguard contractual (property) and man- 1990s when the majority of China’s farm- agement rights to farmland. Legal reform ers were dependent on small-scale farming should clarify the separation of land con- for their living. But under urbanization and BOX 4.9 Mortgaging of individual rights to collectively owned land In rural land rights, Chinese laws distinguish between regulators, issued the Guiding Opinions on Pushing allocated land rights acquired for free and land rights Forward in Full Scale Innovations of Rural Financing acquired with consideration. Land rights, such as Products and Services, permitting fi nancing institu- rights to arable land, residential land, private plots, tions to carry out mortgaging of rural contracting and and private mountains, that are allocated to farmers operation rights and residential land rights. as a legal entitlement cannot be mortgaged. In con- Although these documents suggest the policy trast, mortgaging of wasteland rights, which are typi- intent of lifting or reducing prohibition of mortgaging cally acquired through auction, tendering, or public of rural land rights, no legal basis exists. Because of negotiation, is permitted upon approval by the village the expressed legal prohibition, a mortgage contract collective entity. with rural land rights as collateral is deemed legally The Property Law of 2007 prohibits the mortgag- unenforceable, which in turn would discourage banks ing of contracted rural land rights, but strict prohibi- from engaging in this business. Even if some banks tion appears to have waned recently. In response to the were induced or forced to make mortgage loans policy of stabilizing rural land rights for “long term despite the legal prohibition, such loans would be without change,” China’s Central Bank in 2008 called highly risky because the banks cannot foreclose the on local banking institutions to explore innovative property in the case of nonperformance of the loans. ways to improve farmers’ access to credit. In 2009, the Clearly, unless China’s mortgage legislation is revised Central Bank encouraged considering the mortgag- to accommodate rural land rights mortgages, improv- ing of rural land rights. In 2010, the Central Bank, ing farmers’ access to credit through mortgaging of together with three other financing and banking rural land rights will remain difficult. Source: Li and Wang 2013. 334 URBAN CHINA with migration accelerating, there is scope penalizing illegal conversion of farmland to for consolidation in the agricultural sector nonagricultural uses. Farmer-driven volun- in many regions across China. The current tary cooperative development should be sup- prohibition of mortgaging effectively pre- ported to allow farm households to integrate cludes the remaining farmers from financing production, access technology and unify their acquisition of additional land rights. product standards, improve market access, Developed economies show that access to and achieve higher efficiency in the use of credit is critical for long-term, productivity- machinery and other inputs. enhancing, and income-generating farmland investments, and such conditions increasingly apply to China as it modernizes its agricul- Notes tural sector. Maintaining the restrictions on 1. The hukou system is China’s household regis- rural land rights mortgaging may no longer tration system, which distinguishes between be advisable. rural and urban citizens and imposes restric- Mortgaging can cause foreclosure if the tions on rural residents’ mobility to settle in debtor defaults on the loan for which the land urban areas and gain access to urban social rights are pledged as collateral. Existing legal security and public service (see Supporting prohibition of mortgaging of farmers’ land Pillar Report 3). rights evolved from concerns over farmers’ 2. For a discussion of China’s fiscal system, see Wong 2013. loss of land rights due to foreclosure. Such 3. Open auction is competitive bidding for land concerns can be addressed through additional in which the grantor (the county or city land legal restrictions as well as improved banking and resource administration) issues a public practices, such as the requirement that the notice of land auction. Interested grantees can borrower produce business plans subject to participate in competitive bidding at a desig- the mortgage holder’s review and approval, nated time and place. The winning bid goes credit and risk assessment, and so forth. to the highest bidder. Under a tender bidding Measures to reduce potential risks of foreclo- process, also called silent auction, the grantor sure could include a homestead exemption to invites the interested grantees to make their foreclosure on certain farmland to guarantee tender offer for the land parcel pursuant to a farmers’ need for livelihood; advance notice set of criteria announced in public. Negoti- informing the defaulting mortgager regard- ated sale is a process whereby the would-be ing possible consequences of default, and grantee negotiates the deal with the govern- ment grantor to reach an agreement on the judicial sale of land in case of foreclosure to level of granting fee (Ministry of Land and prevent banks from accumulating holdings of Resources, Rules on Granting Use Rights to foreclosed land rights. State Owned Land through Tender Bidding, Auction and Public Listing (Decree No. 11), Strengthen service functions of collective 2002. 4. DRC 2013, Notice on Strengthening Land organizations and promote cooperative Asset Administration, 2001. development 5. Ministry of Land and Resources, Rules on Collective organizations should be strength- Land Concession through Tendering, Auc- ened to oversee and monitor farmland trans- tion or Competitive Bidding, Decree No. 11, fers and to provide members with services 2002. in the land transfer process, including land 6. DRC 2013, Notice on Relevant Issues Con- cerning the Strengthening of Land Control, rights confi rmation, registration, and certi- 2006. fication, as well as ensure that agricultural 7. Central Document No. 1 of 2013, Several operators adhere to certain qualification stan- Opinions on Speeding Up Development of dards in agricultural production (box 4.9). Modern Agriculture and Further Strengthen- Although enterprises would also be allowed ing Rural Development Vitality. to acquire farmland through transfers, such 8. China participated in the negotiations of the land acquisition needs to comply with land Voluntary Guidelines on the Responsible administration provisions, thus preventing or Governance of Tenure of Land, Fisheries CHINA’S URBANIZATION AND LAND: A FRAME WORK FOR REFORM 335 and Forests in the Context of National Food ground paper prepared for the World Bank Security (Food and Agriculture Organization and Development Research Center Urbaniza- of the United Nations [FAO] 2011). The vol- tion Study, World Bank, Washington, DC. untary guidelines have been endorsed, and Kitazato, T. 2003. “Japan: Fixed Property Tax.” their implementation has been promoted, Case study presented at the seminar “Innova- by the following meetings since their initial tions in Local Revenue Mobilization,” World adoption by the Committee on World Food Bank, Washington, DC, June 23–24. Security on May 11, 2012: Group of Twenty, Landesa. 2012. “Summary of 2011 17-Province Rio + 20, the United Nations General Assem- Survey’s Findings: Insecure Land Rights: The bly, and Group of Eight. Single Greatest Challenge Facing China’s 9. The value of unequipped agricultural land Sustainable Development and Continued Sta- in the southwest region averaged around bility.” Landesa, Seattle, WA. http://www £15,000 per hectare in January 2011. The .landesa.org/china-survey-6/. value of land with permission for residential Li, L. 2013. “Chengdu’s Experiments on Land development was around £1,500,000 per System Reform and Urban-Rural Integration.” hectare for the average-size regional city of Background paper prepared for the World Plymouth and around £2,100,000 for the Bank and DRC Urbanization Study, World major regional city of Bristol, United King- Bank, Washington, DC. dom. 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Network, January 31. 5 China’s Urbanization and Food Security Introduction taining such a high average growth rate in agriculture for more than 30 years, while China’s urbanization and the accompanying allowing many people to move from agricul- structural changes demand a new look at ture to other sectors, is a truly extraordinary China’s domestic food self-sufficiency objec- achievement. China’s agricultural produc- tives. Urbanization is a reflection of and a tion structure has also shifted gradually from contributing factor to economic growth and relatively low-value to higher-value products, development. In this process, overall out- largely consistent with resource endowments put and average incomes rise. Demographic and comparative advantage. Although still change, change in diets and food consump- important, cereal crop production no longer tion patterns, emergence of environmental dominates but is matched by the develop- constraints (such as land or water concerns ment and expansion of higher-value crops and environmental pollution), transforma- and livestock. In 1980, crops, livestock, and tion of rural factor markets, food supply- aquaculture products accounted for 75.6 per- chain development, market and distribution cent, 18.4 percent, and 1.7 percent of total systems transformation, and agricultural output value, respectively. By 2011, the share technology and farm scale changes are linked of crops in total output value had dropped in various ways. These factors will affect to 54 percent, while animal husbandry and China’s food production capacity and food aquaculture had increased to 33 percent and availability over the coming decades. Under- 10 percent, respectively (NSBC 2012). standing how the balance between China’s Growth in agricultural output was first domestic demand and domestic production achieved through institutional and mar- of food will evolve will be important in for- ket reforms, such as the introduction of the mulating appropriate and effective policies. Household Responsibility System and the China has achieved tremendous results subsequent lifting of food price and procure- in agriculture over the past 30 years. From ment regulations. Later, growth was achieved 1978 to 2011, China’s agricultural gross through agricultural intensification and domestic product (GDP) at constant prices technological progress. From 1980 to 2012, grew at an annual rate of 4.6 percent, four China’s grain production rose from 320.56 times the rate of population growth. Main- million tons to 589.57 million tons, an 337 338 URBAN CHINA increase of 84 percent. Rice production grew sufficiency. Aggregate food self-sufficiency by 46 percent, and wheat and corn grew by fell below 98 percent in 2010. Grain self- 118 percent and 232 percent, respectively. sufficiency fell to 92 percent in 2010 and to Since 2004, China’s grain production has 88 percent in 2012 because of imports of continuously increased; since 2007, annual soybeans and maize used as animal feed. grain output has exceeded 500 million tons. Although domestic self-sufficiency in rice Farmer per capita income also continued to and wheat remained at nearly 100 percent, grow, reaching RMB 7,917 in 2012, with an soybean imports reached 58.3 million tons inflation-adjusted real increase of 8.8 percent in 2012. China has also shifted from being per year since 2003. a net exporter of corn in the early 2000s to China’s food security, as measured both an importer in 2010, with net imports of 5.2 by the aggregate availability of food and million tons in 2012. The driving factors by the access of vulnerable individuals and behind increasing demand (and domestic sup- households to food, has improved dramati- ply shortfalls) for soybeans and corn are the cally over the past 30 years. Food security growing demand for animal products and the problems at the level of households and development of China’s livestock industries. in dividuals—the problem of subsistence Imports of other products have also grown: and vulnerability—have been substantially sugar (to 3.7 million tons in 2012); edible oil reduced. Consumption patterns have diver- (to 9.6 million tons); dairy products (to 6.2 sified, and nutritional status has improved. million tons for fresh milk); and pork, beef, Market integration has addressed the prob- and mutton (to 0.7 million tons). lem of regional food insecurity resulting from Concerns about constraints on sustainable unequal spatial distribution of resources food production as a result of urbanization (J. Huang and Rozelle 1998). At the national are increasing. Domestic production patterns level, China has maintained food self- have already shifted from naturally rain-fed sufficiency and even sustained a net export coastal areas to irrigated areas in the North balance during the period of the 11th Five- China Plain and the Northeast as farmland Year Plan (2006–10). has been converted to urban use in the central China has been able to meet the objective and southern coastal provinces. Urbaniza- of domestic self-sufficiency in the two major tion is likely to further increase the amount food grains, rice and wheat, with limited of water needed for domestic and industrial dependence on global food markets so far. uses, thereby increasing intersectoral com- But concerns about China’s future food self- petition for water and reducing China’s total sufficiency—in particular its future grain self- irrigation area and crop yield (Du and others sufficiency—have drawn wide attention both 2005; Wang and others 2008; Wen and Ding at home and abroad in recent years. As the 2011). income of urban and rural households has Urbanization will also result in continued increased, aggregate food demand in China conversion of farmland to nonagricultural has also been increasing, along with demand uses. However, although China’s agricul- for higher-quality agricultural products (Bai tural production may decrease with the con- and others 2010; X. Chen 2011; J. Huang, tinuing reduction in farmland area (F. Chen Yang, and Rozelle 2010). At the same time, and others 2010; Z. Chen and others 2010; supply constraints have become more pro- M. Huang, M. Chen, and Zhang 2011) and nounced, particularly because of decreasing grain production potential may be threatened land and water resources for agriculture, (Shu and Chen 2012), urbanization may also increasing environmental pollution, and stimulate the intensification of land use and increasing labor and production costs (Han thus counteract the decrease in farmland 2010; Ma and Niu 2009). through more efficient use of land for housing Strong growth in demand and increas- in rural and urban areas (Huang and others ing supply constraints potentially pose chal- 2005). The comparative advantage of labor- lenges for China’s future aggregate food self- intensive farming of grains has greatly dimin- CHINA’S URBANIZATION AND FOOD SECURIT Y 339 ished. Growing labor constraints and rising because most urban households and migrat- input prices (labor, diesel, pesticide, farming ing rural residents tend to rely on food pur- tools) have increased the cost of food produc- chases rather than their own household pro- tion. Land transfer costs and farm overhead duction. Decreased reliance on agricultural costs are also rising quickly. With urbaniza- income reduces the exposure of households tion, rural labor will continue to move to the previously engaged in farming to adverse cities, and migration will further drive up output shocks, such as those resulting from labor and production costs in agriculture (Hu droughts or floods, to agricultural output and Ni 2010; S. Li and H. Li 2012; Mu and and incomes. However, as people move to cit- others 2013). How these shifts will impact ies, households become completely dependent China’s domestic food production capacity on purchased food. At low levels of income, requires careful analysis. Urbanization will they spend a large share of their incomes on also affect food demand and consumption food and can be very vulnerable to increases through income growth. Overall demand for in the prices of staple foods. The food secu- food is likely to increase with income-driven rity of a household that spends 60 percent urbanization because the demand for higher- of its income on food is seriously threatened cost foods such as fruits, vegetables, and ani- when food prices rise. mal products rises much more rapidly with Trade can allow China to meet the rising income growth than demand for basic food demand for particular types of agricultural staples such as rice and wheat. These goods goods. Increased imports to meet domes- require much higher levels of intermediate tic demand are well within the capacity of and factor inputs than basic staples, particu- China’s existing trade partners in North larly for livestock products, given the ineffi- America and South America for maize and ciencies of feed conversion. China’s gradual soybeans and in Australia and New Zealand alignment of trading patterns with compara- for dairy products. But policy makers have tive advantage following its accession to the understandable concerns about large-scale World Trade Organization (WTO) and the reliance on imports of basic staples, particu- surge in imports of soybeans and of corn is a larly rice and wheat. Meeting the demand for reflection of these changes. basic staples will remain a strategic focus but Food consumption patterns differ between is likely to be relatively easy for China both China’s urban and rural residents, even at the because per capita demand for basic staples is same level of income. The aggregate impact falling and because China’s yields continue to of the change in consumption patterns on grow because of investments in research and indirect grain consumption in the course of development to increase productivity. Invest- urbanization has not been well documented. ments in research and development also help Several studies have suggested that the con- to raise farmers’ incomes. sumption of staple foods decreases as people Providing adequate access to food in rural move to cities, whereas their consumption areas remains an important policy objective, of edible oil, sugar, fruits, and animal and but threats to food access may also increase aquatic products increases (Huang 1999; for urban residents. There are varying levels Huang and Bouis 2001; Huang and David of food security across regions within China, 1993). Food consumption surveys also show with some regions still facing food security that rural migrant workers in cities consume issues, particularly in western poor rural more grain and more livestock products areas (Nie, Bi, and Zhang 2010). Urban than rural households. Migration thus may residents that depend on the market for all increase grain consumption significantly as of their food needs may face risks in access- both direct demand and indirect demand for ing affordable food as food supply chains are animal feed increase (Wu 2013). becoming longer through regional integra- The transformation from an agricultural tion and more vulnerable because of fluctua- society to an urban society has potentially tions in transportation and energy costs. As important implications for access to food China continues to urbanize, the implica- 340 URBAN CHINA tions of urbanization on disadvantaged seg- supply of food in China that Emiko Fukase ments of the population need to be carefully and Will Martin (2013) of the World Bank assessed with regard to food price stabiliza- conducted for this study. tion policies and social protection programs. Structure of the chapter Methodology The chapter first provides a retrospective and This report provides an overall assessment outlook on China’s food demand and sup- of the projected effects of China’s urbaniza- ply in an international perspective. It then tion on domestic food production capacity discusses the supply constraints on domes- and food demand over the next two decades. tic agricultural production: water, land, The analysis builds on extensive empirical and labor. Next it reviews the quantitative work carried out for this study in 2013, work impacts of urbanization on aggregate food that built on the China Agricultural Policy supply and demand and discusses the likely Simulation Model (CAPSiM) of the Cen- supply shortfalls. It concludes with a set of ter for Chinese Agricultural Policy (CCAP). recommendations for China’s future food CAPSiM is a sectoral equilibrium model that security and social protection policies. covers a wide range of agricultural crops and livestock products and forecasts China’s demand for and supply of agricultural prod- China’s food demand and supply ucts for the 2012–30 period. The model uses projection in international the underlying macroeconomic and demo- comparison graphic assumptions included in supporting report 1 on urbanization and growth. China’s rapid economic growth since market- The CAPSiM simulations build on sepa- oriented reforms began in 1978 has con- rate empirical analyses of the effects of tributed greatly to improvements in Chinese urbanization on the markets for water, land, diets both in quantity and in composition. and labor. Impacts on agricultural water con- Total calorie intake per capita per day in sumption and agricultural production are China has grown substantially, from 2,163 analyzed based on (a) historic trends of water kilocalories (kcal) in 1980 to 3,036 kcal in usage across the agricultural, industrial, and 2009. China’s growth in calorie intake has domestic sectors; (b) quantitative analysis of been much faster than the world average, the relationship between urbanization and which grew from 2,490 kcal in 1980 to 2,831 agricultural water availability; and (c) appli- kcal in 2009. Calorie consumption levels are cation of the China Water Simulation Model now reported to be approximately equal to (CWSM) to estimate changes in cropping those in Japan and in the Republic of Korea areas and output per unit at the national and but remain lower than levels observed in the individual river basin levels. J. Huang and United States and in the European Union. others (2013) describe the research approach Protein intake nearly doubled from 54 grams and methodology in their background paper. (g) per capita per day in 1980 to 94 g per cap- The effects of urbanization on arable land ita in 2009, with about three quarters of this conversion and agricultural bioproductiv- growth from increased consumption of live- ity are estimated using remote sensing and stock products. Fat intake nearly tripled from econometric analyses (Deng, Huang, and 34 g per capita per day in 1980 to 96 g per Rozelle 2013). China’s rural labor market capita in 2009, with about two-thirds of this transformation and its impacts on the agri- growth coming from increases in livestock cultural sector are described in X. Wang, product consumption. Calorie intake among Huang, and Rozelle (2013). Urbanization high-income countries, namely the United and its impacts on agricultural water are States and Japan, has declined somewhat in discussed in J. Wang, Huang, and Rozelle recent years (figure 5.1). (2013). This report also builds on analytical A breakdown of the proportion of calo- work on income growth and demand for and ries sourced from crop and livestock prod- CHINA’S URBANIZATION AND FOOD SECURIT Y 341 FIGURE 5.1 Total calorie (in kilocalories per capita per day) and protein consumption in various countries (in grams per capita per day) a. Total calories b. Total protein 4,000 120 110 3,500 Grams per capita per day Grams per capita per day 100 3,000 90 80 2,500 70 60 2,000 50 1,500 40 1980 1990 2000 2008 1980 1990 2000 2008 China European Union Japan Korea, Rep. United States World Source: Food and Agriculture Organization of the United Nations, Statistics Division. ucts in China reveals that a majority of the tion is projected to peak around 2025, at a increase comes from the rise in the consump- level about 3 percent higher than in 2013— tion of livestock products, while the calorie the primary driver of food consumption in intake from crops has been relatively steady the near future is likely to be growth in per at around 2,300 kcal per capita per day capita consumption. since the early 1990s. Calorie intake seems China’s per capita consumption levels for unlikely to rise dramatically in the future but both calories and CEs have been very consis- dietary patterns are likely to adjust further as tent with global trends. Food consumption is consumers increasingly source their calories closely related to income, and although there from livestock products, which take much is broad variation around the relationship greater amounts of resources per kilogram consumed, measured in cereal equivalents (CEs) (K. Rask and N. Rask 2011). This shift FIGURE 5.2 Population growth vs. diet change: Change in CE consumption in diet will increase the quantity of resources required to meet China’s food demand for an extended period to come, and suggests future 1,600 pressure on world food production. 1,400 China’s CE consumption 1 expanded 1,200 nearly four times from 407 million tons in Tons (millions) 1,000 1980 to 1,479 million tons in 2009 (figure 5.2), while over the same period China’s pop- 800 ulation increased by only about 40 percent, 600 from 1 billion to 1.4 billion. If growth of CE 400 consumption in China since 1980 is broken 200 down into the factors of population growth and diet change, one-third of the increase in 0 1980 1990 2000 2008 food consumption is attributable to popula- tion growth, and the remaining two-thirds 1980 level Diet changes Population growth results from changes in diet. As China’s population growth slows—and its popula- Source: Fukase and Martin 2013. 342 URBAN CHINA FIGURE 5.3 Relationship between CE food consumption and much earlier and at a much lower level than income consumption of CEs (figure 5.4). China has out-performed most countries 2.5 in terms of agricultural output. Output, Australia United States which is only slightly below consumption France levels, is substantially above the global trend 2 Italy Tonnes per capita per year Germany level given China’s land endowment and Spain Brazil United Kingdom income level. This may reflect the relatively 1.5 Hungary high quality of much of China’s agricultural Mexico Korea, Rep. land and almost certainly reflects the extraor- China Japan 1 Malaysia dinary efforts made in China to increase Philippines productivity in recent decades. Agricultural Thailand .5 Indonesia output is likely to continue to increase in India response to the productivity growth that is 0 driving increases in national output. Figure 0 10,000 20,000 30,000 40,000 50,000 5.5 compares CE consumption with the esti- mated relationship between income levels GDP per capita (PPP, constant 2005 int’l $) and production. To allow for the comparison between countries, the estimated produc- Source: Fukase and Martin 2013. tion schedule is adjusted so that each coun- Note: Data are based on 2005–09 averages. PPP = purchasing power parity. try has the same per capita land endowment as China (0.21 hectares per person). This relationship implies that production rises in FIGURE 5.4 Calorie and CE consumption trends against income in line with income, although less rapidly than China, 1980–2009 income because of the secular decline in agri- culture’s share of national income. Growth rates of consumption and growth 20,000 rates of output are likely to be broadly com- parable as incomes grow to levels around $20,000 in purchasing power parity terms. Calories per capita per day 15,000 After that level, it seems likely that the con- sumption growth will slow down relative to 10,000 production and the gap between supply and demand will begin to close. This is, however, a tentative scenario. If, for instance, China 5,000 reduced investments in agricultural produc- tivity, or climate change reduced productiv- ity, then the gap between supply and demand 0 might increase. 0 10,000 20,000 30,000 40,000 50,000 China is also in a very different situa- Real GDP per capita (PPP, 2005 int’l $) tion from neighboring economies, such as Japan or Korea, where the much smaller land China’s calorie consumption China CE consumption Fitted calorie consumption Fitted CE consumption endowments per person require that continu- ing large net food imports are likely to be Source: Fukase and Martin 2013. required. International comparisons reveal striking differences between countries in the extent to which food imports as a share between food consumption in CEs and real of total consumption have changed. When income levels, China’s food consumption is rice, wheat, maize, and soybeans are consid- likely to increase substantially for some time ered together, most lower-income countries as income levels continue to rise (figure 5.3). have maintained close to 100 percent self- Consumption of calories tends to level off sufficiency, but this ratio has declined sharply CHINA’S URBANIZATION AND FOOD SECURIT Y 343 in the higher-income East Asian economies FIGURE 5.5 Production, consumption, and income in China, (Japan, Korea, and Taiwan, China) (figure 1980–2009 5.6). China, given its larger land endowment per capita, seems unlikely to follow the path 3 of Japan, Korea, or Taiwan, China, and will retain a much higher level of aggregate grain self-sufficiency. China’s recent declining self- Tonnes per capita per year France sufficiency ratio for grains is predominantly 2 Malaysia Germany attributable to a large increase in soybean United States Hungary Australia imports (figure 5.7). Brazil Italy United Kingdom Spain 1 China Thailand Philippines Resource constraints to Indonesia Mexico Korea, Rep. Japan India agricultural production Urbanization and water: Intersectoral 0 competition and food security 0 10,000 20,000 30,000 40,000 50,000 GDP per capita (PPP, 2005 int’l $) Water is a scarce resource in China, which China CE consumption China CE production has a total annual availability of fresh water CE Production at China land level CE Consumption of 2,300 cubic meters per capita, less than CE Production, land = .21 ha (China) one-quarter of the world’s average. Annual precipitation is unevenly distributed across Source: Fukase and Martin 2013. the country, with more than 800 millime- ters (mm) in most parts of southern China, between 400 mm and 800 mm in the north- Northwest, and intermediate in the North- east and northern regions, and below 400 east and North. mm in the northwest. Because of the close Intersectoral competition for water and the relationship between water availability and increasing reallocation of water from agricul- land productivity, productivity is generally tural uses to industrial and domestic uses are higher in the Southeast and lower in the likely uses to have implications for China’s FIGURE 5.6 Grain self-sufficiency ratios for selected Asian countries, 1960–2013 200 180 160 140 120 Ratio 100 80 60 40 20 0 1960–61 1969–70 1978–79 1987–88 1996–97 2005–06 2012–13 China Japan Korea, Rep. Taiwan, China Indonesia Philippines Thailand Bangladesh India Source: Production, Supply and Distribution (PSD) data, USDA. Note: The figure reflects the differences between production and consumption, which are the sum of net imports and the changes in stock (production – consumption = exports – imports + changes in stock). 344 URBAN CHINA FIGURE 5.7 Contribution of major grains to China’s supply-demand gap, 1960–2013 3 2 1 Metric tons (thousands) 0 –1 –2 –3 –4 –5 –6 –7 –8 1960–61 1969–70 1978–79 1987–88 1996–97 2005–06 2012–13 Corn Soybeans Rice Wheat Source: U.S. Department of Agriculture, Production, Supply and Distribution (PSD) data. Note: The figures reflect the differences between production and consumption, which are the sum of net imports and the changes in stock (production – consumption = exports – imports + changes in stock). food production capacity. Total water con- FIGURE 5.8 Water use in China: Total and by sumption in China increased from 103 billion sector cubic meters in 1949 to nearly 600 billion cubic meters in 2011, or by 3 percent annu- 1 1 100 2 ally. The periods from 1949–65 and 1965–80 11 13 saw the biggest percentage increases. After 80 24 1993, despite further increased total demand, 60 Percent the rate of increase slowed (table 5.1). 97 Water consumption in industry and for 40 88 domestic use has increased significantly faster 62 than in the agricultural sector. In fact, dur- 20 ing the past 20 years, water consumption 0 in agriculture has remained constant while 1949 1978 2011 industrial and domestic water usage has Domestic Industry Agriculture continued to increase (figure 5.8). However, agriculture remains the biggest consumer of China’s water, accounting for 62 percent Source: J. Wang and others 2013. TABLE 5.1 Total increase rate of water use in China by sector, of the country’s total water consumption in 1949–2011 2011 (figure 5.9). Urbanization is the driving Total increase rate (percent) factor contributing to rising water consump- tion through the industrial and domestic sec- Period Total Agriculture Industry Domestic tors. As China’s urban population increased 1949–65 166 154 654 200 from 28 percent to 51 percent from 1993 1965–80 62 45 152 1,456 to 2011, the share of agricultural water use 1980–93 17 3 98 70 to total use declined from 73 percent to 62 1993–2000 6 −1 26 21 percent (figure 5.10). As rural residents con- 2000–11 9 −1 28 37 tinue move to cities and as living standards 1949–2011 481 274 5,991 13,065 increase, domestic water use is likely to fur- Source: Ministry of Water Resources 2006–10. ther increase. From 2006 to 2010, per capita CHINA’S URBANIZATION AND FOOD SECURIT Y 345 water use for urban residents was 208 liters, FIGURE 5.9 Sectoral shares of China’s total water consumption already three times that for rural residents (Ministry of Water Resources 2006–10). 7,000 Based on the CWSM projection results, 2 a 6,000 1 percentage point increase in China’s urban Cubic meters (millions) population will result in a 0.47 percent 5,000 decline in the share of agricultural water con- 4,000 sumption because of intersectoral realloca- tion. By 2030, according to the CWSM, agri- 3,000 culture’s share of total water consumption 2,000 will have decreased to 52 percent. China’s total water shortage is estimated 1,000 to have reached 48.7 billion cubic meters, 0 indicating that 8 percent of China’s total 1949 1993 2000 2004 2010 water demand cannot be satisfied by the Total Agriculture Industry Domestic country’s water supply, given current water resource management policies. Water scar- Source: J. Wang and others 2013. city is more pronounced in China’s northern river basins, including the Hai, Huai, Liao, Songhua, and Yellow rivers. Water scarcity is expected to increase significantly in China; FIGURE 5.10 Trends in agricultural sector water consumption and urbanization the overall water supply gap is projected to increase from today’s 8 percent to 38 percent in 2030. Water demand increases are pro- 100 jected for all river basins in response to urban 90 and industrial growth, population growth, 80 and planned expansion of irrigated areas. 70 China’s major rivers basins are displayed in 60 Percent map 5.1. Water supply and water balance 50 data for the 10 major river basins in China 40 are summarized in table 5.2. 30 Through domestic food trade and the 20 expansion of irrigated areas in northern and 10 northeastern China, about 52 billion cubic 0 1993 1996 1999 2002 2005 2008 2011 meters of water are transferred annually, in virtual form, through agricultural products Agricultural Urbanization water use rate to the southern provinces. If the amount of water lost through evapotranspiration is not replenished, crop water use will result in Source: J. Wang and others 2013. a localized net water loss and will become unsustainable. Overuse of available water from an estimated 11 percent in the Huai river resources has resulted in severe groundwater basin to as high as 30 percent in the Yellow depletion, with the deep water aquifer under river basin. Particularly large supply short- the North China plain, for example, already falls are projected for the Hai, Yellow, Yang- dropping at about 3 meters per year. About tze, and Southeast river basins. Water con- half of the communities using ground water sumption in the industry sector is projected to in the northern plains reported a decline in grow by 170 percent over current consump- ground water levels between the mid-1990s tion, nearly 10 times faster than water con- and mid-2000s (Lohmar and Hansen 2007; sumption growth in the domestic and agricul- J. Wang, Huang, and Yang 2009). tural sectors. In the Yangtze and Southeast Agricultural water demand will increase in river basins, total water demand will increase all 10 river basins between 2010 and 2030, by 70 percent and 82 percent, respectively 346 URBAN CHINA MAP 5.1 Major river systems in China and locations of the 10 Liao, Songhua, and Huai basins, with a pro- largest river basins jected increase of only 4 percent. China’s plans to expand irrigation will also be challenged by water scarcity and by Songhuajiang intersectoral competition for water. China’s River Basin National Integrated Water Resources Plan for the period 2010–30 envisions an expan- Liaohe River Basin sion of China’s irrigated areas by 15 per- cent, from currently 58.6 million hectares North-Western Interior River Basin Haihe to more than 67 million hectares (table 5.3). River Basin Most of the rice production in China, which Yellow River Basin Huaihe heavily relies on irrigation, comes from the River Basin relatively water-abundant southern parts of South-Western River Basin China. Most of northern China receives suf- South-Eastern ficient rain for summer grain production dur- Yangtze River Basin River Basin ing normal years. Winter wheat production, River however, relies heavily on irrigation. Overall, River Basin Pearl River Basin it is estimated that 90 percent of China’s rice production is irrigated, as is 85 percent of total wheat production, 45 percent of maize production, and 30 percent of its soybean output (Fischer, Ermolieva, and Sun 2010). Notwithstanding the increase in irriga- IBRD 40998 | JUNE 2014 tion envisioned in China’s water resource This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other information shown on this map do not imply, on the part of The World Bank plan, water reallocation from agriculture to Group, any judgment on the legal status of any territory, or any endorsement or acceptance of such boundaries. urbanization is projected to cause a decrease in irrigated areas and a simultaneous expan- Source: J. Wang and others 2013. sion of rain-fed areas, if water policies remain unchanged. A one percentage point increase while this increase will be about 30 percent in the urban population will be associated in the Liao, Hai, and Northwest river basins. with a 0.63 percent decrease in total irri- The slowest change in water demand growth gated area for all crops, whereas while rain- will occur for domestic water demand in the fed areas will expand by 0.77 percent. This TABLE 5.2 Water supply, water demand, and water balance in China’s 10 major river basins, averaged over 2006–10 Water supply Water demand Water balance Share of Share of Share of Share of Share of agricultural industrial domestic Total surface water ground water Total water demand water demand water demand Water gap Gap rate River basin (108 m3) (percent) (percent) (108 m3) (percent) (percent) (percent) (108 m3) (percent) China 5,902 81 18 6,389 65 22 11 −487 −8 Liaohe 205 44 55 234 72 13 13 −29 −12 Songhuajiang 421 58 42 459 74 17 7 −39 −8 Hai 377 34 64 513 77 10 11 −136 −26 Huai 607 71 28 674 72 15 12 −67 −10 Yellow 388 66 33 453 76 13 9 −65 −14 Yangtze 1,946 95 4 1,992 50 36 13 −46 −2 Pearl 880 95 5 908 58 23 17 −28 −3 Southeast 338 97 3 351 50 34 14 −13 −4 Southwest 106 97 3 117 83 7 10 −10 −9 Northwest 633 82 18 688 91 3 3 −55 −8 Note: 108 m3 = 100 million cubic meters. CHINA’S URBANIZATION AND FOOD SECURIT Y 347 trend is projected across all river basin areas TABLE 5.3 Planned expansion of irrigation areas but would be most pronounced in the Song- 2010 2030 Planned expansion hua River Basin, where the respective change River basin (million hectares) (million hectares) (percent) will be a decrease of 2.04 percent of irrigated China 58.6 67.2 15 areas and an expansion of rain-fed areas Liao River 2.6 3.0 13 by 0.56 percent is projected. Irrigation area Songhua River 5.2 6.1 17 expansion targets may be difficult to achieve. Hai River 7.6 8.6 14 For China as a whole, average crop yield Huai River 11.1 11.9 7 is projected to decrease by 0.09 percent per Yellow River 5.3 6.8 28 1 percentage point increase in China’s urban Yangtze River 15.0 17.2 14 population, but the effects of urbanization Pearl River 4.3 5.0 14 on irrigated and rain-fed areas will differ Southeast River 2.1 2.3 13 between regions. Generally, productivity of Southwest River 0.9 1.1 18 irrigated areas is greater than that of rain-fed Northwest River 4.4 5.3 20 areas. Wheat will face the sharpest decline Sources: Ministry of Water Resources 2006–10, National Integrated Water Resources Plan trend for its irrigated areas, with a projected 2010–30. decrease of as much as 2.61 percent, while its rain-fed areas will increase by 4.37 percent, resulting in an estimated net yield reduction tor to result in any reduction in agricultural of 0.6 percent. The other important crops output. whose irrigated areas will be reduced are oil However, to really use water more effi- crops and rice. Their irrigated areas will be ciently, it is not sufficient to identify changes reduced by 1.61 percent and 0.68 percent, in water use technology, such as moving from respectively. In contrast, irrigated areas of flood to spray or drip irrigation, or to advo- soybean crops may increase by 3.56 percent, cate a move toward greater use of those tech- probably resulting from economic incentives nologies. Unless farmers have an incentive for soybean production on irrigated land in to move toward more efficient, and typically view of an overall reduction in water avail- more costly, forms of irrigation, they will be able for agriculture. extremely reluctant to do so. However, inter- China’s urbanization will significantly national experience has shown that introduc- reduce agricultural water use, all other ing the right management system can allow things being equal. Every 2 percentage point a large expansion in irrigated area with the increase in the urbanization rate is accom- same water supply (Easter and Liu 2005). panied by a 1 percentage point drop in the One way to increase water use efficiency is availability of water for agricultural use. to introduce pricing schemes that reduce the Improving water resources management in gap between what agricultural and nonagri- the agricultural sector will therefore become cultural users pay for water, as well as reduce even more important in the coming decade. the costs associated with the distribution of Wang and others (2005) estimate that only water to its point of use. The reallocation of 40 percent of the water allocated to irrigation water from low-valued uses to high-valued in China is actually used. And the potential uses is the key to achieving greater output for improvement is even greater given that from the available water. While retaining much of this 40 percent is used very inten- these advantages, water pricing schemes can sively, such as for flood irrigation. During the be modified to avoid creating large redis- 2000s, the amount of irrigation water—0.96 tributions of income—and particularly to cubic meters—used to produce 1 kilogram avoid hurting poor users—by policies such (kg) of grain was twice the amount used in as charging much less on an initial block of developed countries (Zhao and others 2008). water. Given the great potential for improved water If introducing water pricing is not politi- use efficiency in China, there may actually cally feasible, alternative arrangements, such be no need for the increased competition as water users’ associations, can be used to for water from the expanding urban sec- improve the efficiency of water use within 348 URBAN CHINA irrigation districts. Wang and others (2005) has been a particularly prominent feature of fi nd that these have been effective in reduc- China, emerging in the 1980s and 1990s. In ing irrigation water consumption where they the early 1980s, only 15 percent of China’s have been implemented in ways that pro- rural labor force had a job off the farm vide incentives for reductions in water use. (NSBC 2000). By 2000, the share of farmers Further progress on water use reform could working off the farm had reached 45 percent. substantially reduce water consumption and Another decade later, by 2011, more than 60 potentially allow significant increases in agri- percent of China’s rural labor force worked cultural output by allowing expansion of irri- off the farm (figure 5.11). In absolute terms, gation in some areas. of China’s 500 million rural laborers, more than 218 million worked off the farm, full or part-time, in 2000. Nearly 320 million Migration and rural labor, wages, worked off-farm in 2011. and mechanization Many of these farmers found employment Urbanization affects agricultural labor avail- in the wage-earning sector. They also found ability and agricultural production in com- or created off-farm jobs in the nonfarm self- plex ways. Labor costs in agriculture rise employed sector (Zhang and others 2006). because of growing demand for rural labor. Between 1980 and 2000, the number of rural Movement of labor out of agriculture is an workers that left home and found a wage- inherent and unavoidable part of the process earning job rose from 9.3 million to 56.0 of economic growth and urbanization. Con- million (de Brauw and others 2002). An esti- sumption patterns within the country shift, mated 60 million rural workers remained at and the share of spending on food drops home working in township and village enter- precipitately. Increased investment in the prises for a wage during this time (NSBC nonagricultural sector creates jobs and cre- 1990, 2000). The number of farmers who ates incentives for workers to move. Migra- started nonfarm self-employed enterprises tion out of rural areas into China’s cities may rose from 26 million to nearly 80 million also be stimulated by progress on reform of between 1980 and 2000. By 2000, there the hukou system3 and of land titling, which were far more self-employed migrants than would provide more flexibility for migrants migrant wage earners. Migration expanded to integrate into cities permanently. At the steadily and accelerated throughout the same time, rural township development 2000s. Although the global economic crisis may help offset or balance increases in rural of 2008 had some effect on migration, the labor costs. Rising wages also accelerate the process of mechanization of agriculture. If machines can replace farmers that are leav- FIGURE 5.11 Percentage of rural labor employed off the farm, 1995–2011 ing the agricultural sector, production need not be affected. In many areas across China, however, mechanization will remain a sig- 70 nificant challenge and its potential may be 60 limited because of topographical conditions, 50 such as small farmland plot size and inac- % of workforce cessibility in mountainous areas. Such con- 40 straints to mechanization will likely have 30 negative impacts on agricultural production as rural people move to the cities. 20 10 Migration and off-farm employment 0 1995 1999 2003 2007 2011 Rural to urban migration and the emergence of off-farm employment have been important Complete sample in China’s transformation over the past two decades. The rise of off-farm employment Source: X. Wang, Huang, and Rozelle 2013. CHINA’S URBANIZATION AND FOOD SECURIT Y 349 TABLE 5.4 Proportion of rural laborers working FIGURE 5.12 Manufacturing wages, 1994–2008 off-the-farm, by age cohort, 2011 Age cohort Total Male Female 4,500 4,231 16–20 77.0 81.3 72.0 4,000 21–30 77.6 92.3 62.1 3,481 3,500 31–40 74.3 88.4 58.7 2,849 US$ per year 41–50 59.5 79.0 39.4 3,000 51–60 38.4 55.4 21.4 2,500 2,338 2,833 61 and above 26.2 37.2 13.7 2,000 2,018 1,638 Source: X. Wang, Huang, and Rozelle 2013. 1,500 1,180 1,000 1,075 497 impact was short-lived (Chan 2010; Huang 500 481 and others 2011). In 2011, off-farm labor 367 433 0 force participation was in the range of 80–90 1994 1998 2002 2006 2008 percent for male workers below the age of 40 and between 60 percent and 70 percent for China India Philippines Thailand female workers (table 5.4). Source: Li and others 2012. Rural wages T he average wage earned by China’s TABLE 5.5 Hourly wage rate of rural migrant workers across unskilled rural laborers remained fairly sta- regions in 2011 ble until the late 1990s but then started to Hourly wage (RMB) increase (Li and others 2012; see figure 5.12). Location Sample Mean Sd. Hourly wages for migrant workers increased by 32 percent between 2001 and 2005 (Cai By province and Wang 2010). Despite China’s regional Jiangsu 612 11 8 heterogeneity, wage differentials for rural Sichuan 559 10 10 Shaanxi 549 11 10 migrants have been observed to be small Jilin 393 11 9 across rich, medium, and poor counties (table Hebei 413 10 8 5.5). Remarkably, there is at most a 10 per- By region cent gap in average wages between counties, East 612 11 8 indicating that China’s labor markets may no Central 806 10 9 longer be very fragmented and that further West 1,108 10 10 pressure on agricultural labor costs is likely By county economic level across the country. For example, wage earn- First quintile (highest GVIO) 494 11 10 ers from the heavily industrialized Jiangsu Second quintile 555 11 9 province earned an average hourly wage of Third quintile 483 10 8 RMB 11 in 2011, only 10 percent higher than Fourth quintile 482 10 7 Fifth quintile (lowest GVIO) 512 11 11 that of a worker in the relatively undeveloped By job location Sichuan or Shaanxi provinces (RMB 10). The Own county 1,248 10 9 wage gap is equally narrow when comparing Outside county 636 11 8 wage earners from sample regions in eastern, Other province 642 12 10 central, and western China. Total number of observations 2,526 Source: X. Wang, Huang, and Rozelle 2013. Note: GVIO = gross value of industrial output. Agricultural mechanization With the introduction of the Household Responsibility System in 1979, which allowed decreased because households made more rural households to contract collective farm- use of hand labor and draught animals at the land for private profit-oriented farming , farm level rather than renting costly machin- the level of farm mechanization initially ery from the collectives. Between 1979 and 350 URBAN CHINA FIGURE 5.13 Trends in mechanical operation, 1970–2011 1983, the area of mechanically plowed land declined by around 8 million hectares. But a. Mechanical plowing as off-farm employment become promi- 110 80 nent in the 1990s, China’s farmers restarted 100 70 mechanization. Over the past two decades, 90 the area of land mechanically plowed has 60 80 doubled, growing at an annual rate of more 70 than 3 percent. In 2011 more than 72 percent Ha (millions) 50 Percent 60 40 of cultivated land was plowed mechanically. 50 30 Mechanically sown areas doubled during the 40 30 1990s while those with mechanical harvest- 20 20 ing almost tripled. In 2011, more than 40 10 10 percent of cultivated land was mechanically 0 0 sown and harvested (figure 5.13). 1970 1975 1980 1985 1990 1995 2000 2005 2010 The process of mechanization is driven Year by changes in relative prices, particularly Mechanically plowing area The share of mechanically plowing the wage rate of off-farm labor. Average on- (left axis) area to total cultivated area (right axis) farm labor cost grew by 8 percent annually between 1997 and 2008, and wage growth b. Mechanical sowing 80 50 has since accelerated to more than 10 percent 45 (figure 5.14). Wage growth in the manufac- 70 40 turing sector and expansion of mechaniza- 60 tion in agriculture have been on similar trend 35 paths, in line with findings for developed Ha (millions) 50 30 Percent 40 25 countries, such as Japan and Korea (Otsuka 20 2013). Investments in agricultural machin- 30 15 ery and migration are also closely related (de 20 Brauw and Rozelle 2008; Li and others 2012; 10 10 5 Taylor, Rozelle, and de Brauw 2003). 0 0 Labor-saving technology allows labor to 1980 1985 1990 1995 2000 2005 2010 be used for nonfarm activities and to access Year new sources of income. It also changes the Mechanically sowing area The share of mechanically sowing (left axis) area to total sown area (right axis) FIGURE 5.14 Average daily cost of on-farm labor, c. Mechanical harvesting 1997–2012 70 45 40 60 50 35 RMB per day (constant 2005 prices) 50 30 Ha (millions) 40 40 Percent 25 30 20 30 15 20 10 20 10 5 0 0 10 1980 1985 1990 1995 2000 2005 2010 Year 0 Mechanically reaping area The share of mechanically reaping 1997 2000 2003 2006 2009 2012 (left axis) area to total sown area (right axis) Source: National Development and Reform Commission (NDRC) Source: X. Wang, Huang, and Rozelle 2013. Cost and Revenue in Agricultural Production database. CHINA’S URBANIZATION AND FOOD SECURIT Y 351 composition of the labor input in produc- FIGURE 5.15 Trends in labor input by commodity, 1997–2012 tion. Under pressure from on-farm labor costs, the number of days that China’s farm- 80 ers have devoted to on-farm work has fallen 70 substantially. By the mid-2000s, the aver- 60 age labor days per hectare had fallen to less than 100 days per hectare, less than half the 50 day/mu amount used in the 1990s (de Brauw and 40 others 2013). In grain production, the labor 30 input in 2012 was less than half of that in 20 1997. In soybean production, the number of total working days on one unit of land (mu, a 10 Chinese unit equivalent to about 667 square 0 meters) was only three days in 2012. Even 1997 2000 2003 2006 2009 2012 for labor-intensive crops, such as cotton, veg- Rice Wheat Corn etables, and fruit, on-farm work days have Soybean Rapeseed Cotton declined at an annual rate of 2–4 percent Sugarcane Apple Vegetable (figure 5.15). Mechanization has increased rapidly across all crops, particularly after Source: NDRC Cost and Revenue in Agricultural Production database. 2003. Measured by expense per mu (RMB/ mu) and as a share of expenses on machin- ery to total input (excluding labor and land), FIGURE 5.16 Expenditures on mechanization by commodity, China’s smallholders are increasingly sub- 1997–2012 stituting agricultural machinery for labor to organize farm production (figures 5.16 and 140 5.17). Small-size machinery generally domi- 120 nates current mechanization trends, as a con- sequence of small farm sizes, land fragmen- 100 tation, and weak land rental markets that RMB/mu 80 slow down consolidation. Privately operated 60 machinery services, so-called specialized cus- tom plowers, planters and harvesters teams, 40 have emerged widely across China. 20 In some areas, mechanization and tech- nological improvements that raise yields will 0 allow agriculture to retain labor. In other 1997 2000 2003 2006 2009 2012 areas, where mechanization is more difficult, Rice Wheat Corn it will be difficult to adjust to higher wage Soybean Rapeseed Cotton Sugarcane Apple Vegetable rates. The shift in labor input in agricultural pro- duction also shows clear gender traits. Female Source: NDRC Cost and Revenue in Agricultural Production database. labor on average dominated in both rice and wheat production from 2002 to 2010, except 2010 (in wheat production). Female farmers Under the government’s agricultural work more days on-farm than male farm- mechanization policy, subsidies for agricul- ers across all farm activities, including sow- tural machinery increased dramatically from ing, spraying pesticide, and weeding. Despite RMB 0.07 billion in 2004 to RMB 21.5 bil- the overall reduction in on-farm labor input, lion in 2012. On average, 7.3 percent of the there are clear signs that China’s smallholder total purchase price of farm machinery is agricultural production has become more covered by government subsidies (table 5.6). dominated by female farmers since the early However, machinery purchase is motivated 2000s (de Brauw and others 2013). less by government subsidies and more by 352 URBAN CHINA FIGURE 5.17 Share of mechanization expenditure to total types of land. China has succeeded in retain- expenditure on physical input by different crops, 1997–2012 ing sufficient arable land for agricultural production and in supplying land for urban- 40 ization at the same time. But China has also 35 experienced significant changes in its arable land over the past two decades, with both 30 the conversion of agricultural land to urban 25 and industrial uses and the conversion of Percent 20 nonfarmland into arable land, which requires 15 careful analysis of the aggregate combined effects. Overall, the changes in total arable 10 land area have slightly reduced China’s agri- 5 cultural production potential (or bioproduc- 0 tivity), as high-value farmland in eastern 1997 2000 2003 2006 2009 2012 coastal provinces was converted to nonagri- Rice Wheat Corn cultural use while other land, often of lower Soybean Rapeseed Cotton quality, was reclaimed for farming in other Sugarcane Apple Vegetable regions of China. Between 1988 and 2000, China recorded Source: NDRC Cost and Revenue in Agricultural Production database. a net increase of cultivated land of 1.9 per- cent, which almost offset the decrease of 2.2 percent in agricultural production potential (bioproductivity) through land conversion. the need to save labor and to allow house- During this period, 3.06 million hectares of hold members remaining in the countryside farmland were converted to nonfarm uses, to transfer their labor to other activities. accounting for 2.2 percent of China’s total cultivated land (figure 5.18). The annual aver- age conversion rate was 0.16 percent over this Urbanization, arable land, and land period. About 38 percent (or 1.2 million hect- productivity ares; 0.08 percent of total cultivated land) of One of the links between urbanization and this land was converted to built-up areas, 17 agriculture that has received the most atten- percent was converted to forestland, 30 per- tion is the conversion of agricultural into cent to grassland, and 16 percent to other urban land. This process is very complex, types of land. At the same time, 5.7 million involving higher-density urban living areas hectares of new farmland was created, a gross replacing lower density rural living areas, the expansion of 4.1 percent. Grassland conver- transfer of land from agricultural to urban sion accounted for 55 percent of the newly uses, and even new land entering agriculture. created cultivated land, forestland for 28 per- A key issue in making an assessment is the cent, and reclaimed wetland or wasteland for need to compare the productivity of different around 17 percent. Overall, China’s agricul- TABLE 5.6 Machinery subsidies in China, 2008 Households Average Number of Proportion that expenditure households with of subsidy purchased on machinery machinery Machinery to total Categories machinery (RMB) Subsidies subsidy (RMB) expense (%) Lower quartile (< RMB 60 ) 59 42.9 0 0.0 0.0 Median (RMB 60–400 ) 50 176.6 0 0.0 0.0 3rd quartile (RMB 400–2,055 ) 53 1,078.9 1 400.0 44.4 Upper quartile (> RMB 2,055) 54 8,366.5 6 3,313.3 24.4 Overall 216 2,408.9 7 2,897.1 7.3 Source: X. Wang, Huang, and Rozelle 2013. CHINA’S URBANIZATION AND FOOD SECURIT Y 353 FIGURE 5.18 Land conversion trends, 1988–2000 FIGURE 5.19 Land conversion trends, 2000–08 Unused land Unused land Built-up area Built-up area Water area Water area Grassland Grassland Forestry area Forestry area Total Total –2 –1 0 1 2 3 4 5 6 7 –1.0 –0.5 0 0.5 1.0 1.5 Ha (millions) Ha (millions) Cultivated land being converted to: Cultivated land being converted to: Cultivated land being converted from: Cultivated land being converted from: Net change Net change Source: Deng, Huang, and Rozelle 2013. Source: Deng, Huang, and Rozelle 2013. tural production potential declined slightly saw high conversion rates to urban industrial, by 0.3 percent between 1988 and 2000. infrastructure, and residential uses. During In comparison, from 2000 to 2008, total the same period, large areas of farmland, cultivated land area decreased by 0.47 per- often farmland of marginal productivity in cent, and agricultural production potential upland areas, was converted to forested areas declined by 1.70 percent. A total of 1.24 mil- in the course of the government’s National lion hectares of farmland was converted to Slopeland Conversion Program. nonagricultural use, at an annual rate of 0.16 During 1988–2000, large tracts of wet- million hectares. At the same time, 0.66 mil- lands and other noncultivated lands were lion hectares of farmland was newly created, converted to farmland in northeast China, resulting in a net loss of 0.58 million hectares especially in Heilongjiang province. Com- of cultivated land (figure 5.19). Compared to pared to this period, fewer tracts of land were the previous period, the share of cultivated converted to cultivated land during 2000–08, land converted into built-up areas to total as maps 5.2 through 5.5 show. Such conver- land conversion increased significantly. sion slowed considerably although additional A large share of the conversion of farm- farmland was still created in northwestern land to nonfarm uses, particularly in built-up China, the western parts of Xinjiang, and areas, has occurred in China’s coastal prov- Heilongjiang. inces and around large cities. The munici- Overall, China’s agricultural production palities of Beijing and Shanghai and Zhejiang potential has changed as a result of the con- province saw conversion rates above 5 percent version of various types of land of varying soil during 1986–2000. But since these jurisdic- quality conditions into and out of cultivation tions are small in comparison to other prov- across the different regions of China (box inces, the loss of farmland represented less 5.1). During 1988–2000, the impact of land than 0.2 percent of China’s total cultivated conversion on China’s agricultural produc- area. During 2000–08, Shanghai and Shan- tion potential was negligible but after 2000, dong experienced the highest conversion rates the net change in potential agricultural pro- and net loss in farmland. Chengdu, Chongq- ductivity became more important. Between ing, Xian, and other provincial capitals also 2000 and 2008, aggregated for China’s total 354 URBAN CHINA MAP 5.2 Land conversion: From cultivated land to other uses, cultivated area, the total production potential 1988–2008 fell by 32.9 billion kcal, or by around 1.7 per- cent, as compared to only 5.8 billion kcal (or 0.3 percent) during 1988–2000) (table 5.7). About 97 percent of the decrease in agri- Heilongjiang cultural production potential between 2000 Jilin and 2008 was due to the conversion of high- Xinjiang quality cultivated land to built-up areas. This gol Liaoning Nei Mon BEIJING high percentage is because mostly high qual- Hebei Tianjin ity (plain) farmland was being converted to Qinghai Ningxia Shanxi Shandong nonfarming uses. The decline in production Gansu Henan Jiangsu potential was also because much of this land Shaanxi Xizang Anhui Shanghai is located in southeastern and eastern prov- Hubei Sichuan Chongqing Zhejiang inces where climatic conditions allow for Cultivated land converted to: Hunan Jiangxi two planting seasons per year. Land in the Guizhou Fujian Forestry area south and east is also less steep and receives Yunnan Taiwan Grassland Guangxi Guangdong more precipitation. Developed areas in the Water area Hong Kong SAR Macao SAR North China Plain, including Beijing and Built-up area Hainan Tianjin municipalities, also experienced large Unused land declines in production potential (figure 5.20). no data The recent conversion of cultivated land into built-up areas has not compromised IBRD 40999 | JUNE 2014 This map was produced by the Map Design Unit of The World Bank. China’s ability to feed itself. China has also The boundaries, colors, denominations and any other information shown on this map do not imply, on the part of The World Bank Group, any judgment on the legal status of any territory, or any retained its capacity to improve agricultural endorsement or acceptance of such boundaries. production through conversion of nonfarm- land into farmland and through increasing yields and productivity on existing culti- MAP 5.3 Land conversion: From cultivated land to other uses, vated land. From the perspective of China’s 2000–08 national food security, a ban on land con- version is not warranted. However, rural land conversions rates have continued and even accelerated during the past five years Heilongjiang (2008–12) and pressure on China’s farmland resources will inevitably continue as the con- Jilin version of cultivated land to other uses con- Xinjiang gol Liaoning tinues in the urbanization process. Simula- Mon Nei BEIJING Hebei Tianjin tion results indicate that a 1 percentage point Ningxia Shanxi Shandong increase in China’s urbanization rate will Qinghai Gansu Henan Jiangsu cause a decline of 0.065 percent of China’s Shaanxi Xizang Anhui Shanghai cultivated area and a 0.067 percent decline Sichuan Hubei Zhejiang in China’s agricultural production potential. Chongqing Cultivated land converted to: Hunan Jiangxi In general, the conversion of land for pur- Fujian Forestry area Guizhou poses of higher economic value than agri- Yunnan Taiwan Grassland Guangxi Guangdong culture is a natural element of the urbaniza- Hong Kong SAR Water area Macao SAR tion process. China therefore needs careful Built-up area Hainan management and planning to facilitate more Unused land rational land use in both the short and long no data term, given the likely pressures to continue to convert land. Good development policy, in IBRD 41000 | JUNE 2014 This map was produced by the Map Design Unit of The World Bank. general, and food policy, in particular, will The boundaries, colors, denominations and any other information shown on this map do not imply, on the part of The World Bank Group, any judgment on the legal status of any territory, or any not demand halting the conversion of culti- endorsement or acceptance of such boundaries. vated land but rather require that the process CHINA’S URBANIZATION AND FOOD SECURIT Y 355 of conversion is done rationally and that the MAP 5.4 Land conversion: From other uses to cultivated land, productivity of the remaining resources in the 1988–2000 agricultural sector is improved. Supply, changing consumption, Heilongjiang and demand Jilin Projecting agricultural production, Xinjiang gol Liaoning Mon output, and supply under urbanization Nei BEIJING Tianjin Hebei Despite resource constraints, the aggregate Ningxia Shanxi Shandong Qinghai effects of China’s urbanization on the domes- Gansu Henan Shaanxi Jiangsu tic production of major agricultural products Xizang Anhui Shanghai are projected to be modest. China’s urban Sichuan Hubei Zhejiang Chongqing population is projected to reach 67 percent of Cultivated land converted from: Hunan Jiangxi the total population by 2030, increasing by Forestry area Guizhou Fujian Yunnan Taiwan roughly 1 percentage point per year. Urban- Grassland Guangxi Guangdong Hong Kong SAR ization will affect the availability of agri- Water area Macao SAR Built-up area cultural production factors, such as water, Hainan Unused land land, and labor and will have an impact on no data agricultural production, in various ways, as discussed in the previous section. China’s agriculture will also face challenges asso- IBRD 41001 | JUNE 2014 This map was produced by the Map Design Unit of The World Bank. ciated with high environmental pollution The boundaries, colors, denominations and any other information shown on this map do not imply, on the part of The World Bank Group, any judgment on the legal status of any territory, or any levels. A one percentage point increase in endorsement or acceptance of such boundaries. China’s urban population—after taking into account the combined effects of urbaniza- tion on agricultural water distribution and MAP 5.5 Land conversion: From other uses to cultivated land, availability, arable land loss through conver- 2000–08 sion and changes in bioproductivity, rising rural wages, and other factors—is projected to result in a 0.18 percent decrease in total domestic grain output to 2020 (table 5.8). Heilongjiang Water redistribution between sectors, farm- Jilin land conversion, and rising labor costs will Xinjiang contribute equally to this decrease in grain gol Liaoning Mon Nei BEIJING output. As China’s urban population rises Tianjin Hebei to 67 percent by 2030 (from 52 percent in Ningxia Shanxi Shandong Qinghai 2012) total domestic grain output is pro- Gansu Shaanxi Henan Jiangsu jected to decline by about 2.7 percent from Xizang Shanghai Anhui 2012 levels. Sichuan Hubei Zhejiang Chongqing The impact of resource constraints will Cultivated land converted to: Hunan Jiangxi vary from crop to crop. Domestic rice Forestry area Guizhou Fujian Taiwan production will suffer most, with output Grassland Yunnan Guangxi Guangdong Hong Kong SAR declining by 0.34 percent to 2020 for each Water area Macao SAR Built-up area 1 percentage point increase in the urban Hainan Unused land population, mainly because of the change in no data water distribution, which contributes nearly three quarters to the fall in output. Outputs of wheat and corn are projected to decrease IBRD 41002 | JUNE 2014 This map was produced by the Map Design Unit of The World Bank. slightly, by 0.17 percent and 0.18 percent The boundaries, colors, denominations and any other information shown on this map do not imply, on the part of The World Bank Group, any judgment on the legal status of any territory, or any respectively, by 2020 against the 2012 base- endorsement or acceptance of such boundaries. 356 URBAN CHINA BOX 5.1 Agro-ecological zones methodology In addition to estimates of the quantity of the cul- • Grassland. Lands covered by herbaceous plants tivated land conversion, another technique is to with coverage greater than 5 percent and mixed estimate changes in the potential productivity of rangeland with coverage of shrub canopies of less cultivated land. The Agro-Ecological Zones (AEZ) than 10 percent. methodology is a commonly used method of calculat- • Water area. Land covered by natural water bodies ing potential productivity. As with any of the alterna- or land with facilities for irrigation and water res- tive methods for estimating potential productivity, a ervation, including rivers, canals, lakes, permanent number of assumptions are needed about the crops glaciers, beaches and shorelines, and others. or mix of crops that can be produced on each plot of • Built-up area. Land used for urban and rural settle- land. ments, industry, and transportation. In this study, the following classification system of • Unused land. All remaining land. land use categories was used: Data inconsistencies should be expected because dur- • Cultivated land. Original data include both paddy ing the past three decades a number of different agen- and nonirrigated uplands, which is aggregated into cies have had responsibility for managing China’s total cultivated land for this study. land. Without access to quality data from traditional • Forestry area. Natural or planted forests with statistical databases, this study relies on methods that canopy covers greater than 30 percent; land cov- use Landsat Thematic Mapper/Enhanced Thematic ered by trees less than 2 meters high with a canopy Mapper (TM/ETM) data to generate estimates of cover greater than 40 percent; land covered by trees changes in land quantity and quality. with canopy cover between 10 percent and 30 per- cent; and land used for tea gardens, orchards, and nurseries. TABLE 5.7 Change in total production potential by province, 2000–08 Total Net Total Net production Increase Decrease change production Increase Decrease change potential (billion (billion (billion Percentage potential (billion (billion (billion Percentage Province in 2000 kcal) kcal) kcal) change Province in 2000 kcal) kcal) kcal) change Beijing 3,306 3.4 280.8 −277.3 −8.39 Hunan 140,173 2.0 1,215.1 −1,213.0 −0.87 Tianjin 6,029 1.9 139.7 −137.8 −2.29 Guangdong 87,407 37.5 2,164.7 −2,127.2 −2.43 Hebei 7,1046 122.6 914.9 −792.3 −1.12 Guangxi 113,488 31.5 787.1 −755.7 −0.67 Shanxi 34,631 1.4 798.4 −797.0 −2.30 Hainan 15,939 23.0 131.1 −108.1 −0.68 Inner Mongolia 39,410 460.6 118.8 341.7 0.87 Chongqing 55,991 23.7 2,111.1 −2,087.3 −3.73 Liaoning 34,965 40.6 221.4 −180.9 −0.52 Sichuan 175,027 68.9 1,553.0 −1,484.1 −0.85 Jilin 32,929 71.9 155.8 −83.9 −0.25 Guizhou 63,814 27.6 1,103.9 −1,076.3 −1.69 Heilongjiang 58,986 1,380.2 802.8 577.4 0.98 Yunnan 67,706 94.4 981.6 −887.2 −1.31 Shanghai 8,160 0.0 1,993.9 −1,993.9 −24.43 Tibet 1,937 0.0 1.3 −1.3 −0.07 Jiangsu 109,240 28.0 8,319.2 −8,291.2 −7.59 Shaanxi 40,855 170.1 550.1 −380.1 −0.93 Zhejiang 66,373 15.7 1,673.6 −1,657.9 −2.50 Gansu 32,379 316.6 408.1 −91.5 −0.28 Anhui 135,361 535.9 3,594.5 −3,058.6 −2.26 Qinghai 2,854 4.6 21.6 −17.0 −0.59 Fujian 47,871 18.0 1,220.3 −1,202.3 −2.51 Ningxia 9,632 249.4 215.2 34.2 0.35 Jiangxi 105,507 633.2 1,060.9 −427.6 −0.41 Xinjiang 30,567 1,781.6 46.1 1,735.6 5.68 Shandong 96,332 166.4 2,967.0 −2,800.6 −2.91 Taiwan, China 13,437 69.0 181.8 −174.9 −1.30 Henan 111,160 99.3 1,243.1 −1,143.8 −1.03 Hubei 147,401 31.9 2,371.1 −2,339.3 −1.59 Total 1,959,913 6,449 39,348 −32,899 −1.68 CHINA’S URBANIZATION AND FOOD SECURIT Y 357 line. Soybean output, in contrast, is expected FIGURE 5.20 Changes in agricultural production potential, to increase by 1.63 percent. Negative effects 2000–08 on total soybean output caused by decreas- ing arable land availability and escalating Forestry labor costs (−0.33 percent) are expected to area be offset by water redistribution to soybean production, in response to high returns from Grassland soy production. Water Vegetable oil, sugar, vegetable, and fruit area output will also be affected, but output Built-up declines are projected to be modest. For area every 1 percentage point increase in the Unused urban population, domestic output will land decline by 0.36 percent for vegetable oil, 0.30 percent for sugar, 0.13 percent for vege- 00 –3 0 –3 0 –2 0 –2 0 –1 0 –1 0 00 0 0 00 0 0 0 0 0 0 0 ,00 ,00 5,0 0,0 5,0 0,0 5,0 0,0 5,0 0,0 5,0 –5 10 tables, and 0.1 percent for fruit. Vegetable oil –4 –4 and sugar will suffer more than vegetables kcal (billions) and fruit mainly because of water redistri- Decrease due to cultivated Increase due to cultivated Net bution away from agriculture. Lower water land being converted to: land being converted from: changes availability will drive vegetable oil and sugar outputs down by 0.19 percent and 0.13 per- Source: Deng and others 2013. cent, respectively, while the impact on veg- etables and fruit will be small. By 2030, the cumulative impact of urbanization on these TABLE 5.8 Impact of a 1 percentage point increase in China’s agricultural goods will be between 1.5 per- urbanization rate on China’s domestic food production to 2020 cent and 5.4 percent. Animal production and Decomposition of impacts of urbanization aquaculture will experience relatively little Water resource impact. Urbanization will cause livestock constraints Farmland Rising Food Total impacts usage conversion labor cost and aquaculture production to decrease by 0.11 percent and 0.14 percent respectively, Grains −0.18 −0.06 −0.06 −0.07 for every 1 percentage point increase in Rice −0.34 −0.25 −0.04 −0.05 China’s urban population. From 2012 to Wheat −0.17 −0.09 −0.04 −0.04 2030, the total impact of urbanization on Corn −0.18 −0.02 −0.07 −0.09 animal and aquaculture products will be a Soybeans 1.31 1.64 −0.20 −0.13 decrease in output of between 1.7 percent Vegetable oils −0.36 −0.19 −0.10 −0.07 and 2.0 percent. The main driver of declin- Sugar −0.30 −0.13 −0.09 −0.08 ing output in the livestock sector will be ris- Vegetables −0.13 −0.03 −0.06 −0.05 ing labor costs. The structural and quanti- Fruits −0.10 0.00 −0.06 −0.04 tative changes in China’s food production Pork −0.11 −0.01 −0.02 −0.09 will require additional food imports, driven Beef −0.11 0.00 −0.01 −0.09 mainly by imports of feed grains, especially Poultry −0.12 −0.01 −0.03 −0.09 corn. Imports of rice and wheat are projected Dairy products −0.14 −0.01 −0.02 −0.12 to be modest given the decline in overall per Fishery products −0.11 0.00 −0.01 −0.10 person demand for these grains by 2030. Source: CAPSiM results. China’s needs for imports of agricultural products are within the capacity of China’s existing trade partners for maize, soybeans, imports will be small and serious concerns and dairy products. about China’s food self-sufficiency do not Urbanization impacts on agriculture will seem warranted (table 5.9). Urbanization lead to slightly higher imports of agricul- leads to lower domestic output of many agri- ture products and reduce China’s food self- cultural products, as well as to higher prices sufficiency. However, overall reliance on and decreased international competitiveness. 358 URBAN CHINA TABLE 5.9 China’s supply and demand of agricultural products in 2012, 2020, and 2030 Thousands of tons Major grains Indicator Graina Rice Wheat Corn Soybeanb 2012 Sown area 111,267 30,244 24,421 33,842 7,407 Production 589,570 142,965 120,580 208,190 13,600 Inventory change 72,152 27,683 11,595 14,863 7,027 Import 86,890 2,369 3,701 5,208 67,530 Export 2,830 279 0 257 385 Net import 84,060 2,090 3,701 4,951 67,145 Total demand 601,477 117,372 112,686 198,278 73,718 Food demand 316,804 95,727 72,648 15,791 71,560 Per capita food demand (kg/person) 445.3 70.9 53.8 11.7 53.0 Fodder grain demand 158,048 6,283 18,398 119,986 656 Seed demand 12,517 2,219 5,757 1640 688 Industrial demand 90,202 7,055 11,318 53,000 719 Waste 23,907 6,088 4,564 7861 94 Self-sufficiency rate (percent) 87.5 98.6 97.0 97.7 16.8 2020 Sown area 101,968 24,953 21,536 33,561 7,424 Production 568,122 120,449 110,339 224,070 14,966 Import 108,918 1,244 2,628 19,794 79,536 Export 3,086 531 0 140 327 Net import 105,832 712 2,628 19,654 79,209 Total demand 673,954 121,161 112,967 243,724 94,175 Food demand 337,018 99,656 71,090 10,857 91,800 Per capita food demand (kg/person) 479.3 70.9 50.6 7.7 65.3 Fodder grain demand 191,754 5,525 18,503 155,896 738 Seed demand 12,324 2,184 5,666 1,627 677 Industrial demand 109,875 7,947 13,323 67,791 868 Waste 22,983 5,849 4,385 7,552 92 Self-sufficiency rate (percent) 84.3 99.4 97.7 91.9 15.9 2030 Sown area 94,939 21,874 19,355 33,642 6,858 Production 563,021 109,314 102,729 243,298 14,972 Import 140,413 1,079 2,459 42,096 89,472 Export 3,168 613 0 97 290 Net import 137,245 466 2,459 41,999 89,181 Total demand 700,267 109,781 105,188 285,296 104,153 Food demand 318,224 88,844 63,072 6,629 101,613 Per capita food demand (kg/person) 491.0 62.3 44.2 4.7 71.3 Fodder grain demand 208,466 4,010 16,929 178,769 729 Seed demand 12,086 2,140 5,554 1,611 664 Industrial demand 139,612 9,223 15,462 91,105 1,058 Waste 21,879 5,563 4,171 7,183 89 Self-sufficiency rate (percent) 80.4 99.6 97.7 85.3 14.4 Source: CAPSiM results. Note: kg/person = kilograms per person. As a result, China’s agricultural imports will ume is projected to increase by 275,000 tons increase, and exports will decrease. However, for each percentage point increase in China’s the projected increases in imports for rice, urban population, which is small relative to wheat, and other products (except soybeans) the current total imports of 105.8 million will be small (table 5.10). Grain import vol- tons, annually. CHINA’S URBANIZATION AND FOOD SECURIT Y 359 Rural-to-urban migration: Changing per TABLE 5.10 Impact of a 1 percentage point increase in China’s capita food consumption patterns urban population on China’s international trade to 2020 Export Import China’s urbanization will affect food Net import Percent 1,000 tons Percent 1,000 tons (1,000 tons) demand through income growth resulting from economic growth and development, as Grains −0.93 −26.69 0.23 248.58 275.3 discussed earlier. Urbanization will also, of Rice −2.83 −14.6 2.75 35.2 49.8 course, involve the migration of rural resi- Wheat −1.94 0.0 1.89 50.9 50.9 dents to urban areas. How will consumption Corn −0.57 −0.8 1.18 233.5 234.3 patterns of rural residents change as they Soybean 0.12 0.4 –0.11 −95.8 −96.2 enter the cities? What effects will rural-to- Vegetable oils −0.87 −0.2 0.88 17.8 18.0 urban migration have on food consumption? Sugar −0.90 −0.6 0.87 26.3 26.9 Food consumption patterns differ between Vegetables −0.69 −44.5 0.70 4.5 49.1 urban and rural residents in China. Food Fruits −0.58 −21.2 0.60 25.3 46.5 grain consumption (at home) in rural areas is Pork −0.46 −0.3 0.46 3.4 3.7 higher than in urban areas at the same level Beef −1.00 0.0 0.95 1.6 1.6 of income. Urban residents consume less Poultry −0.48 −0.9 0.50 0.3 1.2 rice, wheat, and other grains but consume Dairy products −0.23 −0.1 0.20 23.6 23.7 substantially more dairy products, eggs, Fishery products −0.30 −9.2 0.27 8.1 17.3 edible oils, fruit, and vegetables than rural Source: CAPSiM results. residents. But food consumption data does not show marked differences in consump- tion of poultry, beef, mutton, and aquacul- tion has increased by 12.5 percent during ture products between rural and urban areas 2005–11. Such inconsistencies—constant or (figure 5.21). slightly increasing consumption per capita Food consumption per capita in both against fast output growth and imports— rural and urban areas is generally underes- also exist for other agricultural commodities. timated because current data4 describe only Analyzing food consumption away from consumption patterns at home but do not home helps explain these inconsistencies. reflect consumption away from home. From Food consumption of urban residents has 2000 to 2010, consumption data indicate increased substantially over the past 10 years, that per capita food grain consumption of if consumption away from home is taken in urban residents decreased by 1 percent, from account. Expenditure on consumption away 82.3 kg to 81.5 kg. Per capita grain consump- from home has risen markedly with increasing tion of rural residents decreased by a much urban incomes, and consumption away from greater amount over the same period, from home has become an important component 250 kg to 181 kg, or by 28 percent. Accord- of consumption of urban residents. Accord- ing to national statistics, per capita pork ing to survey data on food consumption in consumption of urban residents remained six large cities during 2007–11, 5 expendi- nearly constant from 2005 (20 kg) to 2011 ture on urban residents’ food consumption (21 kg), whereas consumption in rural areas away from home accounts for 35 percent of decreased by nearly 8 percent from 16 kg total food expenditure, whereas consump- (2005) to 14 kg (NSBC 2011). Notwithstand- tion away from home accounts for between ing population growth, such decreases in 20 and 30 percent of total food consumption. consumption, however, contrast with China’s Food consumption also clearly differs accord- continuously increasing grain (rice, wheat) ing to whether an urban resident is at home output and imports over the past decade. or away from home. Urban residents con- Domestic pork production, however, grew by sume more meat and beverages at home, but 11 percent, while imports grew from 295,000 fewer fruits and vegetables when they eat out tons in 2005 to 387,000 tons in 2011. When (figure 5.22). Similar shares can be expected comparing consumption with supply (pro- for rural areas, possibly confirming that real duction plus import), China’s pork consump- consumption has been underestimated. 360 URBAN CHINA FIGURE 5.21 Per capita consumption of various agricultural products in response to income growth a. Cereal b. Pork Per capita consumption (kg) Per capita consumption (kg) 250 35 30 200 25 150 20 100 15 10 50 5 0 0 0 5 10 15 20 25 30 0 5 10 15 20 25 30 Per capita income (1,000/RMB) Per capita income (1,000/RMB) c. Poultry d. Beef 35 35 Per capita consumption (kg) Per capita consumption (kg) 30 30 25 25 20 20 15 15 10 10 5 5 0 0 0 5 10 15 20 25 30 0 5 10 15 20 25 30 Per capita income (1,000/RMB) Per capita income (1,000/RMB) e. Edible oil f. Milk 16 40 Per capita consumption (kg) Per capita consumption (kg) 14 12 30 10 8 20 6 4 10 2 0 0 0 5 10 15 20 25 30 0 5 10 15 20 25 30 Per capita income (1,000/RMB) Per capita income (1,000/RMB) g. Egg h. Aquatic product 40 Per capita consumption (kg) Per capita consumption (kg) 15 12 30 9 20 6 10 3 0 0 0 5 10 15 20 25 30 0 5 10 15 20 25 30 Per capita income (1,000/RMB) Per capita income (1,000/RMB) Rural Urban Source: J. Huang and others 2013. Note: Rural family population—live more than six months. CHINA’S URBANIZATION AND FOOD SECURIT Y 361 FIGURE 5.22 Food consumption at home and away from home for urban residents by income a. Expenditure b. Quantity 200 14 12 150 10 RMB/person kg/person 8 100 2 4 50 2 0 0 Q1 Q2 Q3 Q4 Q5 Q1 Q2 Q3 Q4 Q5 Per capita income by quintile Per capita income by quintile c. Grain d. Meat 3.0 1.6 1.4 2.5 1.2 kg/person/week kg/person/week 2.0 1.0 1.5 0.8 0.6 1.0 0.4 0.5 0.2 0 0 Q1 Q2 Q3 Q4 Q5 Q1 Q2 Q3 Q4 Q5 Per capita income by quintile Per capita income by quintile e. Aquatic f. Vegetables 0.6 1.8 0.5 1.6 kg/person/week 0.4 RMB/person 1.2 0.5 0.8 0.2 0.4 0.1 0 0 Q1 Q2 Q3 Q4 Q5 Q1 Q2 Q3 Q4 Q5 Per capita income by quintile Per capita income by quintile Food consumed away from home Food consumed at home Source: Bai and others 2013. Note: The poorest quintile is Q1; the richest quintile is Q5. 362 URBAN CHINA Projecting aggregate food demand and will put pressure on China’s aggregate food supply gaps under urbanization demand and supply balance. Domestic pro- duction shortages of soybeans, corn, edible China’s food consumption and production are oils, sugar, and dairy products will increase projected to stabilize after 2030 (box 5.2). By further because of demand growth and 2030, China’s aggregate food self-sufficiency resource constraints in the next 20 years. will remain at above 90 percent. Per capita food consumption will continue to grow rap- idly over the next two decades, with relatively Grains faster growth during the coming decade, China’s aggregate demand for grain is driven by income growth. Per capita consump- expected to grow significantly faster than tion of food grains such as rice and wheat will domestic production. Total demand for continue to decline, while consumption of grains is projected to increase from 600 mil- edible oils, sugar, vegetables, fruit, and ani- lion tons per year currently to 670 million mal and aquaculture products will increase tons in 2020 and 700 million tons in 2030. markedly with increasing incomes. Grow- Annual grain production, in comparison, will ing demand for higher-value meat, eggs, and grow at a much slower pace than demand, dairy products present challenges for the reaching 568 million tons by 2020 and 563 domestic supply of animal feed, in particular million tons by 2030. Per capita annual grain feed grains. The rising demand for feed grains consumption is projected to grow from 445 BOX 5.2 China Agricultural Policy Simulation Model (CAPSiM) This study uses the China Agricultural Policy Simula- urban income grew by 8.6 percent annually. For tion Model (CAPSiM), developed by the Center for the 2013–30 period, rural incomes are assumed to Chinese Agricultural Policy of the Chinese Acad- maintain an average annual growth rate of 8.3 per- emy of Sciences, to analyze the effects of China’s cent while urban income will grow more slowly, at urbanization on domestic food production and food an assumed average annual rate of 6.8 percent. demand and forecast a supply-demand balance for • Population. China’s population growth rate is major agricultural products for the next two decades, assumed to be is 0.61 percent from 2012 to 2015, until 2030. CAPSiM covers 14 crops (rice, wheat, 0.44 percent for 2016–20), 0.22 percent for 2021– corn, sweet potatoes, potatoes, other coarse grains, 25, and 0.06 percent for 2026–30. soybeans, cotton, oil crops, sugar crops, vegetables, • Urbanization. China’s urban population will fruit, squash, and others); and nine categories of live- increase from 52 percent of the total population in stock products (pork, beef, mutton, poultry, eggs, 2012 to 56 percent in 2015, 60 percent in 2020, 64 milk, fish, shrimp, and others). The model builds on percent in 2025, and 67 percent in 2030. the analyses of the effects of urbanization on water • Rural labor wage and land rent. Average annual for agriculture, land conversion and arable land, growth of the actual wage of rural labor from 2012 labor, migration and rural wages, and technological to 2030 is assumed to be 6 percent, while cost of change. Model simulations are based on the following land rental will grow by 2.5 percent. assumptions: • Technological change. It is expected that the gov- ernment will continue to invest in agricultural • GDP. China’s economic growth is expected to slow research and development. Rising marginal cost for but to maintain comparatively high rates of GDP increasing unit production will imply a lower contri- growth. Assumptions are: 7.5 percent growth for bution rate of scientific and technological progress. 2012–15); 7 percent for 2016–20; 5.9 percent for 2021–25), and 5.0 percent for 2026–30. The Organisation for Economic Co-operation and • Rural-urban income gap. The rural-urban income Development-Food and Agriculture Organisation gap will gradually narrow. Rural incomes may Agricultural Outlook (2013–20) and U.S. Depart- grow faster than urban incomes. During 2010–12, ment of Agriculture estimates (2013–22) are the main rural income grew by 11 percent annually, while sources for international agricultural prices. CHINA’S URBANIZATION AND FOOD SECURIT Y 363 TABLE 5.11 China’s current and projected supply and demand of livestock products in 2012, 2020, and 2030 Thousands of tons Dairy Fishery Pork Beef Mutton Poultry Eggs products products 2012 Production 46,159 5,296 3,409 17,319 19,998 38,680 33,178 Import 522 49 119 49 0 6,181 2,208 Export 66 12 0 181 61 105 3,253 Net import 456 37 119 −131 −61 6,076 −1,045 Total consumption 46,615 5,333 3,528 17,187 19,937 44,756 32,132 Food consumption 44,046 4,919 3,295 16,294 19,136 44,008 29,761 Per capita food consumption (kg/person) 32.6 3.6 2.4 12.1 14.2 32.6 22.0 Self-sufficiency rate (percent) 99.0 99.3 96.6 100.8 100.3 86.4 103.3 2020 Production 56,194 7,272 4,384 22,379 23,462 56,906 43,808 Import 728 165 328 67 0 11,725 2,975 Export 65 4 0 180 47 51 3,298 Net import 664 161 328 -113 -47 11674 -323 Total consumption 56,858 7,433 4,711 22,266 23,416 68,580 43,485 Food consumption 54,289 7,019 4,479 21,373 22,615 67,832 41,113 Per capita food consumption (kg/person) 38.6 5.0 3.2 15.2 16.1 48.2 29.2 Self-sufficiency rate (percent) 98.8 97.8 93.1 100.5 100.2 83.0 100.7 2030 Production 61794 9046 5133 25477 24803 68889 51618 Import 897 520 801 87 0 21734 3648 Export 52 1 0 139 38 25 2705 Net import 845 518 801 -52 -38 21709 942 Total consumption 62638 9564 5934 25425 24765 90598 52560 Food consumption 60070 9150 5702 24532 23964 89850 50188 Per capita food consumption (kg/person) 42.1 6.4 4.0 17.2 16.8 63.0 35.2 Self-sufficiency rate (percent) 98.7 94.6 86.5 100.2 100.2 76.0 98.2 Source: CAPSiM results. Note: kg/person = kilograms per person. kg in 2012 to 479 kilograms in 2020 and 491 further. Imports may reach 80 million tons in kilograms in 2030 (table 5.11). 2020 and 90 million tons in 2030, resulting China will maintain high domestic self- in a self-sufficiency rate for soybeans of only sufficiency levels for rice and wheat, the 14 percent (figure 5.23). most important food grains, but not for feed grains. For rice, self-sufficiency is predicted Livestock products and fishery products to remain above 99 percent up to 2030. For wheat, self-sufficiency will remain above 97 China will be able to balance domestic percent in 2030. In contrast, China’s self- demand and supply of pork, the most impor- sufficiency in corn is projected to decrease to tant animal product. It will also remain 85 percent by 2030 from 98 percent in 2012. self-suffi cient in poultry and eggs. In con- Corn production is predicted to reach 220 trast, self-sufficiency levels for beef, mutton, million tons by 2020 and 243 million tons and dairy products will drop significantly. by 2030 while demand will increase to 240 Dairy imports will increase rapidly and self- million tons in 2020 and 285 million tons in sufficiency will drop to 76 percent by 2030. 2030, opening a demand-supply gap of 20 As consumption increases, livestock produc- million tons by 2020 and 42 million tons by tion in China will also see rapid growth. 2030. The domestic supply gap in soybeans China’s demand for fishery and aquacul- (including soybean oil) is projected to grow ture products is expected to surge, but will 364 URBAN CHINA FIGURE 5.23 Projected supply shortages for various food items decade. It will meet its demand for both and will even be able to increase exports. While rising labor costs will reduce its comparative Rice advantage, China is likely to satisfy its ris- Wheat ing domestic demand on vegetables and fruit by further adjusting and expanding domes- Corn tic production. Vegetable production is pro- Soybean jected to grow further, from currently 308 Edible oil million tons in 2012 to 349 million tons by 2020 and 372 million tons by 2030. Vegeta- Sugar ble consumption will also be on an upward Vegetables trajectory, and increase from 236 million tons in 2012 to 277 million tons by 2020 and Fruits 298 million tons by 2030. China will remain Pork a major exporter of vegetables with exports projected to increase from 6.1 million tons to Beef 8.6 million tons by 2030. Mutton China’s production and consumption of Poultry fruit will also grow significantly, and imports and exports will both increase. Production is Egg predicted to increase from 162 million tons Milk in 2012 to 193 million tons by 2020 to 219 million tons by 2030. Fruit consumption will Fish grow from 163 million tons in 2012 to 194 –100 –80 –60 –40 –20 0 20 million tons by 2020 and 218 million tons by Percent 2030. China’s imports of fruit, mainly tropi- 2012 2020 2030 cal fruits, are expected to grow from 4 mil- lion tons in 2012 to 4.3 million tons in 2020, and then decrease to 3.7 million tons by 2030. Source: Huang and others 2014. Fruit exports, mainly temperate fruits (apples, pears, and citrus fruits) are projected to grow be largely met by increasing domestic pro- from 3.4 million tons in 2012 to 3.5 million duction. Per capita annual consumption of tons in 2020 to 5 million tons in 2030. After aquaculture products, including fish, shrimp, 2020, fruit consumption growth will slow crab and shellfish, will grow from 22 kg down, while production will maintain rapid today to 29 kg by 2020 and 35 kg by 2030. growth, making China an exporter with a net Domestic production will grow substantially export of 1.29 million tons of fruits by 2030. from 33.2 million tons in 2012 to 43.8 mil- lion tons in 2020 and 51.6 million tons in Sugar. China’s sugar production is expected 2030. Since the demand for aquaculture to grow slowly against a rapid consumption will grow slightly faster than production, increase, resulting in a bigger supply short- export growth for aquacultural products will age. Production is projected to increase from remain small while imports will continue 16 million tons in 2012 to 17 million tons in to grow. It is worth noting that low-price 2020 and 19 million tons in 2030. Per capita fish meal accounts for a significant share of sugar consumption is projected to increase China’s fishery imports. While imports and significantly, resulting in a total demand of exports of fish and aquaculture products are 20 million tons by 2020 and 23 million tons of similar quantity, China’s exports have by 2030, up from 16 million tons in 2012. much higher value than its imports. Imports of sugar are expected to increase from 2.8 million tons in 2012 to 2.9 million Vegetables and fruit. China has a compara- tons in 2020 and 4.25 million tons in 2030. tive advantage in fruit and vegetable produc- By 2030, China is projected to produce 82 tion, which has grown steadily over the past percent of its sugar demand domestically. CHINA’S URBANIZATION AND FOOD SECURIT Y 365 Oil Crops. The production of and demand for Setting China’s food security objectives oil crops (other than soybeans) are expected to grow in parallel, although China will face Food self-sufficiency may be desirable for some domestic supply shortage, which will a country with a population of 1.3 billion need to be met by imports. Total production people, but in view of the structural changes of oil crops is expected to rise from 8.7 mil- in agricultural production and in food con- lion tons in 2012 to 10.2 million tons in 2020 sumption that have taken place over the past and 10.8 million tons in 2030. Domestic decades, as well as escalating environmental demand will continue to grow at a relatively and resource constraints, China’s current rapid speed, increasing from 10.4 million tons objective of food security in all food catego- in 2012 to 12.2 million tons in 2020 and 13.1 ries is neither possible nor necessary. Instead, million tons in 2030. Imports are predicted China should redefine its food security objec- to increase from 1.4 million tons in 2012 to 2 tives based on the principles of efficiency, million tons in 2020 and 2.4 million tons in openness, and sustainability. Taking envi- 2030. China’s self-sufficiency rate in oil crops ronmental capacity and resource constraints will decline from 86 percent in 2012 to 82 into account, China should strive to unlock percent in 2030. the potential for increased grain production by improving productivity and market effi- Cotton. China’s cotton demand has been ciency, thereby projecting a clear and trans- growing much faster than its cotton produc- parent picture of China’s needs for grain tion, with much of this demand being for imports and exports. China should moder- production of clothing for export, and supply ately adapt its food security objective towards continues to fall short of demand. Demand maintaining self-sufficiency in food grains for cotton will continue to grow rapidly. Total while allowing for more imports of nonfood demand is expected to increase from 8 million grains and other agricultural products. More tons in 2012 to 10 million tons in 2020 and emphasis should be placed on food quality to nearly 13 million tons in 2030. Domestic and safety, agricultural sustainability, and cotton production and imports in 2020 are protection policies for low-income groups. both expected to be lower than those of 2012, Stronger emphasis should also be placed on mainly because of government purchase and improving the environmental sustainability stockpiling of cotton in 2012, which contrib- of China’s domestic livestock sector through uted to higher prices, higher domestic produc- better protection and management of China’s tion, and strong import growth. These effects grassland resources. The fine-tuning of are expected to dissipate. China’s food security objectives needs to be complemented by policy reforms, investments in agricultural water resources management, Policy recommendations and rural land and labor market reforms. China has established a comprehensive food policy framework with minimum grain Enhancing domestic grain production purchasing prices at the core, supported by capacity temporary grain reserves, direct food sub- sidies, grain stock adjustments, and inter- China has raised agricultural productivity national trade. This framework, along with successfully in the past. From 2004 to 2011, China’s institutional reforms and produc- total factor productivity grew at a rate of 2 tivity growth in the agricultural sector over percent annually for all major grain crops the past decades, has been critical to China’s and at 3 percent annually for the major veg- food grain security. But these policies have etable crops. If China is to increase domestic not addressed problems related to distortions grain production capacity, ensuring continu- in grain prices, policy inefficiencies, obsolete ous productivity growth in agriculture is a grain circulation and reserve systems, and priority. Compared to many other countries, weak food safety nets, and they therefore China’s potential for increasing labor and need further improvement to meet the chal- land productivity is significant. The poten- lenges of urbanization. tial of productivity growth can be captured 366 URBAN CHINA through promoting economies of scale in nation in major grain-producing regions can agriculture, primarily by increasing the scale provide the necessary baseline information, of farming operations, and through contin- while environmental risk assessments can ued investments in research and development. help identify key target regions for action. The process through which labor and land The classification of key regions according productivity can grow and farmland can be to function can be used to determine poten- consolidated needs to be carefully coordi- tial treatments based on the severity of con- nated, and the pace of change needs to be tamination and crop mixes can be adjusted carefully controlled. Specifically, the gov- accordingly. China should set sound, science- ernment’s role will be to (a) improve policies based criteria for tillage on land contami- that allow rural migrants to become urban nated by heavy metals. For areas where con- citizens, thereby stimulating more perma- tamination is severe and tillage should not nent migration to urban areas, and (b) create continue in the future, ecological compensa- the conditions for consolidated agricultural tion schemes can be considered to support operations and improved labor productiv- farmers’ jobs and incomes. The progress that ity in rural areas. The government will need has been made on reverting farmland back to to rationalize the rural land rights system forests should be carefully managed in order and develop rural land markets and create to prevent the reclamation of already retired incentives for a market-based consolidation farmland. The scope of the slopeland conver- of farmland to allow modern medium- and sion program should be further expanded large-scale entities, such as commercial grain to also include severely desertified areas. A producers, larger family farms, and special- special subsidy program for land quality pro- ized cooperatives, to emerge. tection should be implemented to support Steady productivity growth in grain pro- farmers who opt to leave their land fallow, duction requires continued technological readjust their land mix, or limit the use of advancements in agriculture. The key driv- pesticides and chemical fertilizers. ers for technological progress are increased public spending on agricultural research and Enhancing international cooperation development, integrated programs to promote and trade advanced yield-enhancement technologies, mechanization in grain production, capacity Following China’s WTO accession, progres- building of farm producers, adoption of mod- sive and predictable import growth has been ern biotechnology, and expedited breeding of shown to create win-win results. For exam- new, improved crop varieties. Investments ple, China’s growth of soybean imports has will also be needed for transforming low- and driven global soybean production, particu- medium-yield farmland into land of higher larly in the Americas, and promoted global productivity and for the expansion or reha- trade. The benefits for China include meeting bilitation of irrigation infrastructure, and for growing domestic demand and saving land the development of water users’ associations and water resources. Building on these expe- that can help improve water use efficiency in riences, China should strengthen cooperation irrigation areas. Investments in improving with major grain-producing nations by sign- on-farm water use efficiency through better ing medium- and long-term grain trade agree- technology are needed and should be com- ments with such countries, and creating stable bined with better water pricing policies. and diversified import avenues. China should also leverage its comparative advantages and expand agricultural development aid and Improving agricultural sustainability investments in neighboring countries and in Current practices of overfertilization need South America and Africa, and actively par- to be changed to reduce environmental costs ticipate in global and regional food security and ensure that agricultural resources and the governance. China should focus on agricul- environment are managed in more sustain- tural technology transfer, and investments able ways. Audits on heavy metal contami- in processing, storage, transportation, and CHINA’S URBANIZATION AND FOOD SECURIT Y 367 trade, ensuring socially responsible and sus- China’s subsidy policy also needs reform to tainable investments. While such investments meet the new food security objectives. Subsi- may not result immediately in agricultural dies should be better linked to yields of grain products flowing to China, they will increase crops and incremental subsidies should favor other countries’ grain production capacity the main grain-producing regions and pro- and improve global supply, which in turn will ducers. China may also create a special sub- improve the external environment of food sidy program linked to environmental protec- security for China. tion to create incentives for farmers to opt for retiring farmland or reducing input levels. Reforming grain price formation mechanisms Reforming China’s grain reserves and China’s grain price mechanism has resulted circulation system in market distortions and a heavy fiscal bur- The government should carefully distinguish den for the government, and requires reform. between strategic grain reserves and grain China should allow grain prices to fluctuate buffer stocks. Strategic reserves are built pri- freely during normal periods and secure food marily to withstand systemic grain supply supply for low-income groups through food shocks, and such reserves should be mod- subsidy programs. Only in times of natural est. Buffer stocks would be used mainly to disaster or external shocks should the govern- balance grain supply and demand between ment intervene and release the state’s emer- seasons and different regions and should be gency grain reserves. China’s grain producer concentrated in major grain consumption price should be replaced by a target price sys- regions, especially city clusters. The share of tem. Moving away from direct government processed grains should be increased, and the buying in the market to price subsidies linked role of local governments in building grain to a target price (price benchmark) should be reserves should be strengthened. China may considered. This would separate price forma- also create incentives for grain processing and tion from government subsidies, the benefits circulation enterprises to contribute to grain of which would include gains to farmers and reserves. And finally, China needs to improve less market distortion. Such a policy has been its network of modern grain logistics, which adopted by many countries in their transi- runs through major interprovincial corridors tion from price support to direct subsidies. and connects major grain-producing regions, While conducting price reform, China needs distribution centers, and transportation hubs to quicken the pace of building a food safety to cities and city clusters. The focus should net for vulnerable income groups. Food price be on consolidating existing grain logistics inflation and benchmarks for social relief and resources, creating a network of critical grain benefits need to be better linked. For specifi- logistics hubs, and strengthening the connec- cally vulnerable groups, such as households tions between such hubs and railway, water- in extreme poverty, a direct food supply sys- way, and highway transportation infrastruc- tem should be established. ture. Warehousing services should be made more specialized and market based, and Improving the efficiency of grain grain warehousing could be professionalized producer subsidies and privatized. China’s existing grain subsidy policy should be maintained to help stabilize farmer’s Notes income expectations. Subsidy levels should 1. To assess food consumption, production, be adjusted regularly to counter the erosion and self-sufficiency issues for China, differ- of farmers’ gains because of rising produc- ent food types are converted into CEs, taking tion costs. 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This China’s current approach to financing urban- dual dualism, along with its accompanying ization has been reasonably successful in unequal access to public services between mobilizing the resources that cities have people with and without urban hukou, has needed to grow their economies, build the acted as a barrier to labor mobility, which infrastructure required by the economy, and has kept China’s urbanization rate too low. deliver services to the expanding urban popu- At the same time, the large influx of migrants lation. China has experienced a high growth puts pressures on urban services, and urban of urbanization for three decades, and the citizens perceive an erosion of service quality. way China has proceeded with urbanization Further, despite progress in environmental has been pro-growth, with resources being standards and policies, the cost of pollution effectively mobilized and geared toward to the nation’s health is rising as China’s pop- industries and productive infrastructure. In ulation is increasingly concentrated in cities. turn, the high economic growth has contrib- At the same time, land-intensive urbanization uted to improvements in household welfare has reduced availability of farm land, increas- through higher income and better public ser- ing competition for scarce water resources vices and infrastructure. This approach has and adding to pollution that undermines served China’s interest fairly well. agricultural productivity. As China enters a new stage of develop- China’s shift to a new urbanization ment, the downsides of this old pro-growth path—one that is efficient, inclusive, and urbanization model have become more sustainable—to support its transformation apparent. The existing urbanization model into an innovative, modern, and harmoni- has relied heavily on land conversion and ous economy in the next decades will require land financing, and on production-based adjustments in the fi nancing system. Given derivative taxation, which has caused urban the expected economic and social trends, as sprawl and, on occasion, ghost towns and well as the policy goals pursued by the politi- wasteful development of industrial parks and cal leadership, maintaining past financing real estate. In addition, China now faces dual policies without change is neither feasible dualism—a “new dualism” between local nor desirable. First, the cities—now hosting 371 372 URBAN CHINA more than 700 million people—can expect conversion are likely to taper off, so new local up to 300 million more migrants over the revenue sources are needed to replace lost next two decades. Second, the disparities revenue, whereas properly regulated access between original and new urban residents, to borrowing will be needed to finance infra- and the backlogs in the quantity and qual- structure investment. The financial sector ity of public services in rural regions, must will need to intermediate capital efficiently to be addressed. Third, economic growth will meet local governments’ needs for infrastruc- slow as the economy matures. These changes ture finance, while at the same time imposing will have significant impacts on the demand financial discipline on local governments and for public services, on the cost and ways of avoiding financial sector disruption. The pri- delivering them, and on revenue mobiliza- vate sector will need to play a larger role in tion. Many are concerned about the budget financing and delivering infrastructure invest- implications of such changes and wonder ment and other public services. which public fi nance reforms are needed to To move in this direction, government ensure that China can afford urbanization in will need to make important decisions about the next decades. numerous key features of the fi nancing sys- This report first reviews the main features tem, including the following: of the new urbanization, measures the costs of urbanization, and evaluates its affordabil- Aligning public finance with functions. ity. It then explores how well suited the exist- Functions need to be appropriately assigned ing urbanization finance system is to the chal- to either the central government or local gov- lenges posed by the new urbanization. The ernments; functions with strong externalities diagnosis is focused on three sectors—public such as funding social security could be cen- social services, infrastructure investment, tralized; the tax base could be shifted from and affordable housing. It concludes that the production based to consumption based; existing finance system that has worked well revenue responsibilities between the central in leading an investment-driven economic and local governments could be reassigned growth strategy will work less well in a new, to follow the functions; local governments more urban China. In fact, some fundamen- need to be given revenue-raising powers; and tal weaknesses in the existing system have the budget system needs to be reformed in a already emerged, causing significant effi- way that will give subnational governments ciency, equity, and environmental costs and the ability to effectively plan and control the threatening financial sustainability. The chal- allocation of fiscal resources. Also, a stron- lenges for fi nancing urbanization are, there- ger interprovincial and intraprovincial equal- fore, more about addressing these underlying ization program needs to be put in place to weaknesses than filling the financing gap for ensure sufficient funding for basic public public services and infrastructure spending. service packages, and the transparency and As the main part of the report discusses, accountability of local governments should the centerpiece of the reforms in urban be strengthened. This would be no small finances will be a move toward a system that reform. more clearly separates the traditional function of government—the provision of equitable Abandoning the monopoly on land leases. and efficient levels of basic public services— The increments in land value that emanate from commercial investment and production from better infrastructure services must be functions. The emphasis of subnational gov- captured in a less distorted way (through ernments will be on the delivery of local pub- property taxes, for example), and these funds lic services, and the rewards for local leaders must be used to subsidize investment in infra- should depend on how well they perform this structure. Government should also develop responsibility. The fiscal system will need to regulatory rules to mitigate the fiscal risks encourage people and enterprises to move to emanating from land market volatility while the places where they are most productive, obtaining the best economic value of land not to where they get the best tax or land deal assets that local governments have already from a local government. Revenues from land acquired. FINANCING URBANIZATION 373 Developing stable and sustainable debt Financing challenges from the new finance. Local government financing vehi- urbanization path cles (LGFVs) should be either absorbed by Urbanization will challenge government government or converted to special purpose expenditures and the capacity to deliver vehicles (SPVs); local governments should social services. The next two decades will be allowed to borrow on budget; a rigorous see 300 million more people living in urban regulatory framework needs to be developed areas. The urban population will increase to to better manage the debt risks; the sources about two-thirds of the total population by of long-term financing for local governments 2030, from slightly more than half currently.1 and SPVs need to be diversified; and the Along with the expected rebalancing of the incentives for local governments, SPVs, and growth pattern and increasing income levels, their lenders should be aligned so that all of new demands from urban households and them pursue creditworthy financing. business will have to be met. Families living in metropolitan areas, especially the hoped- Promoting the involvement of the private for emerging middle class, will be looking sector in broader urban development. China to upgrade their housing and access better may consider shifting the focus of PPP con- urban amenities and social services. New tracts from capital fi nancing toward service service industries will be asking for loca- provision by bundling investments for asset tions closer to population centers and for a creation with operation and maintenance different package of infrastructure and social requirements over a long period of time. This services from that sought by manufacturing requires improving policies and incentives for industries (Yusuf 2013). Compliance with the private provision of public services. And the environmental protection standards set careful risk assessment and proper risk shar- by the central government also will be an ing are needed to manage contingent liabili- issue (see supporting report 7: Green Urban- ties related to PPP contracts. To strengthen ization). Against this backdrop, significant institutional capacity, special PPP units may additions to the existing urban infrastructure be established at the local level. and improvements in service delivery will be required to ensure that cities can accommo- Clarifying the role of housing provident date new residents and meet new demands. funds (HPFs) in the affordable housing Local governments in particular will feel the program. Alternative means of financing budget pressures associated with capital and the program need to be explored, including operation and maintenance expenditures. direct subsidies from government revenues, For urbanization to be inclusive and to contributions from employers, and partner- avoid social fragmentation, cities must pro- ships with the private sector. vide equal access to public services to both original and new urban residents. For most Urbanization in transition and its public services such as compulsory education and health, a national residence-based sys- implication for financing tem is now in effect. 2 In practice, however, Can China afford the new urbanization some cities offer better entitlements to public path? Provided a major structural reform services and easier access to resident worker of its financial model is implemented, the permits than do others. Disparities in access answer is an emphatic yes. Managing the to affordable housing are already a concern, government sector, especially the urban local with only 10 percent of migrants owning governments, will present a serious public their urban residence compared with 84 per- policy challenge. The government will need cent of hukou residents. Equalization policies, to decide whether public financing policy therefore, will have to address the existing in the next two decades is dictated by fi nd- duality between urban residents with hukou ing quick fi xes for the problems, or whether and those without. In addition, equalization a major structural reform should be under- policies will have to manage the additional taken to get ahead of the problems. economic and social pressures that further 374 URBAN CHINA migration to cities potentially could bring. urbanization path, particularly as the hukou Only 20 percent of migrants now move to cit- system is removed and urban-rural dispari- ies with their entire family, but this pattern ties are narrowed. The immediate fi nancing will change in the future as adequate educa- problem is to absorb and service the new tion, health services, and affordable housing residents and workers in cities without harm- become available to them (Wang, Shen, and ing the quality of life of the existing urban Li 2008). Because of the large gaps in the population.4 New financing policies that quantity and quality of public services across address resource constraints and insufficient provinces and between rural and urban areas, service delivery capacity, especially among any policy change facilitating the access of local governments, must be formulated to migrant workers to urban services should ensure that expenditures and revenues grow go hand in hand with improvements in rural hand in hand, thus avoiding a buildup of services, lest rural residents be encouraged to unsustainable fiscal pressures. Incentives migrate to cities solely to access better social for government officials to implement these services. 3 Finally, local resentment toward policies effectively will have to be in place as the migrant worker community may arise well. In this regard, urbanization in China is from the fear that larger demands will cause less efficient, inclusive, and sustainable than overall service levels to deteriorate or that the central government would like it to be. migrants will receive preferential treatment Local governments have not fully complied without paying their fair share of the costs. with many goodwill policies that have been China will have to manage integration chal- issued by the central government, suggesting lenges of this kind, which the United States that incentive is a major issue to consider in and Europe also have experienced. designing a reform. Expenditure management needs to be Structural reform is also indispensable to adapted to the new urbanization path. mobilizing additional resources to finance Annual economic growth in China is pro- increasing urbanization costs, especially jected to remain at around 7 percent for the at the local government level. Urbaniza- next few years, gradually declining to about 6 tion potentially can generate sufficient fiscal percent by 2020 and to 5.5 percent by 2030. resources to cope with the increasing expen- Even though that is healthy economic growth ditures. Migrant workers can reduce the by world standards, it will not generate the labor shortage that constrains the expansion fast-growing fiscal revenues of the past two of private sector output and thus help attract decades. If government officials in charge of more capital and exploit economies of scale expenditure programs were to make budget and agglomeration effects. That should lead plans based on a growth rate extrapolated to an increase in value added and incomes, from the past trend, they would risk planned therefore also raising revenue from major tax expenditures growing much faster than sources. Migrant workers also can add to the actual revenues, which ultimately would raise government revenues with their taxable con- public fi nancing concerns. In addition, gov- sumption and their contributions to social ernment officials should plan for new spend- security schemes.5 Yet the potential revenues ing pressures, notably an aging population from urbanization will materialize only to demanding higher pension and health outlays the extent that the right incentives to local and a society more concerned with environ- officials are in place. Incentives to promote mental sustainability, which requires actions manufacturing and generate land revenues in to cope with congestion and pollution. As sprawling cities must be replaced by incen- revenue growth slows and new spending tives to promote services and mobilize new pressures arise, the expansion of some gov- revenue sources in dense cities (see support- ernment spending programs will have to be ing report 1 on Urbanization and Economic contained and more emphasis given to cost Growth). In addition, incentives facing the rationalization and control. local cadre system should include a longer- Structural reform is necessary to man- time horizon and place more weight on pro- age the expenditure pressures from the new viding the particular bundle of services that FINANCING URBANIZATION 375 the local economy needs to support an effi- water, and heating) and to supply social cient, inclusive, and sustainable urbanization housing, education, and health to urban- (Zhou 2007; Li and Zhou 2005). ites, covering both the capital expenditure Structural reform will have to deal with (CAPEX) and the current expenditures such heterogeneity of urbanization across China. as the operation and maintenance expendi- The budgetary impacts of urbanization will ture (OM), as well as the labor cost of urban be anything but uniform across cities. Needs, education). Simulations focus on the gross resources, goals, and social values differ cost of delivering infrastructure and social widely throughout China. Residents and services to migrants at urban standards, businesses in some cities will demand higher without deducting savings (if any) that may levels of service, the cost of service provision be attained by eased spending pressures in will be greater in others, and the backlog of the rural areas from which the migrants orig- infrastructure needs will be larger in yet oth- inate. Annex 6A provides a technical annota- ers. Even if the additional fiscal revenues from tion to the modeling methodology. urbanization turns out to be large enough at In the costing model, the volume of physi- the aggregate level to cover the incremental cal investment in the selected sectors that is cost of providing basic services in all urban required to support urbanization responds to areas, they will not be large enough for every fundamentals (such as the size and density of individual urban area. To accommodate these the population living in cities, the number of differences in preferences and expenditure students, the number of households benefit- needs, local governments should be given ing from social housing) as well as to public more control over the amount of revenues policies determining coverage of social ser- that they can raise to meet their responsibili- vices and eligibility criteria to access them. ties. In addition, the net cost to the govern- The unit cost of investing in physical capital ment budget would be significantly reduced is calibrated using historical data and pro- if fiscal resources were distributed based on jections that follow trends in urban incomes serviced population; for example, transfers and prices. Public policies regulating quality and subsidies for education, pensions, and and generousness of social services also affect health insurance benefiting the rural popula- unit costs. tion can be reallocated to cities if and when Simulations from the model suggest that workers migrate to there.6 overall costs of urbanization will gradually decline as a share of gross domestic product (GDP). The total annual costs of all urban Can China afford the new public services, infrastructure and social urbanization path? housing would average 6.1 percent of GDP in 2013–30, with a peak of 7.3 percent in the How much will urbanization cost the Chi- early period (2013–17) due to migrant inte- nese economy? A quantitative model devel- gration and the government’s ambitious social oped by World Bank staff estimates the total housing program (table 6.1; figure 6.1). As a costs of all urban public services, infrastruc- consequence of the policy stimulus pursued ture, and social housing. Significant invest- in 2009–12 to cope with the global crisis, the ments would be necessary to meet demands projected investment bulge in the next few arising from the current pattern of urbaniza- years reflects the ongoing construction plans tion and the government policies in place. to extend social housing programs. Long-term Consistent with the macroeconomic and cost estimates phase out these temporary phe- demographic projections obtained from Chi- nomena and acknowledge that the urbaniza- na’s Development Research Center (DRC) tion process will persist, but at a slower pace model for the period 2013–30, the model than in the past. For 2013–30, the annual projects capital, operation, and maintenance capital, operation, and maintenance expen- expenditures required to erect urban infra- ditures related to urban infrastructure would structure (including roads, subways, drain- reach 2.5 percent of GDP, on average; those ing, sewage, landscaping, garbage treatment, costs associated with education and health 376 URBAN CHINA TABLE 6.1 Urbanization costs and fiscal space: Baseline scenario Share of GDP 2008–12 2013–17 2018–30 2013–30 Urbanization costs (CAPEX and OM) 8.6 7.3 5.6 6.1 Infrastructure investment 3.5 2.7 2.5 2.5 Roads 1.9 1.4 1.2 1.3 Subways 0.5 0.6 0.6 0.6 Draining 0.1 0.1 0.1 0.1 Sewage 0.2 0.1 0.1 0.1 Landscaping 0.4 0.3 0.2 0.2 Garbage treatment 0.1 0.1 0.1 0.1 Water 0.2 0.1 0.1 0.1 Heating 0.1 0.1 0.1 0.1 Social services 5.1 4.6 3.1 3.6 Social housing 2.0 1.4 0.5 0.7 Education (includes labor costs) 3.1 3.2 2.6 2.8 Health 0.0 0.0 0.0 0.0 Central and local governments Unchanged land and debt financing policies Fiscal space 33.3 31.8 30.4 30.8 Fiscal revenues 25.0 26.5 25.9 26.0 Net borrowings 8.3 5.3 4.5 4.7 Total expenditure 31.9 31.1 29.6 30.0 Recurrent primary expenditures 23.6 23.6 23.3 23.4 Capital expenditures 6.0 4.7 3.4 3.8 Interests 2.3 2.9 2.9 2.9 Central and local governments Abandoning land and debt financing policies Fiscal space 33.3 29.5 27.3 27.9 Fiscal revenues 25.0 25.8 25.2 25.4 Net borrowings 8.3 3.7 2.1 2.5 Total expenditure 31.9 30.9 28.7 29.3 Recurrent primary expenditures 23.6 23.6 23.3 23.4 Capital expenditures 6.0 4.7 3.4 3.8 Interests 2.3 2.7 2.0 2.2 Source: Staff estimation. Note: Figures are annual averages for selected periods. CAPEX = capital expenditure; OM = operation maintenance expenditure. would be 2.8 percent of GDP; and social by the government in all urban infrastructure housing would amount to 0.7 percent of GDP. sectors, social housing, and health. The gov- ernment also funds all of these costs for com- How much of the estimated capital, opera- pulsory education, but only about 75 percent tion, and maintenance expenditures would of the recurrent costs of noncompulsory edu- central and local governments bear? Public cation, with tuitions and donations covering and private sectors will share these increased the remaining amount. 7 costs of urbanization. The model assumes that the proportion taken by the public sec- Will the fiscal space be sufficient to finance tor remains at the historic level, around the investments required by urbanization three-fourths. For instance, the public sector in its current form, under the existing pub- fi nances 62 percent of all urban infrastruc- lic policies? The resource envelope avail- ture; 100 percent of social housing, health able to fund expenditures, also referred to (hospitals), and compulsory education (pri- as the fiscal space, comprises two fi nancing mary and junior-middle schools); and 29 per- sources: government revenues resulting from cent of noncompulsory education (vocational fiscal policies, and government borrow- and senior high schools). Operation and ings (both on- and off-budget), whose level maintenance expenditures are fully funded is consistent with preserving debt sustain- FINANCING URBANIZATION 377 FIGURE 6.1 Cost of urbanization as a share of GDP 10 9 8 7 Percent of GDP 6 5 4 3 2 1 0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Urban public housing OM Urban public housing CAPEX Urban health CAPEX Urban education CAPEX, OM, and labor Urban infrastructure OM Urban infrastructure CAPEX Data source: Staff estimation. Note: CAPEX = capital expenditure; OM = operation maintenance expenditure. ability and fi nancial stability. Whether the If the current policies concerning land prospective fiscal space would be enough to and debt fi nancing were continued into the accommodate urbanization costs and other future, the fiscal space would just cover the public expenditures responsibilities is a key total inclusive expenditures of urbanization question. costs. With unchanged policies, the annual The costing model assesses the afford- net land-leasing receipts would be 0.8 per- ability of urbanization costs (or lack thereof) cent of GDP in 2013–30, whereas the annual by confronting estimates of fiscal space and net borrowings would amount to 4.7 percent total expenditure, for which it projects fi s- of GDP, maintaining the public debt-to- cal revenues, government net borrowings, GDP ratio at 53 percent (which was the level and public expenditures other than urban- reached in 2012, after large borrowings by ization costs. Fiscal revenues include taxes, local governments to fund fiscal stimulus and nontax receipts, and land-leasing receipts cope with the global crisis). Model simula- (net of land acquisition and relocation tions suggest that fiscal space could afford the compensation costs). They are driven by costs of urbanization borne by the govern- the DRC macroeconomic projections and ment: in 2013–30, on average, the estimated assumptions on land fi nancing policies. Bor- annual fi scal space is 30.8 percent of GDP rowings include all direct government debts and the total expenditure is 30 percent of and the indirect debts of local governments GDP (figures 6.2a, 6.3a). Even the expected contracted through their fi nancial vehicles. investment bulge in the next few years would Net borrowings are projected assuming a be affordable within the projected fiscal reve- target level of public debt relative to GDP, nues and net borrowings. But the fiscal space with the target summarizing outcomes pur- leaves very little margin to cope with unfore- sued by debt-financing policies. Expendi- seen, unfavorable events, and thus public tures other than urbanization costs are pro- fi nances would be in a fragile position and jected consistently with the DRC model and lack flexibility. More important, a continu- the prospective nominal GDP rate. These ation of the current policies governing land expenditures are added to the estimated and debt financing would mean that inef- urbanization costs to obtain the projection ficiencies would persist in the urbanization of total expenditure. process, including excessive urban sprawl, 378 URBAN CHINA FIGURE 6.2 Government expenditures as a share of GDP off-budget debts) are severely restricted to reduce the public debt-to-GDP ratio from 53 a. Unchanged land and debt-financing policies percent in 2012 to 30 percent in 2030. With 35 these radical policy changes, the annual net land-leasing receipts are zero after 2015 and 30 the annual net borrowings would amount 25 to 2.5 percent of GDP on average. Costs of urbanization would no longer be affordable: Percent 20 in 2013–30, on average, the estimated annual fiscal space is 27.9 percent of GDP and the 15 total expenditure is 29.3 percent of GDP (fig- 10 ures 6.2b, 6.3b). Proper structural reform, therefore, should guide the revision of financ- 5 ing policies. 0 Would structural reform leading to a more 20 8 20 9 20 0 20 1 20 2 20 3 20 4 20 5 16 20 7 20 8 20 9 20 0 20 1 22 20 3 20 4 20 5 26 20 7 20 8 20 9 30 0 0 1 1 1 1 1 1 1 1 1 2 2 2 2 2 2 2 2 20 20 20 20 efficient, inclusive, and sustainable urban- b. Abandoning land and debt-financing policies ization path ensure that such an urban- 35 ization path is also affordable? The high- quality urbanization scenario envisions an 30 ambitious (yet feasible) structural reform package to achieve a higher urbanization 25 rate, a faster real GDP growth, a rebalanced Percent 20 economy with more consumption expendi- ture and service output, and smaller urban- 15 rural income disparities compared with the 10 baseline scenario. In addition, policies con- cerning land and debt financing are properly 5 reformed in two directions. First, land pol- icy reform aims at transforming local gov- 0 ernment revenues from a land-transaction 20 8 20 9 20 0 20 1 20 2 20 3 20 4 20 5 16 20 7 20 8 20 9 20 0 20 1 22 20 3 20 4 20 5 26 20 7 20 8 20 9 30 0 0 1 1 1 1 1 1 1 1 1 2 2 2 2 2 2 2 2 basis to a real estate-property basis, creat- 20 20 20 20 Recurrent expenditures, others CAPEX, others ing incentives to rationalize the use of land Recurrent expenditures, urbanization cost resources and to redirect the urbanization CAPEX, urbanization cost Interests pattern from a horizontal expansion of cities toward a vertical expansion with higher pop- Source: Staff estimation. ulation density. Second, debt policy reform Note: CAPEX = capital expenditure. seeks to establish a sound legal and opera- tional framework for local governments to social problems related to land conversion borrow on-budget and in a sustainable man- and compensation to displaced farmers, and ner, as well as to significantly slow down the risks associated with off-budget borrowing. rapid pace of indebtedness incurred by local Abandoning the current policies con- governments. cerning land and debt fi nancing altogether, Given fewer incentives to seek a horizon- rather than reforming them properly, would tal urban expansion (that is, sprawling cit- significantly reduce the fiscal space and risk ies), the built-up urban area is assumed under derailment of the new urbanization path. the model to stabilize at the current level, Alternative model simulations assume that and thus urban population density increases farmers are given full compensation, which going forward. Higher density reduces the causes net land-leasing receipts to drop in required capital, operation, and maintenance 2015–30 (yet continuing with land leases expenditures related to urban infrastructure and urban sprawl), and that the local gov- by 0.7 percentage points of GDP vis-à-vis ernments’ net borrowings (most notably the the baseline scenario (table 6.2; figure 6.4). FINANCING URBANIZATION 379 Most savings result from the need to invest FIGURE 6.3 Fiscal space, government expenditures, and public less in building roads when urban population debt as shares of GDP is more concentrated. Infrastructure expen- ditures financed by the government, in turn, a. Unchanged land and debt-financing policies decrease by 0.4 percentage point of GDP. The 60 property tax could raise revenues by 1.6 per- cent of GDP annually in 2015–30, more than 50 offsetting the loss of land-leasing receipts that would happen if and when land leases 40 and urban sprawl are discontinued. Net bor- Percent rowings are assumed to reduce the public 30 debt-to-GDP ratio from 53 percent in 2012 20 to 40 percent in 2030, and thus the average annual amount borrowed would be 3.2 per- 10 cent of GDP in 2013–30. Model simulations suggest that in the 0 reform scenario the more efficient, inclusive, 20 8 20 9 20 0 20 1 20 2 20 3 20 4 20 5 20 6 20 7 20 8 20 9 20 0 20 1 20 2 20 3 20 4 20 5 20 6 20 7 20 8 20 9 30 0 0 1 1 1 1 1 1 1 1 1 1 2 2 2 2 2 2 2 2 2 2 20 and sustainable urbanization path is afford- able. In 2013–30, on average, the estimated annual fiscal space is 29.9 percent of GDP and b. Abandoning land and debt-financing policies 60 the total expenditure is 29 percent of GDP (figure 6.5; figure 6.6). Compared with the 50 baseline scenario with unchanged land and debt-fi nancing policies, the reform scenario 40 delivers a slightly higher margin to cope with Percent unforeseen, unfavorable events, and corrects 30 distortions induced by the current policies. 20 Financing urbanization in 2013: 10 Key issues The urban finance challenges of China today 0 20 8 20 9 20 0 20 1 20 2 20 3 20 4 20 5 20 6 20 7 20 8 20 9 20 0 20 1 20 2 20 3 20 4 20 5 20 6 20 7 20 8 20 9 30 are less the result of unwise policy deci- 0 0 1 1 1 1 1 1 1 1 1 1 2 2 2 2 2 2 2 2 2 2 20 sions than of China simply outgrowing its Fiscal revenues Net borrowings system. The structure and growth of the Total expenditures Public debt economy changed dramatically in the past three decades since the major 1994 reforms; the economy draws on market principles to Source: Staff estimation. fuel its growth, but the financing system has lagged and even held on to some of the fea- tures of the pre-reform system. The harm Over the past two decades, the public finance caused by many of these outgrown features system has been very successful in mobilizing has been made more apparent by China’s revenues to finance the increasing demand for urbanization. This section analyzes China’s public social services. The results have been current approach to urban finance with a good: public services have been significantly focus on three sectors: public social ser- expanded. Nine years of education are now vices, infrastructure investment, and public provided free. The number of licensed (assis- housing. tant) doctors increased from 1.56 to 1.94 per 1,000 population, and the number of hospi- tal beds increased from 2.3 to 3.9 per 1,000 Social services and public finance populations. In addition, more people are Economic growth and urbanization have covered by the social security net. By 2012, increased demands for government services. 484 million people participated in the urban 380 URBAN CHINA TABLE 6.2 Urbanization costs and fiscal space: Reform scenario Percent of GDP 2008–12 2013–17 2018–30 2013–30 Urbanization costs (CAPEX and OM) 8.5 6.8 4.9 5.4 Infrastructure investment 3.4 2.1 1.7 1.8 Roads 1.8 0.9 0.7 0.7 Subways 0.5 0.6 0.6 0.6 Draining 0.1 0.1 0.0 0.0 Sewage 0.2 0.1 0.1 0.1 Landscaping 0.4 0.2 0.1 0.1 Garbage treatment 0.1 0.1 0.1 0.1 Water 0.2 0.1 0.1 0.1 Heating 0.1 0.1 0.1 0.1 Social services 5.1 4.8 3.2 3.6 Social housing 2.0 1.4 0.5 0.7 Education (includes labor costs) 3.1 3.3 2.7 2.8 Health 0.0 0.0 0.0 0.0 Central and local governments Reform scenario Fiscal space 33.3 29.8 29.9 29.9 Fiscal revenues 25.0 26.7 26.7 26.7 Net borrowings 8.3 3.1 3.3 3.2 Total expenditure 31.8 30.5 28.3 28.9 Recurrent primary expenditures 23.6 23.6 23.2 23.3 Capital expenditures 5.9 4.3 3.0 3.4 Interests 2.3 2.6 2.1 2.2 Source: Staff estimation. Note: Figures are annual averages for selected periods. CAPEX = capital expenditure; GDP = gross domestic product; OM = operation maintenance expenditure. FIGURE 6.4 Cost of urbanization in the reform scenario, as a share of GDP 10 9 8 7 6 Percent 5 4 3 2 1 0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Urban public housing OM Urban public housing CAPEX Urban health CAPEX Urban education CAPEX, OM, and labor Urban infrastructure OM Urban infrastructure CAPEX Source: Staff estimation. Note: CAPEX = capital expenditure; GDP = gross domestic product; OM = operation maintenance expenditure. or rural residents’ pension program, 304 mil- 3: Inclusive Urbanization and Rural-Urban lion were in the employee pension program, Integration for detailed discussion.) and 265 million were in the employee health Most of China’s public services, such as insurance program. (See supporting report education, health care, social security, envi- FINANCING URBANIZATION 381 FIGURE 6.5 Government expenditures in reform scenario as a share of GDP 35 30 25 20 Percent 15 10 5 0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Recurrent expenditures, others CAPEX, others Recurrent expenditures, urbanization cost CAPEX, urbanization cost Interest Source: Staff estimation. Note: CAPEX = capital expenditure; GDP = gross domestic product. FIGURE 6.6 Fiscal space, government expenditures, and public debt in reform scenario as shares of GDP 60 50 40 Percent 30 20 10 0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Fiscal revenues Net borrowings Total expenditures Public debt Source: Staff estimation. ronmental protection, transportation, and does not include local government spending community affairs, are provided and financed on social security or infrastructure (figure by local governments.8 Education (94 percent 6.7). As a result, China is an extreme outlier local) and health (95 percent local) are the in terms of the subnational share of govern- fastest-growing public expenditure categories. ment expenditures. The local government The result is that China’s local governments share of government spending is 41 percent in account for more than 80 percent of all gen- such decentralized countries as Canada and eral government expenditures. This high share Germany and 48 percent in the United States. 382 URBAN CHINA FIGURE 6.7 Central and subnational expenditure, and about 11 percent in the developing coun- by function, 2012 tries (Bahl and Sethi 2012).9 Intergovernmental transfers fi nance most subnational government expenditures in Other China and play an important role in shaping Land affairs interregional equity. The 1994 Tax Sharing Culture System reform established a new framework Environment for the intergovernmental transfer system in Energy Science China, replacing the ad hoc, negotiated trans- Housing fers of the past with a rules-based mechanism Defense (Bahl 1999; Qiao and Liu 2013). The current Public security transfers between the central government and Health the provinces consist of two types—shared Transport taxes, and general and conditional grants.10 Community affairs The first, shared taxes (a 25 percent claim on Agriculture value added taxes, or VATs, collections and a Social protection 40 percent claim on income tax collections), General public services accounted for about 15.6 percent of all local Education government public finance revenues in 2012. 0 5,000 10,000 15,000 20,000 25,000 The second type, general and conditional grants, accounted for 20.1 percent and 17.7 RMB (100 millions) percent of local government public fi nance Central expenditure Subnational expenditure revenues, respectively. The trend in industrial countries is toward unconditional transfers, Source: China Statistical Yearbook, 2013. reflecting a desire to give more budget auton- omy to subnational governments (Blochliger and Vammalle 2010). But in China, gen- In stark contrast to the highly decentral- eral grants account for 58.5 percent of total ized nature of spending, taxing power is grants, and 49 percent of general grants are highly centralized. Local governments have earmarked for certain program activities. no ability to set the tax rate or to determine The supported programs range widely, from the size of the legal tax base. The central grants to compensate for the loss of the agri- government designates some taxes as “local cultural tax to compulsory education grants. revenues”—taxes collected by the local gov- The interprovincial distribution of these ernments and retained at the local level. In grants, and in many cases how they are actu- general, these local taxes have narrower tax ally used, is affected by these earmarks. bases and less stable revenue yields than the China’s general grants might be grouped central and shared taxes. Local governments into three categories. The equalization trans- may impose user charges, but these too are fer, introduced in 1995, is designed to reduce usually subject to approval by higher-level fiscal disparities among provinces. The dis- governments, and full cost recovery is rare. tribution is based on a formula that incorpo- Using the Chinese definition for “local taxa- rates objective measurements of fiscal capac- tion,” the subnational government share is ity and expenditure needs for the provinces. about 30 percent. If the definition of local The actual amount distributed is calculated taxes is amended to include the ability to set on the basis of the gap between standard the tax rate, then the subnational government current expenditures and standard current share is negligible. Germany takes a similar needs, adjusted for coefficients that take approach in centralizing most tax rate and into account the size of the gap. The overall base decisions, as do Mexico and Indonesia envelop of equalization transfer is decided on among the large developing countries. On the basis of resource availability and policy average, the share of local government taxes considerations. Its share in general grants is about 23 percent in the industrial countries has been growing. The second category of FINANCING URBANIZATION 383 general grants is the “tax rebate,” a return the size of their revenue envelope than do of some additional share of tax collections either cities or counties. On average, county to richer provinces to lower resistance to tax governments account for about half of all reforms. Third, the resource shortfall at the subnational government spending. Counties subnational level arising from vertical imbal- are financed more heavily by grants than by ance is addressed with gap-filling transfers to shared taxes. For example, in 2009, grants local governments (Bahl and Qiao 2013). represented 53 percent of all revenues of The conditional grants carry conditions county-level governments and below, but just about the purposes for which the funds will 29 percent of prefecture revenue and 23 per- be used and in some cases about the stan- cent of provincial revenue. The land-leasing dards of service to be provided; the grants program has changed things, shifting more also often require a copayment from local revenues to the lower-level governments, par- governments. Hundreds of specific-purpose ticularly to cities. grants are associated with a variety of pro- China’s highly asymmetric public fi nance grams at the central level. An example is system, with its highly decentralized expen- the “compulsory education transfer,” intro- diture assignment and centralized revenues, duced by the central government in support implies that subnational governments have of the rural compulsory education program. some control over what services they can Another example is the transfer introduced to deliver but relatively little control over the subsidize the issuing of state bonds. Among level of financing. Arguably, such an arrange- the most important targets of specific trans- ment was the right approach during the past fers are transportation, affordable housing, 30 years when the goal was to reward areas and education. Many of the conditional that were developing fast by giving them transfers were introduced to address specific, investment money to continue the growth. immediate needs. Most of these transfers are The strategy to “let some get rich fi rst,” as monitored by a controlling central line minis- noted by Deng Xiaoping, was an important try or its provincial counterpart. part of the early development of the indus- With a few exceptions, the transfers from trial economy. This approach has advan- provincial governments to subprovincial gov- tages—it allows the central government to ernments are at the discretion of the provin- set the size of the total resource envelope and cial governments. Provincial governments therefore to control the level of local govern- have considerable latitude in deciding expen- ment expenditures (importantly, spending diture assignments to subprovincial govern- from land-lease revenues is not directly con- ments, how much of the intergovernmental trolled by the central government). Revenue transfers received from the central govern- centralization also has the advantages of ment they will retain for their own uses, and allowing central control of the distribution of how they will allocate transfers among their tax burdens and a capturing of economies of cities and counties. This “federal” financing scale in tax administration. Finally, there is approach preserves provincial-level auton- an inducement for increased tax effort. Local omy and allows the use of local information governments can directly encourage a higher advantages. The result is a good deal of varia- effective tax rate by improving assessment tion across provinces in how the allocations and collection rates. The shared revenues are made to the lower level city and county provide an incentive for these revenue mobili- governments. In some cases, taxes are shared zation efforts. (Bahl 1999; Bahl and Wallich on a derivation basis—with the localities 1992). from which they are collected. Formula allo- Equity and inclusiveness in access to pub- cations, specific grants, and mandated pass- lic services remain major concerns, how- through of the funds also are used. Provinces ever. Newcomers to the cities have limited have the authority to issue special grants on access to urban services because they do a project-by-project basis. With respect to not have urban hukou, even though they the public finance budget, provincial govern- now account for more than one-third of the ments have more autonomy in determining urban labor force. This discrimination means 384 URBAN CHINA that migrants often are forced to leave their ization of more responsibility. All three con- families in rural areas where access to qual- cerns have profound implications for the cost ity public services may be limited compared of urbanization and for its financing. with those in urban areas. These challenges With increasing urbanization, cities are to equality in the delivery of public services better connected, and externalities are less are intertwined. Reforms such as the elimi- able to be localized, making the fallout nation of the hukou constraints on access to from expenditure assignment more appar- public services and better portability of pen- ent. If subnational governments are assigned sion and health benefits will equalize access responsibility for services where they cannot to services, encourage labor mobility, and internalize externalities, or where they cannot promote household consumption by reducing capture economies of scale, the result will be the need for precautionary savings (see sup- an underprovision of the service or delivery porting report 3: Inclusive Urbanization and at a higher unit cost. The classic example of Rural-Urban Integration). spatial externalities is air pollution. Dust and The size of general government has grown particulates produced in one province can significantly since 1994 and is roughly in easily reach cities in a neighboring province, line with the size of government in upper- and emissions caused by agricultural activi- middle-income countries. China’s expen- ties can worsen urban pollution problems. diture structure differs from the industrial The same result occurs in the case of compe- countries in two important aspects: the gov- tition for the use of water. A city government ernment spends a relatively larger share on with responsibility for regulating water pollu- economic activities including subsidies to tion may choose not to impose costly inspec- firms, and a relatively smaller share on health tion measures, and this decision could have a and social protection services (World Bank negative impact on the national welfare. Or and DRC 2013); and subnational govern- a city government might offer the children ments deliver a very high share of services. of migrant workers a lower-quality primary These two observations suggest that the education, which could lead to undesirable equity and inclusiveness problem stems less equity effects now and lower labor productiv- from a fi nancing constraint and more from ity in the future. In some cases, these interur- the incentives and capacity of local govern- ban effects call for direct regional or central ments and from distribution of resources government participation in service delivery, across China. A comprehensive analysis of and in other cases it requires upper-level gov- the public finance system reveals that expen- ernments to play a strong coordination role, diture assignments, revenue structure and for example, in ensuring everyone benefits assignments, and intergovernmental relations from universal public health and education all play a role in shaping the incentives and services, and consumer safety. (Lou 2013; capacity of local governments in delivering Bahl, Linn, and Wetzel 2013; Rojas 2008). equitable and sustainable public services. Fiscal subsidies to industries have led to an inefficient pattern of industrial allocation and inefficient land use. Subnational governments Expenditures frequently use tax exemptions, rebates, and The high decentralization of expenditure subsidized land to attract industries to their responsibilities may be explained by China’s provinces or cities. In the early phase of eco- size to some extent, but with the new urban- nomic development when domestic savings ization pattern, decentralization is raising were insufficient to finance industrial invest- concern about allocative efficiency losses. ment, competition among cities to attract Most of the concern centers on three areas: foreign direct investment encouraged subna- what government should do and what the tional governments to improve the business private sector should do, which level of gov- environment and infrastructure services. ernment should be responsible for financ- That is one of China’s success stories. As ing social insurance programs, and whether China developed to be upper-middle-income urbanization has made the case for central- country with abundant domestic savings and FINANCING URBANIZATION 385 a vibrant private sector, the downside of local interest. A further problem with the decen- governments’ role in industrial promotion tralized delivery in China is that county and has become apparent. Rather than increas- some city governments cannot do the neces- ing investments, the subsidies merely relocate sary risk pooling to fi nance these programs investment from one city to the next, without at mandated national levels. That has led to national gains. In the absence of a subsidy, pooling at the prefecture or provincial level market forces would drive the location deci- in some provinces. Although this broader sion of the enterprise. This type of competi- base has reduced the risk, there still have been tion among cities also favors local govern- pension arrears and defaults that have forced ments, typically in rich regions with more continuing central and provincial government discretionary revenues, and this “beggar thy subsidies (Martinez-Vazquez and Qiao 2011). neighbor” approach can affect another’s suc- The health insurance program, being cess. Industrial subsidies also can lead to a managed at the county and district level of siphoning of funds away from mainstream government in China, is highly fragmented. government functions and to a horizontal Effective reimbursement rates vary across inequality with unsubsidized firms. (Keen counties and districts, due to differences in and Marchand 1997; Boadway and Shah deductibles, copayments, and ceilings. These 2009). Industrial subsidies may have merit rates in turn are a function of disparities in when they are targeted at pioneer industries the levels of contributions and local govern- or technology development industries, but ment subsidies. Besides the equity concerns in these cases, the granting of the subsidies associated with these disparities, overall risk should be the function of central government. is higher because of the small size of these Fragmented social insurance programs insurance pools. In addition, migrants face (pensions and health insurance) in China significant challenges in accessing health increasingly become a barrier to labor mobil- care, and there is overlap in registration in the ity and inclusiveness. These programs are the rural and urban programs (Zheng 2012). The responsibility of the city and county govern- international practice on the centralization ments, are managed in a separate local gov- of health care financing is mixed. The infor- ernment fund for social security, and are mation advantages give state or provincial financed by payroll tax contributions and governments a comparative edge in program government subsidies. The national guide- management, and there may be a demand for lines for combined employer and employee local tailoring of some services. A not uncom- contributions are equivalent to about 40 per- mon model is to use conditional grants from cent of wages, but there is considerable varia- the national government to finance a signifi- tion among the provinces. The new urban- cant share of subnational government expen- ization model will require increased labor ditures on health care. In the United States, mobility to promote economic growth. The the federal government finances and delivers need to support this mobility with portability pensions and medical care for retirees but of benefits, the national nature of the benefits shares the cost of financing medical care for from these programs, and the need to focus the poor with the state governments. Prov- more heavily on equalizing real incomes in inces have exclusive responsibility for health the population will all push in the direction care provision in Canada and are supported of increased central financing. by federal grants. China’s decentralized management and The provision of public services within fi nancing of pensions is a significant depar- China’s urban areas is also more interrelated ture from international practice. Most and increasingly calls for more intergovern- industrial and developing countries have mental cooperation in planning and service centralized or largely centralized their old- delivery. The need for better coordination is age pension insurance financing programs. most clear in the case of transportation. Each In general, the reasoning is that uniformity component of the public transport system in benefits and some guaranteed minimum is usually of good quality, but door-to-door funding of these programs is in the national trips by public transport are inconvenient 386 URBAN CHINA because of poor physical and service integra- explain some of the appeal of land-based tion, often characterized by excessive dis- financing in recent years. tances between transfer points, mismatched Second, the existing system leaves subna- schedules, separate ticketing systems, and tional governments vulnerable to discretion- lack of easily accessible transfer facilities. ary tax policy or revenue-sharing changes by These problems stem mostly from institu- the central government. This set of vertical tional fragmentation at the city level, where arrangements not only makes local revenue different agencies (metros, buses, road con- budgets vulnerable, but it also weakens the struction, traffic management, and land use) accountability of local government officials are responsible for different aspects of urban to both the local constituency and to the transportation (see supporting report 2: upper-level authority. Planning and Connecting Cities for Greater Third, the absence of formal local govern- Diversity and Livability). ment taxing powers has encouraged subna- In addition, ambiguous assignment for tional governments to find creative backdoor expenditure responsibilities undermines the approaches to financing service delivery. The accountability of local governments. Many relatively unregulated sale of land leases with industrial countries assign expenditure retention of most revenues, and local govern- responsibilities to their subnational govern- ment borrowing through intermediaries such ments and provide a list of who is respon- as the LGFVs are cases in point (Bahl 1999; sible for what, although some countries do Wong 1997; Liu and Qiao, 2013). not specify these responsibilities in a central These problems notwithstanding, revenue place but rather work them out in sector laws centralization has worked reasonably well in (de Mello 2010). Unlike many countries, China. Tax revenues and subnational govern- China has no exclusive list of functions that ment expenditures more than doubled as a is reserved for either the central or the sub- share of GDP between 1994 and 2012. That national governments. Rather, a very general explains how the central government could description of responsibilities in the Constitu- safely increase the income tax retention rates, tion leaves much latitude for interpreting the and abolish some local taxes, without fear of division of functions. Responsibility is del- local government budget shortfalls. But this egated by administrative decision and varies situation may change. Increased urbaniza- from province to province, leading to a lack tion will bring significant new expenditure of clarity about exactly who is responsible for pressures, and a slowdown in the economy what. The result can be a costly duplication will slow revenue growth. The land-leasing in service delivery, a failure to deliver some bonanza also may slow down with stronger services, or an inability to identify the level property rights for farmers and better use of of government responsible for a public service existing urban land (see supporting report 3). failure. More generally, lack of clear defi ni- The absence of a way for local governments tion and assignment of responsibilities can to mobilize more of their own budgetary become a hotbed for either intergovernmen- resources may compromise their ability to tal turf wars or buck-passing, and account- deliver adequate local services and certainly ability is in no way guaranteed (Lou 2013). will compromise their ability to deliver dis- cretionary services of their own choosing. In addition, several issues concerning Revenues the tax structure remain. The tax structure Highly centralized revenue assignment also has been further modernized since 1994. raises some important public financing prob- The changes have been gradual rather than lems. First, it means that subnational govern- the result of a “big bang” reform, but they ments have no way to adjust the tax rate or have been effective. The general direction tax base to pursue new initiatives that require has been toward a more simplified system resources above what they are allocated by with broader tax bases, lower tax rates, and the transfer system. These shortcomings, and improved collection practices, and toward a the pressing needs related to urbanization, heavier use of indirect taxes. The value added FINANCING URBANIZATION 387 tax was converted from a production to a 2013). The current levies total 1.6 percent consumption basis beginning in 2009, the of GDP, well above the rate for developing differential rates between domestic and for- countries (although below the average rate eign companies under the enterprise income of 2.2 percent for industrial countries). The tax were removed in 2008, the coverage of problem with the current structure is that it the excise tax has been expanded in recent is a hodgepodge of taxes on the physical area years, resource taxes on some selected items and transaction values of properties with no have been shifted to an ad valorem basis, provision for taxing updated values on an and most recently, the business tax is being annual basis. As a result, the property tax absorbed into the VAT to better cover the is not used to help shape more efficient land service sector and provide relief to companies use, to capture value created by public invest- that make heavy use of service inputs. ments, or to provide significant support to The general structure of the individual local government budgets. income tax has not been changed since 1994, Chongqing and Shanghai municipalities but the threshold for payment has been con- are implementing an experimental annual tinuously increased. As a result, the number tax on residential property. The pilot is in its of income taxpayers decreased and the rate third year in Chongqing. Some progress has of coverage is relatively low as compared to been made: the compliance rate is good, and Organisation for Economic Co-operation an identification system for all properties has and Development (OECD) countries. With been completed. Shanghai authorized a prop- China’s unequal distribution of income, one erty tax on owner-occupied property in 2011. might expect a more intensive use of the tax However, both of the pilot projects introduce that is designed to address this issue. property taxation with limited coverage of At the same time, China imposes a high properties and with a very low effective rate tax rate on labor income, largely to help of taxation. The pilots do not attempt to inte- fi nance social insurance schemes (pensions, grate the property tax with the other forms health, and unemployment compensation). of property taxation, and the issues of valua- The current level of contributions (employee tion and revaluation have been bypassed. and employer) is equivalent to about 40 per- The environmental levy is a “green taxa- cent of wages, which is high by international tion” approach (Merk and others 2012). standards. There are prospects for lower- Most resource use and pollution occurs in cit- ing this rate by moving some noninsurance ies or is caused by demand from cities, which costs and pension “legacy costs” to general also bear some of the greatest impacts. While revenue fi nancing (see supporting report 3). China has removed many environmentally Social security contributions impose perhaps harmful subsidies and other distortions in the major constraint on developing a more the production of energy, it has not yet fully broadly based individual income tax. accounted for the costs imposed on health, Property taxation has been much dis- ecosystems, and the climate that result from cussed as an option for a major local gov- resource production and use. The simplest ernment tax in China. Under the existing way to impose such a charge is an energy or regime, China levies five taxes on property: resource tax on water use to encourage con- the urban land use tax, which is levied on servation and carbon taxes that specifically the physical area of the property, the real place a charge on greenhouse emissions (see estate tax for business use, which is levied supporting report 7: Green Urbanization) on original value, the land value added tax, which is levied on appreciation in property Intergovernmental transfers value, the farmland occupation tax, which is levied on area, and the deed tax, which Several important problems arise with the is levied on the self-reported value of prop- shift of development objectives toward build- erty at the time of transfer. Together, these ing a harmonious society, and the menu of taxes on real property account for more than issues to be addressed by intergovernmental 8 percent of national tax revenues (Man transfers is formidable: Is the vertical alloca- 388 URBAN CHINA tion (between the central and local govern- per capita GDP. Nevertheless, the interpro- ments) of central taxes used to support local vincial fiscal disparities remain large and are government spending still “right,” especially only slightly less dispersed than those in per given the need to cope with significant urban- capita GDP. ization costs? Has the central government These disparities are not surprising given achieved the right level of equalization across the wide disparities in the natural advantages local governments and is it using the right of some provinces. They also suggest that the instruments to achieve this? Has the transfer public finance system could do more to reduce system become too complicated to administer them. The tax rebate grants and the general effectively? Finally, are the arrangements for tax sharing components are decidedly coun- sub-provincial revenue sharing in step with terequalizing. The latter are based on where government objectives? taxes are collected rather than on where expenditure needs are greatest. Currently, the Fiscal incentives. China’s version of inter- tax sharing and tax rebates together account governmental transfers is different from the for about 60 percent of all transfers to local mainstream practice in other industrial and governments. The higher-income provinces, developing countries, largely because of its where most taxes are collected, are favored emphasis on derivation-based revenue shar- under the shared tax system. The simple cor- ing. The major shared taxes (VAT and the relation between per capita revenue sharing corporate and personal income taxes) are transfers and per capita GDP is 0.89, indicat- shared with the local governments based ing a systematic favoring of higher-income on the location of collection. This arrange- provinces. Equalization grants have played ment distorts the allocation of resources in some role in reducing fiscal disparities. The two ways: it encourages local governments simple correlation between per capita equal- to hold on to enterprises that should move ization grants and per capita GDP is –0.41, to new locations because the government suggesting that, on average, lower-income derives taxes from them. In addition, the provinces receive larger equalization grants. derivation-sharing arrangement dispropor- The equalization grants represent only 19 tionally benefits large cities, because these percent of all intergovernmental transfers, are often the location of a firm’s headquarters however, and therefore have not been effec- and frequently the place where it pays taxes. tive in significantly reducing fiscal disparities This fiscal incentive reinforces the politi- across provinces. cal incentive for industrial promotion and encourages local governments to place more Complexity. The earmarked grants are emphasis on serving firms and industries and extremely complicated, and this complication less on its core role of providing public ser- comes with cost. There are about 200 condi- vices to residents. This pattern can easily be tional grant programs, each of which should seen in the composition of the government’s be monitored by higher-level governments expenditures as well as in land use. to insure proper compliance. Conditional grants in essence are (partially) funded man- Equalization. In more recent years, the dates, and unless they are properly designed grant component of the transfer system has to stimulate spending to capture a spillover grown and has done a better job of reduc- benefit, they will compromise local govern- ing fiscal disparities. Wang and Herd (2013) ment budget autonomy and may not enhance fi nd that grants have generated equalization efficiency. These conditional grants also effects both within and between provinces. impose an administration cost on the central Persson and Eriksson (2006) report a simi- government and a compliance cost on the lar finding based on an empirical study of subnational government. Finally, conditional the 1998–2003 period. Hofman and Guerra grants usually lead to strong bureaucratic (2007) find that interprovincial disparities in and ministry interest in maintaining these the Human Development Index—indicators programs, as well as a local government con- of service levels—are less than disparities in stituency, creating a formidable resistance to FINANCING URBANIZATION 389 abolishing these programs when they are no 10 percent of GDP a year on infrastructure longer necessary (Blom-Hansen 2010). investment, far higher than 3– 4 percent average of other developing countries, or Subprovincial transfers. Provincial govern- 2 percent average in developed countries. ments have considerable discretion to place In addition, China’s investments in schools, revenues where they are seen as most needed. hospitals, cultural centers, and public hous- A provincial government might decide to ing have gained momentum with the shift adopt equalizing distributions across local of government development strategy toward governments or choose an investment stimu- building a harmonious society. Remark- lation strategy. China is too large a country ably, the urbanization of new territories on to govern effectively without this provincial urban-rural fringes proceeded mainly with discretion. But this hierarchical arrangement physical infrastructure being built ahead of for revenue sharing also presents some prob- or in sync with demand for land from devel- lems. The provincial government may pick opers, through an urban “big push.” China’s off too great a share for itself, at least in the cities not only successfully accommodated eyes of the lower-level governments, or it 500 million new residents between 1980 and may not make the subprovincial allocations 2010 but also achieved significant improve- on a needs basis. In particular, provincial ments in basic infrastructure and living stan- governments may not adequately recognize dards. For instance, access to piped water in the needs of city and county governments to China urban areas doubled in three decades, deal with financing problems associated with the wastewater treatment rate increased from urbanization. Yet the information advantages almost none in 1981 to 84 percent by 2011, concerning expenditure delivery and tax col- and the road surface area per capita increased lection may well be greatest at the lowest lev- seven times during the same period. els of government. And, more generally, the Local governments in China take almost problems that come with delivering services exclusive responsibility for urban infrastruc- to accommodate urbanization and financing ture investments and financing. As table 6.3 them will fall heavily on the cities, but equal- shows, China invested RMB 5.9 trillion in ization objectives of a province might tend to fixed assets for public utilities, infrastructure, redirect funding away from cities. and facilities in 2011, equivalent to 12.5 per- Another problem with this hierarchical cent of GDP. More than 80 percent of this approach is that subprovincial allocations investment was sponsored by local govern- may compromise central government policy ments and their entities. The central govern- objectives. For example, the central gov- ment played a dominant role in financing ernment might adopt a program of allocat- railway investment (85 percent) and a rela- ing revenues among provinces according to tively large role in gas supply (37 percent), but expenditure needs indicators. But the pro- it played a negligible role in urban infrastruc- vincial government might decide to distribute ture. The investments in city connections them among cities and counties according (railways and expressways) are generally the to where revenues are collected. This possi- responsibilities of the central and provincial bility opens the door for a discussion about governments.11 whether central grants to provinces ought to Regarding the sources of infrastructure contain more mandates about how the cen- fi nancing, the Chinese model shows several tral funds should be passed through to pro- salient features: vincial governments. • User charges in China, including tolls, water tariffs, and garbage collection fees, Financing infrastructure investment are widely applied to finance infrastruc- China’s infrastructure financing model is ture services. But they often achieve low astounding, given how much revenue has rates of cost recovery, despite the central been mobilized to finance infrastructure government’s policies and guidance that over the past 20 years. China spent around encourage utilities to be self-financing. For 390 URBAN CHINA TABLE 6.3 China’s investment in public utilities, infrastructure and facilities, 2011 Percentage of total investment By investment By source of funding Total volume (RMB, billions) Central Local Budget Bank loans Others Public utilities 1465.9 30.5 69.5 6.3 31.3 62.4 Power 1160.3 37.2 62.8 5.5 35.9 58.6 Gas 124.4 11.3 88.7 2.0 15.5 82.5 Water 181.1 1.2 98.8 14.9 11.8 73.3 Transportation 2490.2 24.7 75.3 13.6 34.8 51.6 Railway 591.5 85.3 14.7 11.5 44.9 43.7 Roads 1385.6 3.5 96.5 17.0 30.0 53.0 City transport 222.5 1.9 98.1 8.4 52.5 39.1 Public facilities 1950.6 1.0 99.0 13.3 15.2 71.5 Subtotal: utilities and infrastructure 5906.7 18.3 81.7 11.6 27.5 60.9 Irrigation and environment 501.5 11.6 88.4 25.2 10.6 64.1 Education, health, cultural, and sports facilities 790.0 3.9 96.1 19.1 7.8 73.1 Public administration 564.8 5.6 94.4 23.5 4.5 72.1 Total 7763.0 15.5 84.5 14.1 22.7 63.2 Data Source: China Statistic Yearbook, 2012. example, a recent study of approximately from the auction are used for infrastructure 600 urban water utilities showed that only investment. In 2012 alone, China acquired 44 percent generated positive net margins, RMB 2.85 trillion from land auctions, even though real tariffs had grown 3.7 per- equivalent to 46.7 percent of total public cent annually over the previous five years finance revenues of local governments.12 (World Bank n.d.). Continued government The net revenue, after deducting compensa- subsidies provided the necessary financing tion to farmers and land development costs, in most cases. is much smaller, however, only around 20 • Only a fraction of infrastructure invest- percent of gross revenues. ment is financed directly from government • China imposes strict restrictions on the budget. Government expenditures on fixed borrowing powers of local governments.13 assets were equivalent to roughly 5 percent To circumvent this regulation, local gov- of GDP in 2009; about 1.5 percent of GDP ernments have set up around 10,000 was spent on investments in utilities and LGFVs to borrow and fi nance infrastruc- infrastructure, accounting for 11.6 percent ture investments.14 Local government bor- of total investments in these sectors (see rowing proliferated to finance stimulus table 6.3). packages amid the 2008–09 global fi nan- • Land lease revenues have emerged as an cial crisis. By end-June 2013, the explicit indispensable source of capital financing debts of local governments amounted to for China’s city infrastructure investment. RMB 10.9 trillion; local government guar- During 1996–2012, a total of 50,000 anteed debts, RMB 2.67 trillion; and other square kilometers were converted from contingent debts, RMB 4.3 trillion, with rural to urban use (and from collective to the total around 33 percent of GDP. state ownership). An estimated 40 percent • Private participation in infrastructure ser- of these lands were for industrial use, and vices is still limited compared with other local governments often charge low rent for developing countries, despite encour- industrial land. The majority of the land for agement from the central government. commercial and residential use is auctioned Since 1990, while China had over 1,000 in a competitive bidding, and revenues public-private partnership (PPP) transac- FINANCING URBANIZATION 391 tions in infrastructure (transport, water, an incentive to attract industrial investments energy) for a total value of $166 billion and that then heavily invest in infrastructure (Private Participation in Infrastructure, or to service these newly developed lands. This PPI Database), Brazil and India had much urban development strategy led to a pat- larger private investment in infrastructure tern of urban sprawl that is costly and has during the same period, $325 billion and channeled interest away from more compact, $273 billion respectively. infilling strategies for urban growth. The strategy also can increase carbon emissions Notwithstanding the success, a number because it generates longer commutes and less of important problems have arisen, ranging use of mass transit, increases living space per from concerns about poor investment choices person and therefore more emissions from made by some local governments to overin- home heating and general power consump- vestment in infrastructure compared with tion, and leads to less intensively used infra- other urban services, urban sprawl, social structure, which in turn raises emission levels and equity issues surrounding the practices (Baeumler, Ijjasz-Vasquez, and Mehndiratta in transferring farmland to urban use, and 2012; Z. Liu and Salzberg 2012). the level of land-based debt that is implicitly Local governments’ capacity in selecting guaranteed by local governments.15 and designing good and appropriate infra- The first concern relates to the role of structure is also handicapped by a frag- financing in shaping local governments’ mented budget and lack of a medium-term incentives and capacity for selecting, design- perspective in financial management. City ing, and providing infrastructure projects. governments tend to spend more on new Enormous infrastructure investment in infrastructure and less on maintenance and China is generally justified by the rapid rate operation; more on above-ground infrastruc- of urbanization and high growth of income; ture such as roads, transportation, and public however, some of these infrastructure invest- gardens and less on underground infrastruc- ments are driven by distorted incentives of ture like sewage systems and flood protec- government officials. Because their tenure is tion. Chronic underinvestment in mainte- short—often less than five years, local gov- nance and repair shortens the lifetime of ernment and party officials depends largely assets, which, in turn, increases long-term on achieving short-term economic develop- costs, which can threaten the long-term sus- ment targets and visible results to advance tainability of cities. Capital fi nance is con- their career. Short of alternative revenues, ducted ad hoc, on a project-by-project basis, local governments resorted to land-conces- and through multiple intertwined channels sion revenue and unregulated borrowing including many government bureaus, LGFVs from LGFVs. While the use of land-based and their subsidiaries, and many other public revenues for capital finance should reduce utilities firms. Not all investments in property overall capital financing risk, overreliance on and infrastructure are accounted for and land fi nance, together with distorted incen- reported on the government books (box 6.1). tives, contributes to inefficient use of land, Economic classification is not introduced corruption, and abuse of government power in budget management, and the budget is in land acquisition. Municipal governments managed on an annual basis. The lack of a may even act like profit-maximizing land multiyear and integrated budget prevents monopolists, by acquiring as much land as local governments from more effective pub- possible as cheaply as possible at the urban lic investment planning. If investment plans fringe, converting it into municipally owned were supplemented with a full-cost budgeting urban land, and selling the land use rights plan over the life span of the project (cost of to developers at the highest price the mar- construction plus future costs of operation ket will bear, potentially contributing to a and maintenance and asset renewal), some of land asset bubble. Economic distortions are the investments would not be justified from a compounded by deliberate government poli- cost-effectiveness basis (Mikesell and Mullins cies that assign zero or low values to land as 2011; Kaganova and Windolph 2012). 392 URBAN CHINA BOX 6.1 Reporting and budgeting of infrastructure finance Government budgets have four separate compo- challenge to efficient public financial management. In nents. The largest is the “public fi nance budget”— particular, current and capital expenditures appear in the general fund that is reported in most statistical all of the accounts, but government departments do compilations. The recurrent expenditures of gov- not record or report their activities by economic clas- ernment (other than social security) are recorded in sification not separating current and capital expendi- this account, as are the ordinary revenues raised by tures), making it difficult to track the overall budget the local government. Most expenditure on urban health of the local government. infrastructure facilities is made through the “Gov- Moreover, the local government budget is inter- ernment Fund budget.” The main fi nancing source twined with the budgets of local government fi nanc- for this budget is land revenues. The “state-owned ing vehicles and public utilities enterprises, and a enterprise operating fund budget” is for transfers of substantial portion of capital investment made with dividends from enterprises owned by governments to public funding might not be reflected in the municipal the general budget. Finally, the social security budget budget as such. Thus, capital construction by state- includes the pension, health, and worker protection owned enterprises themselves is not shown in the programs and the payroll contributions and subsidies municipal budget, even though it is funded, at least that finance these programs. partly, by subsidies and transfers from the municipal These four budgets are managed by many dif- budget. Furthermore, the private sector’s contribution ferent departments, an arrangement that presents a through various channels is impossible to estimate. The second concern with China’s fi nanc- market value of urban land. In many cases, ing model is equity. The policy on how to the land is expropriated, further raising the pay for the infrastructure investments—from level of unrest among those with user rights general budget revenue, user charges and over farmland (see supporting report 4, connection fees, or debt finance—has direct China’s Urbanization and Land: A Frame- implications about who will ultimately bear work for Reform). the cost of infrastructure. Subsidies to utili- If infrastructure investment were financed ties of a private goods nature, such as water only from savings on the general budget, and electricity, not only come at the cost of cities would not be able to meet the rising lower economic efficiency but also tend to demand from urbanization. In addition, be regressive, as wealthier households, who financing only from savings would raise consume disproportionately more, receive the intergenerational equity problems, because largest share of the benefit. the infrastructure investment benefits future When infrastructure services are financed generations while the costs would be borne from land-concession revenues, those who by the current generation of taxpayers. With use the services benefit at the expense of the urban migrants likely to make up a large por- previous owners of the land use rights, who tion of future generations, fi nancing totally were forced to sell at a rate well below mar- from savings further raises the social unrest ket price, or of citizens in general who are the between existing residents and migrants.16 ultimate owners of the land, depending on The third concern is the potentially seri- how one looks at it. In addition, neither the ous risk to fiscal sustainability. The absence collective nor the farmers may sell land to end of a strong regulatory regime governing bor- users, and the user rights of farmland own- rowers, land fi nance, debt fi nance, and PPP ers are only weakly guarded. Only the local entails fiscal risks. government can convert farmland to urban Land-based revenues for capital finance use. Local governments use their monopoly complement borrowing by reducing the powers to claim farmland at a value reflect- uncertainty surrounding future debt repay- ing agricultural use, which is well below the ment capacity and the need to generate future FINANCING URBANIZATION 393 revenue streams to meet future debt service. found that local government direct debts Thus the use of land-based revenues for continued to grow fast, at a yearly rate capital finance should reduce overall capi- around 20 percent from 2010 to 2013, and tal fi nancing risk. Because, however, urban the refinancing ratio exceeded 20 percent land values are highly volatile, land financing in 2 provinces, 31 municipals, 29 counties, creates volatility in capital budgets and debt and 148 townships. The overdue debt ratio repayment funds. Land prices can swing as was 1.01 percent on average, but it exceeded much as 50 percent in either direction, and 10 percent in some cities and reached 16.36 in times of crisis even more, as demonstrated percent in the worst local government. Inter- during the Asian financial crisis of the 1990s national experience suggests that subnational and again during the market collapse starting debt risk is triggered by the sheer size of the in 2008. Systemic risks are increased when debts but also is more broadly associated the entire subnational sector relies heavily on with local governments’ capacity in manag- land values to provide security for borrowing ing their debt portfolio and formulating fiscal (L. Liu and Peterson 2013). policies in a sustainable manner. China’s overall public debt, including sov- In China, under the current system, the ereign and local government debt, is low by separation of subnational government debt international standards. The sovereign debt from its budget undermines the accountabil- remained at around 18 percent of GDP at the ity of local governments for debt sustainabil- end of June 2013 (or 22.7 percent if all con- ity, especially when debt is used to fi nance tingent debts are included). By including an expenditures mandated by the central gov- estimate of the local government debt based ernment such as the post-2008 stimulus on a report by the National Audit Office, package and affordable housing. The frag- the overall direct and contingent public debt mented budgeting and indirect borrowing was about 55.6 percent of GDP, far below also prevent local governments from estab- the most conservative warning line—60 per- lishing proper debt management and control. cent of GDP (table 6.4). In addition, several To improve their access to credit and lower factors will work to improve China’s debt financing costs, some local governments have dynamics in the future. China’s large growth taken measures to reinforce the perception of potential creates the foundation for further an implicit guarantee on LGFV debt and have growth of real revenues and favorable debt tapped into less regulated credit markets, dynamics. China’s government commands known as “shadow banking.” Some local a large portion of assets including shares in governments resorted to PPPs as a source state-owned enterprises (SOEs) and land, of capital fi nancing and built up substantial which represent a source of potential rev- risks emanating from these commitments. enues going forward. Large national savings Meanwhile, creditors, including bank and coupled with investment-grade sovereign risk others, fail to impose hard budget constraints ratings imply a relatively low cost of borrow- on local governments. There appears to be ing (L. Liu and Pradelli 2013). little market scrutiny of underlying financial Concerns, however, remain with local conditions of LGFVs or local governments government borrowing. The audit in 2013 and little information upon which to base TABLE 6.4 China public debt, June 2013 RMB, billions Contingent debt Direct debt Guaranteed debt Other contingent debt Subtotal Share of GDP Central 9,813 260 2,311 12,384 22.7% Local 10,886 2,666 4,339 17,891 32.8% Total 20,699 2,926 6,650 30,275 55.6% Data Source: National Audit Office, 2013. 394 URBAN CHINA such judgment. Most urban infrastructure intensified the debt-refi nancing risk. By the lending by banks and others is based on the end of June 2013, banks had financed about reputation of the LGFV and an implied guar- 56.6 percent of local governments’ debt, and antee that the local government will not let bond issuance in the capital markets had the borrower fail. As a result, there is a lack financed only 10.3 percent (box 6.2). Because of transparency and objectivity in the financ- the repayment period for bank loans tends ing process. In the absence of credit ratings to be shorter (two to five years) than that for for borrowers, it is difficult to see how regu- bonds, the debt cannot be fully amortized in lators can reasonably assess the portfolio risk such short time spans and must be rolled over profi le of the banks and institutional inves- (refi nanced) when it matures. Debt manage- tors. In such a situation, lenders and investors ment that relies on continuous refinancing have no expectation of negative consequences when principal payments come due is danger- for lending to poor credit risk borrowers ous, especially in a market setting. The will- and poor credit decisions predominate in an ingness of banks or other lenders to roll over atmosphere of moral hazard. existing debt at maturity depends on multiple Overreliance on bank loans as an instru- factors, many of which are beyond a local ment for local government borrowing has government’s ability to control. An inability BOX 6.2 Local governments’ debt instruments Local governments in China have been very innova- • Bonds issued directly by city governments in a very tive in exploring a variety of debt instruments: limited number of cases (mostly 3- to 5-year bonds). Since 2011, four local governments (Guangdong, • Medium-term loans from the China Development Shanghai, Shenzhen, and Zhejiang) have been Bank (CDB), which derives some of its funding allowed to issue their own bonds and two more from the capital market using Policy Financial provinces (Jiangsu and Shandong) were expected to (“F”) Bonds that have a 5- to 10-year maturity. The enter the bond market in 2013. So far, the market CDB has provided a significant volume of fi nanc- entry and volume of bond issuance has been care- ing for urban infrastructure. According to an arti- fully controlled by the Ministry of Finance, and cle in May 2013 by the president of the CDB, the that has increased in 2013 to RMB 70 billion, up bank has already made RMB 6 trillion in loans to from RMB 28.9 billion in 2012. fi nance China’s urbanization process.a More than • Public-private partnerships ranging from concessions half of those loans—RMB 3.4 trillion—were out- to joint ventures and build-own-operate schemes. standing at the end of 2012 and represented 71 per- • Funds raised through shadow banking vehicles cent of the bank’s total outstanding loans. such as wealth management products, trust funds, • Commercial medium-term bank loans to local gov- and other collective investment schemes. ernment fi nancing vehicles (LGFVs) (mostly 3- to 5-year loans) that carry an implicit guarantee from Despite this array of financing sources, the Chi- the local government. nese financial markets continue to be both bank- • Bonds issued by the Ministry of Finance on behalf dominated (accounting for 56.6 percent of local gov- of provinces (mostly 3- to 5-year bonds). ernment debts in June 2013) and restricted in scope, • Bonds issued by LGFVs (implicitly guaranteed by with few long-term financing instruments and a limited the local government). In some cases LGFVs bor- number of large institutional investors. The magnitude row solely for the purpose of de facto relending to of capital market fi nancing for urban infrastructure the local government. Expansion and diversifica- remains small relative to bank financing even as bonds tion of the domestic bond market is already taking issued by urban development investment corporations place in a tentative manner. have become a growing portion of the bond market. Source: Painter 2013. a. As reported in “China Development Bank Says $8.1 Trillion Needed for Urban Shift,” Bloomberg News, May 20, 2013. FINANCING URBANIZATION 395 to roll over debt, in turn, can precipitate a division between the government and the local government budget crisis, or in some market and create distortions that may do cases even a financial crisis such as Brazil more harm to overall economic efficiency experienced in the 1980s. Such liquidity risk than is gained from the public infrastructure is also related to the scarcity of long-term fi nanced. These practices encourage LGFVs financing instruments and the underdevelop- and public utility enterprises to manipulate ment of the Chinese capital market. their relationships with government to secure China’s authorities recognize the poten- their monopoly power in an otherwise com- tial risks arising from local government debt petitive market. They also create distorted if liabilities are left hidden and uncontained. incentives for local governments to protect In June 2010, the State Council issued a cir- their entities from competition from private cular (Guo Fa 19) on enhancing the control firms. over LGFVs. A joint task force was estab- Local governments generally lack the lished to verify and catalogue the LGFVs needed capacity to manage PPP contracts. and their debts. The Ministry of Finance, These contracts require identifying the the National Development and Reform true cost of infrastructure and utilities, Commission, the People’s Bank of China, but, as discussed, the current reporting of and the China Bank Regulation Commis- and budgeting for infrastructure finance sion have all issued a series of regulations are deficient and unable to reveal the true and guidelines to regulate local govern- cost of infrastructure projects. The cost of ment and LGFV borrowing behavior. Many traditional publicly financed projects is often local governments have also launched pilot underrecorded, which may create an illusion reforms to improve their debt manage- about the efficiency of public utility firms. ment framework. Much more remains to Managing the bidding process is another be done, however, to improve the fi nancial challenge. Open bidding could mitigate intermediation process for long-term debt the information disadvantage of a local fi nancing and put local government fi nanc- government, but it sometimes fails to reveal ing on a sustainable foundation. the true cost of infrastructure projects owing The fourth concern relates to the impact to the moral hazard of private partners; for of the existing financing model on market example, a private partner may offer a low and private sector developments. The cen- price on expectation that it will be able to tral government has signaled that it wants renegotiate the tariff or subsidies after win- to promote greater market orientation in ning a PPP contract. infrastructure finance, using market-rate The absence of a clear legal and regula- debt fi nancing where appropriate as well as tory framework for PPP management also encouraging private investment in infrastruc- discourages private investors. There are 54 ture facilities. Both domestic private and policy acts related to PPP in China’s legal foreign investment would be permitted for system, each dealing with different aspects nearly all forms of infrastructure, particu- of a single project such as finance, foreign larly in water supply and wastewater treat- investment, tendering, and bidding processes. ment, through sole investment, cooperative This multiplicity of laws causes a multitude enterprises, joint ventures, share purchase, or of regulations and a complex legal environ- franchise. In particular, nonpublic capital is ment for PPP projects even within a single encouraged in building, operating, and man- sector.18 The disconnection between central aging public utilities.17 and local policies further aggravates this Local governments, however, with easy fragmented approach,19 leading not only to access to borrowing through LGFVs, are less different ways of implementing PPPs in dif- keen to use PPPs. To improve their access ferent places but also to an array of different to borrowing, some local governments even ministries and bureaus that may be involved combine public investment projects that gen- in PPP implementation and ultimately dis- erate insufficient cash inflows with profit- couraging participation by private companies making activities. Such practices blur the (Wu 2013). 396 URBAN CHINA Financing affordable housing very low income workers to young profes- sionals with technology skills to middle- China’s policies have been successful in income families. The housing is variously increasing the per capita housing space even called “low-income” housing, “affordable” as China’s urban population increased to or “subsidized” housing, or “social” hous- more than 50 percent of the total. Between ing, conflating the difference between social 1985 and 2007, urban residential space per housing and more broadly based govern- capita had risen to 28.3 square meters from ment-assisted housing. The categorization of 7 square meters. The larger size is greater qualifying units is so broad that providing a than the averages in Europe and Japan (Man, unit that is 10 percent below market value to Zheng, and Ren 2011). a high-skilled technical employee and a low- Housing prices have escalated dramati- rent unit to a migrant worker both count as cally, however, making it difficult for low- affordable housing. and middle-income households, those mov- Housing with price caps is making a resur- ing from rural areas to urban areas, and gence in high-cost cities, such as Beijing, but young workers to buy a home. Housing the practice raises the question of subsidy prices in China’s cities became very high in capture. The concept seems simple: auction relationship to incomes. Internationally, a land to developers with a pre-defi ned price price-income ratio of 5:1 or more is consid- cap on the sales price of the housing units. ered unaffordable. While the average price- Unfortunately, international experience has income average in 600 Chinese cities was 5:1, shown that developers can build out the units in major cities it was much higher. In Shang- to a lower-quality standard and, therefore, hai, for instance, the ratio was 28.4:1 and in can capture most of the subsidies, defeat- Beijing, over 30.1:1.20 The lack of affordable ing the purpose of the subsidy. A lack of a housing for low- and middle-income urban strong appraisal industry indicates that the households in China, particularly in big cit- land price could be artificially inflated over ies, poses risks and challenges to a stable and the true market price before the discount is harmonious society and impedes labor mobil- applied. ity. Therefore, the development of affordable The formula for housing construction housing programs became a central focus on allocation is driven by the central govern- the government reform agenda. ment, not market conditions. The central China is in the midst of an ambitious pro- government provides the range and level of gram of affordable housing construction. coverage, the means of allocation and admin- Under the 12th Five-Year Plan (2011–15), the istration, and access and exit mechanisms, central government mandated that 36 million and it also contains stipulations concerning units of affordable housing be built, with the the planning, design, size, quality and safety objective of reaching 20 percent of the total requirements of low-income housing projects. urban population. It then developed a formula Market studies are not required, and munici- through which each municipality was required palities are judged on their progress in meet- to build a certain number of units to standards ing the quantitative goals, not on the success set by the central government, which provided of the projects. (Gao and Wang 2012). very little funding for this effort. New housing construction may have a China’s construction effort contains both negative impact on labor mobility. Since the rental and owned housing in five broad cat- municipalities are responsible for the cost of egories to accommodate the diverse urban construction, much of the new housing built population (box 6.3). Affordable rental hous- is on the periphery of the cities where land ing is particularly needed in major cities prices are much lower, but where residents where owning a house is out of the reach of are farther from transportation and jobs. In most families. The defi nition of what types Mexico City, commuting costs from newly of housing qualify as affordable is very broad constructed housing on the outskirts of the and without clear policy objectives except city have caused an estimated 20 percent of for growth. The target markets range from the housing to be abandoned. FINANCING URBANIZATION 397 BOX 6.3 Basic concept and categories of affordable housing in China Economically affordable housing. Economically has increased. After several years of implementa- affordable housing refers to a special category of tion, the program now covers most of these poor housing sold to lower-income families at subsidized urban residents (with hukou registration), especially prices. Qualified purchasers must meet several families with elderly or disabled members. Some low- requirements, including income level, hukou registra- income families can rent housing in the market with tion, and certain housing conditions. Units are limited government subsidies, as part of the low-rental hous- to 60 square meters and are sold to qualified families ing program. at below-market price, often 25 percent to 40 percent below the price of comparable ordinary commodity Public rental housing. This new form of affordable housing. The government generally provides land for housing started in 2009 to cater to the demands of affordable housing construction, allowing such units households with income levels falling between the to be sold at a discounted price relative to the market required thresholds for economic housing and low- price. Owing to heavy subsidies by the government, rent housing. Public rental housing mostly serves homeowners are permitted to sell the unit only under low- and moderate-income families and has lower- certain conditions: they usually cannot sell for the than-market rent for the houses of the same quality. fi rst five years they own the home, and they may be This scheme is the fi rst attempt to use rental housing required to sell the house back to the local housing to solve the housing problem of families. It focuses authority with joint share of the increase in value. on relieving the stress of fi nding housing from local young staff and migrant workers who have relatively Price-capped commodity housing. Housing prices low incomes. Unlike low-rent housing, public-rent are so high that even middle-income families could housing in some cities can be sold to the tenants hardly afford to buy their own dwelling. Thus, some after they satisfy certain requirements, such as a resi- cities initiated a housing assistance program targeted dency period, income cap, and compensation to the at urban middle-income families. In this program, government. the housing price is higher than that in economic commodity housing but lower than that in ordinary Shanty-town resettlement. The resettlement of commodity housing. Units are limited to 90 square shanty town residents constitutes a major component meters. Similar to economic commodity housing, of China’s affordable housing construction plan. homeowners have to meet certain conditions before This form of affordable housing is aimed at improv- they are allowed to sell their units. ing the well-being of low- and middle-income house- holds living in areas considered shanty towns. Reset- Low-income rental housing. Such housing is owned tlement occurs when the government needs land for by the government and leased to very poor urban a development and plans to tear down the existing hukou residents at below-market rates. This low-rent housing. Relocated families may be offered afford- public housing program is part of the official social able housing, price-capped commodity housing, or a security program and is primarily financed using cash settlement. In cases where the existing property the budget of the local government. In recent years, is of significant value, the current residents are some- direct fi nancial transfer from the central government times given more than one housing unit. Source: World Bank 2013b. Housing policies may also have a negative The affordable housing construction sys- impact on social cohesion. Those who can tem is a type of unfunded mandate. While the afford the housing prices will have housing central government sets the goal for afford- options in the center cities. Those who do not able housing construction, the responsibility will fi nd their housing further away. In the for financing these projects rests primarily on United States, the model of tall towers in low- the municipalities and on the local housing cost and often isolated locations led to such provident funds. According to a JP Morgan physical and safety problems that many had study, of the RMB 1.4 trillion needed to meet to be demolished. the policy goals for 2011, the central govern- 398 URBAN CHINA ment provided only RMP 170.5 billion in its management, its track record, the financial 2011, including RMB 28 billion carried for- position of the owners or of the corporation, ward from 2010. the market, the potential risks, and the com- The municipalities’ provision of land at petition. Evaluating the market is particularly discounted prices or of net income from land critical because the lending institution must transfers for the construction of affordable look at vacancy rates in the target market, housing projects is both an opportunity and local laws and regulations, and the overall a challenge. On the one hand, current reve- economy in the areas served. It must assess nues increased. Between 1999 and 2007, the potential developments that could affect the amount of land sold for development grew market, such as a factory closing, which by 23 percent a year and fees for leasing by would have a negative effect on the evalua- municipalities rose by nearly one-third annu- tion, or a new commercial and retail devel- ally (Ministry of Land and Resources 2008). opment, which would have a positive effect. On the other hand, land is a limited resource, Housing provident funds and governmental so land sales cannot continue indefinitely, entities rarely have the training to perform creating vulnerabilities for the cities, par- these evaluations and are therefore dependent ticularly if the projects ultimately fail or cost on the developer’s information. more than anticipated. The current approach to financing afford- The use of housing provident funds for able housing in China carries great risks, project fi nance has grown rapidly. HPFs— particularly to the cities and to the hous- mandatory long-term savings funds estab- ing provident funds. In countries with high lished to help fund members fi nance hous- housing costs, it is nearly impossible for ing—are permitted to use up to 50 percent low-rent housing to be sustained without of their “surplus funds” for social housing deep demand-side subsidies. Even if land and construction. The interest rates on the con- infrastructure are provided, the cash flows struction loans are set 10 percent higher than from the rents are highly unlikely to cover five-year mortgages used for individual home all of the costs, particularly in low-cost rent- purchases, which is far below the develop- als. Cost savings on the front end can lead ment lending interest rate of commercial to faster deterioration, creating a downward banks. The use of these funds has grown spiral of lower occupancy and higher mainte- from a pilot project in 2009 with 29 HPFs nance costs. providing project financing, to 93 HPFs that Municipalities are given little incentive to had pledged RMB 41.2 billion for affordable build low-rent housing that can be sustain- housing development and had used RMB able over time. They are responsible for all of 31.2 billion by the end of 2012. The calcula- the costs of building, managing, and main- tion of the provident fund “surplus” is based taining housing. They can charge higher rents on the HPF’s current financial status, and is for slightly-below-market public rental hous- not subject to any type of stress test, creat- ing than they can for low-rent housing, cre- ing potential vulnerabilities in the funds and ating a much greater possibility for positive in the real estate markets. The “surplus” is cash flow. Conversely, they will have to fi nd determined by the current surplus, deduct- additional sources of revenue to cover any ing for loan risk reserves and administrative losses on low-rent housing projects. There- expenses. A project that fails will decrease fore, it is in their economic interests to build the liquidity of the fund, which, in turn, will fewer low-rent units than public rental units. decrease the amount of funds available for Expenses for the operation of publicly sup- mortgage loans. The amortization period for ported rental housing are underestimated, many HPF project loans is greater than 10 as they are in many countries. While analy- years, adding additional liquidity pressure. ses have been performed on the cost of con- Financing the construction of rental hous- structing subsidized rental housing, managers ing is more akin to project fi nance than it is of rental housing interviewed for an earlier to mortgage lending. A lender must evaluate study believed that the rents would be suffi- the business applying for the loan, including cient to cover all expenses. While that might FINANCING URBANIZATION 399 possibly be true for units whose rent is close and enterprises to the places where they are to market price, it is almost never true for most productive, not to where they get the lower-income rental housing. In either case, best tax or land deal from local government. the only way to determine the sufficiency It will also need to accommodate the integra- of rent projections is to have detailed fi nan- tion of migrants and their families into urban cial statements prepared based on projected areas. Revenues from land conversion are income, less an estimate for vacancies, less likely to taper off, requiring replacement with expenses including all maintenance, opera- new sources of local revenue, whereas prop- tional, and management costs and reserves erly regulated access to borrowing will be for replacements of capital items. In Dalian, needed to finance infrastructure investment. the rent revenue is expected to cover only The financial sector will need to intermediate loan payments, but not property manage- capital efficiently to meet local governments’ ment and maintenance costs. The gap will needs for infrastructure fi nance, and at the have to be filled by HPF annual supplements same time impose financial discipline on local for low-rent housing. governments and avoid fi nancial sector dis- While China does indeed have standards ruption. The private sector can play a larger for new construction, there is no system for role in financing and delivering infrastructure monitoring the physical conditions over time investment and other public services. or for correcting any deficiencies that exist. Aligning the urban finance system with Moreover, the pressure to keep costs down the changing development objectives involves during construction can lead to faster dete- reforms across a variety of interrelated sys- rioration than with market rate housing. Les- tems, including the public finance regime, sons learned in the United States are appli- land finance, financial intermediaries, and cable here. Tall towers in isolated locations private sector development. For example, changing expenditure assignments is impor- with too little capital or staff to manage and tant but will call for changes in the distribu- maintain them deteriorated into slum hous- tion of intergovernmental transfers because ing with unsafe and unhealthy conditions. local governments might end up with more Eventually, properties in Baltimore, Chicago, or less budget responsibility. In turn, losses Newark, Philadelphia, San Francisco, and from the redistribution of transfers might other cities were demolished. need to be compensated by increased local taxing powers or the ability to increase user Reform considerations for China charges. Reform of the land conversion pro- gram raises the question of whether local To support the new urbanization model, governments should be allowed to borrow urban finance needs to be reformed. The cen- directly. Should local government be allowed terpiece of the reform will be moving toward to borrow, the demand for credit needs must a system that more clearly separates the tra- be met by supply, which leads to question ditional function of government—the provi- whether intermediaries can play such a role. sion of equitable and efficient levels of public These examples suggest that the right long- services and regulation—from the investment run goal is not to address a single issue but to and production functions of other sectors. implement a comprehensive reform agenda. The local government leadership evaluation Some elements of the reform—such as the system would need to be altered to reflect this reassignment of some expenditure responsi- change in the government role. And China bilities—might be accomplished in the short needs to move from benign neglect of local run. Others might be phased in beginning in borrowing to a rule-based system that is the provincial cities and moving later to other strictly enforced. cities, and yet others may be implemented A modernization of the approach to only over the longer run. In this way, the financing will require changes in both financ- comprehensive reform package proposed in ing and regulation. The public finance system this report could be introduced gradually and will need to support the movement of people over time. 400 URBAN CHINA To manage the process of comprehensive responsibility list, that is, functions that are reform, China needs a stronger, more trans- the responsibility of more than one level of parent and streamlined public fi nance man- government. While concurrency is to some agement and governance system. To get the extent inevitable, because some functions do best value out of public money, this improved require shared responsibility, the goal of this system would need to bring a medium-term reform will be to minimize it in service deliv- perspective to fi nancing, link budgets with ery. Reducing overlap in government func- development plans, and allow government to tions could reduce costs as well as unpro- strategically allocate resources and improve ductive coordination efforts. More broadly, the efficiency and effectiveness of public clarity on expenditure assignment is required expenditures. This transparent system could for a better design of the intergovernmental allow the government to communicate the fiscal system, to ensure that resources are reform agenda to citizens and gain their sup- available at the level of government that has port; the government’s credibility and trust the responsibility for delivering a specific ser- with citizens could also be improved through vice. There is wisdom in the old adage that linking the budget with performance. The “finance follows function.” Until expenditure government structure could be streamlined responsibilities are sorted out, it is not pos- by removing the prefecture level as a tier of sible to put a rational financing plan in place regional government. (Bahl and Martinez-Vazquez 2006). This section elaborates on the key com- In getting the expenditure assignment ponents of the comprehensive reform pack- right, China may need to weigh the gains age. These components are organized by the from local control against the gains from sources of funding, namely public finance, technical efficiency, and from internaliz- land fi nance, housing provident funds, pub- ing external costs and benefits. A task force lic-private partnerships, and debt finance. supported by considerable staff should be Financial management and governance issues charged to analyze all functions of govern- are also discussed. All these components are ment. Each subfunction of government func- integrated, so it is important to understand tion might be subjected to the same test: do how they fit together, as well as the joint the gains from decentralization—better ser- impact they might have on the economy. vicing of local needs and circumstances— outweigh the advantages from centraliza- tion—the ability to capture economies of Rationalizing public finance scale and internalize interjurisdictional The reform agenda of public fi nance system externalities? Even with this principle to fol- should be centered on three major tasks: low, the work of dividing the competencies reassigning the expenditure responsibilities between the levels of government will be as to better manage the externalities in a more much art and politics as science. Factors such urbanized economy; rationalizing revenues to as preferences of individuals for services, correct the distortion of fiscal incentives and externalities resulting from local decisions fi nance expenditure needs related to urban- or imposed on local areas, and even econo- ization; and building a rule-based tax-shar- mies of scale are not easily measured, if they ing and transfer system to address the dispar- are measureable at all. The effects on equity ity concern. must be defined and weighted, administrative questions must be considered, and culture will play a role. And always, there is poli- Reassign the expenditure responsibilities tics. Based on the analysis, the policy maker A first priority for the fiscal system is to should rethink needed changes in the division achieve greater clarity in the division of func- of expenditure responsibilities between levels tional responsibility among the various levels of government to come up with the exclusive of government. In China, most of the ambi- lists. Finally, the responsibilities for each sub- guity in expenditure assignments under the function of government should be laid out in existing system derives from a “concurrent” a new law, perhaps a revised budget law. That FINANCING URBANIZATION 401 law will specify those functions that will be Second, responsibility for the financing the exclusive responsibility of the central gov- and administration of social security func- ernment and those that will be the exclusive tions should be rethought. An especially good responsibility of the local governments. case can be made for more centralization on In China, local governments perform some the financing side, and for a clearer shar- functions that would be better administered ing arrangement between the center and the by the central government. Three areas are of provinces on the management and fi nancing particular concern. First, governments should sides. Centralizing the administration of pen- continue to divest themselves of responsibili- sions would improve the mobility of labor, ties for private sector activities, such as the allow the imposition of national standards, management of industrial parks, the develop- and address important problems related to ment of land for commercial purposes, and risk pooling. the ownership or partial ownership of enter- Old age pensions are a national function prises that produce purely private goods. in most industrial countries and, beyond Whether local governments should maintain the public pension system, a private func- their role in industrial policy through tax and tion in many countries. China might follow subsidy policies aimed at attracting indus- this model. Provincial and local variations in try is a more difficult issue. Many industrial benefits and contribution rates are at odds countries allow this practice, even though its with uniform standards for all Chinese citi- problems are well known. zens. The current arrangement of city and If the central government decides against county responsibility for pensions has forced allowing local governments to subsidize pooling to the prefecture and provincial level industry locations, it could shift to a policy of in many provinces, but even that has not making such competitive subsidies the exclu- eliminated the financial problems. Inter- and sive responsibility of the central government. intraprovincial disparities in per capita GDP That is, every subsidy to attract economic suggest that uniform national levels could development would require central govern- not be maintained with local government ment approval. Under this regime, local gov- funding. These pooling issues and the need ernments would continue to compete with for portability suggest that both equity and one another without central approval, but the the removal of impediments to labor mobil- main instrument of their competition would ity would be best served if public pensions be the quality of services offered. If subsidies were administered by the central govern- are required, as in the case for technology ment—although, of course, the adminis- advancements or pioneer industries, these are tration would need to be deconcentrated— more appropriately a responsibility function that is, central government would need to of the central government. The idea of central- maintain local offices for administration of izing the power to grant industrial subsidies in benefits. China is raised in Lou (2013). Certainly the Health insurance is a less clear-cut issue administration of such an approval process because local management of the program would be difficult and costly and would invite has benefits, and a case can be made for some heavy lobbying efforts. In most countries, the local variation in the delivery of the service. problem would be fi nding a way to prevent But the case for central financing and the local subsidies, but in China where no local imposition of central rules is also a strong government taxation powers are in place, one. The central government would like all the policing job could be much less difficult. Chinese citizens to have access to the same Irrespective of the policy choice made, the health care services, and certainly to the central government should clarify the policy same reimbursement benefits, irrespective and define what is and what is not allowed by of where they live. City and county govern- local governments in their conduct of indus- ments, and even some provinces, do not have trial policy. The European Union rules on the resources to deliver on this promise. In support for industry (see box O.11 in the over- addition, health insurance benefits need to view report) could serve as a useful example. be portable to remove impediments to labor 402 URBAN CHINA mobility, a goal that is consistent with cen- in 1994, could be considered but would need tralization of the financing and management. to be phased out over time. A third problem with expenditure assign- At the same time, a solid revenue base for ment is that local governments have been local governments is important for reasons assigned responsibilities that are character- of efficiency and accountability. Such a foun- ized by significant interregional spillover dation could be established by giving local effects. These functions and subfunctions are governments some discretion to levy taxes, candidates for centralization. Detailed analy- on certain bases and within a range of rates, sis by a government commission is likely to and to claim all revenues raised from the new uncover many candidates for central assign- local taxes. That would bring many benefits ment, but judicial services, food safety, river to China. Revenue mobilization would be basin management, and environmental pro- enhanced because local governments have tection are examples of such functions. information advantages that give them a comparative advantage in the collection of certain types of taxes, such as property and Rationalize government revenues land taxes. A regional efficiency argument Government revenues need to be reassigned, can also be made. Substituting local taxes for based on the expenditure needs related to some intergovernmental transfers would lead urbanization and on reassignment of expen- to a higher tax price in the larger urban areas diture responsibilities. On the one hand, the and force labor and capital to take that into reassignment of expenditure responsibil- account in making location decisions. China ity will hold important implications for the is struggling with urban sprawl. A system of financing side of the reform program. If, for property and land taxes could help rational- example, the social security functions and ize land use patterns and provide incentives certain other functions are shifted to the cen- for more compact investments. Finally, there tral government, then it might be necessary is an equalization argument, that is, as local to shore up the revenue base of the central governments in higher-income regions sub- government to ensure that these costs could stitute their own taxes for intergovernmental be covered. transfers, funds will be freed up for distribu- Should central government need to mobi- tion to lower-income regions. More broadly, lize more revenues to finance increased local taxation might be a way to harden the expenditure responsibilities, it has two local budget constraint and to strengthen options. One is to transfer more SOE profits the creditworthiness of subnational govern- to the budget. The SOEs managed by central ments. With taxing powers, local govern- government are generally natural monopoly ments would have the wherewithal to expand corporations, and they generate more than delivery of services that are in high demand two-thirds of total profits made by all SOEs. or that would allow them to better capture If those SOEs managed by central govern- their comparative advantage. It would also ment were to transfer only half of their prof- improve their creditworthiness by showing a its to support the central government’s bud- stronger ability to service debt or to maintain get, the revenues generated would be roughly public facilities. In general, local taxing pow- equivalent to 1.5 percent of GDP. The other ers would give local governments an instru- choice is to increase the central government’s ment to use in shifting their competitive strat- retained share of total central tax collec- egies from the back door to the front. tions, that is, the value added and corporate Useful criteria can be applied to identify income taxes. This policy change would also good instruments for local revenue mobiliza- reduce the incentive for local governments to tion: local taxes should be administered at compete for the value added tax base with reasonable cost, yield significant revenue, and industrial subsidies. To manage the poten- not result in exporting the burden of payment tial disruption to local budgets, temporary to residents of other jurisdictions. A number arrangements such as the Tax Return and of local revenue-raising options more or less Tax Increment Return transfers introduced fit the criteria. FINANCING URBANIZATION 403 A property tax on housing can provide a and longer commutes. Motor vehicle taxa- stable revenue source that is aligned with ser- tion could discourage the use of private cars, vice delivery quality and would allow local at the margin, while generating new revenues government budgets to benefit from increased to defray some of the costs involved. Chinese land values in their jurisdiction. The property cities could continue to use tax and charge tax can fulfill two other important objec- policies to increase the price of owning and tives in China: it can be both a quasi-user using a car relative to using a public trans- charge for urban services and a tax on wealth port system or choosing a different housing holdings in real property. Property taxes are location. never popular with constituents, but that is The revenue potential from motor vehicle part of the rationale for those taxes: if local taxation is considerable, and local govern- governments want to spend more, the burden ments could use the funds to cover the general is on them to argue their case to the taxpay- costs of urbanization. Beijing, Guangzhou, ers. Further, property taxes would encourage and Shanghai have introduced vehicle own- property owners to make the best possible ership or usage control, or both. Some cities use of their property—for instance, by rent- such as Shanghai already auction car license ing out their apartments that are currently plates, which limits car use to sustainable lev- empty or developing unused or underused els and brings in considerable revenues (RMB land. 7.1 billion in 2012). Higher vehicle registra- China should aim to make property taxes tion fees and excise taxes on fuels also offer an important part of local government rev- considerable revenue potential, and both can enues. Even a relatively low effective tax be implemented with special arrangements rate of 0.5 percent on this gross measure of for public transport, if local governments the tax base would yield the equivalent of want to limit the impact of fuel taxes on pub- 1 percent of GDP in revenues. Property taxes lic transport prices. will not be able to fully replace current land A local sales tax could be charged in the revenues of 1.5 percent of GDP in the near cities where people live and consume. In future. Industrial countries raise more than principle, urban local governments in China 2 percent of GDP in property taxes while could mobilize considerable resources from low- and middle-income countries raise about local sales taxes that are levied in the location 0.6 percent of GDP on average (Bahl 2009). where consumption occurs. If sales taxes on To realize the full revenue benefits from the selected items of consumption could be made tax, it is important to put up a good adminis- administratively feasible, they could be rev- tration system with a central decision on the enue productive and would pass some of the basic structure of the tax. The administration tests of a good local tax. That might be pos- system should consist of identification of all sible for specific items of consumption such parcels and their ownership, valuation and as high-end jewelry and imported luxury revaluation, and collection from individual goods. But for most consumer goods, a retail owners; it also requires extensive record- sales tax would encourage tax avoidance by keeping and updating. A gradual introduc- providing an incentive to shift the point of tion could start with empty apartments and consumption to informal traders that are not unused land kept by developers. If so desired, easily policed by the tax authorities. an adjustment period could allow people that A piggyback surcharge could help avoid hold multiple properties to sell them to avoid the administrative problems of sales taxes, by future taxes. allowing the local government to select a tax Local government taxes on the ownership rate to be imposed on a central government and use of motor vehicles could fit China’s tax base. The piggyback approach is used to strategy for coping with urbanization. The a considerable extent in industrial countries. rapid growth in motor vehicles compared The primary source of revenue for Swiss cit- with that of the road network has been ies is a piggyback personal income tax; the instrumental in the growing congestion lev- city of Rome levies a piggyback income tax els, higher pollution from transportation, on a base defined by the central government, 404 URBAN CHINA and Danish local governments tag on to an China’s tax structure could be further income tax base set by the central govern- improved. One important step would be to ment. Local governments in many U.S. states replace the business tax on services with a impose a surrate on the state government VAT, a step that authorities have already retail sales tax base. At least three cities— initiated. This move would encourage the Bangkok, Moscow, and Seoul—have their growth of a services industry, because VAT own surtax on the VAT (Martinez-Vazquez, on services can be deducted from the user’s Vulovic, and Liu 2011). Piggybacking is VAT tax obligations. It would also encour- already done in China with the urban main- age enterprises to outsource services to more tenance and construction tax (UMCT) and specialized enterprises, because there would the education surcharge on the VAT and per- no longer be a tax advantage for keeping ser- sonal and corporate incomes taxes. The exist- vices in-house. The other important step is ing UMCT and education surcharge could be to introduce an environment protection levy replaced with an “urban service tax,” and on carbon emission. This tax would not only then the local government could be given the generate significant amount of revenues, but option of increasing the piggyback tax rate would also an important step toward devel- above its current level. The individual income oping environmental friendly cities. tax could be added to the list of the piggy- back base, but the existing individual income Establish rule-based tax sharing and transfer tax rate would need to be lowered to make a room for local piggybacking. In addition, the Even with enhanced local government rev- individual income tax, currently fragmented enues, a considerable gap between expendi- by different source of incomes, could be con- ture responsibilities and own revenues will solidated and simplified to a comprehensive continue to exist at the local level. To sup- individual income tax, and the location of port the new model of urbanization and eco- collection could be changed from where peo- nomic development, the intergovernmental ple work to where people live. transfer system should be recalibrated. To Increasing prices of urban services such motivate and enable local governments to as mass transit, solid waste collection, water, provide equal public services to all people, power, and gas to full-cost-recovery levels urban or rural, migrant or local, a formula would ration the use of resources, enhance distribution based on expenditure needs and service sustainability, and reduce government fiscal capacity differences would be a bet- subsidies that are required to close the financ- ter approach than derivation-based revenue ing gap. Internationally, the use of charges sharing. Changing the distribution of tax for government services of a largely individ- sharing from a derivation basis to a formula ual nature (water, electricity) is common, and basis would considerably alter the outcomes in high-income countries, those charges often for individual provinces, however, even if cover full costs—that is, the costs of operat- done gradually. Some of the losers under ing and maintaining the service, and a capi- such a reform likely would be the richer tal charge to pay for depreciation and profits. provinces, including perhaps the larger met- Low user charges are not a good solution to ropolitan city-provinces. The lost revenues address the concern of the entitlement of all in some of the higher-income provinces citizens to basic service, such as the minimum could be replaced by increased local taxes levels of daily water necessary for good public and user charges. Therefore, reforming the health; all citizens are entitled to these basic intergovernmental transfer system would services regardless of their ability to pay. The need to be done in tandem with reforming government could use vouchers or targeted revenue assignments. That would make pos- subsidies through lifeline provisions to low- sible the replacement of lost transfers in some income households to pay for their minimum provinces with higher local tax revenues. To consumption levels. Targeting consumption better manage the budgetary and political subsidies in this manner reduces the munici- disruption to local governments, the reform pal cost on public budgets. would inevitably need to be implemented FINANCING URBANIZATION 405 gradually, and the architecture of the reform using subsidies to attract industry and thus must be worked out based on government build its tax base. This approach would offer objectives, administrative constraints, and a better possibility for equalization and for politics. For example, local governments the reduction of fiscal disparities. And it also could be assigned a “target share” based on would encourage cities to develop based on objective criteria of expenditure needs and their own advantages, because the revenues revenue capacity, but they would only receive of a city would be neutral to any particular this incrementally, starting from their current economic structure irrespective of whether it share in the grant pool. was a port city, an industrial city, or a city More specifically, the reform of the trans- with a significant presence of non-taxed pub- fer system should take care of three dimen- lic activities. sions: vertical sharing, horizontal sharing, The formula should reflect the objectives and conditional grants. of the government, and will change how the The vertical sharing regime could be sim- grant pool is distributed among provinces. plified by setting a uniform sharing rate for The formula would be defined by the choice all central taxes. And the current collection of the variables and how they are weighed. of unconditional grants could be folded into With emphasis on equalization, the provin- the general revenue sharing program. By set- cial population might be weighed heavily in ting a uniform sharing rate against all cen- the formula (as is done in Germany). If the tral taxes, subnational governments would goal is to provide more funding where expen- be protected from the revenue impacts of diture needs are greatest, the formula ele- discretionary changes made by the central ments would concentrate on measures reflect- government. Moreover, the sharing rate ing the cost of providing a minimum service in the future might be more easily reset to level. China can build on its own practice reflect expenditure assignments and desired with formula distribution of the equalization incentives. In addition, this reform would grant but also can learn from international enhance local spending autonomy, preserving experience. Formula grant systems are used the information advantages of provincial and in many developed countries; Australia, for local governments. So, vertical sharing would example, manages a sophisticated system. In become relatively simple. Of the total amount contrast, some countries, such as the United of revenue raised (on taxes where the central States, have no system of equalization among government had responsibility for setting the the states and instead rely on federal ear- tax rate), 73 percent would be transferred to marked grants and state government policies the subnational governments on an uncon- to provide equalization. As a result, stan- ditional basis. That would make the vertical dards of service delivery can vary consider- sharing revenue neutral. The central govern- ably from state to state and from local gov- ment would have the discretion to adjust the ernment to local government. Box 6.4 lists general sharing rate up or down, depending the approaches to formula grants applied in on factors such as the need to protect the other countries. In the case of China, this expenditure-revenue balance, the costs of formula grant should ensure that local gov- urbanization, compensation for expenditure ernment has capacity to deliver the minimum reassignments, and the like. public service package to all serviced popu- The horizontal sharing regime, the distri- lation, which would give explicit entitlement bution of a provincial revenue sharing pool, to migrants to access the basic public service could be based fully on a formula, rather package wherever they choose to work. than on the origin of collections as under the The conditional transfer system should current system, or on several formulas and ensure local government capacity to address ad hoc distributions as in the case of uncon- externalities and to more directly address ditional grants. Such a horizontal sharing high-poverty provinces. The current condi- approach would force local governments to tional transfer system could be simplified. compete for tax revenue based on the provi- China could consider consolidating many sion of quality public services, rather than by specific grants into a limited number of sec- 406 URBAN CHINA BOX 6.4 Formula grants Formula grants refer to methods of distributing rev- also used in Italy and the Republic of Korea, as well enue entitlements according to an objective set of as in China. indicators. This approach has appeal because it can The second approach is more ad hoc, in that it be objective and, depending on how it is constructed, develops a formula based on impressionistic reason- can seem fair, for example, a formula with a prov- ing about indicators of fiscal capacity and expendi- ince’s served population and/or per capita income as ture needs, and then weights each indicator in the a key indicator. It also has the advantage to keep the distribution formula. These can be very complicated grant share of each local government relatively stable, or very simple. Most commonly, population is used as a province’s share of national population or rela- as the basic measure of expenditure needs, although tive level of per capita income are unlikely to change its weight in the formula may differ from country to quickly. Formula grant transfers also have some unde- country (for example, 75 percent in Spain and 10 per- sirable features, however. While the formula itself is cent in India). Other indicators of expenditure need objective once it is determined, the process of making are also chosen in different countries, such as the per- the determination is less so—it requires a great deal cent who are elderly in Korea, population density in of judgment and is susceptible to favoritism. More- Germany, energy cost in Mongolia, and that share of over, the choice of variables to be used in the formula the population with no access to health care in South may be restricted by the quality of the data available. Africa. Many approaches can be taken to constructing a Third, some provision is made for fiscal capacity. formula. The great variation in the practice might be For example, less revenue is transferred to places with summarized under four relatively common grant cat- greater fi scal capacity and more to places with less egories. The first might be called the “standard needs- capacity (Switzerland, Germany, and India). Alterna- standard revenue gap.” The idea here is to set the tively, more revenue may be transferred to places that amount of grants for each local government accord- make a greater tax effort (Spain). ing to the gap between the amount of expenditures Finally formal set-asides are provided in some required to deliver a minimum level of services and cases where the government feels that a factor that the amount of local revenue that could be raised at a cannot be measured is nonetheless important to “normal” level of effort. Many consider this approach include; examples are state capitals in Brazil and to be the best. It was developed in Australia and is “backward” states in India. Source: Bahl and Qiao 2013. toral block grants that would need to be ments, all allocations could be posted on the linked to central government’s broad sectoral web before the start of the fiscal year. objectives and supported by a system of per- Subprovincial finance would need to be formance indicators and performance review. reformed to ensure resources get to where All conditional grant programs should be they are needed. Adjustments in central-pro- subject to a sunset clause and a regular for- vincial fiscal relations alone are not sufficient mal review, say every five years. That implies to ensure that adequate resources would be that grant financing would be stable and available to accommodate the budgetary predictable for five years and that formula impacts of urbanization. In fact, intrapro- revision could take place only as a result of vincial inequalities in fiscal resources are a formal review after five years. To overcome likely greater than interprovincial disparities. delay in disbursement of funds, recipient gov- Subprovincial revenue sharing arrangements ernments would receive a regular disburse- vary widely from province to province with ment, say every month, of a specific amount, few mandatory controls set in place by the say 90 percent of the estimated grant due, central government—a feature that is usu- with the balance disbursed upon evidence of ally observed in federal countries but not in performance. To overcome any diversion of unitary ones. Imposition of mandates by the funds by pass-through intermediary govern- central government on the pass-through of FINANCING URBANIZATION 407 central transfers to city and county govern- sharing, which would reduce the incentive ments may be prudent to ensure objectives for local government leaders to subsidize can be achieved. industry. • Revenue impact. The net impact on fi nancing of these changes in land leasing Reform land finance is uncertain and depends on the stock of The Chinese practice of financing urban infra- the idle industrial land and other public structure with the proceeds of land leases is land. The first change will inevitably lower both wildly successful and problematic. The the net profits of governments from land, basic problem is not with the practice of con- while the second change, abolishing subsi- verting farmland assets into productive urban dies on industrial land, would reduce tax facilities and higher-quality urban services, expenditures and therefore improve rev- but rather with the way in which it is being enues. In addition, the land saved through done. Land fi nance reform needs to address more efficient use of industrial land could three key challenges: realigning the subna- be reallocated to housing or commercial tional governments’ incentives regarding land use, and that is likely to generate a signifi- acquisition and development with residents’ cant amount of revenue. To mitigate any interest; getting the best economic value from possible revenue shortfall, China could the land assets the subnational governments impose betterment taxes on those that see have already acquired; and mitigating the fis- the value of their property rise because of cal risks emanating from land market vola- infrastructure development. Box 6.5 lists tility. 21 This reform would call for China to several practices for capturing land value change the way land development is financed; that have been applied in other countries. explore other options for capturing land value and value increase; and establish rigorous This reform would have important fiscal rules for land fi nancing. These would impacts, and the debate surrounding it would require important changes in the law and be politically charged. Whether its adop- the administration, and these changes would tion is in the best interests of China depends need to be worked out and fit together. The on how well the reform matches national following are the most difficult issues: goals. On the one hand, infrastructure ser- vices no longer would be free to users, indus- • Fairness: The fairness questions related to tries would be deprived of some profits, and expropriation and compensation for farm- city governments might no longer enjoy the land and village construction land must monopoly power over land transactions. On be worked out. If compensation for these the other hand, this reform could reduce the lands is set at market levels for urban land, incentives that lead to urban sprawl, improve then a capital gains tax should be levied equity, and optimize the use of existing urban and returned to local governments. That land. A slowdown in land leasing and infra- would put government in the right place— structure spending could give more space for taxing the profits at a reasonable rate attention to maintenance and a reallocation rather than expropriating all of the profits. of public expenditures to social services. In • Urban sprawl: The problem of dealing addition, this reform would encourage more with urban sprawl is related to the prac- efficient use of industrial land and promote tice of selling land leases. At least at the more efficient allocation of industries based margin, this problem might be addressed on market prices for land. That might nar- with a property tax that would help ratio- row regional disparity because the less devel- nalize the land market by imposing a hold- oped regions with cheaper land have more ing cost on land in the built-up area that is opportunity to attract industrial investment. being held off the market, imposing higher Urban-rural income disparity could be nar- motor vehicle and motor fuel taxes that rowed as well. Farmers in city suburbs would would increase the cost of city sprawling, gain directly from land conversion, and those and eliminating derivation-based revenue living far away from urban areas could also 408 URBAN CHINA BOX 6.5 Options for policies and tools that capture land value Value capture allows government to capture at least to finance debt issued to pay for a project, which the- part of the increase in land value emanating from oretically will create the conditions for future gains better infrastructure services, and use these funds to (used primarily in U.S. cities). subsidize the infrastructure investment. A prerequi- Transit-oriented development or joint develop- site is that the infrastructure services must generate ment. Given that transit infrastructure plays a criti- sufficient value to be captured. China has been suc- cal role in the end value of development projects, the cessful in capturing increments in land value, but the capture of profits from activities associated with real key challenge is to set a rule to allow all people to estate development in and around transit stations may share the development outcomes as well as the risks. allow a transit agency to deliver an operating ratio in The rule should be economically justifi able, incen- excess of 100 percent (as in the case of Hong Kong tive compatible and acceptable to the public. There SAR, China’s MTRC). The approach that MTRC are a number of value capture instruments and other uses is described as the “Rail + Property model.” Joint financial mechanisms being applied across the United development, similarly, can be described as a real States, Europe and Asia (Smolka and Amborski 2007; estate development project that involves coordination Peterson 2008). The most prevalent and effective of between multiple parties to develop sites near transit, these include: usually on publically owned land (examples are the Special assessment districts. New and special lev- Land Transport Authority and SMRT in Singapore, ies on properties that will benefit from the provision BART in San Francisco Bay Area, and the Transport of new or upgraded public transit (Examples in the for London Crossrail project). United States are 17 percent of the fi rst phase of the Developer charges or development impact fees. Portland streetcar system, 50 percent of the capital The use of charges that defray the cost of expanding costs of South Lake Union streetcar system in Seat- and extending public services in a particular area. tle, and 28 percent of the cost of the new New York For example, in Broward County, Florida, the local Avenue Metrorail station in Washington, DC). This government implemented a transit-oriented concur- approach involves creating new revenues as a result of rency system. Developer charges or impact fees are an alteration to local taxation or levy settings. specifically targeted to fund the transit infrastructure Tax increment financing. This approach dedicates required within the location of development from future tax increments within a certain defined district which the fee or charge is levied. gain if they are allowed to convert their con- national land ownership, land sales, contri- struction land to agriculture land and sell butions of land to public-private ventures, land conversion rights in the market, as is the land transactions between different types of case in Chengdu. subnational institutions, and revenue gen- Under this new regime, government’s erated by land sales. These are the essential exposure to property prices would be reduced building blocks needed to translate priority but would not disappear. The sheer size of principles into meaningful fiscal oversight. land financing for infrastructure points to the China has taken the fi rst important step by importance of setting rules for land fi nanc- requiring that land transactions be placed “on ing. Fiscal rules would allow prudent man- budget,” so that there is full upward report- agement of land financing while ensuring ing to higher-level authorities. A natural next that it continues to play an important role in step would be an inventory of municipally financing urbanization. Internationally, there owned land and land owned by different ele- are no standard full-fledged regulatory rules, ments and subsidiaries of government, which but an analogy can be drawn with the regula- is basic to asset size and land management tory rules for debt fi nancing. (Peterson and options. Similar to loan guarantees, the risks Kaganova 2010) More specifically, China include transfer of land to or from third par- could consider the following regulatory rules. ties in nontransparent ways that may entangle First, the priority would be establishment financial relations between a municipality of uniform reporting requirements for sub- and its subsidiaries. All information on public FINANCING URBANIZATION 409 land inventories, public land valuations, land Third, loans and bonds backed by land sales, and land contributions to public-private collateral may require special regulation. joint ventures or subsidiaries should be con- Urban land markets are volatile and cycli- ducted through standardized instruments, cal. Extreme dependence on land finance for be reflected in the budget or its annexes and capital investment funding will impart this financial statements, and be a matter of pub- volatility to subnational capital budgets. The lic record. Regulations typically identify what fiscal framework should mitigate such risk. types of publicly owned property can and Risk mitigation may take the form of ceilings cannot be alienated, either by sale or as col- on land-fi nance dependence (similar to ceil- lateral for loans. The registration of land and ings on local indebtedness) or establishment property collateral for land-management pur- of permanent infrastructure funds that accu- poses also involves exactly the same informa- mulate proceeds from land sales and spread tion required for subnational debt regulation. out expenditures over time, according to an Second, the “golden rule” of public infrastructure investment plan. Such rules finance should be applied to subnational land could set minimum collateral to loan ratios fi nancing: Proceeds of land asset sales must for land-backed loans and prescribe that land be used only to fi nance investment. Excep- must be valued at current market value for tions could be allowed for key, one-time insti- collateral purposes. tutional reforms. Although urban authorities Fourth, transfer of surplus land to other can acquire new land at the urban fringe, and government units or enterprises, private under certain conditions may acquire land developers, or public-private partnerships through condemnation or eminent domain, should be prohibited except on a fully dis- urban land cannot be “produced” indefi- closed contract basis. Establishing a land nitely. Sale or leasing of public land is not trust (found in some U.S. states) that could a “recurring” source of revenue. Thus, rev- receive land sale proceeds, and ensuring that enues from the sale or other disposition of proceeds are used for infrastructure invest- public land should be treated as one-time rev- ment as prescribed by law, or as decided by enues, with proceeds used to fi nance urban appropriate authority with a metropolitan- investment or finance other one-time expen- wide perspective, is one way to overcome the ditures such as major institutional reforms. incentives that bureaucratic owners have to Such rules also open the opportunity to “internalize” land sale gains for the sole ben- diversify and augment own-source financing efit of the agency. of capital investment. Recurring revenues from public land Develop stable and sustainable development may be appropriately allocated debt finance to subnational operating budgets. In cases where public authorities develop commer- Stable and sustainable debt finance is critical cial or industrial projects on public land, for to China’s continuing urbanization. A con- example, development costs can be recap- sensus has emerged within China that local tured through annual rental charges and governments should be allowed to access used to finance debt service charges through financial markets directly. Direct access the operating budget. For economic effi- yields several benefits. Subnational borrow- ciency and fiscal prudence, it is essential in ing finances infrastructure more equitably these cases that all parts of a public develop- because it matches infrastructure asset life ment project, including land, be valued at with the maturity of debt instrument so that market prices, and that the decision whether the beneficiaries of the financed services pay to publicly develop a site, sell land to the pri- for them. It also exposes local governments vate sector for private development, or hold to market disciplines and reporting require- land in the public domain for future devel- ments, hence helping strengthen fiscal trans- opment and future increases in land value parency, sound budget and financial manage- be made taking into account realistic market ment, and good governance. Furthermore, valuations. expanding local government borrowing 410 URBAN CHINA facilitates the development of competitive LGFVs, setting fiscal rules and debt limits, fi nancial markets, in particular the deepen- and developing approval and monitoring pro- ing of the bond market. And finally, regu- cedures for debt issuance. lated direct access to borrowing rather than unregulated indirect access through LGFVs Eligibility of borrowing entities. A key ques- is likely to entail lower risks for the financial tion is which level of subnational governments sector. should be allowed to borrow and whether Before China modifies the Budget Law to LGFVs should continue to serve as financ- allow local governments to have direct and ing platform of subnational governments. To open access to credit, a regulatory framework answer this question, it is important to note must be established in line with international that debt is intended to finance long-term good practice. Even in the United States, the asset formation and that it must be serviced. legal framework set up by each state regu- A subnational government that has revenue lates the borrowing of the state and its local sources and a responsibility to finance infra- governments (Canuto and Liu 2013). These structure should be allowed to access finan- regulatory frameworks work together with cial markets. If and when a subnational gov- markets to discipline subnational borrowing ernment is legally permitted to borrow, the and make it sustainable. China’s capital mar- practice for creating LGFVs as pure financing kets are still evolving; thus it is all the more vehicles should cease. However, LGFVs that important to establish a framework to regu- fi nance and manage essential infrastructure late subnational borrowing while promot- services such as roads, water supply and solid ing a competitive and diversified subnational waste treatment should be permitted to bor- credit market. row, if these LGFVs have their own sources of revenues generated from infrastructure projects. These LGFVs will follow corporate Rigorous regulatory frameworks for governance structure and financial reporting subnational borrowers requirements. As China develops a regulatory framework These two types of borrowing entities— for subnational borrowers, international subnational government and LGFVs—are experience is relevant. The 1990s saw wide- differentiated by the underlying sources of spread subnational debt crises or fiscal stress revenues to service the debt. A subnational in major developing countries such as Argen- government as a borrower will have broader tina, Brazil, India, Mexico, and the Russian revenue sources such as transfers and tax Federation. These crises led to reforms to revenues to service the debt. LGFVs in infra- develop and strengthen regulatory frame- structure generate revenues from user fees works for local government debt financing in such as tolls and water fees that can be used these countries. Some countries such as Peru to service the debt. established a framework in the early 2000s While fiscally strong local governments to preempt the fiscal risks of decentralization. can access markets, fiscally weaker local gov- Historically, the debt crises in U.S. states in ernments, particularly in rural or economi- the 1840s led to major constitutional reforms cally disadvantaged regions, may have diffi- regulating debt in many states. In France, a culty in achieving creditworthiness. For these regulatory framework was put in place in local governments, the central or provincial the 1990s after episodes of insolvency in the government needs to fi nance the bare mini- early 1990s as a result of uncontrolled local mum of infrastructure investment through government borrowing in the 1980s (L. Liu grants or direct construction by the higher- and Waibel 2010). level government. To prevent local govern- Following international experiences, the ments from not seeking to become credit- basic structure of a regulatory framework for worthy in order to access grant financing, China in the medium term should consider the amount of funding provided should be the following elements: identifying which determined by standardized rules to ensure a entities are eligible for borrowing, reforming set of minimum standards of service delivery. FINANCING URBANIZATION 411 Local governments with fiscal potential accounts audited and their financial state- but lagging in achieving creditworthiness ments disclosed periodically to the local peo- should also be eligible only for rule-based ple’s congress and the public. Some LGFVs small grants for infrastructure until they can that engage in infrastructure projects may not demonstrate creditworthiness. Policy banks be financially self-sufficient and may continue should focus on assisting these local govern- to require budgetary support. In these cases, ments with technical assistance and training their financial statements should become part in return for making the first new loan to of the government budget documents and be the local government only after it passes the reported to the appropriate people’s congress creditworthiness threshold. and disclosed to the public. LGFVs that rely on budget support should also be part of the Reforming LGFVs. Even after local govern- capital budgeting process and of the general ments are allowed to borrow directly, some government borrowing plan, as is done in LGFVs can still play an important role in Maryland in the United States, for example. infrastructure financing and operations. The Third, fi nancially self-sustaining LGFVs reforms should differentiate three types of should be allowed to access markets through LGFVs. LGFVs that fi nance and implement their own financial strength but they should public infrastructure projects should continue also follow a rigorous regulatory framework. to exist but be reformed to become transpar- LGFVs that generate project revenues such as ent and financially stronger. LGFVs that are tolls and water fees should be able to use rev- pure fi nancing vehicles for subnational gov- enue bonds instruments or project fi nancing ernments should be dissolved, and their debts to access financial markets for infrastructure brought onto local government balance sheet, investments. once the subnational governments have for- mal and open access to markets (after the Fiscal rules and debt limits for borrowing. Budget Law is amended). LGFVs that mix Fiscal rules and debt limits for borrowers public and private commercial activities are intended to manage the risks of systemic should divest their commercial activities, in defaults before they occur. Many countries line with the direction of refocusing the gov- have adopted a basic rule, called the “golden ernment on essential public services. This rule,” which allows government entities to last is perhaps the most challenging aspect of borrow money only for long-term public LGFV reform. capital investments (L. Liu and Waibel 2010). As the three types of LGFVs are being clas- Based on international practice, short-term sified and restructured, an important reform borrowing for working capital can be per- is to consolidate and restructure LGFV debt mitted. However, provisions should be estab- (see section on insolvency framework). After lished to provide a maximum amount of such restructuring and consolidation, LGFVs that short-term borrowing and to prevent the roll- will continue to fi nance and manage public over of short-term borrowing into operating investments can be strengthened in three deficits. ways. In addition to the golden rule, a further First, if they are not already, these LGFVs set of fiscal rules and debt limits should be should be corporatized, which would established. A number of issues must be con- strengthen their corporate governance and sidered in establishing such rules and limits financial structure. China should continue (L. Liu and Pradelli 2013). First, fiscal rules reforms on cost recovery and pricing of tar- and debt indicators for subnational govern- iffs, which will be critical to the financial sus- ments must take into account the fiscal space tainability of infrastructure. available for the total public sector, that is, Second, the fiscal relationship between the central and local governments. For any given government budget and LGFV operations resources available to repay the total public should become transparent. LGFVs should debt, the borrowing space is ultimately split follow internationally acceptable account- between the central and local governments. ing and reporting standards, and have their At high debt levels, public indebtedness tends 412 URBAN CHINA to hamper economic growth by crowding out Without transparency, the financial problems private investment (because of higher interest of an SPV can become contingent liabilities rates, debt overhang problems, and the like) of its owner. Table 6.5 provides a summary and imposing heavy tax burdens that distort of key fiscal rules and debt limits for China incentives to produce and invest. In China, to consider. the low level of sovereign debt provides com- Guarantees can play a useful role in bridg- fortable space for subnational debt accumula- ing financing for projects that have public tion. However, local government borrowing policy justifications, or where markets do limits should be established in tandem with not fully recognize the underlying economic public finance reform that aligns the tax rev- values. However, guarantees also create an enues with functions and gives local govern- incentive for risky borrowers to seek govern- ment the taxing power to meet local needs. In ment guarantees, and for interrelated public addition, potential expenditure pressures that entities to support one another in ways that could constrain fiscal space for subnational violate arm’s-length standards and obfuscate entities should be carefully monitored. the financial risks that are being assumed. Second, translating thresholds established International experience shows that the risks by empirical studies into debt limits guiding of guarantees for debt service can be regu- borrowing policies can be challenging. China lated while retaining the usefulness of the differs critically from some other developing guarantees. The generally applied key rules countries. While excessive indebtedness of include the following (L. Liu 2010): subnational governments has led to restric- tive debt limits in other countries, China may • Private companies may be prohibited from not benefit from overly restrictive debt lim- getting such guarantees. its that can hamper growth. Faster economic • The scope of guarantees for municipal growth, large national savings, and a lower enterprises may be limited. In France, for cost of borrowing can lead to positive debt example, annual debt charges paid by the dynamics in China. The main goal in China local government on its own loans and on is to develop sound regulatory frameworks so loans it has guaranteed may not exceed 50 that subnational governments can mobilize percent of its operating revenue; no single resources from the capital markets to finance borrower may receive in guarantees more large-scale infrastructure investments that than 5 percent of the local government’s support growth and urbanization, while con- operating revenue, and guarantees may not taining overall macroeconomic risks. exceed 50 percent of the principal of the Third, it will be important to establish fis- debt of the entity that is guaranteed. Poland cal rules for LGFVs as well, because LGFVs’ has a stricter rule, which counts guaran- liabilities ultimately constitute sources of tees provided to a municipal enterprise by contingent liabilities for central and local a local government as part of the govern- governments. In the United States, SPV bor- ment debt service, which in total (principal, rowing is subject to regulation (L. Liu 2010). interest, and guaranteed debt service) can- For example, a typical rate covenant in the not exceed 15 percent of its revenues. United States for a water-sewer utility is to set • Guarantees and all other direct and indi- rates sufficient to produce net revenues equal rect debt liabilities should be an explicit to at least 1.25 times total annual debt ser- part of local government budget and finan- vice. In the United States, SPV debt financed cial statements, fully disclosed to the local by revenue bonds is subject to the regula- people’s congress and the public. tory rules and debt limits set for revenue bonds but is generally outside the debt limits Procedures for approving and monitoring imposed on debt instruments securitized by subnational debt. The central government, a government’s general taxation power. For through the Ministry of Finance, should this to work, accounting and financial trans- set fiscal rules and debt limits for all levels parency of SPVs is an important prerequisite. of subnational government. These rules and FINANCING URBANIZATION 413 TABLE 6.5 Proposed fiscal rule and debt limit indicators Indicators Objective and application Comments Total SNG debt-to-GDP ratio To monitor aggregate debt of all The ratio applying to individual local government misses the subnational entities. heterogeneity—the cost of borrowing depends on local government’s own solvency and risk, and local government To ensure the division of debt space with low risk of insolvency can service larger stock of debt than between the central gov’t and SNGs local government with high risk of insolvency. Individual local and the limits on the overall public debt government’s debt-to-GSDP ratio, where GSDP is the local GDP, is not advisable because GSDP and local government revenue capacity might not be correlated. Debt service-to-own To apply uniformly to each individual The ratio reflects local government’s repayment capacity revenue ratio subnational government general budget, (denominator) for servicing debt (numerator). Arrears should to ensure financial capacity to service be included into the ratio. The denominator needs to reflect debt and provide incentives for own local government revenue capacity. Important considerations: revenue collection own revenue vs non-own-revenue (transfers), regular flow of revenues vs one-off revenues (asset sales, land leasing). “Golden rule” To apply to both SPVs and SNGs general Imposed on the general budget if SNG retains responsibility for budgets certain capital expenditures beyond those transferred to LGFVs. Imposed also on LGFVs. Important to have a sound framework for public investment project appraisal (including cost- benefit analysis) and transparent accounting (to avoid creative accounting as well as misclassifications between current and capital spending). Infrastructure sector- To apply to financially viable LGFVs Applied to financially viable LGFVs. Preferably revenue net of specific debt-to-revenue operating expenditures. Requiring operations to be sufficiently ratio profitable in cash terms to repay SPVs debt obligations. The industrial sector-specific norms observed in the United States could provide a basic guideline for helping develop China- specific norms. Source: Liu and Pradelli 2013. Note: GDP = gross domestic product; GSDP = gross state domestic product; LGFV = local government financing vehicle; SNG = subnational government; SPV = special purpose vehicle. limits should be monitored on a regular basis. Ideally, this officer should come from the Local governments should have autonomy department that manages the public purse or to issue debts within the limits, but a debt its supervisor (mayor). issuance plan for each level of government Each level of government should set up a should be submitted to the corresponding budget committee consisting of the budget people’s congress for approval along with its department, the local Development Research annual budget plan. The debt issuance plan Center, the Land Department, and the CFO should be disclosed to the public. Key fiscal and charge it with making a coordinated and debt indicators should be disclosed on a decision on the size of government expen- quarterly basis, and these indicators should diture, revenue and cash flow projections, be standardized across local governments and deficits and debt fi nancing. The budget for benchmarking and monitoring. A chief committee should be chaired by the provin- fi nancial officer (CFO) can be established at cial governor or mayor, or their designated the subnational government level. Centraliz- executive governor or mayor. A debt manage- ing the accountability for local government ment committee (chaired by the CFO) and finance in one office would clarify authority consisting of representatives of key depart- on financial management matters and would ments such as the treasury, budget, and land put a halt to the decentralized and uncoor- departments and the local Development dinated issuance of local government debt. Research Center, should make a coordinated 414 URBAN CHINA decision on a medium-term debt strategy, by local governments may adjust debt in nego- taking into account the revenue streams, cash tiations with creditors, repudiate their obliga- flow, procurement and expenditure plans of tions, or shift the liabilities to higher levels of line departments, and the balance sheet of government. A country’s legal, political, and governments (assets and liabilities). Gradu- historical context influences the choice and ally, China should move toward a robust design of an insolvency system. However, a borrowing framework that connects with the sound insolvency system balances the needs overall framework of fiscal management and of borrowers (representing citizens) and transparency. the needs of creditors (representing savers), establishes a transparent and rule-based debt workout procedure, and minimizes moral Developing an insolvency framework hazard. Such a framework in China will International experience shows that rely- serve two purposes. First, it will guide the ing only on ex ante fiscal rules and limits, restructuring of subnational debt. China cur- without ex post consequences, gives irre- rently is conducting a comprehensive audit sponsible borrowers and lenders an incentive of subnational debt. As the reform of LGFVs to get around the ex ante rules and execute and other off-budget vehicles (such as financ- transactions that will later get bailed out ing vehicles for hospitals and universities) (L. Liu 2010). China would need to establish proceeds, the debt of the off-budget vehicles a framework for insolvency and debt restruc- will need to be classified, and some may need turing, in addition to ex ante borrowing to be restructured. Second, an insolvency framework discussed above. framework will address future defaults of International experience shows that a col- subnational units so that an insolvent local lective framework for debt resolution is at government can maintain essential services the core of a sound insolvency framework while restructuring its debts, restore its finan- (L. Liu 2010; L. Liu and Waibel 2010). cial health, and reenter the financial market. The tension between maintaining essential services and creditors’ contractual rights Developing a subnational credit market implies that the pain of insolvency needs to be shared between creditors and the debtor. China has large national savings. It also has The insolvency mechanism needs to balance large infrastructure demand resulting from these competing interests and guide the pri- rapid urbanization and the need to absorb ority structure for settling competing claims. millions of rural residents in urban areas. A collective framework will take on more Financial markets can channel savings into importance as the subnational bond market infrastructure investments. Diversified sub- develops and grows to include thousands of national credit markets can provide more creditors. A lack of clear rules for insolvency investment instruments for institutions (such is likely to raise borrowing costs, and may as insurance companies and mutual funds) limit market access for creditworthy borrow- and individual investors. ers. In the United States, Chapter 9 of the Bankruptcy Code imposes strong measures Two models of subnational credit mar- on defaulting municipalities and carries a kets. There are two major models of subna- strong stigma to offset debtor moral hazard. tional credit markets: bank lending, which A sound framework should reduce the financed municipal investment in Western moral hazard of subnational defaults, dis- Europe throughout most of the 20th cen- courage free riders, bind all local govern- tury and is still the primary source of local ments to pursue sustainable fiscal policies, credit financing there, and subnational bond and extend the short-term horizon of local markets, which China has been developing governments to minimize the impact of as an additional source to bank lending. The unsustainable fiscal policy on future genera- United States is an example of a country that tions (Canuto and Liu 2013). In the absence has a deep and competitive municipal bond of a clearly defined framework for insolvency, market. Annual issuances of local govern- FINANCING URBANIZATION 415 ment bonds are about $400 billion with out- zil privatized almost all state policy banks standing liabilities at about $3 trillion (or 20 as part of a debt restructuring agreement percent of GDP). Individual investors are the between those banks and the federal govern- largest holders of U.S. subnational bonds, fol- ment in 1997. In the Philippines, government lowed by mutual funds, bank trust accounts, financial institutions have become an impedi- banks, insurance companies, and corpora- ment to private entry into local government tions (L. Liu 2010). markets. In some Eastern Europe countries, Developing competitive and diversified municipal funds have become monopolies. funding sources for infrastructure fi nancing According to Peterson (2003), financial is important to help lower the financing cost. sector deregulation has eliminated the pos- In establishing a framework for municipal sibility of having quasi-monopoly municipal finance borrowing after the fall of apartheid, banks draw on specially protected govern- South Africa clearly understood the benefits ment allocations of low-cost, long-term sav- of competition in the subnational credit mar- ings to finance subnational infrastructure. ket. Its Intergovernmental Fiscal Review In a competitive world, bonds offer more report states, “Active capital markets, with ways to tap institutional and household long- a variety of buyers and sellers, and a variety term savings. Even when the ultimate credit of financial products, can offer more effi- extended to a local government continues ciency than direct lending. First, competi- to be a loan from a bank or other fi nancial tion for municipal debt instruments tends institution, the financial intermediary will to keep borrowing costs down and create increasingly raise its own capital for lending structural options for every need. Second, an from bond issues. active market implies liquidity for an inves- tor who may wish to sell. Liquidity reduces Developing a subnational bond market. risk, increases the pool of potential investors, China’s infrastructure financing has been and thus improves efficiency” (South Africa dominated by commercial banks and gov- National Treasury 2001, 192). ernment policy banks (and land fi nancing). Several European countries, including This dominance provides too narrow a set the Netherlands and Sweden, and over 50 of financing instruments for China’s continu- developing countries have set up municipal ing urbanization. By broadening the range of development banks or municipal develop- instruments and sources to include institu- ment funds as the sole or main channel for tional investors in the domestic bond market, providing credit to subnational govern- and eventually even private equity, financ- ments. That approach is not recommended ing can better respond to the pace and scale for China. Municipal development banks of infrastructure development that China’s and funds appear to have the advantage of a rapid urbanization requires. focused purpose and scope and an ability to Engaging the domestic bond market in build relationships with their borrowers. In urban infrastructure financing creates a new theory, they are able to more closely moni- class of assets for Chinese investors. Institu- tor the borrower and provide technical assis- tional investors have large resources to invest tance to weaker borrowers. If not well regu- in the domestic debt market. These resources lated, however, such close relationships with can be put to work financing urban infra- borrowers can be problematic, and the lim- structure. Bonds issued by local governments ited scope of their business increases the risk and LGFVs are well suited to the needs of of failure in the case of widespread default. institutional investors such as pension funds, Most importantly, their subsidized lending is insurance companies, and mutual funds for costly to the central government and impedes wealthy individuals who wish to diversify the development of market-based financing. their investments in long-term assets. Bonds The international experience with spe- that finance urban infrastructure can provide cialized national and regional development a secure source of fi xed income for institu- banks and municipal funds is mixed with tional investors. They can also be risk rated negative examples and consequences. Bra- so that regulatory authorities can assess the 416 URBAN CHINA impact that they have on the riskiness of the government fi nances and creditworthiness. institutional investors’ portfolio, and institu- China should encourage the issuance of tional investors can be limited to investments municipal bonds with terms of 10, 15, and 20 in highly rated assets, as they are in many years with the objective of moving to 25- and countries. 30-year bonds over time. To extend the term There is substantial room to grow and of municipal bonds, the market will have to deepen the bond market to achieve a long- establish a yield curve that prices bonds of term investment target of 150–200 percent of equal quality according to their term. This GDP. In 2010, China’s domestic bond market requires benchmark rates for those terms in was 40 percent of GDP. In Turkey, it is over the sovereign bond market. Central govern- 90 percent, and in Brazil nearly 200 percent ment AAA Treasury bonds have been issued (IFC 2013). Deep, efficient domestic capital for 10- and 20-year terms, but the volume markets are a powerful source of long-term has been relatively small, so benchmark rates financing for infrastructure and other sectors have yet to become firm. The Ministry of that underpin growth. They create alternative Finance could begin issuing 15-year T-bonds financing tools and greater access to capital. and increase the volume of longer-term issues Domestic capital markets also provide resil- to establish benchmarks in the rates for risk- ience against banking system shocks. free long bonds. China has already started to experiment The local government bond market could with creating a municipal bond market be promoted by clearly defining types of rev- (table 6.6). Since 2011, four local govern- enues that can securitize the bonds. Two types ments—the provinces of Guangdong and of revenues facilitate the development of two Zhejiang and the cities of Shanghai and types of bonds: general obligations bonds Shenzhen—have been allowed to issue a and revenue bonds. General obligation bonds small amount of municipal bonds directly in (GBs) are secured by a government’s general the market. In 2013, the provinces of Jiangsu faith and credit, that is, the general taxation and Shandong were added to the trial pro- revenue of the issuer. This type of bond pro- gram. A much larger volume of financing vides a useful financing instrument for public has also been mobilized for provincial gov- services, such as local streets, street lights, and ernments through bonds issued by the Min- traffic signals, which do not generate revenues istry of Finance on behalf of the provincial or sufficient revenues, from user charges. The governments. ratings of general obligation bonds are the To better take advantage of the bond same as the institutional rating of the issuer market, China will need to extend the yield unless specific credit enhancements (for exam- curve. Three- and five-year bonds, which ple, a bond guaranty from a policy bank or constitute 98 percent of municipal bonds other source) are added to the bond. issued in China since 2011, are too short to Revenue bonds (RBs) are secured solely spread debt service over the life of the infra- by the revenues generated from the project structure. Front-loading the debt service in financed by the bonds. There is a direct link this way puts unnecessary strain on local between the beneficiaries of the project and their obligations to pay debt services. Inves- tors have no claim on other local govern- TABLE 6.6 Local government bonds by issuers ment revenue sources for repayment of these RMB, 100 millions bonds. For this reason, RBs are suited only 2009 2010 2011 2012 Total for fi nancing projects that can produce rev- Ministry of Finance 2,000 2,000 1,771 2,211 5,982 enue from user charges, such as projects for Shanghai 0 0 71 89 160 water supply, toll roads, airports, and pub- Guangdong 0 0 69 86 155 lic transport. Revenue bonds reinforce self- Shenzhen 0 0 22 27 49 sustaining finance, because the repayment Zhejiang 0 0 67 87 154 of principal and interest is made entirely Total 2,000 2,000 2,000 2,500 6,500 from the revenues generated from the project Source: Painter 2013. financed by the bonds. These bonds allow FINANCING URBANIZATION 417 the market to play a central role in enforcing requires a coherent set of securities regula- debt limitation, pricing risks, and matching tions. In many ways, securities regulations the maturities of liabilities with the economic for subnational bonds are similar to those for lives of assets. More importantly, RBs affirm sovereign and corporate bonds. The institu- that sustainability is about the ability of the tional infrastructure for bond issuance and borrower to service the debt. No financ- trading, such as regulations on credit rat- ing structure has been of greater impor- ing agencies, broker-dealers, underwriters, tance to the growth of the U.S. municipal and auditors, are also similar. In addition, bond market than RBs, which account for China also needs to build a reliable govern- about two-thirds of subnational debt in the ment bond market yield curve, standardize United States (L. Liu and Waibel 2008). In the accounting standards of public sectors, the United States, revenues bonds of SPVs are impose municipal bond documentation and outside the debt limits set by the states, but disclosure requirements, and develop profes- revenue bonds follow strict rules and have a sional services. low rate of debt default. Security laws cannot prevent defaults and Hybrid bonds (HBs) are a third type of financial deterioration of local governments. municipal bond that combines characteris- Securities laws also cannot replace rules for tics of both general obligation and revenue prudent fiscal management of local govern- bonds. Like a GB, debt service payments ments and for corporate governance for pub- are not linked to revenues produced by the lic entities and special purpose vehicles that project being financed. Like an RB, the local are owned by local governments. What they government does not have to pledge the use can do is mandate disclosure to investors of of all of its revenue sources to debt service. all material information that would affect an Hybrid bonds offer investors repayment from investor’s decision to buy, sell, or hold a secu- one or more specific revenue sources only. rity. Securities regulations may also cover the Local governments can pledge a highly reli- offer and sales of securities and the regula- able source of revenue to the HB and arrange tion of issuers, trading systems, and the pro- for that revenue to be directed into a trust fessionals who work in these areas (box 6.6). account dedicated solely to repayment of the The introduction of an insolvency frame- HB. This allows local governments to finance work that disciplines both lenders and bor- projects that do not produce revenue with rowers, together with a law that makes a reliable alternative revenue source, while financing offered to unrated local govern- not encumbering their overall balance sheet. ments unenforceable, creates strong incen- Carefully structured HBs can achieve bond tives for more responsible financing of urban ratings that are better than the issuer’s insti- infrastructure. Vigilant regulation of banks tutional credit rating. Compared to GBs and and institutional investors creates an impor- RBs, HBs have proven to be the preferred tant incentive for prudent lending behavior. type of infrastructure bonds in the emerging Putting regulation of all financial institutions debt markets of India, Mexico, South Africa, on an equal footing will open the door to and elsewhere. greater use of long-term financing in the Chi- Local governments in general should nese capital market. refrain from speculative debt instruments Over the long term, the development of such as structured products. These instru- subnational credit markets would also benefit ments should be regulated and in most cases from self-regulation and a “buyer beware” prohibited for used by local governments. approach. Many U.S. regulations were devel- The risky debt profiles of some local govern- oped by the market players themselves or ments in France stemming from the use of through market practice. For example, the structured products in the 2000s provide a Government Finance Officers Association cautionary tale (Canuto and Liu 2013). developed many municipal bond disclosure rules and practices that were adopted in the Regulating the subnational credit market. industry. The U.S. market has also benefited Development of a subnational bond market from 200 years of operation, during which 418 URBAN CHINA BOX 6.6 U.S. securities laws applicable to municipal securities Securities laws • Honest markets. People and firms who sell and • The Securities Act of 1933 established a regula- trade securities—brokers, dealers, and exchanges— tory scheme for offerings of corporate securities but must treat investors fairly and honestly, putting exempted offerings of municipal securities. It also investors’ interests first. included the first antifraud provision, which applies to both corporate and municipal securities.a Regulation of municipal securities trading • The Securities Exchange Act of 1934 established • Brokers and dealers who participate in transactions the Securities and Exchange Commission (SEC) of municipal securities are required to follow the to enforce civil antifraud laws and regulate bro- rules of both the SEC and the Municipal Securities kers, dealers, and certain other market organiza- Rulemaking Board (MSRB). tions and professionals. Like the Securities Act of • The MSRB, which was established in 1975, issues 1933, its antifraud provisions apply to all securities, regulations for brokers and dealers who engage in including municipal securities. municipal securities transactions. • There are also criminal securities fraud laws, • MSRB rules cover many areas including cus- enforced by the U.S. Department of Justice, private tomer protection, record keeping, clearance and securities litigation, and enforcement actions under settlement, trade reporting, broker-dealer conduct state securities laws. (including political contributions by broker-dealers and employees who deal with municipal securities), Basic principles and the submission of information to an electronic • Disclosure. Organizations that publicly offer secu- system known as EMMA (Electronic Municipal rities must tell investors the whole truth about their Market Access system), which makes it immedi- businesses, fi nancial condition, the securities they ately available to the public on the MSRB’s website are selling, and the risks involved in investing. (http://www.emma.msrb.org). Investors make their own investment decisions. • Disclosed information includes annual audited financial statements from issuers. • The law emphasizes transparency. Source: Haines 2009; Canuto and Liu 2013. a. Municipal securities in the United States include securities issued by states, local governments, and their agencies and instrumentalities, including municipalities, districts (such as school districts), special purpose government entities (such as housing authorities), and a variety of other government entities (such as airport authorities). Municipal securities include all debt instruments issued by states and local governments, including bonds, notes, fi nancing leases, and variable rate obligations. investors learned the hard way about the Because institutional investors provide their consequences of defaults, especially in the financing through the bond market, the risk absence of guarantees that higher levels of rating of their investment portfolios is deter- government will bail out defaulting subsid- mined by the ratings of the bonds they buy iaries. While allowing subnationals to default and is easily overseen by regulators. If bank may have adverse impacts on bank assets and loans are not subjected to rating, some banks on investors’ appetite, these considerations will continue to make risky loans that under- must be balanced against the negative con- cut the entry of more prudent lenders into the sequences of moral hazard and bailouts on market. The borrowers may also opt for easy market development. money that can be gotten through shadow The regulatory and institutional frame- banking, for example. works for commercial and policy banks and China might consider imposing a manda- bond markets need to be harmonized to tory requirement for local government bor- create a level playing field and avoid regula- rowers to have an institutional credit rating tion arbitrage. The credit rating requirement irrespective of the instrument used (bank for bond issuance is a particular concern. loan, bond, or wealth management product). FINANCING URBANIZATION 419 That would have many merits in addition and banks will become more sensitive to to helping level the playing field. Not only local government and LGFV credit risk in would credit ratings encourage local govern- their lending operations. ments and LGFVs to improve their fi nancial Bank lending to local governments should management, but they are an excellent way be regulated in a way that reinforces local for borrowers to learn about their own finan- governments’ budget discipline and fiscal cial strengths and weaknesses before seek- transparency. Commercial bank lending is ing fi nancing for their urban infrastructure normally bound by general prudential rules, project. In addition, ratings can help them which, if applied to local governments, would determine whether to pursue a bank loan, a restrict the governments’ opportunity to bor- syndicated loan, or a bond issue. Local gov- row from such vehicles. Such rules include ernments and LGFVs with strong credit rat- exposure limits, which limit a bank’s loan ings may be in a good position to seek the exposure to a single client; concentration lim- best terms on loans from competing banks its, which limit a bank’s exposure to a certain or syndicates. Governments and LGFVs with type of client such as all local governments weaker credit ratings will find that well-struc- taken together; and insider lending limits, tured HBs can achieve much higher credit which limit lending to the owners or co-own- ratings than their institutional rating and ers of the bank. China might review whether thereby enable them to access financing at these rules are effectively enforced. In addi- lower cost on better terms than would be the tion to these norms, many countries have case using bank loans. By helping borrowers innovated other measures to reinforce disci- to better target their lenders and by getting pline. For instance, after experiencing wide- lenders to compete, institutional credit rat- spread subnational defaults, several coun- ings can help reduce the cost of intermedia- tries, including Brazil, banned subnational tion and thereby the cost of financing urban ownership of financial institutions altogether. infrastructure. In Mexico, competitive lender selection and Mandatory ratings also improve the finan- transaction ratings were required for large- cial intermediation process. The most effi- scale long-term financing. Although these cient way for lenders (whether commercial requirements are not mandatory, banks banks or institutional investors) to get objec- lending to unrated subnational governments tive information about borrowers’ credit risk would need to have a high capital adequacy is to review their credit rating report. That ratio. is as true for lending by policy banks and Shadow banking would need to be regu- commercial banks as it is for investors in larized to limit easy money for local govern- municipal bonds. Ratings are not intended ments. All asset management products should to substitute for fi nancial due diligence, but be subject to the same fundamental regula- they provide an efficient way for lenders and tory standards. Regulatory policy for all col- investors to determine if potential borrowers lective investment products should be coor- warrant additional credit analysis or should dinated among authorized bank, insurance, be passed over until they are more highly and security regulators. A plan for reform- rated. By sorting out the potential borrowers ing the legal and regulatory framework of quickly, credit ratings improve the efficiency shadow banking should include short-term of the intermediation process and make credit amendments of regulations and long-term analysis more focused. amendments of primary legislation. Invest- Mandatory ratings also make it easier ments in wealth management products, for the regulators of banks and institutional trust funds, or other collective investment investors to assess the risk profi le of banks’ schemes should not be protected by implicit loan portfolios and institutional investors’ guarantees. securities portfolios. In particular, more The role of policy banks in the provision transparency about the risk of loans to spe- of long-term finance should be reoriented. cific local governments and LGFVs improves The policy banks should be reformed to the calculation of a bank’s capital adequacy, address market failures for long-term mar- 420 URBAN CHINA ket based fi nancing through various instru- cies that improve management of the hous- ments such as co-investment, guarantees, ing sector as a whole. Governments can use and credit enhancements. Policy banks could various policies that enable them to carefully reduce their excessive dependence on govern- balance and coordinate the fluid interaction ment guaranteed bonds and leverage their of those within the ecosystem and thereby resources by exploring new ways to fi nance support housing affordability. Without such their new operations on a sustainable basis, an integrated intervention, a patchwork of such as well constructed securitizations of “affordable housing” programs will only be their loan portfolios, loan syndications, and dealing with the symptoms of the housing cofinancing schemes with other state-owned problem rather than its causes. and private financial institutions. In addi- China’s housing policies should encour- tion, policy banks could play a catalytic role age transparency and the targeting of its in supporting the use of long-term capital subsidies to match its policy goals. The coun- markets instruments. The bank could issue try has achieved great success in meeting its innovative fi nancial instruments that would low-income housing construction targets, yet support the growth of fixed-income markets; great vulnerabilities remain in how the poli- provide bond guarantees (on a fee basis as cies are being implemented. These include a credit enhancement) for municipal bonds; fi nancial risks to the municipalities and the and purchase a limited portion of new munic- housing provident funds, challenges in hous- ipal bond issues, serving as a market-maker ing workers migrating to urban areas, social by buying or selling bonds as needed by other segregation, and risks to the economy overall. investors. Promoting market competition and Local governments should carry out a preventing moral hazard in government lend- careful analysis of housing demand (demo- ing is important. The performance of policy graphic and socioeconomic conditions) and banks should be evaluated regularly on these supply (types of housing available for differ- two grounds. ent income groups, at what cost), and then use the findings to determine the housing needs of the locality. This approach will Clarify the role of housing enable local governments to define the nature, provident funds scope, and policy interventions required to The steps China’s government is taking in the effectively align housing demand and supply. housing area require great care. International A “National Housing Observatory” could be experience shows that a key to the provision established to collect systematic information of affordable housing is an overall well-func- on housing supply and on demographic and tioning housing system, one that is efficient socioeconomic conditions and thus capture and responsive to the needs of all segments trends in housing affordability and fi nance. of the population, including the poor who Such an institute would facilitate monitoring are able to access housing at reasonable of the sector’s performance by policy makers. prices. Housing needs to be understood as A good example of an institute that indepen- an interlocking ecosystem where consumers dently collects and analyzes such informa- of different income segments, the construc- tion is the Canadian Housing and Mortgage tion industry, fi nanciers, and local and cen- Corporation. tral government bodies interact dynamically. China would benefit from giving munici- Governments that have successfully made palities more flexibility in achieving their housing affordable are those that have played low-income housing construction goals. an enabling role, intervening to overcome Rather than mandating a specific number of market failures while also ensuring that their a particular type of units, broad goals could actions do not distort housing markets. Their be set for each municipality, which could actions have systematically and simultane- then be required to develop a specific plan on ously addressed the causes of market failures how to achieve these targets. The overall plan by, first, focusing on demand and supply side would include a market study, a market plan, constraints and, second, putting in place poli- a fi nancial plan, an analysis of job growth FINANCING URBANIZATION 421 and infrastructure needs, and a long-term ties will need to generate their own revenue management plan including contingencies. sources. One option is property taxes. That The role of housing provident funds could certainly generate revenue, but Chinese should be clarified in the context of a broader municipalities might consider tax abatements clarification of government’s role in hous- for properties that have received public subsi- ing. These long-term savings funds are dies, especially low-income rental properties. established for the purpose of housing the Rental income from low-rent housing is cur- employees who contribute to them, and the rently exempted from business tax, real estate cumulative funds in the accounts belong to tax, and from the urban land tax. Higher the employees. Great care must be taken not rates could be applied to vacant properties, to conflate the purpose of HPFs with that of those properties that have been under con- serving national or local housing goals such struction or unfi nished for a predetermined as affordable housing. Moreover, providing period of time (two to three years) and for mortgage loans and project loans in the same other properties owned by the same family. institution without clear lines of delineation Demand-side subsidies can be an effec- is a potential conflict of interest. Using HPFs tive tool both in providing housing and in to pay for operational costs of public rental increasing the housing supply. Developed housing projects should be prohibited unless countries almost universally have moved it is clearly specified in the loan agreement. away from the model where the government Actuarial analyses with stress tests of the finances, builds, manages, and maintains HPFs should be performed. Given the high public housing. Rather, the trend has been housing prices, the large-scale, long-term toward demand-side subsidies, such as down- HPF investments in projects, and mortgage payment assistance for homeownership and finance for members, the funds are poten- vouchers or conditional cash assistance for tially in a financially precarious position. rental housing. This type of aid gives the Understanding the risks under different sce- consumer a greater role in the selection of narios would enable them to adjust their poli- his housing unit. Moreover, the supply of cies. It would also enable the Government money going to consumers has been shown of China to adjust its own policies if it sees to increase the supply of affordable housing. negative trends in the HPFs. Examples of subsidies to households include The Regulatory and Supervisory Frame- capital grants towards home purchase (such work for mortgage lenders and housing finan- as assistance for a down payment) or rental ciers should be strengthened, particularly vouchers. Successful examples include a with respect to housing provident funds. The rental assistance program to low-income Ministry of Housing and Urban and Rural households under the Section 8 Program in Development should establish standards of the United States enacted in 1974, which pro- lending and operational procedures closely vides housing vouchers or direct payments to in line with China Banking Regulatory Com- private landlords. Under the program, ten- mission’s model and best international prac- ants choose where to live and pay about 30 tices. The risk analysis recommended for the percent of their gross income for rent, with HPF portfolios would provide important the remainder of the market rate rent subsi- information for improving regulations. dized by the program. China should explore means other than Unleashing the constraint of land supply HPFs for financing an affordable housing for housing could improve the supply of low- program, such as direct subsidies from the income housing. Land sales should be con- government budget, mobilization of assis- ducted through a competitive bidding pro- tance from employers to their employees, and cess without regard to its use for industrial, partnership with the private sector. Addi- commercial or residential purposes. The gov- tional subsidies will be necessary to ensure ernment could allow for rural collective con- sustainability, particularly for low-income struction land to enter urban land markets, renters. Since the central government provides improve the inventory of public land, identify little funding for subsidies, the municipali- underused parcels that could be put toward 422 URBAN CHINA affordable housing development, and autho- The potential advantages of moving to PPP rize collectives in urban villages to redevelop arrangements and attracting private invest- their land for housing and allow them to ment for cities in China would be substantial. invest in formal rental housing. These steps First, PPPs could improve the operational could help increase the supply of affordable performance of the infrastructure facilities by rental units and improve housing conditions tapping into the technical expertise in the pri- for migrants and low-income households vate sector. The efficiency gains, with a well- while also offering collectives new and signif- designed PPP contract and full competition, icant income sources. Bangkok offers a good could be captured by the government, thus example of formalizing informal settlements reducing the fiscal burden of cities, and the by allowing communities to upgrade their need to borrow more or increase taxes.22 The housing in situ and gaining security of tenure freed-up fiscal space could then be used for with the support of Community Organiza- social services. Second, because the private tions Development Institute. sector would be paid largely from the reve- Employers could play a role in support- nues generated from users of the facility, the ing affordable owned and rented hous- infrastructure capacity would be designed to ing for their employees. Because they ben- fit the projected demand, rather than the cur- efit from workers and professionals coming rent practice of building infrastructure assets into urban areas, this can take a number of beyond the projected demand requirements. forms: matching funds for down payments PPPs would thus optimize the scale of infra- for owned housing that employees can access structure assets being developed. Having the after a predetermined period of employment right scale of infrastructure would contribute or assistance with mortgage payments for an to the sustainability of the cities by reduc- initial period. For rentals, a company could ing resource use requirements. Finally, PPPs agree to rent a block of apartments from a could facilitate the transformation of the role public entity at market rates and then provide of government. In the 1980s, in an attempt a discounted rent to its employees. It could to reduce public spending and reduce inef- also provide monthly support for rental hous- ficiencies, countries led by the United King- ing that declines over time. dom (under Margaret Thatcher) and the United States (under Ronald Reagan) pushed on reform of public enterprises and greater Promote public-private partnerships private participation in all economic sectors. A public-private partnership, at its core, is The infrastructure industry gradually started a contractual agreement between a public to change, marked by a shift from public to agency and a private sector entity result- private financing and provision of infrastruc- ing in greater private sector participation in ture and the introduction of the principles of the fi nancing and delivery of infrastructure competition and commercialization. The role projects. Using PPPs as a form of delivery of the public sector changed from direct and of public goods represents a step away from active actor in the provision of public goods the traditional procurement of infrastructure and services to one of regulator, facilitator, toward a more sophisticated engagement with and user of such goods and services. By the the private sector, with the expectation of 1990s, PPPs, as currently defined, were intro- capturing value for money through efficiency duced and provided with models of private gains and lowering of the life-cycle costs of sector involvement more attuned to public projects. China should consider developing services provision. uniform and credible standards, regulations, For the duration of the contract, the con- and a legal framework to encourage public- cessionaire (or private partner) typically will private partnerships to engage in urban devel- build (or rehabilitate), manage, maintain, opment, including the construction of urban operate, and control the assets in exchange infrastructure, the delivery of urban services, for some combination of user fees and gov- and the construction and sale or rental of ernment transfer or payment, which is its affordable housing. compensation for the investment and other FINANCING URBANIZATION 423 costs. The corresponding government com- of these issues as it further develops its PPP mits to make in-kind or fi nancial contribu- framework (box 6.7). tions to the project, whether through subsi- A PPP framework should be tailored to dies, guarantees, shadow fees, or availability existing laws but may also require changes to payments. Therefore, to capture value for laws or policies that are not compatible with money through efficiency gains, the Chi- PPPs. At the national level, a single PPP law nese government needs to consider carefully should guide approval processes across sec- the following issues. First, attracting private tors and regions. 23 That can both simplify investment may require higher user charges the project approval system and facilitate to make the investment profitable for private prudent decision making at the local level. investors. If government is not prepared to Local governments need to make policies to accept cost recovery tariffs for the service, it create the incentive for participation from would have to provide for subsidies from the the private sector, and establish a regulatory budget. Second, PPPs can create direct or con- system for guiding regulating PPPs. Of great tingent liabilities on the government, which importance in a PPP framework is its provi- should be carefully managed. If the private sion for resolution of contractual disputes. operator fails, the government will likely To attract private investors, PPP contracts have to take on its obligations to prevent the may need to include contract-specific dispute service from collapsing. Third, providing resolution mechanisms that may be based public services through PPPs adds a layer of on national or international arbitration and complexity in operations and requires con- other administrative processes before moving siderably more detailed legal agreements and the dispute into the courts. Other legal safe- more complex bidding processes than those guards also need to be present in the form of needed for government-built and operated effective application of the rule of law and facilities. All of these issues can be managed, effective regulatory oversight. and there is ample international experience in Local governments need to introduce a all of these, but government should be aware competitive mechanism along with innova- BOX 6.7 Australia: A leading model in implementing public-private partnerships Australia is a model example of public-private part- the success of Australia’s PPP program include the nership (PPP) development from the creation of following: upstream policy frameworks through downstream implementation. Several reviews of the existing Aus- • A PPP policy framework underpins the principles tralian PPP portfolio express confidence in this model of when to use PPP and how to assess projects and of public service delivery and are optimistic on the appropriate implementation processes. performance of PPP projects in comparison with tra- • The PPP policy guidelines set out the guiding princi- ditional procurement. Furthermore, project outcomes ples within which the public sector should operate. from PPP projects in Australia, as measured by cost • The PPP Unit in Victoria plays a critical role in savings and delivery performance, outstrip their pub- regulating the PPP process by providing guidance lic sector comparators. to the government, as well as providing governance Australia has entered into the third decade of PPP structure in its early days when new PPPs take contracts and has developed a set of unique skills shape. and strong policy frameworks to meet the challenges • The auditor general’s review of the procurement of implementing an effective and output-based PPP process of the PPP contracts led to subsequent program. In 2008, the Infrastructure Australia Act improvements in PPP procurement practices, such came into effect with a new integrated approach to as the bid submission process, competitiveness dur- planning, funding, and implementing public infra- ing the bidding period, and optimization of risk structure projects. Some contributing factors to allocations. 424 URBAN CHINA tive modes of operation to promote openness, benefit analysis should be used to select proj- transparency, and efficiency for PPPs. To ects, and value-for-money analysis should be open up competition, public agencies should used to choose between PPPs and traditional be restructured with transparent financial public procurement. The costs and risks of reporting on their costs, subsidies received contingent liabilities should be quantified, from the budget, and the quantity and qual- and budgetary systems should be modified to ity of delivered services. Open bidding should capture the costs of contingent liabilities. A be set as a norm to create more opportunities guarantee fund should be used to encourage for the entry of private players. recognition of the cost of guarantees when To fully capture the benefits of these they are given or to help with payments when partnerships, China might shift the focus of guarantees are called. Governments should PPP contracts from capital financing toward charge fees for guarantees. PPP contracts service provision. Service focus could be should be published, along with other infor- achieved by bundling investment for asset mation on the costs and risks of the fi nan- creation with operation and maintenance cial obligations they impose on the govern- requirements over a long period of time (such ment. Modern accrual accounting standards as 20 years). PPPs for most types of urban should be adopted for financial reporting, to infrastructure and service and affordable reduce the temptation to use PPPs to disguise housing delivery will depend on local govern- fiscal obligations (World Bank Institute and ment payments over the lifetime of the PPP PPIAF 2012). contract. In these cases, local governments China could improve the institutional should be allowed to make multiyear fi nan- capacity of governments to lead and promote cial commitments. Future financial contribu- PPP at the local level by creating a special tions to PPPs need to be kept to a fiscally sus- PPP unit. Experience from more than 20 tainable level, and the best way to do that is developed and developing countries shows to ensure they are kept within the expected, that such a unit is more likely to have the nec- future level of recurrent revenue. These essary expertise to oversee projects with stan- observations reinforce the case for fiscal dardized processes and achieve scale econo- reform. If, for example, the system of fiscal mies in management, ultimately maximizing decentralization provided local governments public benefits. For China, such special PPP with a stronger revenue base than they cur- units might be established at the provincial rently have, they would be in a better posi- level, given the scale and regional variation of tion to engage private partners through PPPs. development. Potential conflicts among their Expanding PPPs in the future will inevita- promotional, advisory, and evaluation roles bly increase governments’ contingent liabili- could be avoided by having the fiscal risk ties, and a careful risk assessment and proper assessment carried out by an impartial entity; risk-sharing system is needed. PPP contract as noted, the fi nance departments might be arrangements need to clarify the risk-sharing given the task of deciding whether to use arrangements. Governments should bear public procurement or PPPs on a comprehen- only those risks that they can best manage, sive value-for-money assessment. which generally are those that they can con- trol or at least influence. The rules govern- Improve financial management ing PPPs should ensure that the officials and and governance ministers in charge have incentives, informa- tion, and the capability to take account of These reforms in urban finance—public the costs and risks of contingent liabilities. finance, land finance, debt finance, and More specifically, PPPs should be approved partnerships with the private sector—will by the cabinet, the Ministry of Finance, or empower city governments with more con- some other body with an interest in future trol over taxing, revenues, and borrowing, spending. The Ministry of Finance or the and more autonomy in locating resources fi nance departments of local governments, to fi nance expenditures on local needs. City or both, should review proposed PPPs. Cost- governments would then have a better chance FINANCING URBANIZATION 425 of capturing the opportunities and manag- ity of fiscal policy to address structural chal- ing the risks brought about by city develop- lenges, such as demographic change and busi- ment. At the same time, however, the power ness cycles; strengthening the efficiency and of city governments has to be balanced with effectiveness of spending, including through strong governance to maintain a proper bal- programming multiyear projects and their ance between efficiency and equity; only with recurrent cost implications; and providing this balance between authority and account- greater reliability to subnational governments ability will China’s urbanization be efficient, dependent on transfers from the central gov- inclusive, and sustainable.. Top priority ernment. Among these, a core advantage of should go to building capacities for financial MTEFs is the bringing together of planning management, by bringing a medium-term and budgeting, which is especially important perspective to public finance management in countries with five-year plans but annual and by promoting accountability through budgets. A recent, comprehensive analysis transparency and a streamlined hierarchy by the World Bank shows that MTEFs are government structure. indeed associated with many of the hypoth- esized benefits (World Bank 2013a). The term medium-term expenditure Strengthen public finance management through framework covers a range of approaches, a medium-term perspective from more basic ones to more sophisticated The government’s urbanization plan will have ones. The first stage can be considered a far-reaching fiscal implications across numer- medium-term fiscal framework, which is ous sectors regarding revenue, expenditure, essentially the determination of the total and debt over the medium term. Many fiscal amount of resources available (macroeco- policies undertaken today may have broad nomic-fiscal framework) during the medium intertemporal effects. Examples include the term and their allocation across broad spend- effects of current public investment on future ing categories (sectors or agencies). The fiscal operation and maintenance spending, the framework is thus based on a “top-down” impact of current land development spending approach. The second stage, the medium- on future land leasing revenue, and the effects term budget framework, incorporates mul- of current spending on education and health tiyear budget requests prepared by spend- on future productivity. Similarly, a medium- ing agencies, which must be reconciled with and long-term horizon is required to assess the sectoral ceilings and the overall resource the financial sustainability of current debt envelope. The budget framework thus brings policies and the effect on liquidity risks of the in the “bottom-up” dimension. The third fi nancing terms applicable to LGFV liabili- and most sophisticated stage is the medium- ties. Formulating and implementing such a term performance framework, which moves plan in a fiscally sound manner would be dif- the budget’s focus from inputs to outputs ficult without using a medium-term budget and outcomes, thus encouraging the alloca- perspective. Moreover, government antici- tion of funds based on results. By 2008, 132 pates a slowing of growth even as it works countries had adopted MTEFs. To be sure, to address the significant imbalances between MTEFs are not panaceas, and their success the needs of local governments and their fis- depends on initial conditions including the cal capacity, while maintaining a healthy institutional context, appropriate design, and debt-to-GDP ratio; that combination makes sound implementation. The key challenge for the need for medium-term fiscal planning all China is the robustness of annual budgeting, the more important. including budget credibility, measured by the Conceptually, medium-term expenditure divergence between budget documents and frameworks (MTEFs) promise numerous actual spending; and approval of the bud- benefits: strengthening the links between get after the start of the fiscal year; budget planning and budgeting, including by sharp- comprehensiveness that is, whether there are ening the strategic allocation of resources extrabudgetary funds and the use of multiple over the medium term; strengthening the abil- budgets (such as a public fi nance budget, a 426 URBAN CHINA state funds budget, and so on); complexity, or course, take a number of years and would the number of budgetary entities; and budget need to be phased in. But immediate steps reporting, in terms of analyzing the on-going could be taken to gradually develop a multi- execution of the budget and the impact of annual perspective in budgeting. Toward that spending in light of the five-year plans and end, careful consideration should be given to their targets (Deng and Peng 2011). the immediate steps needed to strengthen key A medium-term expenditure framework supporting fiscal capabilities and pilot build- with Chinese characteristics is likely to pro- ing blocks of a medium-term budget outlook. vide benefits that a limited and simple annual Given the existing challenges in China, budgeting approach cannot offer. To success- it would seem to make the most sense to fully adopt a medium-term budget perspec- start with the fiscal framework. In doing so, tive, China might consider three steps: attention should be given to building several core capacities: macroeconomic forecasting; Harmonizing the MTEF with on-going revenue forecasting; the capacity for using a and planned public financial management medium-term fiscal framework model; the (PFM) reforms. With the aim of making the development of multiyear ceilings; and the annual budget sufficiently robust to enable piloting an improved methodology for pro- construction of a multiannual budget pro- gram costing. cess, China might consider using the MTEF In addition, a number of design, institu- reform to drive the next phase of overall PFM tional, and technical issues would need to be reform. That is, to implement an MTEF, considered: coverage (categories and levels of some existing challenges in PFM would government spending, such as recurrent and need to be addressed simultaneously. Using capital spending, to be included); level of detail the MTEF as the driver, or key reform con- (disaggregation of spending by economic type cept, would enable the Ministry of Finance and agency); time period covered and fre- to identify and sequence the priorities for quency of updating; dealing with uncertainty reform over time, ensuring design of a com- (setting up a contingency reserve fund, for prehensive and prioritized reform plan. example); and institutional roles and respon- sibilities for implementation. Additional ana- Identifying challenges that the MTEF should lytical and technical inputs might be needed focus on addressing. The specific challenges to prepare an adequate design proposal and that China might want to address in intro- an MTEF implementation roadmap. It might ducing an MTEF will play an important role also be useful to develop a pilot MTEF model in how it is designed. For example, if China at a subnational government level (where there wants to shift from a “bottom-up” orienta- is limited reliance on transfers, for example) tion to a more “top-down” budget alloca- and also pilot a medium-term budget frame- tion process, the MTEF can play a key role work in selected sectoral budget agencies. by focusing on sound aggregate and depart- mental expenditure ceilings and limiting Enhance transparency policy decisions outside of the annual bud- get process. Or if China wishes to focus on China experienced relatively rapid expan- more robust efficiency and effectiveness in sion in public service provision coupled with spending, the MTEF would play a key role deepening decentralization to provincial and in bringing together the recurrent and capi- subprovincial governments over the past 10 tal budgets. It would be important for the years. With continued but slower growth government to articulate a rationale for the expected in the coming years, along with an MTEF to help motivate and design it. aging population and rapid urbanization, the demand for equal access to better public ser- Appropriately designing an MTEF that vices will continue to increase. These develop- could fit China’s existing public financial ments are likely to place a strain on services management system. Implementing a full and outcomes for citizens. Transparent per- medium-term budget outlook would, of formance management will track results dur- FINANCING URBANIZATION 427 ing this time of transition and establish a basis FIGURE 6.8 Budget transparency trends in the for government and citizen engagement to OECD and China, 2008–12 increase access to and the quality of services. Transparency is increasingly at the heart a. OECD transparency trends of accountable, representative, and well-per- 72.0 forming government. As Premier Li Keqiang 71.5 recently said, “It is imperative to build an innovative and clean government under the Open Budget Index 71.0 rule of law. Clean governance is the corner- stone for the credibility of a government, and 70.5 is expected by the people. Open and trans- parent use of power is the key to building a 70.0 clean government.”24 Indeed, international literature provides robust evidence that 69.5 openness and transparency assist in strength- ening accountability and building citizen 69.0 trust and engagement. Transparency could 2010 2012 bring numerous benefits to the country: transparency is often associated with better b. Fiscal transparency in China, 2008–12 socioeconomic and human development indi- 15 cators, higher competitiveness, and reduced corruption. More transparent countries tend to have better credit ratings, better fiscal Open Budget Index discipline, and less corruption. In addition, 10 reforms that enhance openness and account- ability can lead to increased responsiveness from service providers and less corruption and can empower the poor (Kaufmann and 5 Bellver 2005; Hameed 2005). Moreover, g reater transparency in procu rement (through public access to information on government contracts, and fair opportunities 0 2008 2010 2012 for contractors and suppliers) can also have a significant impact on the efficiency of public c. Fiscal transparency: China compared with the G20 expenditure and the attainment of value for South Africa money. United Kingdom China has taken steps toward greater France transparency in public spending in recent United States Russian Federation years. The new leadership has promised to Brazil make more rapid progress in this regard, Germany and some specific types of expenditure, over India Korea, Rep. which the public had voiced concerns, have Indonesia been addressed recently. However, the level Mexico of fiscal transparency is still low compared Italy Turkey to member countries of the Organization for Argentina Economic Co-operation and Development China (OECD) and the Group of 20 (G-20)—and Saudi Arabia may be declining. China still has one of the 0 20 40 60 80 100 least transparent fiscal and budget processes Open Budget Index in the world (figure 6.8). Source: Open Budget Survey: China 2012. The most recent estimates show that Note: OECD = Organisation for Economic Co-operation and China’s fiscal transparency score has been Development. 428 URBAN CHINA declining over the past five years. China does central government’s capacity for monitor- relatively well on publishing in-year, year- ing budget implementation and results at the end budget and audit reports; however, after subprovincial level. Hence, the accountabil- more than a decade of budget reform and ity chain from central government to citizens increasing transparency at the central level, is weakened when local governments are a large gap remains at the subnational level, unable to provide timely information about especially given the size of extrabudgetary the coverage and quality of services delivered. funds. These areas are in need of reform. On the other hand, the quality of adminis- Relatively easy gains could be made by also trative data provided by local governments publishing the executive’s budget proposal to higher levels is also limited. In some cases, as well as the enacted budget, both of which subnational governments fi nd it difficult to are currently produced but used for inter- generate sufficiently high-quality perfor- nal purposes only. The in-year and end-year mance data to meet the needs of the national budget reports could also be strengthened by government; in other cases subnational gov- increasing the comprehensiveness of informa- ernments have been known to manipulate tion provided, including explanatory notes data to attain certain ends, such as qualify- on the differences between the budget and ing for more transfers. This problem has led actual spending and greater disclosure of the national government to provide more and assets and liabilities. more transfers in the form of narrowly ear- The level of fiscal transparency varies marked programs that require compliance across jurisdictions, and on average China with national government objectives but that lags behind most others in government limit discretion of subnational governments transparency. Information about actual to adjust programs and allocate resources expenditures, off-budget transactions, and to meet local needs. This negative cycle of actual government performance, is patchy decreasing trust, increasing control, and and limited in most jurisdictions. Some increasing strategic local government behav- pockets of innovation are emerging in some ior may be contributing to reduced spend- jurisdictions, such as the district of Minhang ing efficiency and greater administrative and in Shanghai, which is piloting performance- transaction costs. linked budgeting and is pursuing transpar- Making more of the subnational gov- ency through the Internet (box 6.8). ernment data public and opening it to the Lack of transparency is particularly costly scrutiny of citizens would increase the cred- for China. On the one hand, it limits the ibility of the data and make it more useful. Indeed, the central government could enlist the help of citizens in holding local govern- ments more accountable. At its foundation, BOX 6.8 Performance-informed budgeting in this step would represent a change in political the Minhang district, Shanghai and bureaucratic culture, moving away from practices of confidentiality toward more open Minhang is piloting a performance-oriented budget communication, not only with the public but reform that covers key social spending programs, for within governments themselves in the dis- which objectives and performance indicators and tar- charge of their duties. gets are incorporated into the annual budget docu- A modern approach to government trans- mentation and submitted to the district people’s con- gress for review. Evaluations of these programs, some parency is fast becoming the norm as gov- by third parties, are also undertaken, provided to the ernments establish initiatives and agencies people’s congress, and posted on the web. Reviewing charged with making information available to and strengthening the pilot, and then rolling it out to management and to the public. China could other subnational governments, could help improve draw from international good practices. transparency. Collecting and publishing fiscal, assets, Source: http://www.shmh.gov.cn/. and liabilities information. Transparency includes having an independent audit of FINANCING URBANIZATION 429 national and subnational financial accounts, Plan sets out clear performance targets that making periodic public disclosures of key cut across the priority areas of government. fiscal data, exposing hidden liabilities, Similarly, regional and special plans set out and moving off-budget liabilities on bud- targets for key initiatives, while provincial get. China will need a comprehensive bud- plans set out policies and targets at the sub- get reporting that covers four government national level. The Ministry of Finance is in budgets and other public activities carried a unique position to lead a government wide out by public utilities or SPVs but mainly initiative to link fiscal and performance trans- funded by governments. The classification of parency. Performance-linked budgeting can budgetary expenditures should distinguish be a useful approach for pursuing this goal. between recurrent and capital expenditures. Publishing performance data in national The debt reporting should cover government and subnational budgets is an initiative that direct borrowing, guarantees, and contingent would anchor China’s performance-driven liabilities. The fi nancing of deficits of large plans in open government, and that would public sector undertakings, which implicitly encourage greater focus, efficiency, and effec- are government liabilities, should be reported tiveness in expenditure. To achieve these as an annex to the main financial statement. goals, the main task is to systematically dis- Changing the accounting method from cash- till and publish a salient set of performance based to accrual accounting for all level of the benchmarks tied to budgets and outcomes as governments could eliminate an important experienced by local citizens across the whole source of hidden liabilities: arrears. of government. To be effective, performance information Linking with performance information. needs to be meaningful to both service pro- China could compile and publish a citizens’ viders and citizens. This balance is often a budget. These have been increasingly used as challenging one to strike, because it is based a way to make information about fiscal and on an iterative and coordinated process service delivery outcomes accessible to the between levels of government and service public. A citizens’ budget for China, which providers. Often, government information is would present basic revenue, expenditure, too broad or vague in meaning to have any and fiscal data in an accessible format, could substantial public impact. Indeed, there are be a useful way to communicate about these calls for subnational governments to release issues directly with the public. more meaningful data to citizens. Transparency—the public availability Two examples for providing performance of fiscal and performance information— information to the public come from the is needed to make performance budgeting United Kingdom and Canada. The United work. It can help increase public trust in Kingdom’s official open data portal (http:// government as part of an open budgeting data.gov.uk) is the home of its transparency and performance management framework. efforts. The website contains a substantial Performance budgeting focuses on the results and growing amount of information, includ- that are being delivered for the resources pro- ing central and local government spending vided, rather than just on how much money data, government contracts, and titles and is being spent or transferred to subnational pay rates for senior civil servants. This initia- governments. It is an approach that is increas- tive has been transformative and has quickly ingly being adopted around the world. Over helped the government demonstrate its com- two-thirds of OECD countries now include mitment to transparency and open data. non-financial performance information in The Canadian province of British Colum- their budget documents. bia launched an open data portal (http:// To a large extent, China is already per- data.gov.bc.ca) offering access to more than formance driven. The national performance 2,500 local government datasets to the pub- framework is transitioning from being output lic. The initiative showed that a high demand focused and is increasingly linked to forward- for financial data, and remarkably, there was looking policy targets. China’s 12th Five-Year also demand from civil servants themselves 430 URBAN CHINA who benefited from better access to data for of past rapid urbanization, improving access management. to rural services, and facilitating a more orderly next wave of urbanization. China is E-government. Innovations in the use of a unitary state with one government adminis- technology, an area of strength for China, tratively organized into a hierarchical five-tier can make it easier to adopt a big-push governance structure with the central govern- approach to transparency, particularly as ment at the apex followed by provinces, pre- the use of Internet and e-government facili- fectures, counties, and towns and townships. ties has been growing in recent years. Such China has the highest number of tiers among innovations have underpinned a modern large countries (table 6.7). It is worth reex- approach to transparency in many countries. amining how many tiers are needed. Transparency is most effective when the gov- Enhanced focus on expanding access to ernment enables citizen participation. The rural services led the Chinese authorities to Korean government, for example, has set up take a second look at this hierarchical gov- a web-based participatory budgeting system. ernance structure. In 2002, the national Besides providing public access to real-time government adopted a policy of developing fiscal data, D-Brain (http://digitalbrain.go.kr) a harmonious society with special emphasis enables citizen participation throughout the on rural development and expanding access budget process with Internet surveys, cyber to rural services. In the context of this pol- forums, and a budget waste report center for icy, it was recognized that the existing local citizen reporting of misappropriation or mis- government structure especially prefecture- behavior. The Minhang District of Shang- county relationships were not conducive to hai’s experiment with performance-based giving rural residents equal access to services. budgeting is another example of innovative Prefecture governments were perceived to use of information technology (see box 6.8) have an urban bias in their incentives and accountabilities and a relative neglect of the concerns of rural residents or even for the Completing province-managing-county reform food security of the nation. This prompted The hierarchical governance structure is of the central government to encourage reforms critical importance in dealing with the effects of province-managing-county and county- TABLE 6.7 Local government fiscal tiers in the world Average population Average area Number of tiers (1,000 people) (1,000 km2) Standard Standard Standard Mean deviation Mean deviation Mean deviation Total 2.03 0.80 101.1 175.5 2.13 6.95 By region: South Asia 2.43 0.98 79.8 75.5 0.32 0.58 Europe and Central Asia 2.00 0.74 29.5 56.3 0.29 0.40 Middle East and North Africa 2.00 0.86 111.8 116.4 5.14 15.68 Sub-Saharan Africa 2.02 0.76 171.6 178.6 4.09 8.00 Latin America and the Caribbean 1.74 0.63 63.2 51.9 1.12 1.73 East Asia and Pacific 2.50 1.00 171.4 379.8 1.22 2.53 North America 2.00 0.00 11.6 6.8 1.32 1.72 By income: High income 1.69 0.67 72.5 119.4 1.13 2.71 Middle upper income 1.76 0.72 67.3 78.8 4.09 13.25 Middle lower income 2.35 0.76 93.9 246.4 1.12 2.32 Low income 2.26 0.82 162.3 178.0 2.58 5.45 Source: Ivanyna and Shah 2014. FINANCING URBANIZATION 431 managing-township finances in 2002 on ated with compactness of the area (popula- a pilot basis. Subsequently, these reforms tion density) further weakens the relevance were recommended for nationwide adoption of an intermediate tier for service delivery. jointly by the Communist Party of China In addition, the regional functions could (CPC) Central Committee and the State be performed by inter local partnerships or Council in 2009 (Zong Fa, 2009, no. 1) and agreements and the oversight function of the were highlighted as an important priority in prefectures could be made the responsibility the 12th Five-Year Plan. In 2012, the Minis- of the provinces. One also needs to examine try of Finance advised all provinces to imple- local governments, especially intermediate ment these reforms with suitable adaptation tiers, for jurisdictional design. Any jurisdic- to local context. tion not aligned with the economic service Several provinces including Hubei have area should have its boundaries redrawn. now almost a decade of experience with these The province-managing-county reforms reforms. The reforms delayered local fi scal moved decision making closer to the people governance by allowing direct flow of funds by shifting the power locus from prefectures from the province to counties and in the pro- to counties. The empowerment of counties cess bypassing the prefecture governments. A has led to greater clarity in division of powers careful review of progress with these reforms and has thereby limited potential for blame suggests that they have had a positive impact shifting for service delivery failures. Local (Zhao, Ma, and Li 2013). residents now have a much better perspective The case for abolishing prefecture as about who does what and therefore have a an intermediate tier between province and greater clarity about who should be held to county can be made on conventional consti- account. These management reforms have tutional and economic grounds. First, aboli- also resulted in greater focus on rural areas tion in itself could be considered a welcome and improved access for rural services. Sev- move because China has four tiers of local eral factors have contributed to this positive governance, twice as many as the average in result. First, rural counties were given greater the rest of the world and the highest number funding consistent with enhanced responsi- among large countries. Second, China’s Con- bilities. Second, potential for divergence of stitution does not acknowledge prefecture funds intended for rural areas to urban areas governments as oversight tiers for county gov- as happened under the prefecture-managing- ernments. Third, the greater the number of county regime have been eliminated. Third, tiers, the more costly local governance is and land grabs by prefectures of productive agri- the greater the perils of coordination failures. cultural land from rural counties have been Further there is likely to be greater potential restrained, which should have a positive for confusion about division of powers and, impact on food security for the nation. as a result, duplication as well as neglect in The reforms also offer potential for a posi- delivery of public services. A lack of clarity tive impact on investment climate and urban- in responsibilities is further likely to manifest ization. The location advantages for rural itself in a lack of government accountability migrants of county-level cities offer great to local residents. potential for orderly urbanization. Because Although monitoring and oversight by the of their geographic closeness to rural areas, higher level could be adversely affected with county cities are better placed to absorb delayering, that is not likely to be of much rural migrants. These cities have the poten- concern in this information age with instan- tial to offer more affordable housing, educa- taneous communications. The information tion, and health care services, and they also age diminishes the economic relevance of an typically have less rigid policies in granting intermediate tier in countries with advanced residence permits to rural migrant labor com- communication and transportation networks pared with metropolitan or prefectural cities. and makes larger population sizes in a com- County cities view the influx of rural migrant pact area more economical for local service labor as a positive “demographic dividend” delivery. Agglomeration economies associ- by increasing the size of the productive labor 432 URBAN CHINA force and a larger population to reap econo- urban construction and management tax/ mies of scale and scope for city services. The education surcharge tax. abundant supply of labor and lower wages • Revamp the revenue sharing system to one in turn may improve the competitiveness of that features a single sharing rate for the counties against prefectural cities in attract- vertical pool, a formula-based system for ing potential investors. In addition, the distributing the transfers, and a simplified reforms in the long run are also expected to earmarked grant system. contribute to more orderly development of • Clarify the role of HPFs in the affordable urban centers, by constraining the expansion housing program, and explore alternative of boundaries of prefectural cities. means to finance the program including Moving forward, prefectures as a regional direct subsidies from the government bud- tier providing administrative oversight of get, contributions from employers, and counties could be a good candidate for abo- partnership with the private sector. lition. With the abolition of prefecture gov- • Regulate the land lease system and change ernment as a regional tier, regional functions its structure toward higher rates of com- could be performed by interlocal partner- pensation for farmers, restriction to public ships or agreements, and the oversight func- purpose activities, and implementation of tion of the prefectures could be move upward property taxation to encourage a more effi- to the province. This will enhance provincial cient use of land. oversight and coordination responsibilities • Promote private-public partnerships in which could be exercised by absorbing redun- broad urban development. dant prefecture technical staff into provincial • Reform LGFVs, and allow local govern- cadres. ments and SPVs to borrow within a rigor- ous regulatory framework. • Diversify stable long-term financing for The reform agenda and local government and SPVs and align the expected payoffs incentives for them and their lenders. • Bring medium-term perspective and trans- The proposal here is for a comprehensive parency into public expenditure manage- structural reform rather than a piecemeal fi x ment, and streamline the government hier- of the system. Because the Chinese approach archy structure by removing the prefecture to urbanization fi nance makes it difficult to as a regional government. separate public finance reform, land finance, debt finance, and housing finance, it may be This proposed reform package will signifi- reasonable to consider how the various ele- cantly change the Chinese economic system ments of the reform fit together and the joint in many ways (see table 6.8). Among these, impact they might have on the economy. The the most important payoff will be a stronger elements of the reform can be introduced market institution. The reforms would allow gradually and over time, but developing and the market to play a larger role in resource making clear the long-run plan to modernize allocation and let the government focus on its the entire urbanization finance system should core role of delivery of public services, plan- be done at the outset. One such comprehen- ning, coordination, and regulation. Moving sive reform program, discussed above, con- from a derivation-based revenue sharing to tains the following elements: a formula system would reduce the incen- tives for local governments to compete for • Shift responsibility for financing social a tax base. The amount of intergovernmen- insurance programs, including legacy tal transfers received would now depend on costs, to the central government level. expenditure needs, such as population size • Authorize subnational governments to or the concentration of low-income families adopt specified taxes and to set rates within or the state of urban infrastructure or urban- limits. The tax sources to be used are prop- ization, rather than on the amount of new erty taxation, motor vehicle taxes, and the VAT or company income tax generated. The FINANCING URBANIZATION 433 TABLE 6.8 Comprehensive reform program Subject Reform Comments Expenditure Transfer responsibility for social security to the central Full assumption of responsibility and the cost of leveling assignment level up benefit differences among provinces, and funding the system including legacy costs would probably bring additional expenditures. Transfer unfunded liabilities in the pension and health Central expenditures would increase, but amounts are areas to the central level unknown Transfer selected subnational functions to the central Central expenditures would increase, but amounts are level unknown Revenue Eliminate the 25 percent value added tax (VAT) share to This step would shift revenues from the subnational assignment subnational governments governments to the central government. Adopt local government taxes Options include property taxes, surcharges on central taxes, motor vehicle taxes, and retail taxes on selected products. Intergovernmental Restate the vertical share for intergovernmental transfers This reform would shift the distribution of transfers away transfers in terms of all tax collections. Replace derivation sharing from the higher-income provinces. with formula sharing Consolidate conditional and unconditional grants into a This reform would reduce compliance costs but remove single program targeting of specific areas for spending. Allocation could be shifted to a formula and possibly merged with general revenue sharing above. Tariff Policies Set tariffs to recover the full costs of infrastructure service A regulatory authority will review tariffs to ensure that they provision, including the costs of capital, for: meet the prescribed standards • Solid waste collection and disposal • Water supply and distribution • Natural gas distribution • Wastewater treatment plants • Roads and bridges constructed as toll facilities Set tariffs to cover the full costs of operation and maintenance and to make partial contributions to the cost of capital for wastewater collection systems. Debt Give local governments the power to directly borrow Allowing local governments to access debt market would long-term for capital investments once they are credit impose fiscal discipline. Local government financing rated. vehicles (LGFV) would no longer be the only way for local governments to access financing. Make credit rating mandatory before any local Ratings promote financial transparency, encourage lenders government can borrow from any source for any and investors to price credit on a risk basis, and enable purpose. authorities to monitor local government finances based on objective information. Develop the municipal bond market to provide long- This step increases the sources of financing for local term financing for urban infrastructure. governments and SPVs; engages investors that are seeking long-term securities; and strengthens China’s financial sector. Resolve existing local government bad debts, sharing This reform eliminates the need for future central negative consequences among borrowers and government bailouts of local governments, makes the lenders, and simultaneously establish a credible local default risk credible to lenders and investors, and thereby government insolvency framework reduces moral hazard in local government financing. Land finance Pay a higher rate of compensation to farmers but tax the This reform would slow the increase in land lease sales, difference between the buying price and the agriculture reduce public investment in infrastructure, and make debt price. more affordable. Revenue generated from long-term leasing of municipally owned land will be earmarked for capital expenditures only. Land leasing revenues will be dedicated to specific capital projects, when these projects raise land values. All land leasing will take place at market values, subject to competitive bidding. Budgeting Adopt a new budget format that separates current from The reform would permit development of a capital budget, capital spending and revenues. Adopt accrual-based and could lead to transparency, enhanced efficiency and government accounting rules. Require that all revenues, better measures of creditworthiness. expenditures, assets and liabilities be fully reported. Phase in medium-term budgeting. 434 URBAN CHINA choice between investments in education and efficiency will be achieved from three other investments in industrial development would changes proposed here. First, local tax- now be on a more level playing field. That ing powers would allow (force) those urban should result in more rational decisions about governments that provide better services to strategies and subsidies for attracting indus- charge a higher tax rate to their residents, try. Moving industrial subsidies to the central which would bring about a number of changes government would further limit the role of in choices made. In cities that provided bet- local governments. Moving the LGFVs into ter (higher cost) services, residents would be the formal local government structure, or to asked to pay the higher marginal cost, which commercial entities, and more generally lay- would be factored into the location decisions ing a play field for the private sector would of both companies and migrants and, at least make space for the market to play a role. at the margin, contribute to a more efficient Central-local government relations will be mix and layout of cities of various size. This rationalized. The reform package proposed change, together with greater transparency, here would shift some expenditure responsi- will stimulate resident groups and business bilities from local governments to the central groups to pressure local governments for level. The central government has long been more cost effective service delivery. called upon to take over financing respon- Second, a proper rejiggering of expen- sibility for social insurance (pension and diture assignments would lead to a better health), which would lead to cost increases accounting of the external costs and benefits for the central government. Other expendi- in spending decisions. In cases where the ture programs are candidates for shifting to reforms led to more centralization, externali- the central government, which would add to ties would be internalized and more efficient the improvement in vertical balance. These levels of service would follow. Examples include functions where there are significant are natural resource management, environ- spatial externalities (environmental protec- mental protection, food safety, and regional tion and natural resource management) and transportation. where regional and national coordination is Third, the increased level of compensation necessary (urban transportation). Expendi- to farmers (and reduced profits to local gov- ture reassignments would be accompanied ernments and developers) could reduce land by revenue reassignments. The central gov- transfer revenues and slow down the rate of ernment revenue share would be increased. increase in peri-urban infrastructure invest- All tax revenues where the central govern- ment. Some excess capacity could be used ment sets the tax rate would form the new up, and budget allocations could be focused revenue sharing pool, and a single sharing more on social services and on infrastruc- rate would be applied. The new general rate ture maintenance. Urban fringe development would reflect the new central government might also be slowed by taxes on property responsibilities. The distribution of revenue and motor vehicles. That could limit urban sharing among provinces would be done by a sprawl and at the margin lead to more com- formula and by earmarked grants. If serviced pact development that would better capture population is factored heavily in the formula, agglomeration economies. Whether any of metropolitan cities are likely to lose revenues. these changes in relative prices will matter, They then could recapture revenue losses however, depends on the price elasticity of with new local taxes that would be assigned. demand for suburban land. These would include a revamped set of prop- This reform package would also have erty taxes, surcharges on central taxes, and positive impacts on equity. The shift to a motor vehicle taxes. formula-based system of intergovernmental The financing system will be more condu- transfers would, at least, hold out the possi- cive to the development of an efficient, inclu- bility of more equalization among provinces sive, and sustainable urbanization. by comparison with the current derivation- In addition to efficiency brought by greater based system. The transfer formula could be role of market in resource allocation, greater structured to take expenditure needs more FINANCING URBANIZATION 435 directly into account and no longer would ernment guarantees on debt undertaken by reward those provinces with a stronger tax SPVs delivering local services and on the com- base. The degree of equalization that resulted mitments made by PPPs. Adherence to budget would depend on the formula chosen. discipline is monitored through annual insti- A second area where equity gains would tutional credit ratings for all local govern- be made is with the shifting of responsibil- ments and SPVs that want access to fi nanc- ity for the financing of social insurance pro- ing from any source. Any failure to maintain grams to the central government. Lower- budget discipline is revealed through down- income local governments would no longer graded credit ratings that are public informa- be required to cope with fiscal capacity con- tion, easily monitored by central government straints and a heavy concentration of resident authorities and financial institutions. low-income workers. Social security would Financing for local governments is put be a national program where benefits and on a stable foundation. The reform program contributions would no longer depend on broadens the sources of long-term fi nancing place of residence. That would also generate available to local governments while address- efficiency gains by removing an important ing the problem of moral hazard that under- barrier to labor mobility. mines the stability of China’s financial sector. Third, equity might be served by revisiting Scaling up the use of municipal bonds issued the expropriation and compensation policies by local government from its experimental now followed in converting farmland into phase creates a mechanism for institutional urban land uses. That could happen in one of investors to play a much larger role in financ- several ways. Farmers could be given stron- ing urban infrastructure. Shifting some of ger property rights over farmland or home- this financing burden from policy banks and steads, or both, or the central government commercial banks to China’s developing could mandate a compensation rate that debt market enables banks to diversify and more closely approximates market value and strengthen their loan portfolios with more impose a capital gains tax on the profit. lending to small and medium-size businesses. Overall stability could be improved. A It also strengthens and deepens the debt mar- property tax levied at a reasonable level, ket, thereby contributing to a more flexible and with the right structure, could help curb and responsive financial sector for China. speculation in the housing market. Heavier Gradually resolving the existing bad debts taxes on motor fuels would be consistent of LGFVs in a manner that shares responsi- with lower-carbon urbanization. Bringing bility among the central government, local a medium-term perspective into budgeting governments, and banks is combined with would enable the government to manage the establishing a formal and pragmatic local fiscal implications of urbanization more effec- government insolvency framework. These tively and mitigate the shocks accordingly. reforms put fi nancial institutions on notice Local government budget discipline is that an assumption that local government promoted. Forcing local governments to SPV debt is implicitly guaranteed is unwar- raise some of their own revenue and borrow ranted. That forces moral hazard out of the on budget would move local officials a step fi nancing process and creates strong incen- closer to accountability and fiscal discipline. tives for lenders and borrowers to pursue Adequate budget provisioning is required for objectively creditworthy financing for urban contingent liabilities resulting from local gov- infrastructure. 436 URBAN CHINA Annex 6A A technical note on the urbanization finance model The World Bank developed a model to esti- and incomes, expansion of urban popula- mate the total costs of urban infrastruc- tion, built-up area, and density) and the insti- ture, social services, and affordable hous- tutions and policies shaping public-fi nance ing, covering both the capital expenditure outcomes (such as fi nancing policies, taxes, (CAPEX) and the current expenditures such spending programs). The Development as the operation and maintenance expendi- Research Center (DRC) macro model pro- ture (OMEX) in a wide range of key sectors. vides many of the long-term economic and Urban infrastructure sectors include roads, demographic projections that are used as subways, drainage, sewage, landscaping, gar- exogenous inputs in the World Bank model, bage, water, and heating; while social service thus ensuring consistency between results sectors include social housing, education, and obtained from both models. In the World health. Arguably, by considering all these sec- Bank model, the baseline scenario reflects the tors, the model provides a fairly comprehen- continuation of the current pattern of urban- sive account of the major amenities urbanites ization and the perpetuation of existing insti- would expect from a livable city in China or tutions and policies without drastic reforms. elsewhere. It is characterized by a growing urban popu- Acknowledging the prominence of the lation and significant city sprawl. The reform public sector in undertaking and fi nancing scenario captures the high-quality urbaniza- expenditure programs related to urban infra- tion pattern that structural reforms might structure and social services is quite pertinent bring about, together with changes in tax, to assess the fiscal affordability of the urban- land, and debt-financing policies. Reforms ization process. To do so, the model consid- thus lead to even faster growth of the urban ers the total expenditures to be borne by population and city densification. the public sector (including those related to urbanization as well as many other spending The urbanization cost module responsibilities) against the resource envelope it commands. The model is then structured Salient economic and demographic funda- in two modules. First, the urbanization cost mentals of the urbanization process affect the module quantifies the required expenditures expenditures required to build urban infra- stemming from the urbanization process, structure and deliver social services. Three projecting these expenditures sector by sec- fundamentals are considered in determining tor over the period 2013–30 to capture long- the expenditure needs: urban population, the term economic and demographic trends. built-up area, and density. These variables Second, the fiscal space module estimates are projected for three categories of urban the total expenditures to be fi nanced by the area (namely, city, county, and town) and for central and local governments, together with both the baseline scenario and the reform sce- their prospective resource envelope compris- nario. The urban population results from the ing fiscal revenues and borrowings. Financ- total population projected by the National ing policies play a key role in linking the two Population and Family Planning Commis- modules because they ultimately determine sion, and the urbanization rate estimated in the share of required urbanization-related the DRC macro model for the baseline and expenditures (identified in the investment reform scenarios. The distribution of urban needs module) that the public sector would population among the categories of city, finance as part of its total expenditures county, and town follows the trends observed (ascertained in the fiscal space module). in recent years, where the relative importance The World Bank model’s projections of cities is increasing slightly at the expense of are predicated on stylized scenarios built towns. The urban built-up area is projected upon reasonable assumptions concerning linearly in the baseline scenario, starting with the future pattern of economic growth and the 2011 figures for the three categories and urbanization (such as growth of real GDP subsequently adding a category-specific fixed FINANCING URBANIZATION 437 amount each year. The fi xed annual increase In contrast to the other sectors, subways in built-up area equals the average expan- are driven solely by a policy target implicit in sion observed in 2001–11. 25 In the reform the development plans of 34 Chinese cities: scenario, the urban built-up area is kept con- the subway lines must reach 14,187 kilome- stant at the 2012 figure for each category, ters by 2040, starting from 1,672 kilometers thus reflecting policy reforms that discour- in 2011. Therefore, an average of 432 kilo- age urban sprawl. Finally, the urban density meters of subway lines must be built every is defined as the ratio of urban population to year until 2040 to meet the target. Thus, the built-up area and is projected accordingly.26 model assumes the required physical capital stock Ki,j,t in this sector increases in propor- Urban infrastructure sectors tion to the average expansion of subway lines. The physical investment requirement in a The urbanization process characterized by given urban infrastructure sector is, by defi- the fundamentals described above requires nition, the required growth of physical capi- investment in physical capital, most nota- tal stock plus the depreciation of the exist- bly for urban infrastructure sectors. Thus, ing stock. For simplicity, the depreciation is the model postulates that the growth of assumed to be a constant proportion of the urban population and density determines the existing physical capital stock, which is uni- required growth of physical capital stock in form across sectors and varies only across these sectors (with the exception of subways). categories: 5 percent if the capital is built in Formally, the required physical capital stock a city, 6.7 percent if built in a county, and K i,j,t in category i (that is, city, county, or 10 percent if built in a town. The physical town), urban infrastructure sector j, and year investment requirement IRi,j,t is then given by Ki , j ,t − (1 − δ i )Ki , j ,t –1 where d i is the category- t, is given by specific depreciation rate. A monetary cost is incurred if and when where UPi,t is urban population, the accumulation of physical capital takes place. The cost reflects all the expenses population, UDi,t is urban density, and the incurred in purchasing real assets outright or elasticities eUP and eUD are estimated econo- in building them, and so depends on market metrically. For each category and sector, the prices of real assets, goods, and services, as initial physical capital stock Ki,j,2011 is taken well as on the overall efficiency of the invest- from 2011 data.27 ment process. A cost per unit of physical cap- The basic growth specification outlined ital invested is postulated in the model as a above projects K i,j,t for roads, drainage, summary indicator of all costs related to real landscaping, and heating. For sewage treat- investment. For each category and sector, the ment, garbage treatment, and water, a sector- initial unit cost PK i,j,2011 is calibrated using specific policy target is added to the funda- historical data up to 2011 on the invest- mentals-driven growth: namely, 100 percent ment expenditures at current prices and the of discharged sewage and collected garbage concomitant gross accumulation of physical must be treated by 2030, and the water cov- capital. Next, to project the unit cost PKi,j,t, erage rate must also be 100 percent by 2030. the model assumes a time-invariant sector- The target accelerates the projected Ki,j,t by specific inflation rate p K j , which captures adding a third term to the basic growth speci- the expected trends in market prices and Ratei , j ,t investment efficiency. For the baseline and fication: ε iRate ,j × ln where Ratei,j,t is reform scenarios, the sector-specific unit-cost Ratei , j ,t –1 inflation is 6 percent annually. This figure the sectoral rate (that is, sewage treatment, is below the historical average estimated for garbage treatment, or water penetration), most urban infrastructure sectors and thus which increases linearly until reaching 100 reflects investment efficiency gains vis-à-vis percent by 2030, and the elasticity e Rate , past performance (for example, the estimated which is estimated econometrically.28 unit-cost inflation in roads and landscap- 438 URBAN CHINA ing was 13 percent a year in 2001–10). On school, high school, high vocational school, the other hand, because the cost structure and other schools. Starting from the 2011 in these sectors is tilted toward inputs (like figures corresponding to the first four urban- labor) whose relative prices would increase school types, the number of these students along with the rebalancing of China’ growth is assumed to increase over time following pattern, the projected 6 percent unit-cost the growth of the urban population under- inflation exceeds the projected 3.5 percent lying the baseline and reform scenarios. 29 GDP deflator inflation. The second factor is the gradual absorption T he requ i re d c apit a l ex p end it u re of the migrant workers’ children currently (CAPEX) in a given urban infrastructure receiving mandatory education in rural areas sector is, by defi nition, the physical invest- that would move to cities and enroll in urban ment requirement (the quantity of real schools. Nearly 19 million students in rural assets to be invested) times the unit cost (the primary schools and 6.5 million students in expenses incurred per unit of real assets to rural middle-junior school are estimated to be invested). At current prices, CAPEXs are join their parents living in cities.30 Thus, the projected as IRi , j ,t × Pi K , j , t , whereas CAPEXs model assumes that these students will grad- at constant prices use P K i,j, 2011 to value ually enroll in urban schools, with the transi- the physical investment requirement. The tion completed by 2015. For each of the four CAPEXs are monetary magnitudes and can urban-school types indicated above, indexed be aggregated across categories and sectors. by s, the total number of urban students STs,t Thus, total CAPEX at current prices in year t resulting from both factors is the required is ∑ i , j IRi , j ,t × Pi , j ,t . K urban-education coverage. The required operation and maintenance Monetary costs incurred in providing pri- expenditure (OMEX) in a given urban mary, middle-junior, high, and vocational infrastructure sector is assumed to be pro- education in urban areas include labor, portional to the replacement value of the OMEX, and CAPEX. The model formulates physical capital stock. For all categories and a cost per unit of student served for labor sectors, the proportion is 2 percent, and the and OMEX, and a cost per marginal student unit cost proxies the replacement value. The served for CAPEX. The unit costs summa- OMEXs at current prices are projected as rize expenses to deliver education services, θ × Pi K , j , t × Ki , j , t where q is the proportional which depend on market prices of real assets, factor (2 percent). OMEXs at constant prices goods, and services, as well as on the overall use PK i,j,2011 to value the physical capital efficiency of the service delivery process. This stock. The total OMEX at current prices in approach assumes that each urban student year t is ∑ i , j θ × Pi , j ,t × Ki , j ,t . K has a fixed endowment of physical capital, so that the (observed) number of urban students STs,t is one-to-one proportional to the (unob- Education served) stock of physical capital in urban Providing education in urban areas requires schools. For each urban-school type s, the building schools and hiring teachers. A initial unit costs of labor PLs,2011 and OMEX remarkable policy goal is that mandatory PO s,2011 are calibrated using 2011 data on education in urban schools be provided to these expenditures. The initial CAPEX unit students whose households hold urban resi- cost PKs,2011 is estimated using historical data dence, as well as to students currently attend- up to 2011 on the investment expenditures at ing rural schools whose parents are living current prices and the increase in the number and working in cities (the migrant population of students attending urban schools of type s. without hukou). Thus, the model postulates To project costs into the future, it is assumed that the required urban-education cover- that the labor unit cost PL s,t increases over age of students to be served is driven by two time in line with the growth of per-capita factors. The fi rst is the number of students nominal income of urban households, which living in cities and attending five types of averages 9.3 percent a year in 2013–30, urban schools: primary school, middle-junior according to the DRC macro model. The FINANCING URBANIZATION 439 OMEX unit cost POs,t grows at 3.5 percent Urban hospital beds and related CAPEX a year, in line with the GDP deflator infla- are driven by an assumed policy target con- tion. The CAPEX unit cost PK s,t increases 6 cerning the capacity of health facilities to percent a year, in line with the unit-cost infla- serve urbanites: to make available 6.4 beds tion in urban infrastructure sectors. Putting per 1,000 urbanites by 2030, which is the together the required coverage and unit costs average figure observed in high-income at current prices projected for the four types OECD countries, starting from the current of urban schools, the provision of education availability of 3.6 beds per 1,000 urbanites. in year t requires a total labor expenditure Thus, the urban population growth and a of ∑ s STs,t × Ps,t , OMEX of ∑ s STs,t × Ps,t , L O gradual increase in the beds ratio toward the and CAPEX of . 2030 target jointly determine the required Total expenditures at constant prices use the urban-health coverage measured by Bt. 2011 initial unit costs. The model postulates a cost per marginal Costs incurred in other types of schools bed to be endowed, which reflects investments cannot be addressed by identifying required to be made in the health sector and depends coverage and unit costs separately because on market prices of real assets, goods, and of a lack of reliable information on the num- services, as well as on the overall efficiency ber of students currently enrolled. Thus, to of the investment process. The initial CAPEX project the required total labor expenditure, unit cost PK 2011 is calibrated using 2011 data OMEX, and CAPEX, it is assumed that the on the investment expenditures at current expenditures observed in 2011 would grow prices and the increase in the number of beds at annual rates identical to those postulated in urban hospitals. The estimated value is for the unit costs of the four main types of RMB 80,453 for a bed. The CAPEX unit cost urban schools. Note that the model does not PKt is assumed to grow at 6 percent a year, as deduct the savings in the rural education sys- in the urban infrastructure sectors. Providing tem arising from the migration of students. health services in year t then requires CAPEX of [ Bt − (1 − δ h )Bt −1 ] × Pt . CAPEX at constant K prices use the 2011 initial unit cost. Public health Delivering health services in urban areas Social housing requires building hospitals and hiring medi- cal staff. The model focuses only on capital Social housing implies construction, opera- expenditure, however, because government tion, and maintenance of buildings. Current subsidizes the recurrent cost to both rural and policy aims at building 36 million units in the urban residents on a capitation basis, thus the period 2011–15, and raising social-housing net increment of recurrent cost is expected to coverage to 20 percent of urban households be negligible. Since there is no homogeneous by 2020. In the model, it is postulated that physical capital good for providing health ser- a typical social-housing unit has 60 square vices but rather a heterogeneous collection of meters of floor space, and a typical urban goods (including facilities and medical equip- household living there has three people. The ment), the model relies on the number of beds required physical capital stock K sh,t in the in urban hospitals as a proxy for the require- social housing sector is then defined in terms ments of physical capital (or, more broadly, of the floor space to be built. It is driven by hospital capacity). This approach implicitly the current policy until 2015 and afterward assumes that each bed is associated with a by the urban population growth and cover- fi xed endowment of physical capital, so that age target. the (observed) number of urban hospital beds Building social housing takes time, and Bt is one-to-one proportional to the (unob- some major monetary costs are incurred served) physical capital stock. The required before the physical capital built becomes urban-health coverage is then expressed in available. In this regard, the model postulates terms of beds to be endowed with supportive that the physical investment requirement physical-capital goods. IR sh,t in year t ( the quantity of real assets 440 URBAN CHINA to be invested) equals the average increase ing that the current financing policies will be in the physical capital stock available in the upheld going forward. next two years, 0.5 × (Ksh,t +2 − Ksh,t ).31 A cost As for all the other primary expenditures per unit of physical capital invested (which (those not related to urbanization, excluding will be available over the next two years) is interest), it is assumed that the correspond- used to summarize all costs related to real ing spending programs will be adapted to investment in the sector. The initial unit cost China’s new growth pattern and thus will PKsh,2011 is RMB 2,373 for a square meter of expand in line with either the nominal GDP space floor.32 The unit cost PKsh,t is assumed or the nominal per capita income of urban to grow in line with GDP deflator inflation. households. Interest payments depend on the Finally, the required capital expenditure borrowing policies pursued, which are dis- (CAPEX) at current prices is projected as cussed below. IRsh,t × Psh K ,t , whereas the required CAPEX at The resource envelope available to fund constant prices uses PKsh,2011 instead. Of the all expenditures, referred to as the fiscal total capital expenditure on social housing, space, consists of government revenues and 70 percent is expected to finance through borrowings. While revenues result from the debt. interaction of economic performance and The required operation and maintenance fiscal policies, borrowings (both on- and expenditure (OMEX) in social housing is off-budget) depend on the objectives of assumed to be proportional to the mar- debt fi nancing policies as well as on market ket value of the physical capital stock. The opportunities. OMEX proportion q is 2 percent. The mar- Government revenues include taxes, non- ket value PKM sh,t is proxied with the average tax receipts, and net land-leasing receipts selling price of residential buildings, which (after deducting the cost of land acquisition was RMB 4,993 for a square meter of space and relocation compensation), which are floor in 2011 and which is assumed to grow recorded in the Public Finance Budget and following unit-cost inflation. OMEX at cur- the Government Funds. The macroeconomic rent prices is projected as θ × Psh ,t × K sh ,t and KM projections of the DRC macro model pro- KM OMEX at constant prices use P sh,2011. vide reasonable proxies for the relevant tax bases of the major tax and nontax revenues. Assuming the tax rates remain unchanged, Fiscal space module the revenue projections are consistent with Expenditure requirements identified in the their underlying economic determinants, urbanization cost module are to be under- so that, for example, income taxes grow in taken and fi nanced by the private and pub- line with nominal GDP and consumption lic sector, often using borrowing to initially tax trails aggregate consumption expendi- put assets in place and setting tariffs, user ture. Nontax receipts include rentals from charges, and budget resources (subsidies social housing. The rental is expected to be and transfers) to repay debts and operate high enough to cover operating and main- and maintain these assets. Financing policy tenance cost, interest and amortization of options will then determine how much of construction cost in 30 years. Land fi nanc- the urbanization costs will be borne by the ing policies drive the net land leasing receipts. central and local governments. These costs In the baseline scenario, the gross receipts will compete with other spending respon- result from leasing 4.4 million mu of state- sibilities, thus posing policy trade-offs and owned land a year, at a market price of RMB the need to prioritize expenditure programs. 660,000 a mu in 2012, which subsequently In the model, the expenditure share in each increases 3 percent a year, in line with GDP urban infrastructure and social service sec- deflator inflation. Three-quarters of the gross tor is calibrated by looking at the historical receipts are assumed to cover the costs of ratio between public and total spending. 33 land acquisition and relocation compensa- Estimated shares are used in both baseline tion. In the reform scenario, instead, land and reform scenarios, thus implicitly assum- leases are dropped in 2015 and replaced with FINANCING URBANIZATION 441 a property tax that likely generates revenues in regions of origin, with the central govern- equivalent to 1.6 percent of GDP a year. ment funding most of these subsidies in the Borrowings include all direct government lagging regions. With respect to pension and debts and the indirect debts of local govern- health insurance schemes, rural residents are ments contracted through their financial charged lower premiums for pension and health insurance schemes, and receive deeper vehicles. Debt-fi nancing policies determine benefits, than are urban residents. the net borrowings (after deducting princi- 7. Social housing financing is modeled in such pal amortizations) by setting a target level a way that the government finances the full of public debt relative to GDP. In the base- investment, of which 70 percent is from debt line scenario, it is assumed that net borrow- finance. The government later collects rentals ings seek to maintain the public debt-to- from users, and the rental is set to cover the full GDP ratio at 53 percent, which was the level operating and maintenance cost and interest observed in 2012. In the reform scenario, and to amortize 70 percent of capital expen- policies aim to slow the rapid pace of indebt- diture in 30 years. For simplicity, the rental edness incurred by local governments since revenue, estimated at 0.7 percent of GDP in 2008, when the global crisis erupted. Thus, 2012–30, is included in the fiscal space. the target is to attain a debt-to-GDP ratio of 8. In China, “local” is used for all subnational 40 percent by 2030. The model assumes that governments. the annual interest rate on outstanding debts 9. There are two important qualifiers to this is 3.5 percent for the central government and discussion of revenue centralization in China. First, the payroll contributions to social secu- 7 percent for the local governments. rity are in the subnational government bud- gets, and the rates of charge vary across prov- Notes inces. These contributions are collected by the state tax bureau as an agent for subnational 1. Much of this growth will come from migrant government. Second, local governments are workers, who have less human capital than responsible for administering the sale of land the existing urban population, and to a lesser leases, including setting the purchase price of extent the conversion of rural areas into the farmland and the price of the land lease. urban areas with the concomitant reclassifica- Gross land sales revenues were equivalent to tion of the resident population. about 7 percent of GDP in 2012, almost 30 2. Official policy requires residence-based, com- percent of general government revenues, and pulsory education for all children. In general, exceeded the revenue yield of social security local governments are in compliance with this contributions. policy. A recent survey shows that about 80 percent of migrant worker children are now 10. General transfers in this report include yi ban enrolled in public schools. xing zhuan yi zhi fu and shui shou fan huan 3. Lall, Timmins, and Yu (2009) evaluated the in Chinese official documents. relative importance of wage differences and 11. “The State Council’s Decision on Reform- public services in migrants’ decisions to move ing Investment Regime,” No. 20 of Guo fa in Brazil. Their findings showed a distinction 2004, stipulates that the central government in preferences according to income level: for is responsible for investing in project across relatively well-off people, basic public services jurisdictions and river basins. were not important in the decision to move, 12. Finance Minister’s Report to National but for the poor, differences in access to basic People’s Congress, March 2013, and staff public services did matter. calculation. 4. Woetzel and others (2009) estimated that the 13. Article 28 of the Budget Law of the People’s increased expenditure of the public sector Republic of China (1994) stipulates that “the will accumulate continually, reaching RMB local budgets at various levels should be com- 1.5 trillion, or 2.5 percent of projected urban piled according to the principles of keeping GDP in 2025. expenditures within the limits of revenues 5. For example, 1 million of 4 million migrant and maintaining a balance between revenues workers in Liaoning province reportedly and expenditures, and should not have defi- made social security contributions. cits. The local government may not issue local 6. Migrants from rural regions receive subsidies government bonds except as prescribed by on education, pension, and health insurance laws or the State Council.” 442 URBAN CHINA 14. The LGFVs were capitalized by local govern- istry of Finance, on December 19, 2013) is a ments, mostly with free or subsidized user good start in this direction. rights to land, and in some cases with a dedi- 24. “Li Defines Criteria for Fighting Corrup- cated revenue stream from the local govern- tion,” China Daily, March 27, 2013, p. 1. ment budget, and in some cases by ad hoc 25. Calculated using data from the China Statis- transfers from the local government budget. tics Yearbook of Urban and Rural Construc- A typical form of LGFV is an urban develop- tion and the China Statistics Yearbook of ment investment corporation (UDIC). Pub- City Construction. lic utilities enterprises and even schools and 26. Density is often defined using the urban area, hospitals could also serve as an LGFV. Some which is larger than the urban built-up area. LGFVs may have no other function except for But the model focuses on the urban built-up financing. area because it is more relevant to project 15. For a comprehensive analysis of the issues, see investment needs. supporting report 1: Urbanization and Eco- 27. Data from the China Statistics Yearbook of nomic Growth. Urban and Rural Construction and the China 16. However, when infrastructure is badly Statistics Yearbook of City Construction . planned and managed, borrowing to fi nance Linear regression models for each urban cat- it can burden future generations with debt egory and infrastructure sector are estimated without corresponding benefits. using cross-section data, including 656 cities 17. This is from the Administrative Rules for PPP and aggregates of county and town for 30 Urban Public Utilities Projects, by the Minis- provinces. Physical capital stock in 2011 is try of Construction, March 19, 2004. regressed on urban population, density, and 18. Take the road sector as an example. A PPP other explanatory variables. Variables are project must follow the Road Law (2004), in log, and the estimated coefficients are the Tendering and Bidding Law (1999), Land elasticities reported in the main text. Management Law (2004), Contract Law 28. Physical capital stock in sewage and gar- (1999), and the Regulation on the adminis- bage sectors is assumed to be proportional tration of toll roads (2004) if it is toll road, to the quantities treated because data refer and the Decision on Reforming Investment to sectoral outputs and not to the real assets Scheme (2004) if it involves domestic private involved in producing those outputs. investment. 29. Data from the China Statistics Yearbook of 19. For example, the central government forbids Education Finance. There is no reliable infor- government guarantees of fi xed returns, but mation on the number of students attending in some local areas, government guarantees schools in the residual “others” type, so it is are used to attract private funding. Private assumed that such a number (whatever it may sector tax exemption by local governments be) remains constant over time. also has been forbidden by the central gov- 30. Estimates result from comparing the actual ernment since the late 1990s; however, tax number of students attending primary and exemption is still an important promise in junior-middle schools in rural areas against local policy (Chen and Zhang 2009). the hypothetical number of students that 20. See http://www.numbeo.com. would attend rural schools if the total student 21. Broader issues relating to land management— population were distributed among rural and spatial planning, urban development, gover- urban schools in proportion to the urbaniza- nance, and resettlement and safeguards—are tion rate (mimicking the distribution of the discussed in supporting report 4, China’s total Chinese population between rural and Urbanization and Land: A Framework for urban areas). Whereas the urbanization rate Reform. was 51 percent in 2011, nearly 70 percent of 22. It should be noted that the overall fi nancing total primary-school students and 63 per- costs of investment through PPPs might not cent of total junior-middle-school attended be lower. In fact, private operators would schools in rural areas. Such an asymmetry likely face higher fi nancing costs than gov- reveals a backlog of rural students for the ernment. This disadvantage can be out- urban schools to absorb. Data on the actual weighed by efficiency gains in construction number of students are from the China Statis- and operation. tics Yearbook of Education Finance. 23. The newly released rule on government pro- 31. For simplicity, no depreciation is assumed. curement (Rule No. 74 by the Chinese Min- 32. Data are from DRC. FINANCING URBANIZATION 443 33. 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Financing Local Gov- ment Model [J].” Economic Research Journal ernment in the People’s Republic of China. 7: 36–50. 7 Green Urbanization Introduction Raising the profile—and the effective- ness—of environmentally sustainable policies China’s growth model has brought tremen- in the ongoing urbanization process requires dous economic and social rewards over the that China’s green governance matches its past three decades but also has come at the green ambitions. China has introduced a enormous cost of resource depletion and comprehensive set of environmental laws and local and global pollution. Most resource use regulations, but these have not brought the and pollution occurs in cities or is caused by expected improvements in environmental demand from cities, which also bear some of quality. To achieve better outcomes, China the greatest impacts. Continuing on this path needs to overcome what has been called the is not economically efficient because pollu- “paradox of advanced legislation but weak tion imposes rising direct and indirect eco- enforcement.” So far, environmental policy nomic costs, even if those costs (to health or making has often favored narrow technical the environment) are usually not reflected in and engineering solutions over institutional markets or in measures of national income. development and economic approaches. Such development is also not socially inclu- Strengthening the incentives and accountabil- sive because—while pollution and resource ity framework for environmental manage- ment requires addressing many interrelated scarcity affect all citizens—the poor are usu- challenges, including the following: ally most heavily affected and least able to cope. As it seeks to attain high-income sta- • First, by international standards and given tus, meet aspirations for a higher quality of the size of the problem, China’s national- life, and ensure that resources are available level environmental management capacity for future generations, China needs to transi- is relatively small and should be increased, tion to a growth path driven by more efficient while many local environmental protec- and cleaner production and consumption. tion bureaus need more resources and For that to become a reality, environmental authority to enforce compliance. sustainability must become an explicit policy • Second, incentives to implement envi- goal on an equal footing with economic effi- ronmental policies and complete comple- ciency and social inclusion. mentary sector reforms have been weak. 447 448 URBAN CHINA Changing the cadre evaluation system ing them, such as trading. Finally, better would encourage local leaders to pursue collection and wide disclosure of cred- sustainability goals more forcefully, and ible data, greater consideration of market extending their tenure, which has dropped signals, and more efficient management over the past decade, would promote lon- of trade-offs between sustainability and ger-term thinking. other development goals will improve the • Third, more channels are needed for pub- quality and enhance the implementation of lic participation, which in practically all environmental regulations. For example, industrial countries is a key element for affordability concerns should be addressed catalyzing demand for better environ- more through targeted subsidies rather mental protection and a higher quality of than preferential residential energy tariffs. life. Three main channels could be fur- ther opened to complement government There are numerous causes of environmen- efforts: consultation on policy design and tal problems in China’s cities, and improving projects, with a greater role for environ- urban sustainability requires a multisector mental nongovernmental organizations approach. Structural shifts in the economy (NGOs); facilitation of stronger actions toward cleaner sectors will help, but only against polluters by adequately resourcing over the longer term. Urban infrastructure the formal complaint systems at local lev- and energy sector policies that align environ- els and by broadening access to the emerg- mental objectives with economic and social ing environmental court system; and more objectives therefore need to complement more public disclosure including use of public effective green governance. Greening sec- environmental performance ratings and tor policies will require some action at the strengthening of the Open Environmental national level where broad legal and regula- Information initiative, a program of the tory decisions guide local decisions. At local Ministry of Environment (MEP). levels, more comprehensive overall planning • Fourth, there is a need to sharpen the mix supports more specific sector reforms. For of policy instruments. The most effective instance, integrated urban land use, trans- instrument to induce resource efficiency port, and energy planning, by reshaping and lower pollution is pricing. China has urban form, help avoid urban sprawl, which removed many environmentally harmful is raising the cost of public service provision subsidies and other distortions, but tariffs and locking in wasteful energy consumption for energy, water, and other resources do in many Chinese cities. And in larger urban not always fully reflect both the cost of clusters, air quality management must operate providing them and the external costs that at a regional scale to account for all relevant resource production and use impose on pollution sources in the airshed and identify health, ecosystems, and the climate. Solid cost-effective regional abatement plans. waste tariffs reflect only 10 percent of the Beyond these cross-cutting issues, sustain- cost of services, for instance, and should able urbanization requires improvements be adjusted. Road and congestion pricing, in each sector. The reforms range from the even higher parking rates, would more mundane—such as better landfill manage- accurately reflect the full cost of using ment—to the monumental: an energy shift private vehicles. Pricing distortions in the away from coal toward natural gas and a electricity market could be addressed to rising share of renewables. The priorities dis- create a more even playing field for renew- cussed in this report are specific to each sec- able energy, including a well-coordinated tor, but the basic principle across all sectors and clear carbon-pricing policy. Pricing, is to limit environmentally harmful resource however, needs to be complemented with use as much as possible and then clean up strong regulations, setting ambitious tar- what cannot be avoided. Resource use effi- gets for pollution controls and limits on ciency is thus the fi rst priority, all the more resource use, but allowing for more flex- so because it also yields important co-benefits ible and market-based approaches to meet- by raising productivity and promoting eco- GREEN URBANIZATION 449 nomic growth. Energy intensity reductions • Ensure an efficient, safe, and secure water during the 11th Five-Year Plan averted the supply by reforming water rights systems, use of 630 million tons of coal equivalent, by using smart technologies to measure or 1.46 billion tons of carbon dioxide (CO2) consumption, and by improving regional emissions. Pollution control is closely linked water resource and pollution discharge with social development objectives. Achiev- governance at the river basin and local lev- ing China’s new air quality standards in all els. Expand use of payments for ecological cities would add millions of healthy life years services to address nonpoint source pol- for China’s urban residents. Some of the most lution challenges, and modernize urban important sectoral actions are as follows: water utility management. • Improve cost recovery in the solid waste • Encourage a greater shift from private sector to promote waste reduction, recy- to public urban transport by using price cling, and safe disposal, including, in the instruments and investments in better medium term, life-cycle product steward- service, and reduce pollution by promot- ship programs. Improve planning of waste ing cleaner vehicle technology, especially disposal with better environmental impact a shift to ultra-low-sulfur diesel and gaso- assessments. Improve waste disposal oper- line, and enforcing fuel quality standards. ations through reduced air and water pol- • To improve incentives and cost effec- lution from incinerators and landfills and tiveness in meeting the energy intensity through proper closure, rehabilitation, reduction targets of industrial enterprises, and safe reclamation of old landfills. rebalance regulatory and target-based approaches by introducing market-based The task is urgent as the costs of growth policy tools such as tradable energy sav- mount and as citizens’ demands and expec- ings certificates. Further development of tations increasingly include a clean environ- technical and financial services for energy ment. The task is also challenging. No coun- efficiency, including deeper penetration of try in the world can claim to have achieved energy savings performance contracting, truly green growth, and those that are green- will also be helpful. est took decades to get there. But the chal- • Lead by example by implementing aggres- lenge also provides an opportunity. Stronger sive efficiency programs for public build- environmental actions will further encourage ings; establish targets for progressively the shift toward cleaner economic activities— tightening the energy efficiency code; and towards growth that is built not on energy- broaden the use of benchmarking for exist- and pollution-intensive low-margin produc- ing buildings. Promote green buildings by tion, but on services and higher-value-added linking incentives with clearer labeling manufacturing as countries such as Germany schemes while strengthening capacities or Japan have done. Greener growth is a across the supply chain. Phase out harmful viable goal for China, as also argued by the construction materials to reduce indoor Development Research Center of the State air pollution in buildings. Council and the World Bank in China 2030 • Secure cleaner urban energy sources by (World Bank–DRC 2013). Progress on reduc- minimizing direct use of coal in cities ing pollution will not be fast, and China’s through expanded access to piped natural current and future urban citizens will need gas—giving priority to households, com- some patience before their cities resemble mercial uses, and district heating—by their peers elsewhere that started this transi- removing pricing distortions, establish- tion much earlier. But China has proven that ing a well-coordinated carbon pricing it can implement major transformations more policy and restarting sector reforms that quickly than other countries, as the unprec- would establish a more even playing field edented scale and pace of its economic devel- for clean energy sources to contribute to opment shows. By continuing the tradition urban energy supply. Continue to tighten of adapting lessons from elsewhere to local power and heating emissions regulations. needs and developing their own innovative 450 URBAN CHINA solutions, China’s cities will become not just made to control particulate matter (PM) great places to make a living, but also great and sulfur oxides (SOx), and mono-nitro- places to live. gen oxides (NOx) emission standards for power plants were strengthened in 2012. Greenhouse gas emissions also grew. The challenge of sustainable According to the International Energy urban growth Agency, China now accounts for about In 1997, a World Bank report titled “Clear a quarter of global CO2 emissions from Water, Blue Skies” reviewed China’s environ- burning fossil fuel (IEA 2013a). Shanghai, mental challenges. Fifteen years later, its find- Beijing, and Tianjin have estimated per ings and recommendations sound strangely capita emissions comparable to large Euro- familiar. Looking at the 15 years before pean and even some North American cities 1997, when China’s urban population grew (Sugar, Kennedy, and Leman 2012). from 191 million to 352 million people, the • While air pollution has grabbed recent report documented high air and water pol- international headlines, China’s cities also lution levels with large impacts on public face serious challenges in the quality and health but also pointed to the many policy quantity of water. Nationwide, urban efforts under way to rein in pollution and the water supply falls short of demand by 6 many successful initiatives for stabilizing or billion cubic meters a year. The Ministry even reducing environmental problems such of Land Reclamation and Water Resources as urban air pollution. The report’s hopeful reports that 430 of 657 cities face water conclusion was that “new policies and care- shortages; 110 of these had “severe” short- ful investments made today [in 1997] mean ages (OECD 2009). The MEP reported 57 that China’s children and grandchildren percent of the groundwater in 198 cities in would also enjoy clear water and blue skies 2012 was rated “bad” or “extremely bad,” [by 2020]” (World Bank 1997, 3). This pros- while more than 30 percent of the coun- pect still seems distant as China’s economic try’s major rivers were found to be “pol- growth since the late 1990s exceeded not only luted” or “seriously polluted,” making the most optimistic expectations but also the their waters unfit for drinking or direct capacity of environmental institutions to keep human contact (MEP 2013).1 pollution and resource depletion in check. • Municipal and industrial solid waste gen- Some key challenges are the following: eration increased from about 1.2 billion to 2.6 billion tons between 2003 and 2010 • The main source of air pollution in China and is expected to double by 2030—chal- comes from its dependence on coal for lenging the waste management systems in energy, and total energy use increased six many cities. Urban residents represent 53 times to fuel an economy that increased percent of the population, but generate 80 18 times and meet the needs of a growing percent of the total waste amount. industrial sector and an urban population that more than doubled since 1978, when As alarming as these trends are, there are China began its economic reforms (Wang, some positive notes as well. The increase in Berrah, and Peng 2012). This growth energy consumption could have been much in energy demand exceeded all expecta- higher if it had paralleled economic growth, tions. By 2005, China had already almost which averaged about 10 percent between reached energy consumption levels pro- 1990 and 2010. But China’s economy also jected for 2020 in a joint DRC–Energy became more efficient in using energy during Research Institute (ERI) study published this period, as energy intensity fell by an aver- in 1999 (Berrah and others 2007). The age of 4.7 percent a year (figure 7.1). This is share of coal in primary energy consump- an impressive achievement even though a full tion has dropped from 78 percent in 1995 decoupling—with the economy continuing to but remained at around 70 percent in 2011 grow while energy use and carbon emissions (NBS 2012c). Emissions grew in paral- are held constant or decline—has not been lel, although concerted efforts have been attainable with such high economic growth GREEN URBANIZATION 451 FIGURE 7.1 Fast economic growth outpaced FIGURE 7.2 Air pollution declined over time and improvements in efficiency has recently been stable: PM10 concentrations 1000 160 140 Index (1990 = 100) 120 Micrograms per m3 100 100 80 60 40 10 1990 1995 2000 2005 2010 20 Economic growth CO2 emissions 0 Energy use Energy intensity 1997 2001 2005 2009 2011 Source: IEA, World Energy Statistics and Balances (database), Source: Renmin University 2013, based on China Environmental doi:10.1787/data-00510-en. Yearbooks. Note: CO2 = carbon dioxide. Note: Data for 2000 and 2001 not comparable due to change in monitoring systems; m3 = cubic meters; PM = particulate matter. rates. Second, the trend over the past years and infants, including higher rates of infant has been a reduction of average annual con- mortality, birth defects, and impaired cogni- centrations of PM10 (fine particulates with a tive functions (Currie and Neidell 2005; Cur- diameter of 10 micrometers or less) despite rie and Vogl 2012; Padula and others 2013). the large increase in energy consumption Estimates of mortality from air pollution in (figure 7.2). Abatement policies have had an China are staggeringly high. Despite falling effect, although particulate matter concentra- average annual PM10 concentrations, impacts tions in large cities remain unacceptably high. have been increasing, in large part because A third reason to be optimistic is that some more people now live in cities. Two hundred experts expect a further slowing of energy million more urban residents were exposed consumption and resource use thanks to the to high air pollution levels in 2010 compared restructuring of the economy. While still more with the beginning of the decade. Estimated is needed, a large share of the infrastructure annual premature mortality from air pollu- to accommodate expected urban growth tion in Chinese cities increased from 418,000 has been built, and more efficient technol- to 514,000 between 2001 and 2010 despite a ogy is becoming more widely available—and 25 percent reduction in average PM10 (Cheng is often produced—in China. These broader and others 2013). The recent Global Burden trends could provide a welcome tailwind for of Disease update issued by the World Health ambitious public policies aimed at greater Organization (WHO) presents an even higher resource efficiency and pollution abatement. estimate of 1.2 million premature deaths in China in 2010 (HEI 2013). 2 The impacts of water pollution are less well researched. The rising cost of environmental Water pollution contributes to China’s rising degradation cancer rates. Digestive cancers, for instance, These successes are no cause for complacency increase by almost 10 percent with a one- because environmental degradation con- grade deterioration of water quality (on a six- tinues to compromise social and economic grade scale) (Ebenstein 2012). development objectives. Understanding of the These high mortality levels and other severe health impacts of air pollution is grow- health damages have high economic costs. ing, especially the effects on small children Because of differences in methodologies, esti- 452 URBAN CHINA FIGURE 7.3 Estimates of the value of mortality and morbidity from quality of life issues become more important, air pollution and people’s calls for a cleaner environment in China are growing louder. Premier Li 400 Keqiang called for a more transparent gov- ernment and increased public supervision 350 to improve environmental compliance and 300 warned that economic growth at the expense of the environment “won’t satisfy the people” 250 US$ (billions) (Kostka 2013). Better environmental quality 200 will undoubtedly serve China’s people well. Practically all industrialized countries 150 went through a phase of excessive pollution. 100 Cities that have high environmental quality today suffered similar degradation decades 50 ago (box 7.1). London’s “great smog” event 0 in 1952 may have killed more than 10,000 1975 1980 1985 1990 1995 2000 2005 2010 people over four December days. Smog levels Matus and others (2012), including consumption losses in Los Angeles are down 70 percent from the Matus and others (2012), consistent with World Bank estimates 1970s, and high ozone advisory days have World Bank (1997) World Bank (2011) dropped from 184 to close to zero. Tokyo’s World Bank and SEPA (2007) World Bank and DRC (2012) campaign for cleaner air centered on the vis- ibility of Mount Fuji. The mountain that can Sources: Matus and others 2012; World Bank 1997, 2011a; World Bank–DRC 2013; World Bank be seen on more than 130 days today could and SEPA 2007. be seen on only 20 days a year in the 1960s. But there are some important distinctions in mates of health damages from air pollution, China’s experience. for instance, vary considerably, from close to Given the size of China’s population and $100 billion to more than $300 billion a year economy, its structure, and the speed of its (figure 7.3). New research also finds impacts development, the country’s environmental on productivity, with workers in highly pol- problems are larger than those experienced luted areas being absent more frequently. A by other countries. But being a late devel- study in California even showed that pol- oper also has advantages. China can benefit lution from urban areas has a significant from the experiences of others and technol- impact on the productivity of farm workers ogy developed elsewhere and turn pollution in nearby rural areas (Graff Zivin and Nei- curves around faster than was possible for dell 2012). Stricter standards that lowered earlier developers. Much of the research on the average ozone level by 10 parts per billion air pollution sources, impacts, and abatement were found to increase farm worker produc- options was developed in North America tivity by 5.5 percent, which could translate and Europe over many decades and can be into $700 billion in benefits from higher pro- deployed more quickly and cheaply in China. ductivity. Impacts could be even higher in Some of the benefits of technology and man- China because of higher pollution levels. As a agement are already apparent, and China has rising exporter of high-value farm products, also produced indigenous solutions that can both Chinese producers and their custom- be shared with countries facing similar chal- ers also have an interest in agriculture that is lenges today. unaffected by pollution. Additionally, there is More so than in many countries, green anecdotal evidence—supported by academic urbanization in China is in everyone’s inter- studies in other countries—that low environ- est. What happens in a Chinese city does not mental quality affects migration decisions stay within administrative, regional, or even and thus the competitiveness of polluted cities national borders. China is now the world’s that may be less able to attract highly skilled largest emitter of CO2 , and air pollution workers and professionals. As incomes rise, from China frequently affects neighboring GREEN URBANIZATION 453 BOX 7.1 Reducing severe air pollution in London and in Tokyo In December 1952, London experienced an unusual lution increases mortality. But it was not until the cold spell, prompting greater than normal coal burn- London smog incident that major pollution control ing for heating. Although air pollution had been a legislation was passed, in the form of the Clean Air problem for many years, from December 5 to Decem- Act of 1956, which was subsequently expanded. Most ber 9, London was covered by a thick blanket of what importantly, the law regulated the use of domestic became known as the “Great Smog of ’52.” This fires and encouraged the replacement of coal with event coincided with 4,500 more deaths than would natural gas or electricity for heating. Air pollution normally have been expected. Later research esti- began a steady decline, even though London experi- mated that almost three times as many fatalities could enced another major smog event in December 1991 be attributed to persistently high air pollution during that caused about 160 deaths and could likely have that winter. been prevented by more ambitious air pollution poli- The dangers of low air quality were known to cies. It was not until the mid-1990s that the United Londoners as early as 1661, when John Evelyn pre- Kingdom adopted specific air quality standards in sented evidence to King Charles II that smoke pol- response to EU requirements (figure B7.1.1). FIGURE B7.1.1 Air pollution concentrations in London and Tokyo, 1950–2013 a. London b. Tokyo 450 450 400 400 350 350 Micrograms per m3 Micrograms per m3 300 300 250 250 200 200 150 150 100 100 50 50 0 0 1950 1960 1970 1980 1990 2000 2010 1960 1970 1980 1990 2000 2010 Sulphur dioxide Black smoke Suspended particulates Source: Data provided by David Hutchinson (Urban Research) and Arata Ichihashi (Tokyo Metropolitan Government). Note: For Tokyo, particulates (or dust) for 1966-1983 were measured using a light scattering method. Data for 1984–2013 show suspended particulate matter (SPM) as measured by beta attenuation monitoring. In Tokyo, every day since January of 1963, observ- severe chronic pulmonary disease, emphysema, and ers at the Seikei Meteorological Observatory have asthma among residents near a large petrochemi- recorded whether they can see Japan’s highest moun- cal complex in Mie Prefecture south of Kyoto. The tain, Mount Fuji, 83 kilometers away. The 1960s government was fi nally compelled to issue a slew of were a period of fast industrial growth in Japan that environmental rules in a special legislative session came with an equally rapid increase of soot, dust, and that became known as the “Pollution Diet.” The sulfur oxides (SOx) in the air. While the government new rules required factories to report their activities, was initially slow to respond to severe air pollution, strictly regulated industrial emissions, and, as trans- citizen groups soon demanded stronger action. See- port emissions replaced those from manufacturing as ing Mount Fuji again, which in 1965 was possible on the most important problem, imposed tight pollution only 20 days, became a rallying cry for Tokyo resi- regulations on vehicles. Air pollution dropped rapidly dents. Public pressure was further fueled by a series between the mid-1960s and 1970s. In 2011, observers of envi ron mental crises includ ing the 1970 at Seikei Observatory saw Mt. Fuji on a record num- “Yokkaichi Asthma” incident—an outbreak of ber of 131 days. Box sources: Ren 2000; Bell, Davis, and Fletcher 2004; Hutchinson and others 2004; Okubo 2013. 454 URBAN CHINA Japan and the Republic of Korea and can tion helped lift hundreds of millions out of be carried in the jet stream for thousands of poverty, but at the cost of heavy pollution in miles. North America and Europe still exceed its cities where the lower environmental stan- China’s cumulative historical greenhouse dards at the time were among its compara- gas emissions, but, according to IEA data, tive advantages. By shifting toward a growth China’s per capita CO2 emissions from fuel model based more on services and consump- combustion of 5.4 tons in 2010 are still rising tion, China will be able to pollute less on and are likely to reach the EU average by the behalf of other countries. On the other hand, middle of this decade (IEA 2013a, 2013c). global patterns appear to be replicated within Finally, in contrast to experience else- China as coastal provinces have now become where, a large share of China’s pollution major importers of embedded CO2 from inte- came initially from the expansion of dirty rior areas (Feng and others 2013). industries that were being phased out in The past 15 years have yielded much bet- developed countries. One estimate suggests ter information about the sources and con- that exports account for about one-third of sequences of environmental problems in China’s energy use, and likely a similar share China. There have been promising develop- of air pollution (Weber and others 2008). ments, but excessive environmental burdens China’s export of CO2 emissions embedded remain a major challenge. Much of what in manufactured products has risen sharply was written in the 1997 World Bank report in the 2000s (figure 7.4). This happened could be written today. Will a report writ- even as its manufacturing sector became ten 15 years from today be able to present a cleaner simply because exports increased so more positive appraisal? Much will depend much. On balance, these trends were prob- on whether Chinese leaders can strengthen ably beneficial to China and to its trade part- green governance to increase everyone’s ners. Europe and North America were able incentives for more ambitious greening, and to green their production and access low-cost whether provincial and local decision mak- goods, but at the cost of sometimes pain- ers can implement sustainable sector policies ful economic restructuring at home as dirty that align greening with social and economic industries closed down. China’s industrializa- objectives. FIGURE 7.4 Global net transfers of CO2 emissions embedded in traded goods, 1991–2008 1,400 1,200 Net exporters 1,000 Tons of carbon dioxide (millions) 800 600 400 200 0 Net importers –200 –400 –600 1991 1994 1997 2000 2003 2006 2008 China Russian Federation France United Kingdom Japan German United States Spain Source: Peters and others 2011. GREEN URBANIZATION 455 Green governance must match uting to the enforcement of green regula- China’s green ambitions tions, including those through the legal system, are still inadequate—in part China has one of the most comprehensive because of limited access to information sets of environmental laws and regulations in on the performance of environmental the world. Since 1970, it has “enacted eight management authorities and the polluting pollution control laws, 15 natural resources activities of firms. laws, over 50 environmental protection • Employ sharper instruments: Reflecting a administrative regulations, over 200 depart- strong emphasis on technical expertise in mental regulations and other regulatory government, regulations and target-based documents, more than 1300 national envi- approaches dominate, while economic and ronmental standards, more than 1600 local market-based instruments that can some- environmental regulations, and has approved times be more efficient remain underused. and signed 51 multilateral international envi- ronmental treaties” (M. Zhang and B. Zhang Although governance is difficult to mea- 2012, 1). Yet, this growing body of laws and sure and formal evaluations are scarce, rules has not ensured environmental compli- China has made progress in all of these areas. ance by private and state-owned firms. Major The government has announced increases pollution incidents are frequent, and persis- in funding for pollution control. With ris- tent pollution continues to foul the air, land, ing incomes, local policies are shifting from and water in Chinese cities. How can China a sole emphasis on growth to more balanced overcome this “paradox of advanced legisla- objectives. Individual citizens and organized tion and weak enforcement” (M. Zhang and groups are more and more active in environ- B. Zhang 2012, 5)? mental advocacy work, and initial steps have Investments in specific sectors, discussed been taken toward full public disclosure of in later sections, will increase resource use environmental information. And, finally, efficiency and reduce pollution. But the price instruments and market-based mecha- technical know-how or even the financial nisms such as pilot carbon markets play an resources for these investments are not the increasing role in promoting resources con- primary problem holding back green prog- servation and pollution control. Yet, as this ress. The fundamental problem is inadequate chapter shows, in all of these areas more green governance—the institutions, incen- progress is possible. tives, and instruments that enable effective environmental management. There are four main ways in which China can make envi- Greater resources for effective ronmental management more effective: environmental management Achieving China’s green goals requires stron- • Increase resources: By international stan- ger institutions responsible for designing dards and given the size of the problem, and enforcing environmental rules. Gov- China’s environmental management ernment spending on environmental pro- capacity is relatively small—especially at tection has been around 1 percent of gross the national level—and environmental domestic product (GDP) (World Bank–DRC agencies often lack sufficient authority to 2013). That is similar to average GDP shares enforce compliance. for public spending on the environment in • Strengthen incentives: The current evalu- countries belonging to the Organisation for ation system for local officials, who are Economic Co-operation and Development the primary authority for implementing (OECD), although EU levels are at about 1.9 environmental policies, puts insufficient percent when including expenditures by gov- weight on improvements in the quality of ernment-controlled environmental agencies life of residents. such as water treatment plants.3 China’s cur- • Open more channels for public participa- rent expenditures represent an increase from tion: Citizens’ opportunities for contrib- the past, and, in response to recent pollution 456 URBAN CHINA problems, the government announced addi- shoe” (dajiao chuan xiaoxie) problem has tional resources. Required initial spending sometimes adversely affected the work of the to adequately address China’s environmen- EPB. EPBs in these fast-growing urban areas tal problems is estimated at 0.5 percent of complained that allocated resources and their GDP above current levels (World Bank–DRC rank did not match the higher workload. 2013). Conservative estimates put annual Some local governments and EPB leaders damages from environmental degradation have tried to overcome inadequate budgets at 3.5 percent of GDP in 2010, according for environmental or restructuring projects to the Chinese Academy of Environmental by using debt fi nancing or land sales, as has Planning.4 been the case in Datong City in Shanxi (Eaton The lack of sufficient resources is reflected and Kostka 2013). Inadequate funding means in lower staffing levels at China’s national that local-level staff and managers often lack environmental institutions. The Ministry sufficient qualifications and training oppor- of Environmental Protection has about 400 tunities to cope with rising challenges. Fur- staff in Beijing, about 2,000 in affiliated thermore, because of the current government institutions (shiye danwei) and 500 in five officials’ selection and appointment practice, regional offices. 5 Compare that to the more only a quarter of EPB directors came from than 17,000 who work at the U.S. Environ- within the EPB system (figure 7.5) mental Protection Agency, two-thirds of EPBs also often depend on fines collected whom are based in regional offices. MEP, from polluters for funding. In one EPB in serving a population that is four times larger Central China, only 24 of 157 employees and arguably facing more severe challenges, were covered by central government fund- has fewer resources available for centralized ing; the remaining 133 were supported by environmental management functions such as pollution fees.7 Among six surveyed coun- national collection and dissemination of data, ties in Henan Province in 2009, 79 percent research, policy and regulatory development, of staff were paid from fines paid by local and supervision of large polluters than its firms. When the EPB staff’s “daily bread North American or European counterparts. comes from pollution fees,” as one county Provincial and local environmental man- EPB director put it, they have no incentive agement is the responsibility of the environ- to increase fines to a level that would exceed mental protection bureaus (EPBs), whose damages or compliance costs and cause firms staff numbers increased from 105,900 in to stop polluting. It is not clear whether these 1998 to 166,800 in 2005 (Li and Higgins reports are isolated cases or form a wide- 2013, 412) and about 192,000 today.6 While spread pattern,8 but they do imply that the notionally partly accountable to MEP, EPBs mainly report to local governments and are FIGURE 7.5 Only a quarter of provincial EPB dependent on them for funding and promo- directors came from within the organization tions. Local EPB budgets vary by region. In poorer parts of the country, budgets tend to Others be small, leading to staff shortages, lack of inspection and testing equipment, and inad- Within the 6% EPB equate skill development. Some EPBs located Municipal 26% in regions experiencing rapid economic mayor or 32% growth have not received funding increases Party secretary that match their expanded obligations. 23% For instance, Kunshan City in Suzhou 13% municipality in Jiangsu had a level of eco- From another nomic development in 2011 that was much provincial Party function department higher than that of several of the poorer prov- committee inces in China, yet Kunshan’s administra- tive status remained that of a county (Chien Source: Kostka 2013. 2013; Kostka 2013). This “big foot in a small Note: EPB = environmental protection bureau. GREEN URBANIZATION 457 steady flow of fines may lead to overstaff- omy, local leaders have few means and little ing of some local bureaus without increas- incentive to enforce regulations. In fact, ing their effectiveness. In addition, pollution where one or a few large fi rms dominate a fi nes and collection rates are generally low, municipality, there tends to be less disclosure and penalties do not generally increase for of environmental information, especially if repeated violations (Economy 2010). That is the dominant fi rms are in heavily polluting in contrast to the U.S. Clean Water Act, for industries (Lorentzen, Landry, and Yasuda example, under which daily penalties can be 2014). Enforcement authority varies among imposed on noncompliant polluters. other agencies responsible for attaining Besides lack of funding, environmental environmental objectives.9 For example, the management agencies in China also do not National Development and Reform Commis- have sufficient authority to enforce regula- sion (NDRC), which is responsible for energy tions. Provincial EPBs have the authority to efficiency, has relatively strong influence impose “regional investment restrictions” by through investments and financing. Local holding up environmental approvals of new water and resource bureaus, which monitor projects. But because EPBs report to provin- surface water quality, on the other hand, have cial and local governments, local officials fewer enforcement tools. One such munici- can override environmental concerns when pal bureau in Hunan Province was not only they confl ict with other objectives. Because unable to penalize fi rms that violated water EPBs rank relatively low in the administra- consumption regulations, it could not even tive hierarchy, leaders of state-owned enter- obtain value-added figures for local firms prises (SOEs) that operate nationally or from the statistical bureau to estimate their internationally often outrank those who water consumption (Kostka 2014). Recently supervise their environmental compliance— there have been some hopeful signs that a constraint often referred to as the “central strong leadership at EPBs are able to address SOE problem.” Especially where an SOE or some of these problems even if the low fi nes even a private fi rm dominates a local econ- remain an ineffective deterrent (box 7.2). BOX 7.2 Addressing the “central SOE problem” In June 2013, the local environmental protection ecological and health damage resulting from Sino- bureau (EPB) of Anqing Municipality in Anhui pec’s pollution. charged the central state-owned enterprise (SOE) Two factors help to explain why the municipal Sinopec Anqing with a RMB 90,000 fi ne for pollut- EPB in Anqing dared to fine the central SOE: ing the air. The fi ne was triggered by a production accident that in May 2013 caused black smoke to • Public monitoring was an important stimulus: leak from Sinopec’s production facilities. The fine was After the accident in May 2013, many citizens one of the first of its kind, because local EPBs usually in Anqing complained about the pollution and have no authority to charge pollution fees to central posted pictures to the Internet. SOEs. Often managers of local branches of central • Strong EPB leadership arose: In early 2013, SOEs also hold concurrent posts within the locality; Anqing Municipality assigned a high-ranked the general manager of Sinopec Anqing, for instance, local leader—a former vice mayor—to lead the is concurrently also a member of the Anqing Munici- municipal EPB. The new leader frequently vis- pal Standing Committee, a powerful position in the ited the provincial EPB bureau and MEP to gain locality. The Anqing case could be a signal to other upper-level government support. The local EPB local EPBs to be bolder in addressing the “yangqi head’s high ranking together with the support [central state-owned enterprise] problem.” However, from national level made charging the new fee the RMB 90,000 fi ne is relatively low for a central possible. SOE and does not fully reflect the considerable local Source: Kostka 2013. 458 URBAN CHINA BOX 7.3 The three baos of data reporting Shortage of advanced monitoring equipment at the because there are three kinds of bao [report- local level hinders the verification of environmental ing]. There is luanbao, which refers to messy outcomes. The verification of environmental tar- data that [lack] logic. Often accountants enter gets differs depending on available technologies and the data into the online sheets but they lack forms of monitoring systems. For chemical oxygen training on energy bookkeeping, so they often demand (COD), a measure of water quality, and SO2 make mistakes. There is manbao, which refers targets, monitors are installed in larger companies. to companies underreporting production fig- This monitoring equipment is often not very techni- ures because they fear that this information is cally advanced, is unreliable, and is limited in num- shared with the local taxation bureau. Because ber (Kostka 2014). For energy intensity targets, no companies are afraid that they would have to purpose-built monitoring equipment is in place, and pay more taxes, they do not report real produc- reports rely on self-reported figures from enterprises. tion numbers. Finally, there is tuobao, where Self-reported online data are sent to the local statisti- companies simply delay reports. cal bureau, which then collates sheets of data. Only data from very large enterprises are shared directly Because the self-reported data from enterprises col- with the provincial and national statistical bureaus. A lected by the statistical bureau are so poor, one official government official explains: admitted that he collects his own data from the town level, including data for both large and smaller enter- Enterprises report their energy consump- prises. According to him, his independently collected tion through an online reporting system. data are more accurate, but for official purposes, he Self-reporting by enterprises is problematic, still has to use the data from the statistical bureau. Source: Kostka 2013. Strengthening the capacity of institu- problems. Some of those resources could be tions for environmental management should allocated to strengthen the policy develop- also include improvements in the collection ment and enforcement capacity of MEP and and wide dissemination of relevant data. its affiliated institutes. At the local level, Much progress has recently been made in additional resources in capacity and tech- collecting air quality data, including the nology for monitoring will also be needed. recent establishment and real time release Additional administrative changes could of monitoring data for PM 2.5 (very fi ne par- disconnect the funding for local EPBs from ticulates with a diameter of 2.5 micrometers the collection of pollution fees, but without or less) in 74 cities. MEP plans to expand removing the incentive to go after polluters. this system to more than 300 prefecture- Fines and pollution fees can be an important level cities. But monitoring networks for source of funding for environmental man- many environmental indicators are still agement, but, as in most countries, revenue sparse. Provincial EPBs, but no local EPBs, should flow into general budgets from which are able to assess the 106 indicators defi ned EPBs would then be financed. A more dif- in the new water quality standards (Qu ficult problem will be to make local EPBs and others 2012). Reporting protocols for more independent, especially in enforcement environmental performance data are not action, without reducing the responsibility very rigorous, allowing local institutions of local governments for environmental out- too much flexibility in what and how they comes. That may require stronger oversight report (box 7.3). and performance monitoring from provincial In response to recent environmental cri- and national authorities, combined with bet- ses China’s government has announced new ter incentives for local officials and greater fi nancial resources for mitigating pollution scope for public participation. GREEN URBANIZATION 459 Stronger incentives for local of central government directives, local lead- governments ers therefore act rationally by investing their time and resources in other objectives that are The disconnect between the national govern- more likely to advance their career. This pat- ment’s environmental goals and local imple- tern will not change unless promotion criteria mentation is also a reflection of insufficient are revised and penalties for nonachievement incentives for local governments to improve increased. environmental outcomes and for firms to The relatively short tenure of local cadres reduce resource consumption and avoid pol- also reduces their incentive to invest in envi- lution. Local government officials who do not ronmental projects whose benefits may only see sufficient benefits or penalties for environ- be apparent after some years. Nominally 5 mental performance will focus on other pri- years, the average tenure of local mayors and orities. National directives and local priorities party secretaries has dropped from 4.2 years continue to encourage a dominant concern in the 1993–2001 period to 3.3 years dur- for economic growth targets over social and ing 2002–11 (Kostka and Yu 2014). Provin- environmental objectives. As one local leader cial DRC heads stay an average of 3.6 years said: “It is like a constrained maximization and provincial EPB directors 4 years. While problem (youyue shue de jidahua): We try there are some advantages of periodic turn- to maximize GDP and fiscal income, but we over to bring in fresh ideas, short tenure times meet only the bare minimum of environmen- encourage a focus on projects with short-term tal standards. This is of course not always results that increase promotion odds rather efficient for the environment” (Kostka 2013). than on more complex restructuring or pol- Such attitudes are reinforced by promo- lution mitigation efforts whose benefits are in tion criteria that put relatively little weight the future and that may be stopped by one’s on environmental quality achievements. This successor (Eaton and Kostka 2014). Extended system is formalized in the government’s per- tenures would encourage long-term thinking formance assessment system, which gives dif- and more emphasis on quality of life issues ferent weights to targets in the cadre evalu- in evaluation systems. Xiaoyi in the coal ation forms (kaohebiao). Economic targets country of northern Shanxi province turned tend to overshadow social and environmental itself into an attractive place to live under the targets. In one Shanxi county 2011 evalua- leadership of a locally rooted group of policy tion form, government officials could reach makers who built constructive relationships up to 28 points for meeting economic targets, with residents and local industry (box 7.4). 19 points for improving people’s lives, 11 Further reducing the effectiveness of envi- points for social development, 14 points for ronmental policy implementation is that local resources and environment, and 13 points for decision makers frequently concentrate on social safety (Eaton and Kostka 2013). Envi- the appearance of environmental gains rather ronmental goals thus accounted for, at most, than on cost-effective greening. In selecting 16 percent of the total performance score. environmental investments, many local lead- Consequently, one EPB official said: “Envi- ers thus favor “political accomplishment proj- ronmental and energy targets are binding tar- ects” (zhengji gongcheng) over more efficient gets but they are not our ultimate targets. No solutions. In Shandong Province, one county leader will be promoted because of their better plans to build water treatment plants in each achievements in environmental protection and town to show progress in implementing the energy savings. GDP growth is still the tar- 12th Five-Year Plan, rather than upgrade a get that we work hardest to achieve” (Kostka centralized larger plant more cheaply (Kostka 2013). A recent statistical analysis confi rms 2013). that environmental improvements are uncor- There are some signs that these problems related with probability of promotion, while are being addressed. Promotion criteria have spending on transport, for instance, promotes begun to change, and Zheng and others GDP growth and thus career advancement (2013) fi nd that this is having an impact on (Wu and others 2013). Given the long list local policy makers’ environmental achieve- 460 URBAN CHINA BOX 7.4 Co-opting local businesses into green growth in Xiaoyi Xiaoyi County in northern Shanxi effectively man- Xiaoyi’s greening growth strategy has built up aged to co-opt local businesses into sharing the gradually with guidance from a strong and locally burdens of green growth and economic restructur- rooted leadership group. Recent party secretaries in ing. Xiaoyi is a resource-based economy with an Xiaoyi have served for an average of 8.3 years and undiversified, coal-dependent industrial structure mayors an average 6.2 years, much longer than the in the midst of transformation. Leaders in Xiaoyi’s average tenure of local leaders of three to four years. leadership group have cooperated closely with local A unique characteristic of Xiaoyi is that leaders from businesses to share the burden of reducing Xiaoyi’s elsewhere put down roots in Xiaoyi: “Most of the coal dependence. Strikingly, local coal enterprises, Party secretaries, mayors and CCP Organization many of which are privately owned, have actually Department heads are from outside. But they all settle been given soft targets in local plans for investment down here.” The attractiveness of Xiaoyi as a place to in economic transformation projects: “Coal produc- live (good primary and secondary schools, high envi- tion enterprises should each launch non-coal projects ronmental quality, and a developed entertainment of between one and two billion RMB; each coking industry) does seem to have contributed to its success. enterprise should launch projects of one billion RMB Living environment is often cited as an important or more in non-coal or downstream processing proj- factor in luring investors, but the example of Xiaoyi ects.” (Xiaoyi Government Work Report 2011, 20). shows that it also may be important in attracting and In addition, Xiaoyi leaders have effectively bundled retaining able government leaders. coal restructuring with the goal of developing non- This continuity helped Xiaoyi’s leadership group coal industries by providing incentives for former coal make very effective use of the relationships it has built bosses whose enterprises were eliminated as part of over time with local industry. Leadership continuity a 2006 industry clean-up to start greener businesses. likely contributed to the leaders’ success in secur- For instance, with government backing, a former ing investment because investors could be confident mine owner whose enterprise was shuttered brought a that plans would not shift radically with personnel Walmart outlet to Xiaoyi and also has a new business changes in the leadership group. marketing agricultural products. Source: Kostka 2013. ments, especially in cities where mayors have tinue to grow. Public participation—whether better education levels. China’s government by individuals, by grass-roots initiatives, or can accelerate this process by further reform- by well-organized NGOs—plays a vital and ing the reward and incentive system for local constructive role that complements official officials. Together with increasing public efforts but does not replace it. The public’s involvement (discussed in the next section), concern often focuses on visible problems stronger incentives will put pressure from such as air pollution, while less visible or two directions on local officials to improve long-term problems such as sporadic toxic environmental performance. releases or soil contamination can be just as bad or even more dangerous. Most people also react most to problems in their own More channels for public participation backyard (although NGOs tend to have a In practically all industrial countries, envi- broader perspective). So the problems identi- ronmental management has become stricter fied by well-educated people, who are often over time largely as a response to vocal pub- more vocal and well connected, might receive lic demand for better protection from pollu- a disproportionate amount of attention. Pub- tion and for a higher quality of life. China lic participation is therefore no substitute for is no exception. As incomes and access to the government’s investment in environmen- information increase, public pressure on pol- tal monitoring and enforcement. luters directly and on governments charged Yet, public participation will be an impor- with environmental management will con- tant factor in the success of China’s efforts GREEN URBANIZATION 461 to improve the environment. Citizens can impact assessments (EIAs), which were fi rst currently have influence through three main introduced in China in 1973 (M. Zhang channels: the consultation process that is and others 2012). The guiding concept for part of the environmental impact assessment EIAs is the “three simultaneities”: any major of large public and private projects, various project should anticipate adverse impacts on public complaint mechanisms, and the legal the environment by designing, construct- system. For these channels to be effective and ing and operating protective measures dur- efficient, citizens must have access to credible ing the project cycle. By the 1990s, EIAs for and up-to-date information about pollution international cooperation projects started and emissions from companies. Progress on to include public consultation. In 2003, the public disclosure of such information has Environmental Impact Assessment Law spe- been made in some parts of China, but infor- cifically stated that if a project involves the mation release is still too much up to the dis- environmental interests of the general public, cretion of firms and local officials. inputs from stakeholders, experts, and the As in other countries, NGOs play an general public need to be collected. EIAs have important role in facilitating public partici- become one of the main instruments for envi- pation in China (Kostka 2013). There are ronmental protection. They have been effec- an estimated 1,000 registered environmental tive in significantly modifying or preventing NGOs (or ENGOs) and an equal number some projects that could have caused large of unregistered ones. Those that have been environmental damages, including the Panyu most influential have often been closely Waste Incineration Project or the Shanghai- associated with governmental organizations Hangzhou Maglev train line (Zhao 2010). (government-organized NGOs, or GONGOs). But there are weaknesses both in the EIA They can more easily bridge the gap between implementations generally and in their par- civil society and the state but have sometimes ticipatory components. EIA compliance is been criticized for not being as forceful in pur- mandatory only for a relatively small num- suing environmental objectives as more inde- ber of projects and often weakly enforced. pendent ENGOs, who still often run into the Large companies sometimes fail to perform limits of what the government considers an EIAs, instead paying relatively modest fines. acceptable role for NGOs (Hildebrandt 2011; In soliciting inputs from the public, EIAs Wu 2013). ENGOs could become more effec- often pick an unrepresentative sample of tive in helping achieve China’s green goals if respondents and allow public comments for they had more opportunities to participate in only a short period early in the process when policy design and formulation and not just the full implications of the project are not yet implementation. ENGOs are far more influ- clear. There is often too little opportunity for ential in China’s large international cities, face-to-face consultation. Recently, the cen- especially Beijing, Shanghai, and Guangzhou. tral government has endorsed a strengthening Officials in other parts of China too often of public participation in EIAs. What would see them as adversaries rather than as stake- help most would be a shift in the mindset of holders, which limits their role, for instance, local officials about the value of the public’s in environmental education, advocacy, and feedback, more rigorous methodologies for monitoring of environmental compliance. questionnaire design and feedback collection, ENGOs can also play an important role in and clearer operational rules for public par- promoting sustainable lifestyles—an essential ticipation throughout the project cycle (Li, task for China to build up awareness and sup- Ng, and Skitmore 2012). port for green actions and to build a market to demand greener products. Formal complaint systems. As early as the 1990s. some city governments had estab- lished formal channels through which resi- Environmental impact assessments dents could complain about environmental The earliest mechanism for the public to pro- violations. Many provinces and cities have vide input to environmental decision making established 24-hour hotlines that allow citi- was through participation in environmental zens to register environmental complaints. 462 URBAN CHINA Citizens also can complain directly to local Legal system. Most national and local envi- EPBs, which received over 700,000 com- ronmental agencies around the world have plaints in 2010. With rising access to social limited enforcement capacity. Ministries of media—42 percent of Chinese are now con- Environment typically have much smaller nected to the Internet—some local govern- budgets than other departments. Enforce- ments have begun using such channels that ment of environmental rules in Europe or allow for broader information distribution North America—but also in Brazil, India, and feedback collection. The Chengdu EPB, or Thailand, for instance—therefore relies for instance, assigned staff to set up a micro- substantially on the court system. A famous blog for citizen outreach and information dis- example is the role of courts in enforcing air semination. By documenting and publicizing quality standards in Delhi in 2001 (Bell and local environmental problems, citizen groups others 2004). Successful lawsuits by indi- can be effective partners of the government viduals affected by pollution in China have in pursuit of shared environmental goals. As resulted in compensation payments in some the example in a previous section showed, in instances. In one prominent ongoing case, a May 2013, public monitoring helped encour- chemical plant in Yunnan released 5,000 tons age Anqing Municipality in Anhui Province of chromium dregs into the Nanpan River in to impose a fine on the production facility of 2011. A group of NGOs filed a public inter- a large SOE after a pollution incident. For- est lawsuit on behalf of thousands of affected mal complaint systems thus complement the farmers that could become a landmark case efforts of local agencies, which usually do not if it is recognized by the Supreme People’s have the resources to monitor compliance of Court as a precedent. Overall, however, numerous potential polluters. pursuing polluters through the legal system The question is how efficient and effective is still difficult, and many cases never reach complaints are. There are many examples of trial stage (Stern 2011). polluters being caught who would not have China has for some time been experiment- been detected by the EPB. But the costs of ing with specialized environmental courts. a complaint system can be high, because By mid-2012, almost 100 such courts and many complaints are about minor nuisances. tribunals had been established in 16 prov- Improving formal monitoring aided by more inces of China (Zhang and Bao 2012). Such complete pollution registries could prevent courts could provide an effective way of many complaints in the first place. Despite assisting more direct government efforts in the large number of complaints, relatively few enforcing environmental laws if a number of trigger enforcement actions. Between 2006 problems with existing environmental courts and 2010, MEP received 300,000 environ- are resolved. The main issue is that there mental complaints.10 These led to a re-exami- are high barriers to bringing cases to court. nation of 2,614 administrative decisions. Only Less than 1 percent of environmental dis- 980 of these were administrative court cases, putes reach the court system (Stern 2011), in and only 30 resulted in criminal cases, sug- part because only few organizations can file gesting that few environmental conflicts are public interest environmental law suits. Revi- resolved through the legal system. Greater sions to China’s environmental law proposed public participation in detecting and publi- in July 2013 would further restrict the right cizing environmental wrongdoing—whether to fi le such suits to only one MEP-affi liated through formal channels or informally—will organization—the All-China Environment be an effective means to support the govern- Federation.11 ment’s environmental goals only if there is an Barriers also exist where judges close to outlet for such protests. Otherwise they can local governments prevent individuals or lead to social instability. One such outlet is groups of affected citizens trying to bring the legal system where citizens, community cases to court from going forward (Zhang groups or local governments could initiate and Bao 2012). The resulting small num- cases of gross violation of environmental laws. ber of environmental cases has been used as GREEN URBANIZATION 463 a reason to close environmental courts. A Public disclosure more certain legal basis for these courts and Public pressure on polluters can be an effec- greater independent procedures would help tive way to encourage greater environmental overcome these problems. The legal system can be a slow and expensive way to resolve compliance. But citizens often do not real- environmental disputes. More comprehensive ize that a facility is polluting air, water, or enforcement of environmental laws and medi- soils until harmful effects are obvious. Dis- ation or conflict resolution by public or non- closure of polluting behavior by fi rms gives state organizations should play an important people the information they need to assess role and usually be the first best option. But, whether they are affected. China has experi- as experience in other countries has shown mented with public disclosure of pollution (for example, Lin and others 2009), for com- performance ratings since the 1990s (Wang, plex cases or where officials are unable or Wheeler, and Jin 2010). Piloted in Zhenjian unwilling to pursue polluters, stronger envi- (Jiangsu Province, box 7.5) and Hohhot ronmental courts will be an important means (Inner Mongolia) by MEP’s predecessor to hold polluters to account. organization, SEPA, together with the World BOX 7.5 Environmental performance ratings in Jiangsu Province Despite long-standing efforts to control pollution activity. For each indicator, the system specifies a clear, with traditional regulatory instruments, China con- unambiguous, and publicly available link to ratings. tinues to have severe pollution problems. Environ- Evidence for the PRPD program in Jiangsu Prov- mental performance rating and public disclosure ince indicates both increasing participation by fi rms (PRPD) has emerged as a complement for traditional and improvement in their compliance rates. The num- pollution regulation. It helps overcome institutional ber of rated fi rms increased more than twentyfold in weaknesses that hinder conventional monitoring and 10 years, from 1,059 in 2001 to 20,261 in 2010. The enforcement of environmental laws, regulations, and percentage of firms with positive ratings increased to standards, and lowers regulatory costs. In the past 96 percent in 2010. Research has found that PRPD decade, Jiangsu and several other areas in China have program in Jiangsu has significantly reduced pol- practiced the PRPD approach and have found it an lution from rated firms, with particularly strong effective pollution control instrument. impacts on firms with poor ratings. PRPD has signifi- Jiangsu started its PRPD program with support cantly increased market and stakeholder pressure on from the World Bank in 2001, after a pilot test in managers to improve their fi rms’ environmental per- Zhenjiang Municipality. The program rates firms’ formance. Firms with better ratings perceive positive environmental performance from best to worst in impacts on market competitiveness, overall market five colors—green for superior performance; blue for value, and relationships with different stakeholders, full compliance; yellow for meeting major compliance while the fi rms with bad ratings are more likely to standards but violating some minor requirements; red perceive deterioration. for violating important standards; and black for more Recently, Jiangsu Province has linked the envi- extreme noncompliance. The primary benchmarks for ronmental performance ratings to eligibility for bank ratings are China’s emission and discharge standards loans, the market list inspections requirement, and that specify effluent concentration limits. The rating the environmental responsibility insurance premium, system also incorporates other performance indica- among other things. All fi rms’ environmental perfor- tors, including hazardous waste disposal practices, mance information has been posted on the province’s solid waste recycling, pollution accidents, public com- intranet, which is accessible to all local environmental plaints, internal management requirements, China officers. It is expected that stronger incentives will be cleaner production certificates, ISO 14000 certificates, generated for fi rms to further reduce pollution with administrative penalties, and other citations for illegal the PRPD program in Jiangsu Province in the future. Source: Jin, Wang, and Wheeler 2010. 464 URBAN CHINA Bank, such initiatives have now been imple- there are seven types of exceptions that Chi- mented in the Yangtze River delta (Jiangsu, nese environment management officials can Shanghai, Zhejiang), Hunan, Hebei, Anhui, invoke to refuse release of information, such Guangdong, Shanxi, Shenyang of Liaon- as state or commercial secrets or information ing, Shenzhen, Chongqing, Ningxia, and that could endanger public security or social soon Hubei. These systems summarize and stability. These exceptions make it too easy to publicize firms’ environmental compliance suppress information about pollution that is information into a color-coded ranking of public interest. from excellent to severe underperformance, Second, as a general set of regulations essentially shaming persistent polluters and aimed at improving governance, OEI does rewarding clean production. not convey a right to disclosure. Given Social pressure can be effective, and many China’s decentralized environmental admin- companies will voluntarily seek improve- istration, that means that the most polluted ments. But such systems will work only in municipalities have the weakest disclosure cities with an environmentally proactive (Tan 2012). There is even some evidence of government, which are usually already bet- backsliding. The Institute of Public Policy ter performing places with higher incomes. and Environmental Affairs, which annually Although decentralized, this approach again ranks 113 cities by their environmental trans- requires the voluntary support of a central parency, found that about 40 cities had lower (provincial or municipal) authority (Econ- disclosure performance in 2012 than a year omy 2010). The system also still will need earlier.12 And third, implementation of OEI to be backed up by comprehensive monitor- is quite expensive for environmental authori- ing and strong enforcement, which has been ties and will require further large investments uneven in China—better in coastal areas and in technology. MEP, for instance, receives in areas with a more diverse economy (and “a flood of requests,” as one official put it, therefore less susceptible to capture by domi- and does not have the staff and resources to nant firms), where enforcement capacity is respond to all. greater, and where there are a larger number The government still acts as a gatekeeper of complaints, which highlights the role of for environmental compliance informa- public participation (van Rooij and Lo 2010). tion. Some municipalities have made sig- As part of China’s Open Government nificant efforts to open up environmental Information initiative in 2008, MEP intro- information. Jiangsu Province has become duced an Open Environmental Information a national model for public disclosure.13 (OEI) regulation. It requires disclosure of Hunan Province’s publicizing of persistent environmental information including the polluters shamed one company into imme- allocation of emissions quotas, pollution diately investing in cleaning up production. fees collected, outcomes of investigations, And Zhejiang Province is the fi rst in China and lists of violators of environmental rules. to require fi rms to publicly release their pol- These measures are an important step in lution data. The current system gives a lot moving from voluntary public disclosure of leeway to individual provinces, which schemes toward more formalized attempts encourages experimentation. Over time, to introduce greater transparency in envi- this should lead to mandatory policies that ronmental performance. The regulation still require municipalities in all parts of China has some shortcomings. First, in contrast to to collect and disclose high-quality pollution most other such regulations, China’s OEI monitoring data and information about gov- makes the government, rather than industry, ernment enforcement. This kind of disclosure responsible for disclosure. The toxic release will be an important step toward a system inventory in the United States and the Euro- where local authorities—with the help of the pean Pollutant Emission Register in contrast public—monitor the compliance of firms and make it mandatory for companies to report prosecute violators, and where provincial emissions above a threshold. Furthermore, governments and MEP, in turn, monitor the GREEN URBANIZATION 465 environmental management performance of run, and some are at or even above interna- municipalities. tional market levels. Coal prices. Coal prices paid by industrial Sharper policy instruments consumers have been relatively high com- As in other areas of policy making, govern- pared with prices in other countries. Over the ments have three types of instruments avail- past year, the benchmark spot price for ther- able to promote environmental objectives. mal coal traded at China’s northern ports has They can use price instruments such as taxes, remained well above that of similar-grade fees, or subsidies. They can pass regulations coal produced in South Africa, Indonesia, such as technology or emission standards. and Australia (figure 7.6). Domestically pro- And they can spend resources on things like duced hard coking coal has generally been research, information programs (Annex 7A), up to 20 percent more expensive than in the or transfers to compensate those affected United States between 2009 and 2012, in by other policies. All three types of instru- part because of high transport and handling ments are necessary, although the efficiency fees that can make up to 70 percent of the with which they achieve their policy goal can industrial consumer price in coastal areas. vary. Price instruments, if they are designed Environmental taxes and fees have also to ensure economically efficient resource increased. Publicly traded coal mining com- use, tend to be the most efficient. But they panies in China paid around RMB 140 ($22) are often not enough to trigger the desired in taxes per ton of coal produced in 2012 response such as a certain level of energy (RMB 110 or $17 per ton excluding income savings. So additional instruments may be taxes).14 A 2013 review by China’s Central required to address separate market, infor- University of Finance and Economics found mation, or behavioral failures. Governments 25 different environmental resource taxes should be careful when adding additional and fees among the 109 taxes and fees cur- instruments, however. Too often, overlapping rently levied on coal producers.15 Prices will instruments cancel out each other, create new market distortions, or create confusing and FIGURE 7.6 Border spot prices for thermal coal traded in China and inefficient signals to firms and households. A other countries, 2012–13 simple principle is that each problem or mar- ket failure should be addressed by a separate 110 instrument. In practice, policies do inter- act and need to be taken into account when 100 introducing new instruments. The following sections briefly discuss the three main types US$ per ton 90 of instruments—prices, regulations, and investments and transfers. 80 Prices 70 Besides reforming institutions for environ- 60 mental management in China, the most effec- Oct Nov Dec Jan Feb Mar Apr May tive way to induce greater resource efficiency 2012 2013 and lower pollution is through prices. China Chinese northern ports (FOB, 5,500 kcal/kg) has removed the most egregious distortions Durban, South Africa (FOB, 6,000 kcal/kg) and subsidies in the energy sector—the Newcastle, Australia (FOB, 5,500 kcal/kg) source of most air pollution and greenhouse Kalimantan, Indonesia (FOB, 5,900 kcal/kg) gas emissions. Prices for coal, electricity, some petroleum products, and natural gas Source: China Coal Industry Association data. Note: Free-on-board (FOB) prices, expressed in U.S. dollars at monthly market exchange generally reflect financial costs over the long rates. Kcal/kg = kilocalories per kilogram. 466 URBAN CHINA rise further as tonnage-based resource taxes vary between $0.08 and $0.10, lower than in are converted to value-based resource taxes. many industrial country cities (figure 7.7). Electricity prices. Electricity prices in China Oil and gas prices. NDRC, which regulates overall are now generally comparable to long- petroleum prices, has used international oil run marginal supply costs (before account- prices as the benchmark for domestic prices ing for environmental damage and other since 2009, although with a break on cost nonmonetized costs) (Moskovitz and oth- increases. If benchmark prices exceeded $130 ers 2007; Zhang 2012). Industrial users pay a barrel, then “on principle of maintaining around RMB 0.70 ($0.10) per kilowatt hour economic stability,” diesel and gasoline prices on average. By comparison, the average rate are not raised or are raised only by a small for industrial users in the OECD countries margin (Xinhua 2009). Taxes now make up in 2010 was $0.11 per kilowatt hour (IEA more than 35 percent of retail gasoline and 2013b). Taken on a purchasing power par- diesel prices in China,16 compared with 13 ity basis, China’s effective average rate for percent in the United States and 47 percent industrial users is about $0.17, which would in the European Union. Gasoline and diesel place it in the middle of the pack among the prices are higher today than in Russia or the OECD countries. Urban residential prices United States, although still much lower than in Europe (figure 7.8). New rules introduced by the NDRC in March 2013 have allowed FIGURE 7.7 Residential electricity prices of 10 cities in China petroleum prices to be adjusted more fre- compared with other major cities, 2011–12 quently to follow movements in benchmark prices more closely (NDRC 2013). Natural gas prices are also closely regu- Copenhagen, Denmark 39.61 Berlin, Germany lated by pricing authorities. Prices for indus- Melbourne, Australia trial users in major Chinese cities are rela- Tokyo, Japan tively high, especially at purchasing power Sydney, Australia New York City, United States parity prices (figure 7.9). Prices for fertil- Paris, France izer producers and urban residents are typi- Săo Paulo, Brazil cally set 30–35 percent lower than those for Toronto, Canada industry. Los Angeles, United States Seoul, Korea, Rep. Although energy prices generally reflect Guangzhou 10.14 production and supply costs and are close to Shenzhen or sometimes even exceed global price levels, Dongguan Wuhan some government policies cause some prices Shanghai to deviate from market costs and encourage Hangzhou inefficient energy consumption. The most Chongqing Chengdu important of these is the continued favorable Tianjin pricing policies, sometimes cross subsidies, Beijing 7.64 for residential energy prices through higher 0 10 20 30 40 50 tariffs for industrial users. One study esti- US ¢ per kwh mates that in 2007, overall electricity subsi- China cities Major cities throughout the world dies were RMB 76.4 billion ($10.1 billion, 2007 prices) (Lin and Jiang 2011). While the Source: China Electricity Council data; E-Control and VaasaETT (2012), “Household Energy residential sector received an estimated RMB Price Index for Europe” media releases, http://www.energypriceindex.com (accessed 202.6 billion in net subsidies, the industrial June 2013); U.S. EIA, Form EIA-826 detailed data, http://www.eia.gov/electricity/data /eia826/ (accessed June 2013); Tokyo Electric Power Company (2012), “Press Release (May 11, and commercial sectors combined overpaid 2012) Regarding Electricity Rate Increase”, http://www.tepco.co.jp/en/press/corp-com (had a negative net subsidy) by an estimated /release/2012/1204304_1870.html (accessed June 2013); Kepco, electricity rates calculator, http://cyber.kepco.co.kr/kepco/EN/F/B/ENFBPP002.do?menuCd=EN060202 (accessed June RMB 126.2 billion. In industrial countries 2013); Ausgrid, 2012, “Residential Electricity Prices and Energy Bills 2011/2012—Sydney vs residential tariffs are usually higher, reflect- Melbourne,” http://www.ausgrid.com.au/Common/About-us/Newsroom/ (accessed June 2013). ing higher distribution costs. Cross-subsidies Note: Prices for China’s cities are for 2011; data for other cities are for 2012. have social objectives. They follow the prin- GREEN URBANIZATION 467 FIGURE 7.8 China’s transport fuel prices are still relatively low but have increased significantly a. Diesel prices b. Gasoline prices Turkey Turkey United Kingdom United Kingdom Germany Germany France France Korea, Rep. Korea, Rep. Japan Japan Australia Australia South Africa South Africa China China United States United States Brazil Brazil Russian Federation Russian Federation India India 0 0.5 1.0 1.5 2.0 2.5 0 0.5 1.0 1.5 2.0 2.5 3.0 US$ per liter US$ per liter 2012 prices 1995 prices Source: GIZ 2013. FIGURE 7.9 Natural gas prices paid by industrial end-users in Chinese cities compared to prices in other countries, 2000–11 a. Market exchange rates b. Purchasing power parity 6 1.2 5 1.0 US$ (PPP) per m3 4 0.8 RMB m3 3 0.6 2 0.4 1 0.2 0 0 2000 2005 2011 2000 2005 2011 Korea, Rep. China Japan United States United Kingdom Source: NBS 2005d–2012d; U.S. EIA, US Price of Natural Gas Delivered to Residential Customers, http://www.eia.gov/dnav/ng/hist/n3010us3m .htm (accessed December 2013); Korea Energy Economics Institute, Energy Info.Korea 2012, http://www.keei.re.kr/main.nsf/index_en.html (accessed December 2012); UK DECC, Table 5.7.1 Industrial gas prices in the EU and the G7 countries, https://www.gov.uk/government /statistical-data-sets/international-industrial-energy-prices (accessed December 2013). Note: Chinese data represent prices paid by sample of industries in 36 large cities; data for Korea, Japan, the United States, and the United Kingdom are national averages of urban consumers; data include all taxes, surcharges, and other fees. ciple of “equal burden sharing,” where price Furthermore, they tend to be regressive setting considers affordability and social con- because wealthier households, who consume cerns in addition to supply costs. But they disproportionately more energy, receive the come at the cost of lower economic efficiency. largest share of the benefit. 468 URBAN CHINA Other distortions include pricing practices U.S. government recently revised its official that prevent electricity producers and some estimates of the social cost of carbon upward other energy suppliers from passing input based on extensive modeling—to $38 per ton costs above a certain level on to consum- of carbon dioxide for the year 2015.17 This ers. The difference between market-based number is used to estimate the climate ben- import prices for natural gas and regulated efits of environmental rule making. domestic prices have generated large losses Such extra charges are imposed in two for importers. In 2011, for example, Pet- ways. One is through an energy or resource roChina lost RMB 21.4 billion on sales of tax. Ecological tax reforms would put a pipeline gas imported from Turkmenistan charge on energy or water use to encour- because of price regulation. Such losses have age conservation. Carbon taxes specifically dampened incentives to boost supplies of charge greenhouse gas emissions (box 7.6). this relatively cleaner fuel. As pricing reform Charges could rise over time in line with continues, better information about the size, efficiency improvements and become a new fiscal costs, and distributional impacts of source of revenue, which can be earmarked distortions in resource prices would provide for related goals, such as funding energy effi- greater momentum for reform and a better ciency investments, or they can reduce other basis for deciding which policies, on balance, distorting taxes such as those on labor or are justified when economic, social, and replace municipal revenue from land sales. environmental considerations are taken into The alternative policy is a cap-and-trade sys- account. Such a review could take the form tem. This system establishes a clear limitation of an inventory or audit of environmentally on pollution and lets a market for emission harmful policies similar to those performed allowances determine the price for pollution, by some European environmental agencies ensuring that pollution reductions occur (UBA 2011, for example). where they can be achieved at least cost. Getting to cost recovery levels is only Allowances have been initially distributed the first step. China’s coal, electricity, and freely to make the system acceptable to firms, gasoline pricing policies have also begun to which if possible should be avoided. They can account for damages caused by resource pro- be auctioned off to raise revenue similar to duction and consumption—local pollution a tax. Revenues from a tax or cap-and-trade that harms people’s health and greenhouse allocation auctions can be reinvested in fur- gas pollution that fuels global warming. ther resource savings or emission reduction, Adding such “external” or “social” costs is contributing to higher benefits than the price usually the most efficient way to change the effect alone. Pollution trading systems in behavior of people and fi rms. Determining China have been piloted for sulfur dioxide the appropriate pollution charges can be dif- (SO2) and carbon, and in several countries ficult, however. Estimated health impacts or they are also used for water pollution (Fisher- climate change impact modeling can provide Vanden and Olmstead 2013). guidance. One large U.S. study for instance, The following sections on sector priori- estimated that the health damages from fossil ties discuss the use of some price instruments fuel power plants range from 0.002 to 0.12 in China in more detail. Several policies and cents per kilowatt house depending on the pilots introducing environmental taxation size and age of the plant (NRC 2010). A study and cap-and-trade systems are already under by Chinese experts estimated that adding a way in China. These will be useful as a way comprehensive estimate of the social cost of to collect information and experiences but coal—including indirect costs from mining, will need to be expanded nationally if they transport, production, and emissions—would are to become truly effective. Furthermore, raise the market price of coal by 23.1 percent cap-and-trade systems need to be frequently (Mao, Sheng, and Yang 2008). The social recalibrated. An economic slump will reduce cost of climate change damages from energy emissions or pollution even without firms’ use are more difficult to determine, because efforts, adding to the frequent problem of of uncertainty about specific impacts. The initially overallocating allowances. In addi- GREEN URBANIZATION 469 BOX 7.6 China 2030: Estimated impacts of carbon pricing According to a recent analysis by the World Bank and a ton. While carbon pricing would have a dramatic DRC, a price of $10–$20 on a ton of carbon diox- effect on CO2 emissions and the use of dirty fossil ide (CO2) (RMB 83–166 in 2004 prices) starting in fuels, it would only have a modest long-run effect on 2015 would effectively bend the curve of China’s ris- economic output (figure B7.6.1). Even with a carbon ing greenhouse gas emissions, causing emissions to price of $20 a ton, average annual growth in GDP plateau or peak before 2030. Total coal use would slows by only 0.06 percent between 2015 and 2020 peak in or around 2020. The price would effectively and 0.05 percent between 2025 and 2030 compared be equal to a tax on steam coal of about $22–$44 with a baseline scenario. FIGURE B7.6.1 Effect of a carbon price on emissions and economic growth a. Effect on emissions b. Effect on economic growth 12 3.4 11 3.2 CO2 emitted, tons (billions) Coal, tons (billions) 10 3.0 9 2.8 8 2.6 7 2.4 6 2.2 2010 2015 2020 2025 2030 2011 2015 2020 2025 2030 Business as usual Carbon price of US$10 per tCO2 Carbon price of US$20 per tCO2 Source: World Bank background analysis done for World Bank–DRC 2013. tion, complementary energy efficiency and termism (people look at the higher purchase renewable energy policies may “loosen” the price of energy-efficient light bulbs but ignore cap and add to a surplus of allowances, drag- their long-term savings) or split-incentives ging down CO2 prices, as seen in the EU car- (a landlord may not make energy saving bon trading system (Grubb 2012). As China upgrades as long as the tenant pays the utility moves from pilot schemes to full deployment, bills). Regulations can also be more effective these interactions among overlapping policy when the need to stop or reduce a harmful instruments need to be dealt with based on activity is urgency. But regulation is only as careful analysis with a coordinated effort good as its enforcement. China’s current reli- between ministries and agencies. ance on target-based regulations is producing desirable results but may lead to unintended consequences and weaker compliance incen- Regulations tives. The regulations are often rigid and may Price incentives are an efficient and nonco- not reflect local environmental conditions ercive way to encourage changes in behav- and priorities, often lack a scientific basis, ior, but there remains an essential role for are sometimes arbitrarily exaggerated as they strict environmental regulations as well as pass through the administrative hierarchy, for social transfers. Price instruments can be and compliance is difficult to verify (Kostka blunted by behavioral factors such as short- 2013). More rigorous technical, social, and 470 URBAN CHINA economic analysis of regulatory decisions higher total energy expenditures, but the and investment projects could make them expenditures account for a smaller share of more effective. their income. An international benchmark for energy poverty is when households have to spend more than 10 percent of their income Investments and transfers on energy. If energy prices rise by 15 percent Besides influencing prices and issuing regula- when cross-subsidies are removed or an eco- tions, governments also spend money directly logical tax is imposed, up to 20 percent of to pursue greening, for example, by funding households in Liaoning could fall above that information programs, training, or upgrad- threshold. This example illustrates that the ing public infrastructure. In some instances, social consequences of sustainability policies such direct government expenditures can need to be studied carefully, but it does not help buffer the unintended consequences of argue against raising prices to market or even environmental policies. Market instruments to social cost levels. A block tariff that main- are economically efficient, and complemen- tains a lower price for a minimum amount tary regulations are effective where markets of energy is one option to address social con- do not work well. But both usually raise cerns, as already implemented for electricity. prices for resources, at least in the short term, But, if the block is not well designed, it can which can affect the competitiveness of firms have significant benefit leakage to the non- and the welfare of low-income households. poor. Generally, rather than keeping energy For environmental policies to be efficient, prices low across the board, which would effective, and fair, assistance to households discourage energy efficiency efforts by house- and companies will sometimes be necessary. holds, a more effective strategy is to comple- For instance, household expenditure ment sustainability policies with targeted sec- shares for energy in two of China’s provinces, tor and social protection policies that help the Liaoning and Sichuan, range from about 2 poorest cope with energy price rises (Ruggeri percent for the richest households in Sich- Laderchi, Olivier, and Trimble 2013). uan to just over 10 percent for the poorest in Local officials in China already have Liaoning (figure 7.10 shows expenditures are extensive powers to force the shutdown of higher in Liaoning because of winter heating inefficient or outdated production capacity needs). Wealthier households usually have for which energy efficiency upgrades would FIGURE 7.10 Household energy expenditure shares, 2012 12 Home energy use as share of household 10 expenditures (%) 8 6 4 2 0 V1 V2 V3 V4 V5 V6 V7 V8 V9 V10 V11 V12 V13 V14 V15 V16 V17 V18 V19 V20 Average (poorest) (richest) Vigintile Liaoning Sichuan Source: China Household Income and Expenditure Survey data. Note: Vigintile = one-twentieth or each 5 percent increment. GREEN URBANIZATION 471 not be sufficient. To soften the blow to local reduce air pollution concentrations but will employment and economic output, city gov- not capture carbon emissions. As a rule of ernments may provide reemployment assis- thumb, when retrofitting existing infrastruc- tance to displaced workers, financing for ture, it will often be most cost-effective to affected enterprises to pursue other lines prioritize local pollution reductions because of business, and partial compensation for they bring important, near-term benefits retired equipment (Kostka and Hobbs 2012; to local populations. For new investments, Li and others 2009; Taylor and others 2010). low-carbon designs will be easier and often cheaper to incorporate at the beginning than retrofitting these assets later, so both objec- Sustainable sector policies are tives can be considered at a lower life-cycle closely aligned with cost. Assessment tools are available that green objectives evaluate both local and global emissions, and these should be developed further to opti- Differing resource endowments, economic mize solutions based on local circumstances structures, climactic conditions, and other (annex 7B). Sector investments and policies conditions mean there can be no universal should seek to limit environmentally harmful definition of a green city. Because the specific resource use as much as possible and clean up issues that need to be addressed in these sec- what cannot be avoided. Table 7.1 presents tors vary widely, and because sector reforms the main messages for each sector. have advanced more in some sectors than in others, no generic set of options or recom- mendations can be applied. But there are a Crossing jurisdictions for effective air number of common themes. First, action in quality management all sectors is urgently needed because of the Recent episodes of severe air pollution in immediate health and ecosystems impacts many cities have brought air quality into from high pollution and because poorly the center of environmental policy debates designed urban infrastructure investments in China. There is a growing realization of during the next wave of urbanization could the scope and scale of health impacts from lock China into further cycles of unsustain- polluted air, and the government has dem- able development. onstrated its willingness to use its fi nancial Second, problems of the magnitude and and administrative resources to address this complexity faced by China’s urban policy problem more forcefully. Improving air qual- makers cannot be solved in sector silos or ity in China’s cities is a massive challenge not geographic niches. Land management, trans- only because of the scale of the problem but port, building, and public service sectors need also because the large number of pollution to be closely coordinated to shape cities that sources, and chemical reactions between dif- are resource efficient and low polluting while ferent pollutants, make it particularly com- also promoting economic efficiency and qual- plex. Some of the key elements of an effective ity of life. And because air pollutants travel air quality action plan are addressed here. over long distances, air quality management Three principles for policy making stand needs to be organized at a geographic scale out. One is that adopting a more flexible that matches the footprint of the problem. approach for setting targets for air quality Third, reducing local pollution (imme- management (AQM) within China’s National diate benefits) and global carbon pollution Ambient Air Quality Standards (CNAAQS) (with most benefits in the future) often go could facilitate implementation by account- hand in hand. Increasing energy efficiency, ing for the currently very large differences in by reducing fossil-fuel burning, can save lives pollution levels and conditions across cities that would be lost to air pollution today and and regions. A second point is that regional will also help reduce future global warm- institutions for AQM must be endowed with ing. But end-of-pipe abatement technologies greater authority, because air pollution trav- for power plants and cars, for instance, can els across municipal boundaries and solutions 472 URBAN CHINA TABLE 7.1 Sector priorities for green urbanization Integrated approaches to resource use efficiency and pollution management Promote resource efficiency by revising statutory urban planning rules Implement regional air quality management based on sound and coordinating urban and sector planning more closely. monitoring, comprehensive technical assessment, and economic analysis. Providing sustainable and safe urban transportation Reduce reliance on private cars by charging the full cost that their Enforce fuel quality standards, continue to tighten and enforce use imposes and by making urban public transit and nonmotorized vehicle emission standards, expand low-emission and alternative transport more attractive. fuel vehicles, and encourage retirement of older, highly polluting vehicles. Meeting urban energy needs by prioritizing efficiency and greening the energy mix Rebalancing markets and mandates to reduce energy use in industry Rebalance administrative measures with more market-based approaches Strengthen development of energy-efficiency services industries, that motivate enterprises to prioritize energy efficiency as part of giving enterprises increased access to technical services and their own business interest; maintain enterprise obligations while financing, and promote deeper penetration of energy savings providing more options, like trading, to meet targets; and strengthen performance contracting. local government capacity in regulatory supervision and policy implementation. Leading by doing: serving the people in more efficient and cleaner buildings Lead by example with aggressive building efficiency programs in public Phase out harmful construction materials to reduce indoor air institutions. pollution. Establish targets for progressively tightening energy efficiency codes to set clear market signals; broaden use of benchmarking for existing buildings as basis for retrofit policies and programs; promote green buildings by linking incentives with clearer labeling schemes and strengthening capacities across the supply chain. Securing clean energy sources Minimize the direct use of coal in cities by expanding access to piped Establish a more even playing field for cleaner energy to contribute gas (with priorities given to households, commercial uses, and district to urban energy supply by removing pricing distortions and by heating) and clean energy sources. improving efficiency of energy supply systems through increased competition and modernization of sector regulation. Integrating water resources and pollution management to improve water quality Ensure a efficient, safe, and secure water supply by reforming the water Modernize urban utility management by reforming water pricing rights system, using smart technologies to measure consumption, and to improve sustainability of water and wastewater treatment enhancing water resource and pollution discharge governance at the services; strengthen governance by piloting mechanisms like water basin level and at local levels; broaden use of payments for ecological boards in metropolitan areas and aggregating services in small services to address nonpoint source pollution challenges; and increase towns, adopting transitional arrangements for meeting wastewater public awareness through new means like water footprint accounting. standards for weaker cities to help improve coverage. Improving solid waste management: waste reduction, recycling and disposal Charge waste removal fees that can fund more efficient collection, Improve the planning of waste disposal by strengthening separation, and disposal of waste, and encourage life-cycle product environmental impact assessments, improve their operations by stewardship programs that help avoid waste generation. reducing air and water pollution from incinerators and landfills, and provide for the proper closure, rehabilitation and safe reclamation of old landfills. can be cost-effective only when applied at a provide the largest pollution reductions at the larger scale beyond the jurisdiction of each lowest cost. This strategy also includes the city and province. Third, spending resources identification of abatement options that result for air pollution mitigation wisely requires a in both local air pollution and climate change comprehensive, multipollutant approach that reduction (co-benefits). Specific abatement identifies those policies and interventions that actions will occur at the sector level. Because GREEN URBANIZATION 473 of the cross-sectoral nature of the air pollu- Despite these positive trends, air pollu- tion problem, an effective institutional and tion levels remain high. Average PM10 con- regulatory framework is critically important. centrations in 2012 are still more than 20 Urban air quality has gradually improved percent higher than the new Class II rating as prevention and control policies have been under CNAAQS and 325 percent higher than successively tightened (World Bank–MEP the WHO preferred standard of 20 µg/m3. 2012). The annual average concentration of Moreover, these averages mask far higher relatively coarse particulate matter (PM10) levels in individual cities and city clusters, for 113 priority cities fell by about 40 per- especially in the North China plain including cent, from 145 to 83 micrograms per cubic the Beijing, Tianjin, Hebei (Jingjinji) region meter (µg/m3) between 1997 and 2012. SO2 (figure 7.11). Furthermore, data for the fi rst emissions have been declining since the late half of 2013 suggest that PM concentrations 1990s and particularly since the mid-2000s, may have increased, with PM 2.5 levels about mainly because of the wide application of twice the Class II standard and seven times flue-gas desulfurization at power plants (Lu the WHO standard of 10 µg/m 3. PM 2.5 is and others 2010). Overall, NO2 emissions of great concern because these very small have also showed a decreasing trend over the particles can enter deep into the cardiovas- past 15 years, although this trend has lev- cular and respiratory systems, causing high eled off in recent years most likely because of morbidity and mortality. Overall, the newly the increasing vehicle fleet in Chinese urban available monitoring data suggest that PM10 areas (Nygard and Deichmann 2013). Much concentrations appear substantially higher progress has also been made in collecting and than earlier reported. The Jingjinji region disseminating information on urban air pol- experienced severe pollution, where even lution. A nationwide monitoring program healthy people should avoid outdoor activi- for fi ne particulate matter (PM 2.5) initially ties, on 48 days during the first half of 2013. covered 74 cities. China’s Center for Envi- While cities in West and North China once ronmental Monitoring now provides hourly had the highest PM10 concentrations, the new updates of air quality for about 175 cities on PM 2.5 and ozone (O3) data indicate that the the web, with plans to expand the program centers of heavy air pollution are now in the to all 325 prefecture-level cities. industrial centers in the North China Plain. FIGURE 7.11 PM10 and PM2.5 monitoring results from 74 pilot cities, including 3 regions, 2009–13 Former PM10 monitoring New PM10 and PM2.5 monitoring (from 2013) 250 PM10 PM2.5 200 150 μg/m3 100 50 0 2009 2010 2011 2013 2013 Jingjinji Yangtze Pearl Total 74 cities CNAAQS (2012) new class II CNAAQS (1996, 2012) class I WHO recommended Source: Calculations based on Renmin University 2013, World Bank–MEP 2012, and CNEMC 2013. Note: Since the 2013 figures are for the first half year only, both the standards and the concentrations levels are illustrated in dotted lines and bars. 474 URBAN CHINA Unless the patterns found in early 2013 are sources in the form of dust worsen air pollu- due to unusual circumstances, it seems unre- tion problems, especially in the North, where alistic for many cities to achieve CNAAQS seasonally and during severe dust storms they Class II standards as intended by 2016. can make up to 60 percent of PM10 in some cities, including Beijing (table 7.2). The con- tinued uncertainty about pollution sources China’s air pollution problem may be getting and the dynamic nature of source composi- more complex tions show the need for a much better under- The causes of these unexpected spikes in air standing of where air pollution comes from. pollution are still debated, and they may well Second, the way in which particulates be temporary. But air pollution problems will form is growing more complex, with the remain challenging for a number of reasons share of so-called “secondary pollutants” that also have a bearing on possible mitiga- increasing. This is the share of fi ne particu- tion strategies. First, the composition of pol- lates such as PM 2.5 that forms in the air when lution sources in China’s cities is gradually gases such as sulfur dioxide (SO2), nitrogen changing. It is also highly variable, because oxides (NO x), and ammonia (NH 3) react China’s cities have different geography, chemically. Most SO2 comes from coal com- industrial structure, and energy supply pat- bustion, while most NOx is emitted by vehi- terns. Far too few rigorous and comparable cles. Ammonia is an important precursor. In pollutant source apportionment studies have fact, such chemical reactions are facilitated been done for Chinese cities. Overall, coal by cold temperatures such as those that the combustion—in power plants, industry, and Jingjinji region experienced in early 2013 dur- residential use—remains an important con- ing the spike in PM 2.5 concentrations.18 Over tributor to China’s air pollution, especially in the North China Plain, most ammonia comes winter, where it can account for as much as from agricultural activities—nitrogen fertil- 60 percent of PM10. The share of emissions ization (54 percent) and livestock emissions from vehicles is rising. Although new cars are (46 percent; see Zhang and others 2012). cleaner, the volume of new vehicles is very Ammonia emissions have increased rapidly large and vehicular emissions can account over the past twenty years. Because ammonia for as much as 30 percent of PM 2.5. Natural emissions worsen the impact of gaseous emis- TABLE 7.2 Breakdown of PM10 and PM2.5 sources nationwide and in Beijing PM10 PM2.5 % share Sources % share Nationwide Beijing Suspended dust 30–60 (North) 34 (North) 17 (suspended) 5–30 (South) 29 (South) 7 (construction) 20–60 (Winter) 10–30 16.7 within city Coal combustion 5–20 (Summer) (within city only) 24.5 outside city Industrial processes Up to 32 Up to 20 — (iron steel, cement dust) (mainly cement) 5–20 15 (North) Vehicle emission 22 20 (South) Up to 10 14 (North) Biomass burning 9 20 (South) Secondary PM 20–40 10–57 40-50% (Beijing, Yangtze, Pearl River) (largely PM2.5) (from SO2, NOX, NH3) (from SO2, NOX, NH3) Source: World Bank–MEP 2012, 11; Nygard and Deichmann 2013; Yang and others 2012; Lei and others 2011. GREEN URBANIZATION 475 sions from fossil-fuel burning by helping to bronchitis, and premature death. A less create more PM 2.5, reducing them will also researched aspect is arctic amplification that lessen the impact of emissions from energy can cause greater swings and a slowing down generation and use. That will require halting of the jet stream (Francis and Vavrus 2012; the considerable overapplication of fertilizer Nygard and Deichmann 2013). Weather sys- (Liu, X., and others 2013) and introducing tems may remain in place longer, leading to a better livestock management. The complexity greater accumulation of pollutants. The pos- is further increased by the need to also con- sible role of climate change highlights the fact sider greenhouse gas emissions. Air pollution that uncertainty is likely to increase, so our abatement often can yield significant CO2 assumptions must be continuously updated. reductions as a co-benefit (Liu, F., and oth- ers 2013) and also reduces short-lived climate Strengthening air quality management pollutants, of which black carbon is of par- ticular importance. Because pollutants from Many parts of China’s air pollution control different sources interact in complex ways, policies have worked well. For instance, the it is important to address pollution from all amended air quality law of 2000 focused sources—that is, a multipollutant approach control efforts on 113 priority cities with the that also considers carbon pollution—rather greatest air pollution problems. These cities than focus on one in particular. significantly reduced PM10 concentrations The third aspect is the role of long- over the following decade. Lessons learned distance transport of air pollutants. Dust and should now benefit all of China’s cities that particulates produced in one province can face air quality challenges. A comprehensive reach cities in a neighboring province. Emis- air quality improvement strategy needs to sions caused by agricultural activities in dis- address three important aspects. tant rural areas can worsen urban pollution Different cities face very different chal- problems. As a result, already high pollution lenges in meeting China’s ambient air qual- levels may become even more severe by events ity standards, and these differences should or actions that take place far away from the be reflected in the prescribed implementation area of impact. In the Jingjinji region, Hebei schedule for pollution reduction policies. The accounts for as much as 89 percent of the standards establish a uniform target air qual- industrial PM emissions and 81 percent of ity level for all cities under the principle that the SO2 emissions, while Beijing accounts all of China’s urban residents should be able for only 4 percent and 6 percent, respectively to enjoy clean air as soon as possible. But cit- (Xinhua 2013). Similarly, in the lower Yang- ies have very different pollution levels that tze River Delta, 84 percent of industrial PM arise from industrial structure, natural con- and SO2 originate in the neighboring Jiangsu ditions, and capacity to implement mitiga- and Zhejiang provinces, while 16 percent tion policies. A uniform path to compliance of the emissions originate in Shanghai city. is therefore unrealistic and probably coun- Long distance transport of pollutants implies terproductive. A more differentiated set of that air quality management cannot only be target dates, with intermediate targets for the done on city-by-city level but rather must most polluted cities, can make achievement be planned and implemented at a closely more manageable while still retaining the integrated regional scale (for example, in a incentives for already-cleaner cities to reach regional “airshed”) that brings local urban targets faster or to overcomply, for instance and regional AQM together. by pursuing the stricter WHO standards. Finally, an emerging question is whether Because air pollution travels across admin- climate change could have an impact on istrative boundaries, control programs must local air pollution levels. One well-under- be organized regionally. Much of the air pol- stood aspect is that the higher temperatures lution in many of China’s cities originates expected with global warming facilitate from areas that are beyond the control of city the formation of ozone, which can harm governments—from other urban centers but the respiratory system and lead to asthma, also from nearby agricultural areas. Purely 476 URBAN CHINA local abatement action will not be sufficient FIGURE 7.12 Framework for comprehensive to clean the air, especially in larger city clus- integrated air quality management ters. Other global metropolitan areas with historically large pollution problems have set up powerful regional AQM authorities. In the Emission from Monitoring Air pollution pollution Dispersion United States, the South Coast Air Quality concentrations sources modeling District is in charge of air quality planning, regulation, compliance assistance, enforce- ment, monitoring, technology advancement, and public education for the greater Los Exposure Angeles region in California, home to 17 million people. And the Ruhr area in Ger- many established a regional AQM strategy Abatement Optimized (Luftreinhalteplan Ruhrgebiet) that coor- abatement options Impacts and dinates abatement measures across 13 indi- Cost-benefit damages strategy analysis vidual cities such as Essen and Dortmund. Such models could be adapted to strengthen regional institutions in Chinese city regions Source: Nygard and Deichmann 2013. with severe air quality problems such as Jingjinji. To be effective, such regional institu- tions or similarly effective mechanisms need The first step is the identification of emis- to be endowed with a clear mandate and sion sources, including their geographic loca- legal authority across municipal boundaries, tion, by conducting a detailed inventory and together with strong enforcement mecha- analysis of emission sources, both stationary nisms, which in most countries leverage the ones such as power plants and nonstationary legal system. A clear coordination mechanism ones such as vehicles. In the second step, a also is needed covering the many munici- combination of ground-monitoring data and pal sector and environmental management atmospheric dispersion modeling determines bureaus whose actions affect air quality. air pollution concentration levels in all parts Air quality action plans need to be guided of the area. In a regional application, this by a comprehensive and rigorous analy- step will involve a hierarchically structured sis of the costs and benefits of abatement set of models with fine resolution local mod- options. In response to recent severe air pol- els nesting into coarser resolution regional lution incidents in China, the government or even national models.19 In the Jingjinji has announced large additional air pollution region, for example, the overall regional level control efforts, including a RMB 1.7 trillion could be covered by 50-by-50 kilometer grids program to be implemented over 2013–17 at a coarser resolution in an overall 700-by- (Xinhua 2013). To ensure that such funds are 700 kilometer coverage, while 14 urban areas well spent, a solid technical and economic would be covered by finer resolution grids of analysis should identify the most cost-effec- 1–5 kilometers within the 50-by-50 kilometer tive abatement strategies. The approaches coverages (figure 7.13). The resulting infor- need to be both broader—by considering mation can then be used to predict how pol- pollution sources and impacts in a larger geo- lution concentrations in individual locations graphic region—and deeper—by employing change with the introduction of very specific much finer-grained data on individual pollu- abatement measures, even at individual facili- tion sources and exposed populations. These ties. In principle, this procedure allows design are common in North America and Europe, of abatement options to achieve specific air and Chinese researchers and policy analysts quality targets at the level of individual moni- also have the expertise to implement them. toring stations. A comprehensive, integrated AQM approach The third step translates observed and involves four major steps (figure 7.12; see modeled air pollution concentrations into also box 7.7). impacts by estimating who is exposed to how GREEN URBANIZATION 477 BOX 7.7 The call for integrated, multipollutant approaches to air quality management in the United States An extensive review by the National Research PM 2.5. Since the council’s review, states and local Council of air quality management (AQM) in governments have passed laws requiring multipollut- the United States since introduction of the Clean ant AQM planning that takes greenhouse gases into Air Act in 1978 concluded that further improve- account. States can also save money and achieve air ments would require “an integrated multi-pollutant quality targets more effectively if control measures approach to controlling emissions of pollutants pos- for traditional pollutants, such as NOx and SO2 , are ing the most significant risks” (NRC Committee integrated with required CO2 reductions (James and 2004). The council advised that such approaches Schulz 2011). As China embarks on more aggressive should seek opportunities for addressing air pollu- pollution controls and decarbonization efforts, such tion and climate change mitigation simultaneously. integrated, multipollutant approaches can identify Recent research has highlighted the importance of cost effective pathways that lead to significant emis- short-lived climate pollutants such as black carbon sion reductions in local and global greenhouse gas that are also reduced through measures that target emissions. Source: NRC Committee 2004; James and Schulz 2011. much air pollution and then applying so- FIGURE 7.13 Example of a nested modeling system of air quality in called dose-response functions, which link the Jingjinji region in China pollution levels to health outcomes including premature death. In an urban context, the impacts on human health are most impor- tant, but other impacts include diminished visibility, corrosion, or cleaning needs. In a broader context, impacts on natural ecosys- tems through eutrophication or acid rain as well as long-term climate change impacts, for example, should also be considered. Comparison of current impacts with those modeled under various abatement scenarios provides measures of benefit (avoided dam- ages). If the abatement option is an efficiency measure, additional co-benefits could also include energy or other resource material sav- ings. In the final step, these benefits are com- pared with abatement costs. Going through  this process for various abatement options Source: Nygard and Deichmann 2013. Note: See text for explanation. identifies the most cost- effective air pollution control strategy, for instance in the form of a marginal abatement cost curve that ranks air quality today is better than a decade or policies or investments according to their two ago. With rising wealth, expectations for damage reduction per unit of expenditure. quality of life increase, and China’s urban An effective tool is to present the abatement residents today value clean air more. China options on maps and show how much air can leverage experience and technology from pollution concentrations will be reduced in elsewhere and mobilize significant domestic separate sections of the city. expertise and resources to tackle the urban Given the recent spikes in air pollution in air pollution problem. But international expe- many Chinese cities, it is easy to forget that rience also shows that quick improvements 478 URBAN CHINA are unlikely. Heavily polluted cities in Europe FIGURE 7.15 Water network length and urban and the United States reduced pollution levels density by well over 90 percent from their peak, but it often took several decades of determined 7 Water network (m per capita) policy implementation. China can achieve 6 its goals faster, but blue skies will not come 5 overnight. 4 3 Shaping urban energy and 2 infrastructure needs through urban 1 form and planning 0 The urban form—a city’s spatial develop- 0 5,000 10,000 15,000 20,000 ment—will shape China’s urban energy and Urban density (inhabitants per km2) infrastructure needs and thus heavily deter- mines their environmental impacts.20 Urban Source: Adapted from Müller and others 2013. form strongly influences city infrastructure Note: This and subsequent figures map a set of cities worldwide to and in turn the behaviors of city dwellers. illustrate the relationship between density and water and transport networks. The green line corresponds to the current average urban Because of its multisector nature, urban density levels in Chinese cities. The red line illustrates urban sprawl form is a key lever for strategies to improve impacts. The green arrow illustrates the path efficiency from denser urban development. resource efficiency and to maximize use of renewable resources. Urban form, once established, is very difficult to change. Urban China has the world’s largest urban pop- infrastructure embeds a path dependency, ulation, but, surprisingly, its cities are not possibly for generations—it establishes the particularly densely settled. Guangzhou for way people travel and live, encouraging a example, could increase its population in the lifestyle that is hard to change after people densest 600 square kilometers by 70 percent, grow accustomed to it. Yet it is still possible or 4.2 million people, if it raised its density to to change mobility choices and the sizing and the level that prevails in Seoul (figure 7.14). scaling of street patterns that meet the needs Similarly, Shenzhen could increase its popu- of all users, both motorized and nonmotor- lation in the densest 600 square kilometers ized (Ollivier and others 2013). by 98 percent. Population densities are also less uniform in Chinese cities. Densities of neighborhoods vary by a factor of 10 in the FIGURE 7.14 Potential of redensification in the densest 600 km2 in Paris and New York metropolitan areas but Guangzhou, compared to Seoul densities of some neighborhoods of Beijing, Shanghai, Guangzhou, and most other large 40,000 Chinese cities are as much as 20 times greater than other neighborhoods in the same city. Urban sprawl—with rapid growth of Density (inhabitants/km2) 30,000 Guangzhou low-density areas at the urban periphery— increases resource use in three general ways. 20,000 Seoul, Korea, Rep. First, low-density development increases fuel consumption in urban transport through lon- ger commutes and more private motorized 10,000 trips. Second, low-density areas increase liv- ing space per person, and consequently lead 0 to higher per capita energy use for home heat- 0 100 200 300 400 500 600 ing, cooling, and general power consumption. Built–up area (km2) Third, low-density development produces infrastructure used less intensively than that Source: Salat 2013. in dense urban cores, lowering economies of GREEN URBANIZATION 479 FIGURE 7.16 Road network length and urban in low-density suburban areas (figure 7.18). density Unbalanced metropolitan areas, with dense urban cores and an extended low-density 12 periphery induce greater commuting flows from the periphery to the center. As a result, Road network (m per capita) 10 both transit capacity and road networks must 8 be oversized to accommodate peak loads dur- 6 ing rush hour. The resulting congestion of the street network is responsible for significant 4 increases in energy consumption and green- 2 house gas emissions from transportation, 0 up to 300 percent for freight (figure 7.17). 0 5,000 10,000 15,000 20,000 Studies in Jinan, for instance, calculated that Urban density (inhabitants per km2) household vehicle kilometers traveled are five times larger in the more modernist single-use superblock configuration than in a mixed- Source: Adapted from Müller and others 2013. use, traditional street-grid neighborhood (MIT-Tsinghua-EF 2011). scale (figure 7.15; figure 7.16) and increasing A priority action for promoting compact the capital, operation, and maintenance costs urban form is to revisit the statutory urban for infrastructure services. Globally, efficient planning rules that are barriers to optimiz- urban forms are quite diverse because the ing resource use. Lower densities are partly a relationship between end users and the urban consequence of China’s statutory urban plan- fabric is complex. There is no ideal urban ning rules and related land market policies form that can be copied from place to place. (see supporting report 2). Largely unchanged However, there are characteristics common for decades, statutory urban planning rules to most efficient cities that typify outcomes require blocks to measure 400 meters on a of good urban planning practices. First, side, which locks cities into car dependence. while efficient urban forms vary in scale and Japanese cities, by comparison, have an aver- density, compact urban forms make it easier age distance of 50 meters between intersec- to support public transport; generate lower tions, making them more pedestrian-friendly. demands for energy, water, material and waste; and limit encroachment on farmland and natural areas. Second, efficient urban FIGURE 7.17 Fuel consumption for freight forms mix different uses with housing to pro- (40-ton trucks) and congestion vide shops, services, and employment nearby, reducing the need for a car. Third, efficient urban forms stand out as high-quality places 90 84 Fuel consumption (liters per 100 km) to live and offer a diversity of interactions 80 among residents and businesses that fosters 70 innovation. 60 52 As urban form locks in a path dependency, 50 it locks out options for greener urbaniza- 40 tion. For instance, studies have shown that a 30 28 10 percent increase in density reduces trans- 20 portation energy consumption much more in 10 already denser urban areas than in less dense ones, because the relationship between trans- 0 0 1 2 portation and density is nonlinear (Porter Stops per km and others 2013). Transit-oriented develop- ment, an energy-efficient option for cities, is generally not practical or economically viable Source: Larsson 2008. 480 URBAN CHINA FIGURE 7.18 Superposition of carbon emissions per capita for oversized road width, resulting in distances private transport and urban density in metropolitan London, of 300 to 450 meters between buildings on New York, and Paris opposite sides of the roads. These setback rules prevent reducing the size of the urban block to a more energy-efficient size—if the 14 urban block were smaller than 400 meters, Carbon emission for private transport 12 after deduction of setbacks, there would be very little land left for the building footprint. 10 (tCO2 per capita) 8 Green space requirements in the block. Although a global target of 30 percent green 6 space may be desirable if applied throughout 4 a city or neighborhood, its calculation at the block scale and the requirement to implement 2 it block by block prevent any size reduction 0 of the blocks—again, if the block size were 0 10 20 30 40 50 60 70 reduced there would be little ground left for 2 Ubrban density (1,000 inhabitants per km ) buildings. New York City, United States London, United Kingdom Paris, France Absence of superblock subdivision into smaller plots. This rule results from the state Source: Bourdic 2011. ownership of the land and prevents any com- plexity and fine grain in the clusters of build- ings through a progressive development of Among the key statutory urban planning the block. Once developed, the superblock practices or rules to be reviewed are these: cannot be redeveloped afterward because of the lack of a land market allowing further Oversizing of urban street grids. Unchanged subdivisions and sales either of smaller land for the past 20 years, the sizing of the grid plots or of building rights. prescribes a main road every 500 meters and an even bigger road (10 lanes) every kilome- Spacing between the buildings for solar ter. This rule is responsible for three con- access. The rule that requires spacing the straints on energy efficiency: the oversized buildings at a distance equal to 1.7 times their urban “super” blocks; oversized main roads height to ensure solar access has a very strong with 8 to 10 lanes and high speed limits create impact on the built volumes by constraining a “constrained” hierarchy that makes adja- the form and height of the buildings. Com- cent urban elements difficult to access; and bined with the setback rule, the rule pre- they prevent street scaling that is needed for vents a perimeter development of the block, efficient distribution of traffic flows, resulting it requires leaving the land in the superblock in lower linear densities of streets (kilometers almost empty, with plot coverage ratios of roads to square kilometers of urban area), around 15 percent. The only solution left to more traffic jams, and higher energy use and developers to increase density is to make the carbon emissions from transportation. The buildings larger and increase their height, absence of a scaling hierarchy in the street with detrimental effects on energy efficiency. network—that is, the absence of secondary and tertiary levels of streets—results in a lin- Large-scale zoning. Chinese zoning practices ear density of streets that is on average five are set at a very large scale, preventing a finer times lower than in Europe and in Manhat- grain of zoning that would allow mixed uses. tan and ten times lower than in Japan. These practices could be revisited to promote greater mixed uses, which would bring ame- Setback rules. In some cases, the frontage is nities, jobs, and services, closer to housing, set back 100 to 150 meters from the already thus reducing transport needs. GREEN URBANIZATION 481 Compact urban forms will need strict for vehicles nationwide, transitioning to new emission controls because more people will vehicle emission standards for heavy-duty be exposed to pollution in a smaller area. vehicles, and rapidly phasing out high- emis- Many public outcries from environmental sion vehicles that account for a large share of incidents originated in cities in China. When emissions. people are concentrated in a smaller area, a Reducing the environmental burdens single negative environmental incident can imposed by a growing transport sector is not have large multiplier effects on human health. just a welfare issue. Impacts from the sector Therefore, policies that promote redensifi- also have a large, measurable cost. Time lost cation offer both challenges and opportuni- to congestion and associated higher fuel use ties. While exposure levels have increased as causes by far the highest external, or indirect, a result of urbanization, measures to reduce costs from transportation, followed by health exposure in dense areas can reach more damages from air pollution, traffic safety, people, more quickly, and thus improve cost and noise pollution. International estimates effectiveness. of total indirect costs from road transport range from $0.05 to more than $0.40 a kilo- meter (Proost and van Dender 2011). Two Providing sustainable and safe urban studies have estimated the indirect costs from transportation transport in Beijing. Mao, Zhu, and Duan An efficient transport system supports urban (2012) put the figure at 4.2 percent of GDP economic growth by moving goods and peo- for congestion costs only, while Creutzig and ple within and between cities quickly and at He (2009) put it at 7.5–15 percent for all low cost.21 Transport is also critical for social types of externalities. Even at the low end of inclusion. As cities grow in size, the distance these estimates, the large external costs from between one’s residence and one’s job also private transport can justify significant pol- rises, and it is often low-income groups who icy intervention including support for public can find affordable housing only far away transit from general revenue or dedicated from economic centers. Besides supporting taxes where preferred policies such as conges- growth and inclusion, transport also affects tion charges or energy and carbon taxes are sustainability. Overreliance on individual not feasible (Parry and Small 2009). transport and a large stock of inefficient vehicles lead to congestion, rising energy con- Encouraging more efficient urban transport sumption, and air pollution. China’s cities have two tasks to ensure that urban trans- Urban road expansion will not be able to port not only supports inclusive growth but keep up with the continuously rising number also sustainability objectives. First, they can of vehicles in China’s cities. China’s vehicle avoid emissions and lower congestion by fleet has grown by more than 14 percent a continuing to encourage a shift to public and year on average over the past two decades, nonmotorized transport with much greater largely fueled by private car ownership. In attention to the quality and convenience of 1990, China had 5.5 million vehicles, of public transport services. Price instruments which only 800,000 (14.5 percent) were pri- and regulations will help reduce car travel, vately owned. In 2012, China had 121 mil- but urban planners should also create com- lion vehicles, of which 93 million (77 percent) pact cities with well-coordinated land use were private cars. As incomes rose, the num- and transportation plans where alternatives ber of vehicles grew even faster. While better to automobiles are more feasible and effi- mobility is a universal human ambition, the cient. Second, for vehicle traffic that cannot reality has been that in Chinese cities, more be avoided, the second priority is to reduce cars have actually reduced mobility because emissions from a cleaner vehicle fleet. Here, many are stuck in traffic for long hours. So China should broaden achievements in trans- far, the response has been to increase the sup- port pollution control by accelerating the ply of roads, creating impressive urban road switch to ultra-low-sulfur diesel and gasoline networks in many cities. 482 URBAN CHINA As road construction becomes more costly has been mixed on temporary restrictions, or impossible in dense urban areas, more for instance based on license plate numbers. emphasis must be put on demand manage- Well-designed restrictions can reduce emis- ment, which reduces the amount of travel and sions quickly (Viard and Fu 2013), but they shifts traffic to public transit. The most effec- are usually not sufficient to stem the growth tive management measure is to fully charge of the car fleet over time, and, if poorly drivers the cost of using private vehicles, designed, they can increase emissions as including environmental and social costs. many households purchase lower-efficiency Road pricing, including congestion charges in second cars with different plate numbers. all or part of a city, is the economically most The central government can play a role in efficient management measure, but it is com- establishing clear guidelines for introducing plex to implement and, like all price instru- demand management procedures for con- ments, affects lower-income drivers relatively gested cities. Technical standards and public more. There are therefore few cities, such as communication strategies to make conges- London and Singapore, where comprehensive tion and parking charges more acceptable congestion charging has been introduced. would be included. While national guidelines It will often be more manageable to charge provide a reference frame, the most appropri- tolls on selected roads, such as major arter- ate specific policy mix will be city specific. ies or bridges into a city, as in Wuhan where Policies to reduce driving by making pri- electronic toll collection has been introduced vate vehicle use more expensive or more dif- on seven bridges and one tunnel. Parking ficult should go hand in hand with making policies also affect traffic densities. Cities can mass transit options more convenient. Chi- ration parking spaces, for instance by reduc- nese cities have vastly expanded public trans- ing required minimum parking spaces for port. The total length of bus lines in opera- new housing or office developments as is now tion increased from 145 thousand kilometers happening in many U.S. cities. And charges in 2006 to 520 thousand kilometers in 2011, for parking spaces should reflect the value of about 62.5 thousand kilometers a year (fig- the land, which often exceeds the cost of the ure 7.19). The total length of metro lines in vehicles that occupy it.22 operation increased from 621 kilometers in Other demand management approaches 2006 to 1,699 kilometers in 2011. By the already used in some Chinese cities include end of 2012, the total length of metro lines quotas on license plates assigned through in operation had reached 2,008 kilometers in auctions or lotteries. International evidence 17 cities in China. Moreover, metro systems FIGURE 7.19 Total length of bus and metro lines in operation a. Total length of bus lines in operation b. Total length of metro lines in operation 600,000 1,800 1,699 519,554 1,600 500,000 488,812 1,471 1,400 400,000 1,200 999 1,000 km km 300,000 835 237,259 800 763 621 200,000 169,384 175,366 600 145,012 400 100,000 200 0 0 2006 2007 2008 2009 2010 2011 2006 2007 2008 2009 2010 2011 Source: NBS 2007a–12a. GREEN URBANIZATION 483 in 28 additional cities have been approved cantly. Part of the increased land values can or are already under construction, and the be captured through taxes or special assess- total length in operation is expected to reach ments, thus helping to fi nance public invest- 5,000 kilometers by 2015. ments. Better road planning complements Despite these significant capital invest- TOD through hierarchically classified road ments in and operating subsidies for public networks providing complete city coverage, transport in recent years, its modal share in and through people-oriented facilities for safe major Chinese cities remains lower than in walking and biking such as those provided by other major cities such as Seoul, New York “complete streets” that consider all transport City, and Tokyo. Not only is more invest- modes equally. ment in capacity needed, however, service To make integrated, multimodal transport quality and comfort needs to be improved planning work requires close cooperation through better system integration and acces- among the planning bureau, development sibility. Better service integration includes and reform commission, finance bureau, con- more convenient, efficient, and safer access struction commission, transport bureau, traf- to train stations and bus stops, particularly fic police department, land resources bureau, for walkers, cyclists, and people with disabil- and others. Many cities have therefore set ities; better connections between mass tran- up a metropolitan transport authority with sit and buses; and improved and expanded responsibility for planning and overseeing park-and-ride lots. Integrated traveler infor- all transport mode investments and opera- mation systems facilitate trip planning and tions in that metropolis. Hong Kong SAR, keep travelers informed. Giving buses pri- China, and Singapore offer good examples orities on roads makes the service more con- in the region. Vancouver and London provide venient, reliable, and efficient. That can be good international examples. Such transport done by creating bus-only lanes and queue agencies are suitable not only for large cit- jumps that allow buses to proceed with little ies. In the United States, for example, almost or no traffic delay, providing traffic signal 400 federally mandated and federally funded priority at certain intersections, and install- metropolitan planning organizations bring ing preboarding payment systems to allow together representatives from a range of passengers to board buses faster. These local and state agencies and from different measures help buses keep to their schedules, transportation modes, such as public transit, improve bus service, and reduce roadway freight, bicycling, and pedestrian. The plan- congestion. ning organizations also have a citizens’ advi- Transit-oriented development (TOD) can sory committee that represents community further improve the convenience of public groups, professional organizations, neighbor- transit and the efficiency of service provision hood associations, and the private sector. but has rarely been a specific aim of major Building and operating an efficient trans- developments and transport investments in port network is not feasible without dedi- China. In California, research showed that cated and predictable funding mechanisms, TOD can increase ridership on rail and buses especially because of the long planning and by three to four times relative to control sites construction process and the long life span (Lund, Cervero, and Willson 2004). TOD of transport infrastructure. A dedicated fund emphasizes compact, mixed-use buildings to improve public transport services could and neighborhoods that encourage walking, be created in cities through various charges cycling, and use of public transit. The high on private vehicles, including earmarking a density of residential and commercial build- share of the fuel levy and vehicle purchase ings allows proximity to and a functional fee, currently collected by the central govern- relationship with transit stations and termi- ment, but which is mostly used for highways. nals, giving easy access to high-quality public China’s government should revisit the current transport to a large share of the population. central road-financing arrangement to allow Construction of transit hubs as part of TOD for the establishment of urban transport also raises surrounding land values signifi- funds for major cities. 484 URBAN CHINA Controlling vehicle emissions in urban areas 3 times more CO than a similar truck that achieves the latest standard used in Europe Transport-related emissions, mostly from (Euro VI). Vehicles also cause a significant road transport, are a large and growing con- and rising share of greenhouse gas emissions. tributor to air pollutants in urban areas in Nationwide, the transport sector accounts China. In 2011, vehicle emissions produced for 7.1 percent of CO2 emissions from fossil 621,000 tons of PM 2.5 in China, 4.4 million fuel burning, of which 78 percent are from tons of hydrocarbons, 6.4 million tons of road transport, according to IEA figures for NOx, and 34. 7 million tons of CO. Vehicle 2010 (IEA 2013a). emissions account for a high share of emis- While the overall fleet is becoming cleaner, sions in cities: for example, 56 percent of the sheer number of new vehicles is still caus- NOx and 22 percent of PM 2.5 in Beijing, 25 ing emissions to rise. Continued efforts to percent of PM 2.5 in Shanghai, and around reduce vehicle emissions are needed. China 30 percent of PM 2.5 in Shenzhen.23 A dispro- has already made major progress over the portionate level of NOx and PM 2.5 vehicle past decade in reducing such pollution. It emissions comes from relatively few vehicles. has tightened emissions standards following In China in 2011, about 4.6 million diesel- European benchmarks, although with a time fueled heavy-duty and 2.7 million medium- lag. Since 2009, it has also begun to encour- duty freight vehicles together accounted for age scrapping of older vehicles. Fuel stan- 7.7 percent of the total vehicle fleet but 62.8 dards have been improved to some extent. In percent of NOx and 69.6 percent of PM 2.5 its retrospective, the International Council emissions from all vehicles (MEP 2012). of Clean Transportation (ICCT) estimated Sixty percent of emissions of four major that the programs adopted avoided 44 mil- air pollutants are caused by pre-China I and lion tons of hydrocarbons, 239 million tons China I emission standard vehicles, which of CO, 38 million tons of NOx, and 7 mil- account for only a quarter of all vehicles (fig- lion metric tons of particulate matter, pre- ure 7.20). A China I truck, if properly main- venting an estimated 170,000 deaths in 2010 tained, emits 36 times more PM 2.5, 20 times (Fung and others 2010). In the long term, the more NOx, 9 times more hydrocarbon, and use of natural gas could be expanded in the FIGURE 7.20 Vehicle emissions contributions in China a. By fuel type b. By vehicle emission standards category 100 99 60 90 50.7 82.40 50 48.3 48.9 80 70 69.60 67.40 40.0 Emission share (%) 40 60 Percent 21.3 50 30 13.0 25.3 27.0 40 21.6 20 13.9 19.6 30 27.60 29.50 13.2 10.7 15.3 15.8 13.3 20 15 10 10 0.00 2.60 2.80 3.10 0.00 0.9 0.7 0.4 0.1 0 0 CO HC NOx PM CO HC NOx PM Diesel vehicle Natural gas vehicle Pre-China I China II China IV and Gasoline vehicle China I China III above Source: MEP 2012b. Source: MEP 2012b. GREEN URBANIZATION 485 BOX 7.8 Promoting electric vehicles in China: Opportunities, challenges, and implications Hydrogen fuel cell and battery electric vehicles (EVs) to be addressed to enable more widespread adoption produce no tailpipe emissions and accordingly little of EVs: direct pollution in urban areas. Where electricity comes mostly from clean energy sources, total emis- • Standards. China has not yet launched its national sions associated with electric vehicles can be dra- standards for EVs, including those for vehicle matically reduced. The introduction of such vehicles charging, physical interface, safety and power grid has accordingly become central to emission reduc- standards, and compatibility with international tion objectives in many places such as the European standards. Union. By 2030, the European Commission targets • Integrated charging solutions. Since the pilot a 50 percent reduction in the use of conventionally program focused on fleet vehicles (such as buses fueled cars (EC 2011). If China’s continuing efforts or taxis), charging infrastructure for private cars in energy restructuring are successful, vehicle elec- has not been fully developed technically and trification could contribute significantly to pollution systematically. abatement and climate change mitigation over the • Commercial models. It is essential to build a com- long term. mercially viable business model that bears the cost In 2009, the Chinese government initiated the of charging infrastructure, because the industry Ten Cities, Thousand Vehicles Program to stimulate cannot indefi nitely rely on government funding. EV development (later expanded to 25 cities). Mean- • Customer acceptance. The significant up-front while, there is significant EV technology development vehicle cost still deters customers, even as the in China by industry and academia, focusing primar- lifetime ownership costs gradually become more ily on batteries and charging technology. The result is favorable for EVs. While leasing could help address an emerging EV value chain with new business mod- this issue, a secondary market for batteries in addi- els to provide the infrastructure, components, vehi- tion to a vehicle fi nance market would have to be cles, and related services. But several challenges need established. Source: Cackette 2013. transport sector—if overall gas supplies can 1.08 percent of current retail value. Directly be increased. Hydrogen fuel cell and electric upgrading straight to ultra-low-sulfur fuel vehicles are expected to eventually capture could raise prices by 5 fen for a liter of gaso- a greater share of the transport market (box line and 13.6 fen for diesel (ICCT 2012b). 7.8). In the meantime, China should broaden The most effective instrument to encourage achievements in transport pollution control the switch to cleaner fuels is through price in three main ways: instruments (ICCT 2013). For example, Ger- many’s tax incentive of 12 fen a liter on ultra- Accelerate the production of ultra-low-sulfur low-sulfur fuel (both gasoline and diesel) led diesel and gasoline for vehicles nationwide. to a rapid drop in the average sulfur content Enabling China’s refineries to produce ultra- to 3–5 parts per million (Walsh 2006). Con- low sulfur (10 parts per million or lower) will sultation and communication well in advance require large up-front investments, but the of the introduction of these policies is essen- additional costs to consumers will be small. tial to ensure their acceptance and effective- The ICCT estimated the annual cost of refin- ness. Considering the relatively moderate fuel ery upgrades (over a 10 year depreciation prices in China, a price differential between period) at RMB 9.6 billion for low-sulfur fuel ultra-low-sulfur fuel and higher-sulfur fuel and RMB 16.5 billion for directly upgrading could be introduced through revenue-neutral to ultra-low-sulfur fuel. That translates to 2.5 preferential fiscal policies. Tax incentives to fen and 8.1 fen per liter of low-sulfur gasoline refi ners provided in the form of accelerated and diesel respectively, equivalent to 0.33 and depreciation, deductions in corporate taxes, 486 URBAN CHINA and direct government subsidies have accel- Transition to stricter vehicle emission stan- erated the transition to ultra-low-sulfur fuel dards especially for heavy-duty vehicles. in Japan. In the United States, small refi ners Reducing emissions from new cars is impor- were given a tax incentive of RMB 0.08 a tant, because once on the road, vehicles are liter to produce ultra-low-sulfur fuel. usually not replaced for more than a decade. The transition to low- and ultra-low-sul- For China, the difference between current fur fuels needs to be accompanied by strong standards (China IV) and Europe’s current standards, coherent administration, and Euro VI standards will be relatively modest effective enforcement. Currently in China, for light-duty vehicles. The difference is much authority for vehicle emission control is scat- larger for heavy-duty diesel-fueled vehicles, tered across multiple agencies, with MEP where NOx emissions are 80 percent lower setting vehicle emission standards, the Min- and PM 2.5 50 percent lower under Euro VI istry of Industry and Information Technol- compared with China IV standards (figure ogy registering new types of vehicles, and the 7.21). One reason for high truck emissions National Petroleum Products and Lubricants is that there are fewer joint ventures in truck Standardization Committee (called TC280) manufacturing compared with the car indus- setting fuel standards. Oil industry repre- try where there is greater access to cleaner sentatives and experts close to the industry technology and domestic innovation are dominate TC280 and its subcommittee (Fung more widespread. and others 2010). MEP also lacks capacity The cost of adopting new emission stan- for both fundamental research and testing dards evolves over time. The standards spec- capability. It currently has far less expertise ify the emissions rather than the technologies and technical capability than the oil industry, to be applied. Accordingly, new emission particularly in evaluating the emission impli- control technologies emerge continuously cations of various fuel compositions, which and their cost drops as market penetration is essential for recommending standards. In increases. For gasoline light-duty vehicles, the addition, MEP has limited access to data cost increase is low—on the order of $45—to on refi nery capacity and has to rely on the move from Euro III to VI. For diesel vehicles, industry’s analysis of the cost and technical the cost is substantially higher—$1,200 for implications when considering adopting more light-duty, and $5,000–$8,000 for heavy- stringent standards. duty (ICCT 2012a). For the often very small FIGURE 7.21 Expected pollution reduction from raising current emission standards to Euro VI standard a. Light duty cars b. Heavy duty trucks 4.0 4.0 3.5 3.5 3.0 3.0 2.5 2.5 2.0 2.0 1.5 1.5 1.0 1.0 0.5 0.5 0 0 PM (0.001g/km) NOx (0.1g/km) CO (g/km) PM (0.01g/kwh) NOx (0.1g/kwh) China IV Euro VI Source: Team calculations based on data from TransportPolicy.net, EU: Heavy-duty: Emissions, http:// transportpolicy.net/index.php?title=EU:_ Heavy-duty:_Emissions (accessed December 2013). GREEN URBANIZATION 487 trucking companies in China, these are sub- on vehicle CO2 emissions. 25 Individual cit- stantive outlays, but the accelerated adop- ies, such as Milan, have also begun to penal- tion of new standards is still justified by the ize high emission vehicles by either charging large anticipated health benefits. For such them to enter the central and more congested regulations to be effective, they need to be areas or prohibiting them altogether. Provid- supported by credible enforcement. Oth- ing a subsidy for owners to scrap high-emis- erwise fake certificates and counterfeited sion vehicles can also be an effective way of or mislabeled fuel will inevitably appear. accelerating fleet turnover. Several countries Enforcement requires resources and sufficient introduced time-limited scrapping programs authority to apply fines, as in the case under in recent years, although often primarily as the Texas Regional Emissions Enforcement a way to stimulate the economy during reces- Program.24 sion.26 The environmental benefits of scrap- Achieving significant emission reduc- ping programs need to be carefully evaluated tions in the urban road transport sector also because running a higher-emission vehicle for requires addressing the administrative orga- a few additional years may have less impact nization for enforcing vehicle emissions stan- than the emissions from producing a new car, dards. The current Air Pollution Prevention especially when the emission requirements and Control Law provides an incomplete for the new car are not strict (Gayer and framework to manage emissions from vehi- Parker 2013). Environmental objectives may cles. It does not explicitly confer to any min- sometimes be better reached through taxes istry the authority to recall vehicles that do on high-emission vehicles (Li and Wei 2013). not meet emission standards. While it allows provincial and municipal level EPBs to ran- Meeting urban energy needs by domly select vehicles for in-use testing (like prioritizing efficiency and greening conducting road-side tests), it does not explic- supply itly grant MEP such authority. Lacking clear authority to conduct in-use testing, to assess China has made enormous strides to improve a penalty on manufacturers producing non- the energy efficiency of its economy and miti- conforming vehicles, or to require manufac- gate some of the environmental impacts of turers to recall noncompliant vehicles, MEP burning fossil fuels in urban areas. Reduc- has weak enforcement power and limited tions in energy intensity reductions during means to deter production of sub-standard the 11th Five-Year Plan averted the use of vehicles. 630 million tons of coal equivalent, or 1.46 billion tons of CO2 emissions. Uncontrolled Rapidly phase out high-emission vehicles. emissions of SO x , NO x , and PM10 are in With China’s rising motorization rate, the decline overall. Yet, the scale and complex- number of new vehicles entering its road- ity of the challenge remains daunting. Coal ways each year far exceeds the number of old still hovers at around 70 percent of primary vehicles being scrapped. To lower the average energy consumption, a similar percentage as emissions of the entire fleet, the phase-out in 1980, and severe air pollution persists in of the most polluting cars and trucks from many cities despite ever stricter standards. As urban areas should be accelerated. Gov- China’s urban economy grows more efficient ernments in other countries have used two and sophisticated, continuing with the same main measures to achieve this goal: penal- approach to energy policy will not yield the izing high-emission vehicles, and providing visible, stepwise improvements in environ- incentives for early scrapping. Annual vehicle mental quality that China’s urban dwellers registration fees based on a vehicle emission will increasingly demand. levels provide the most straightforward way With efforts in three main areas, China’s to charge for the damages caused. Seventeen cities can accelerate their progress in light- European countries have also extended this ening the environmental footprint of their concept to address climate change concerns energy use. First, energy planning should be and base all or part of their registration fees coordinated with the planning process for 488 URBAN CHINA cities. City planners should work with energy For example, it makes up 65 percent of the planners to take a systematic approach in primary energy supply in Zibo City, Shan- evaluating ways to optimize energy con- dong. In China’s 15 cold climate provinces, sumption by reducing demand across the where provision of heating is a legal require- main end-using sectors and greening the sup- ment, coal represents over 90 percent of the ply mix to meet the residual energy demand. fuel burned for district heating. Although a Second, broad-based energy efficiency efforts greater share of coal is being used in larger, should be accelerated in the main end-using more efficient power (and heating) units that sectors through a better balance of regula- are subject to stricter emissions standards— tions and market-based policy tools. Third, and pollution controls in all sectors have after measures are taken to reduce energy improved—the absolute increase in coal use demand, direct use of coal in cities should be in cities, driven by demand, is the number- eliminated as much as possible by expand- one reason for poor local air quality and CO2 ing access to natural gas, removing barriers emissions. Intensive coal use has resulted in to commercial renewable energy, and con- per capita CO2 emissions in large Chinese cit- tinually strengthening emissions controls of ies that are already higher than in many other remaining coal-fired power plants and indus- cities around the world (figure 7.23). try. Across all three policy areas, encouraging Industry uses the lion’s share of energy in compact urban forms will be fundamental. urban areas, representing an estimated 70 The rapid, sustained growth of energy percent of total energy demand and 69 per- demand presents a unique environmental cent of electricity use in 2010 (figure 7.24). challenge for China’s cities. Few modern cit- Heavy industries have been responsible for ies in the world depend on solid fuels to the most of the historic growth in urban energy extent that Chinese cities do. In London, for demand (Hong and others 2011; Ma and example, household coal use was banned in others 2012). Because these industries rely the 1950s in response to serious air pollu- mainly on coal, they have also deepened the tion. By contrast, 43 percent of Shanghai’s carbon footprint of Chinese cities. In 11 big primary energy supply still comes from burn- cities studied by H. Wang and others (2012), ing coal inside the city’s borders (8 percent 75 percent of total greenhouse gas emissions more is from coal-fired power “imported” came from industrial fossil-fuel use (figure into the city) (figure 7.22). Nor is the predom- 7.25). By comparison, industrial emissions inance of coal limited to China’s big cities. represent only 10 percent of total emissions FIGURE 7.22 Primary energy supply in Beijing, Shanghai, and Chongqing municipalities, 2011 1.1% 0.4% 0.0% 6.5% 1.2% 0.0% 14.0% 12.7% 26.3% 9.5% 42.9% 32.2% 40.6% 10.5% 62.5% 26.4% 8.4% 4.9% Beijing Shanghai Chongquing (52.7% coal) (51.3% coal) (67.4% coal) Coal Oil Nuclear Coal (from imported electricity) Natural gas Renewables Source: Authors’ estimates based on data from NBS 2012c; China Electric Power Yearbook Committee 2011; and State Grid Corporation of China 2011. GREEN URBANIZATION 489 FIGURE 7.23 Per capita CO2 emissions for 11 FIGURE 7.24 Industrial energy use as a share of total energy large Chinese cities and selected cities around the demand in cities, 2010 world 80 78 Wuxi 16.5 Dallas, United States 14.4 75 74 Wuhan 13.8 73 Tianjin 12.1 Chicago, United States 11.8 70 Shanghai 10.6 67 66 Percent Hangzhou 9.9 65 64 Philadelphia, United States 9.8 Zhengzhou 9.2 Beijing 8.6 60 Guangzhou 7.9 Nanjing 7.7 55 55 55 Durban, South Africa 7.5 Amsterdam, the Netherlands 6.8 Shenyang 6.7 50 New York City, United States 6.2 Small Medium Large Mega Berlin, Germany 6.0 City size London, United Kingdom 5.6 Industry share of total energy Industry share of electricity Helsinki 5.5 Tokyo, Japan 4.7 Copenhagen, Denmark 4.7 Source: World Bank calculations using data from Renmin University 2013; NBS 2011a, 2011b. Jakarta, Indonesia 4.6 Note: Electricity use is for downtown areas (main city districts) of the 287 municipalities Moscow, Russian Federation 4.2 at administrative prefecture level or above; total energy use is for the entire municipality; where 2010 data unavailable, 2009 data are used instead. Stockholm, Sweden 3.3 Chongqing 2.9 Bogota, Colombia 2.2 São Paulo, Brazil 1.4 Chinese cities FIGURE 7.25 Industrial and nonindustrial CO2 emissions per capita Major cities throughout the world in selected Chinese and other cities Source: Chinese cities: H. Wang and others 2012; other cities: Carbon Wuxi Disclosure Project 2012. Note: Per capita emissions for Chinese cities and C40 cities reporting Wuhan Scope I and II emissions using similar methodologies. Tianjin Shanghai Hangzhou for Tokyo (2007), 16 percent for New York Zhengzhou City (2011), and 7 percent for London (2006). Beijing Although industry will continue to Guangzhou account for the majority of energy demand Nanjing in urban areas, energy for heating, cooling, Shenyang lighting, and equipment in buildings is pro- Chongqing jected to be one of the fastest-growing seg- New York City, United States ments of demand (Fridley and others 2012). London, United Kingdom Tokyo, Japan In China’s cities, energy use per square meter of floor space in buildings is still only a small 0 5 10 15 20 fraction of that used in buildings in high- Tons CO2 equivalent per capita income countries (figure 7.26). Drivers of Industry Nonindustry energy demand vary between residential and commercial buildings. Based on Fridley and Source: China: H. Wang and others 2012; New York City: Dickinson and others 2012; London: others (2012) and Levine and others (2012), Mayor of London 2007; Tokyo: Tokyo Metropolitan Government. much of the energy used in urban residential Note: Consumption-based accounting of greenhouse gas emissions, including emissions from direct energy use and from the power sector allocated to end-use sectors. Chinese buildings will continue to be for space heat- data are for 2005, New York City data are for 2011, London data are for 2006, and Tokyo data ing and cooling, but by 2020, appliances are for 2007. 490 URBAN CHINA FIGURE 7.26 Energy use in commercial buildings clusters of modern residences are intermixed in China, the United States, and Japan with more rudimentary housing. Household coal use is most prevalent in—although not 350 328 limited to—the poorer provinces, especially 309 300 288 in the north (World Bank 2013a). 250 Planning for greener urban energy systems Kwh per m2 200 157 150 Leading cities around the world are start- 100 ing to take a more systematic look at how 50 they can reduce the environmental foot- print of their energy use by making energy 0 China United Japan China supply and demand a more integral part of (2005) States (2006) (2030) their city plans. Planning for greener urban (2003) energy systems is largely about finding syner- gies between different energy users in urban Source: Fridley and others 2012; Levine and others 2012. areas that can achieve environmental objec- Note: Kilowatt hours per square meter of floor space. tives through the most resource efficient and cost-effective path. Improving energy effi- ciency across the different end-using sectors will account for a larger share of demand. is a top priority, followed by identifying local Increased energy requirements for commer- sources of green energy, “importing” cleaner cial buildings will come mostly from light- sources of energy from outside city borders, ing, plug-in equipment, and central space and mitigating the residual environmental conditioning. impacts from energy use. This approach to An estimated quarter of urban households planning will require dedicated leadership in China rely on coal for their cooking and to establish effective coordination across dif- heating needs, representing an important and ferent departments and jurisdictions accord- at times overlooked source of local exposure ing to specific local circumstances. China is to harmful air pollution, most notably very developing an ever-increasing range of targets fi ne particulates (PM 2.5) (figure 7.27). Coal- for “eco-cities” and “low-carbon cities.” If burning stoves and boilers typically have China’s ambition is to bend its environmen- short stacks and no fi ltering systems. They tal Kuznet’s curve more quickly, then it can are often used in peri-urban areas, where encourage cities to do the same, especially the more capable ones. As China considers a mix of incentives and regulations to make cities FIGURE 7.27 Primary household cooking energy in urban and greener, “green” cities could be recognized, rural areas, 2006 like “top runners” in industrial energy effi- ciency, as those that not only meet their tar- gets but exceed them. Urban While ensuring safe and reliable energy supply, some cities have recently taken a broader view of how they can control their Rural own emissions and environmental footprint by looking at both energy demand and char- acteristics of the energy mix to see what they 0 25 50 75 100 can do to green their overall urban energy Percent systems. Traditional sector plans will con- Electricity Kerosene Coal tinue to be needed—new approaches will Gas Biomass Other always depend on strong and well-managed sectors, but they often neglect looking across Source: World Bank 2013a. sectors. Nearly all urban infrastructure sys- GREEN URBANIZATION 491 tems depend on energy to function—water Urban planners should pay much closer supply, wastewater treatment, solid waste attention to neighborhood-scale planning, management, and, of course, electricity, heat- especially for existing cities. Neighborhoods ing, and cooling. Until recently, city manag- are fundamental building blocks of cities and ers have tended to overlook the links between can be a useful unit of analysis for under- energy end-users, and the ever-growing pos- standing city energy patterns and issues. For sibility for end-users to capture and use waste instance the energy performance of a neigh- energy and generate distributed energy. At the borhood comes from complex interactions of strategic level, a city should encourage coor- several factors, including construction and dinated and reoriented planning for meeting (eventual) demolition of buildings, which specific emission and environmental goals; embody energy over their life cycle; operation this planning would systematically look first of the buildings for heating, cooling, light- to reduce energy consumption as much as ing, and the like; travel needs of residents and possible, then at supply options (prioritizing users of the neighborhood; and the ability of clean energy resources), and then to manag- the neighborhood to produce on-site clean ing residual emissions from the remaining use energy, offsetting the need to import it from of fossil fuels. As this coordination matures, outside its boundary. A joint MIT, Univer- planning methods integrating various energy sity of Shandong, and Normal University of sources can be introduced, including energy Beijing study compared 27 different neigh- efficiency (box 7.9). As China’s power sector borhoods in Jinan city, taking into account planning process evolves, energy efficiency embedded, operational, and transportation- should be considered as a resource that is related energy consumption (MIT-Tsinghua- compared with conventional generation to EF 2011). The study showed significant dif- develop a least-cost plan for meeting demand ferences among different neighborhood forms (RAP 2013). The national plan would need and demonstrated that high-rise superblock coordination with and support from provin- forms consume up to twice as much energy as cial and national energy planning processes. other neighborhoods (figure 7.28). Analyses BOX 7.9 “Energy efficiency utility”: Efficiency Vermont, United States Efficiency Vermont was the fi rst “energy effi ciency savings delivered and other performance indica- utility” in the United States and provides a good tors. The better the corporation performs, the more example of how local governments can structure a compensation it receives (up to a ceiling set by the results-focused model using a third-party entity to state government). Energy savings are independently package and deliver energy savings. Efficiency Ver- monitored and verified to ensure actual savings are mont is a nonprofit corporation created to provide achieved. Targets and funding may be reviewed and incentives and support to consumers for energy-effi- adjusted every three years, as part of a longer 20-year ciency programs. The corporation is run by a public plan. board that oversees all power utilities; its members Efficiency Vermont has been highly successful are appointed by the Vermont state governor and in meeting and exceeding its goals. In 2011, initia- are subject to legislative confi rmation. It is funded tives fi nanced and supported by Efficiency Vermont through surcharges on consumers’ electricity utility reduced the state’s electricity needs by about 2 per- bills. Some of these funds are used to provide tech- cent, at a cost of 4.3 cents (about RMB 0.28) a kilo- nical assistance for auditing, project development, watt hour—far cheaper than the 12.1 cents it would energy management, and employee training, as well cost to supply a kilowatt hour of electricity. Because as fi nancial incentives to support companies invest- it had a good track record, it now participates in gen- ing in energy efficiency projects. Financial compensa- eration planning by offering predictable load reduc- tion levels for Efficiency Vermont are contingent on tion through its ability to package energy efficiency the corporation meeting specified targets for energy improvements. Source: IIP 2012; Taylor, Trombley, and Reinaud 2012. 492 URBAN CHINA FIGURE 7.28 Energy consumption by neighborhood 140 120 100 1,000 MJ 80 60 40 20 0 Sunshine Lv-Jing Shanghai Dongcang Foshan- Wuying- Yanzi- Commercial Zhang 100 Garden Yuan Tan Shan District Village Superblock Enclave Grid Traditional Operational energy Transport-related energy Embodied energy Source: MIT-Tsinghua-EF 2011. at the neighborhood level such as these could or districts (figure 7.29). A number of ana- start to identify locational priorities within lytic tools exist that can assist local city gov- cities, for instance. Apart from energy, the ernments in applying energy and emissions U.S. Green Building Council has in the past reduction planning principles and setting pri- few years initiated a neighborhood devel- orities (annex 7.2). Using these tools is still a opment sustainability rating system with a stretch for many Chinese cities but could be large number of indicators that aim to define introduced in a number of pilot studies. For and measure what it means to have a green instance, Shanghai (Changning District) and neighborhood.27 Qingdao have used marginal abatement cost Systematic approaches to optimizing curve tools to establish a cost-effective path urban energy systems to meet specific envi- to realizing their carbon emissions reduction ronmental objectives requires rigorous data targets (box 7.10). collection and synthesis. Dense, mixed-use Measures for controlling pollution that neighborhoods, for example, offer oppor- cannot be avoided by reducing energy tunities for emerging approaches such as demand or changing the energy supply mix waste heat recycling (storing excess heat are also essential. Understanding the residual from a factory or office building for use in environmental footprint of energy use will a nearby apartment complex, for example) clarify outcomes of the choices made for and, in larger, dense areas, economies of efficiency and supply. It can help to compare scale for district heating. Yet, densely popu- the costs of greater efficiency or greener sup- lated areas can constrain use of local renew- plies with the costs of end-of-pipe pollution able resources because energy needs may controls. Furthermore, actions to abate local significantly exceed the locally available pollution may have trade-offs that affect renewable energy (Grubler and Fisk 2013). local supplies of recycled waste energy, such Mapping where peak energy demand loads as closing or relocating industry, which are a and potential local resources are located viable source of jobs and income. Land mar- can help city managers and sector planners kets often play a major role in this process. As in identifying the best-suited energy supplies cities become richer, land values in inner city and uses of land for different neighborhoods areas rise, forcing low-value land uses such GREEN URBANIZATION 493 FIGURE 7.29 Mapping London’s electricity demand Source: UK Power Networks in City of London 2011. as heavy industry out of the city. Addition- ing expenses of municipal service providers. ally, emission standards, if enforced, can play Some measures can be done quickly, with- a supplemental role in relocating polluting out waiting for new institutional mechnisms enterprises. While the use of industrial waste or plans. For example, cities can introduce heat for district heating may be an attractive requirements for the use of energy-efficient option, for instance, it cannot be evaluated pumps or efficient street lighting that meet without taking these issues into account. minimum energy performance standards It is especially important to study how and can be implemented through munici- cities organized their many departments to pal investment approval processes or other work in an integrated and systematic man- oversight functions. Spending on electricity ner. Because this systematic approach cuts represents about 18 percent of the costs of across sectors, it does not have a natural con- supplying and treating water in medium to stituency or agency that would “plan” urban large cities in China—slightly better than the energy systems. City mayors have been at the average for municipal water utilities in other forefront of many global initiatives on climate upper-middle-income countries (19 percent) change, and their leadership has been instru- but still higher than the average for utilities mental for green initiatives in their cities. in the upper-income countries (15 percent).28 Cities such as New York (box 7.11), Paris, There are significant disparities between Rotterdam, and Stockholm that have under- urban water utilities in China and room taken systematic planning for low-carbon for improvement among lower performers and green development, which is principally to reach best-practice levels. If wastewater looking at urban energy systems, have all treatment facilities in all Chinese cities could used different tools and institutional arrange- operate as efficiently as they do in Shenzhen ments to meet their specific needs. Based on (figure 7.30), annual electricity use could be local conditions, establishing formal insti- reduced by about 3.1 terawatt hours (TWh), tutional arrangements for this systematic translating into cost savings around RMB approach to energy planning, optimization, 2.4 billion.29 and efficiency in Chinese cities would help Reorienting approaches to optimizing meet energy consumption and pollution urban energy systems involves not only local reduction goals. but also regional and national stakeholders. Even if advanced tools and methods for Cities will need to work actively with energy energy planning are still out of reach for supply companies, and perhaps with neigh- many cities, focusing on efficiency improve- boring municipalities, to promote greater ments in individual urban sectors can bring supply of cleaner energy. This work is impor- substantial benefits. Investments in energy tant not only because cities host the major efficiency can significantly lower the operat- energy consumers in China and can there- 494 URBAN CHINA BOX 7.10 Tools for low-carbon development planning: The experience of Changning District in Shanghai Shanghai City’s Changning District has set out a term targets and policies for reducing CO2 emissions vision to become a leader in low-carbon urban devel- by allowing city leaders to evaluate the abatement opment. To advance its vision, the district teamed potential of a menu of technologies, weigh the cost up with the Shanghai Energy Conservation Supervi- and difficulty of deploying these technologies, and sion Center, the World Bank, and McKinsey & Co. identify priority investments. The results show that in 2010 to develop a marginal CO2 abatement cost Changning District can meet its target of reducing the (MAC) curve for the Hongqiao area, an economic carbon intensity of its economy by 17 percent between hub in the center of the district (figure B7.10.1). The 2010 and 2015 by investing RMB 500 million in a MAC curve study will help the district set medium- basket of easy-to-implement, least-cost technologies. FIGURE B7.10.1 Marginal abatement cost curve for Hongqiao area of Changning District, Shanghai The MAC curve is a powerful tool to visualize abate- ate for larger, relatively sophisticated cities where ment potentials and costs in setting CO2 reduc- data are readily available. By focusing squarely on tions for local city governments, but it does require the technology options, other options such as land a great deal of detailed information on energy use, use planning and behavioral changes are separately technologies, and costs. It may be most appropri- considered. Source: World Bank ESMAP 2013. fore influence supply, but because ambient fi rst exploring options for improving energy air pollution trends in China show that cities efficiency in key energy-using sectors of the are heavily affected by energy consumption urban economy and then identifying priority in surrounding provinces. Policies influenc- actions that can be taken to support shifts in ing clean energy supplied from outside city the energy structure of cities. boundaries also clearly need national lead- ership and support: green urbanization is a Rebalancing markets and mandates to shared responsibility between national and reduce energy use in industry30 local stakeholders. The following sections of this chapter fol- While China has built a comprehensive sys- low the principles of the approach above by tem of regulations, policies, and institutions GREEN URBANIZATION 495 BOX 7.11 New York PlaNYC 2030 case study: Integrated centralized planning relying on decentralized delivery New York City, America’s largest municipality, percent of the city’s total carbon emissions, PlaNYC embarked on a long-term planning process called has kick-started a number ambitious programs and PlaNYC 2030 to devise wide-ranging strategies for policies to improve energy efficiency in the city’s reducing materials and energy use, improving natu- building stock. This buildings effort has two major ral spaces, planning for and mitigating the effects of elements: the promulgation of new laws (together climate change, and creating a more equitable and called the Green, Greater Buildings Plan), and the for- engaged society. Strategies were designed and are mation of the 200-person Green Codes Task Force to being executed by a joint task force, led by a spe- recommend code and other reforms to reduce a num- cially designated mayoral office and comprising 25 ber of environmental impacts of buildings (that is, city departments and stakeholders from state and not just energy use). The green plan requires regular federal agencies, businesses, and nonprofit groups. To energy audits, retro-commissioning, and data shar- strengthen local ownership of the plan, the task force ing for large public and private buildings; lighting has engaged in media outreach efforts and offered upgrades; and submetering of government buildings incentives and support to encourage active participa- and commercial tenant spaces. These measures will tion by local business owners and residents, including cover more than half of the space in 16,000 buildings grant programs and changes in zoning codes intended in the city. To ensure compliance, procedural incen- to create new development opportunities (ICLEI USA tives exempt from retro-commissioning and audits and City of New York 2010). The plan is now in its buildings that adopt measures early or comply with fourth year of implementation. Leadership in Energy and Environmental Design The energy and emissions strategy for PlaNYC (LEED) standards for existing buildings, a revolv- is focused on achieving a goal of reducing city-wide ing retrofit loan fund has been created with federal greenhouse gas emissions by 30 percent in 2030 com- stimulus funds, and the city is forming a large energy pared with 2005. Because buildings account for 75 service company. Source: Adapted from Zhou and Williams 2013. to improve energy efficiency in industries— energy efficiency. Provinces and local city and this system has achieved large reduc- governments play an instrumental role in tions in energy intensity—the ability of the industrial energy efficiency policy. They are system to continue to deliver energy savings on the front lines of implementing policies will depend on how well it can match the and have the most direct contact with enter- growing sophistication and diversity of the prises. They are often the pioneers of new enterprises in it. The current approach has policies, which are piloted locally and later relied heavily on administrative targets and scaled up. regulations. The system can be strengthened The dominance of industry—its contri- by rebalancing administrative measures with bution to GDP, jobs, energy demand, and more market-based approaches to motivate emissions—is a distinguishing feature of enterprises to plan, manage, and implement Chinese cities. In 2010, the secondary sec- energy efficiency measures as a part of their tor (composed of industry and construction) own business self-interest. produced 49 percent of economic output and Two broad areas where the national gov- 48 percent of jobs in China’s urban areas.31 ernment and cities can focus their efforts are Even with a structural shift toward services, rebalancing the current mix of incentives industry is expected to remain a mainstay toward the increased use of market-based of China’s urban economy for decades to tools, backed by ambitious regulations and come.32 It will also likely continue to be the targets; and enabling companies, through largest end user of energy (Fridley and oth- supporting policies, to improve access to ers 2012; Zhou and others 2011) and a major suitable technical and fi nancial services for contributor to local air pollution. Reining 496 URBAN CHINA FIGURE 7.30 Energy use per unit of water treated by municipal industrial commodities over the next 10–20 water utilities, various years years will start to unmask these inefficien- cies, putting greater pressure on inefficient fi rms in energy-intensive subsectors such as Zhuhai (c2008) iron and steel, cement, and aluminum (Frid- Mysore, India (2008) ley and others 2012; Zhou and others 2011). Tokyo, Japan (2008) Firms will have fewer opportunities to grow Quezon City, the Philippines (2009) out of their inefficiencies by increasing pro- Vijayawada, India (2008) duction capacity. The ability to capture cost savings from energy efficiency can contribute Northwest China (2006) to competitive advantages. Pune, India (2008) China’s 11th Five-Year Plan produced Northeast China (2006) solid results of a reported 19.1 percent reduc- Johannesburg, South Africa (2008) tion in energy intensity (NDRC 2011), but Southwest China (2006) perhaps more importantly, it laid the founda- Danang, Vietnam (2010) tion of policies and programs for long-term Toronto, Canada (2008) energy savings: a legal and regulatory system China average (2009) with energy conservation offices or groups and supervisory offices set up at provincial Hong Kong SAR, China (2008) and most prefecture levels of government. Central China (2006) Cities acquired considerable experience with Hohot, Mongolia (2010) the design and implementation of major East China (2006) programs. When planning low-carbon and Sydney, Australia(2009) energy-efficient programs, cities can tap these South China (2006) lessons and help to introduce improvements Shenzhen (c2008) and innovations. China’s 12th Five-Year Plan expanded and improved the programs, and, Gaziantep, Turkey (2010) while there are serious efforts to introduce Banja Luka, Bosnia and Herzegovina (2011) more market-based tools and mechanisms, Belgrade, Serbia (2009) delivery largely continues to depend on this, 0 0.20 0.40 0.60 0.70 still relatively new, administrative system. kWh per m3 While this system and its suite of evolv- Chinese cities International cities ing policies and programs will serve China well into the future, many policy makers and energy efficiency experts are asking whether Source: International city data from World Bank ESMAP TRACE database; China data from Wang, Song, and Bai 2013; Liu and Jiang 2012; Yang and others 2008; and Zhao and others enterprises and local city governments are 2010. fully seizing energy efficiency opportunities Note: Chinese city data includes electricity use only, which typically represents 60–90 percent of total energy use by wastewater treatment plants in China (Liu and Jiang 2012); under the current mix of regulations, incen- international city data includes total energy use, in kilowatt hour equivalents. tives, and financing options. Both enterprises and local city governments face challenges. Enterprises are offered little flexibility in in industrial energy consumption is crucial meeting government-mandated targets for to the resource security and environment of energy savings, which may be poorly matched Chinese cities. to actual company potentials—leading to Reducing energy needs will also be a key a passive mentality and little effort beyond element in the competitiveness of industry. In meeting minimum requirements. A lack some sectors such as cement, China’s lead- of high-quality energy audits and accurate ing firms are nearing or have already reached benchmarking has limited the ability of enter- best-practice levels for energy efficiency, but prises to identify realistic or cost-effective behind these leaders is a long tail of much efficiency improvements (see Yang 2010, for more inefficient plants. Projected lower rates example). Flexibility in meeting targets has of growth in fixed assets and demand for been limited by the hard timetable set for GREEN URBANIZATION 497 enterprises to achieve a certain level of sav- energy use. Still, these programs need to be ings each year during the 12th Five-Year strengthened to ensure that they continue Plan. While hard and binding targets do to deliver results in the 13th Five-Year Plan spur action, there are limitations if compli- and beyond. Key issues are maintaining the ance is too prescriptive. Tight political time- coverage, ambitiousness, and motivational tables may conflict with longer-term busi- power of the agreements while also introduc- ness planning by enterprises and narrow the ing greater flexibility for enterprises in meet- scale of energy efficiency investments. Local ing their targets. city governments, meanwhile, often lack the At the national level, the government technical expertise and experience required should continue to set ambitious targets for for monitoring and reviewing energy use by limiting energy use. In principle, useful tar- industries and may not be able to effectively gets for limiting energy use could be denomi- shoulder the burden of enforcing policies and nated in total energy, coal, or carbon. While targets. each kind of target has pros and cons associ- A more balanced mix of incentives and ated with it, the key issue will be to ensure supporting measures for industrial energy that these targets are coordinated in order efficiency can help relieve constraints on to avoid policy dilution or loss of regulatory enterprises and local city governments in pur- coverage. Box 7.12 illustrates how obligations suing energy efficiency improvements. With to reduce energy intensity might interact with the right combination of incentives and sup- a cap on carbon emissions under an emissions porting programs, enterprises may become trading system. Both kinds of obligations, in more proactive, lightening the administrative addition to renewable energy targets, can and burden on local city governments of meet- do co-exist in the United Kingdom and other ing policy objectives. Local city governments European countries, but interactions between meanwhile can play an important but more overlapping targets must be assessed care- indirect role in helping enterprises do better fully. New targets to limit carbon emissions by facilitating access to technical and fi nan- and energy use should build on the current cial services, monitoring the process, and energy-savings agreement platform as much supervising results. as possible to ease the burden of compliance for both industry and local city governments. While maintaining coverage and ambi- Rebalancing administrative measures with tiousness of targets, the national govern- greater use of market-based incentives ment can give enterprises more flexibility The government-enterprise agreements that in meeting targets for energy use by allow- set mandatory energy savings targets for ing for trade, giving enterprises the option enterprises and establish the mutual respon- of purchasing energy savings certificates sibility of the government and enterprises in (or carbon abatement credits if the ETS is fulfi lling these targets are a cornerstone of implemented) as an additional way for them China’s industrial energy efficiency policies to meet their targets at lowest cost. A num- and should continue. An extensive institu- ber of provinces and cities are already pilot- tional infrastructure has been built up at ing trading schemes for carbon emissions, all levels of government to implement the and a few exchanges have been established. agreements, with the provinces playing a Other provinces and cities outside the car- lead organizing role and local city govern- bon ETS pilot areas could initiate pilots in ments assuming responsibility for day-to-day trading energy savings certificates to build supervision.33 The agreements delivered huge the experience and institutional architecture energy savings in the 11th Five-Year Plan, needed for larger-scale trading. These differ- and savings targets have been ramped up ent pilot schemes would provide the national for the 12th Five-Year Plan. Nearly 17,000 debate with valuable experience on various enterprises are now covered by agreements policy options for decarbonizing the econ- under national and local programs, repre- omy, which include carbon cap and trade, senting as much as 60 percent of China’s total carbon taxes, and green and white certificate 498 URBAN CHINA BOX 7.12 Maintaining coverage of energy efficiency obligations under the current system with the introduction of a new system of carbon emissions trading In linking a nationwide carbon emission trading of the carbon cap, allowance prices, and the ability system (ETS) with the current system of energy sav- of power suppliers to pass on costs to consumers in ings agreements, two of the key design questions the form of higher prices. If power utilities are not for policy makers will be what facilities will be cov- able to raise the price of electricity, caps are not tight ered by the two systems and whether a cap will be enough, and carbon allowance prices are too low, imposed on Scope 1 (direct greenhouse gas emis- then the incentives for industry to save energy could sions) or Scope 2 (broadly, indirect greenhouse gas be severely weakened. Tightening the cap and allow- emissions from the consumption of electricity, heat, ing power utilities to raise tariffs would not neces- or steam) emissions. Energy savings agreement obli- sarily solve the problem of incentives. Absent other gations under the 12th Five-Year Plan cover around reforms, the revenues of power generators and grid 17,000 industrial enterprises, which together account utilities would continue to be linked with sales of elec- for about 85 percent of industrial energy use or 60 tricity and investments in expanding capacity. Thus, percent of China’s total energy use (NDRC 2012). If, while power utilities would have an incentive to sup- hypothetically, the energy savings agreements were ply cleaner electricity—and to charge more for that replaced with a carbon ETS for which allowances electricity—they would have little motive to reduce are issued based on Scope I emissions, as is the case demand by industry. Also, despite facing higher in the European Union, direct coverage of industrial energy prices, industries may not invest in energy effi- energy use would be reduced by about 25 percent. ciency without other incentives and enabling policies. The remaining obligations would be shifted to elec- Should the accounting method change and include tricity generators. Scope 2 emissions, however, then the coverage could The effect on industrial energy efficiency would remain largely the same and incentives in place for depend on several factors, including the stringency industry to reduce energy demand. Source: Robert Taylor. trading. However tradable certificates are and broadening the currently narrow base of denominated—whether in carbon or energy companies in the MRV system. In addition, savings—a national system of trading will fi xed asset investment appraisals for energy require an extensive institutional infrastruc- efficiency have been introduced and could ture to monitor, verify, report, and register play a more prominent role, with enhanced savings. appraisal capacity from use of qualified third New targets should build on the current parties, in ensuring new investments are energy-savings agreement platform as much technically advanced, meet standards, and as possible to ease the burden of compli- are energy efficient. ance for both industry and local city govern- Adjusting fuel and electricity tariffs to ments. Local city governments should con- better reflect social and environmental costs tinue to join national and provincial efforts of fossil fuel use should continue. Rais- to improve the collection of data on energy ing prices on energy can provide additional use by key enterprises and building third- market incentives for industries to improve party capacity for monitoring and verifica- their energy efficiency. China’s national and tion (MRV). This system can also support provincial governments are in the process of potential trading schemes. Greater use of reforming existing taxes on the production third-party MRV could also help to allevi- of fossil fuels including coal, oil, and natural ate supervision burdens on local governments gas. Proposals for a revised coal tax suggest a and help verify energy savings for projects rate of 2–5 percent, which, based on average receiving government support. China has coal prices in 2012, would amount to about taken steps in this area but could enhance it RMB 10–25 a ton. 34 By comparison, eco- by standardizing qualification requirements nomic studies have placed the average dam- GREEN URBANIZATION 499 ages to public health from burning one ton Pricing will need to be packaged with other of coal in China at about RMB 156 (in year policies that address persistent barriers to 2012 prices) (Nielsen and Ho 2007; Ho and energy efficiency. The barriers include orga- Jorgensen 2003). China will need to conclude nizational challenges (such as low awareness its debate over the effectiveness and transac- of technical solutions or managerial bias in tion costs associated with ETS and carbon favor of investments in production growth); taxes and introduce a clear and consistent insufficiently developed financial services policy on carbon pricing so that businesses for energy efficiency investments (because can plan for it. of high transaction costs and small scale, Revenues from energy taxes or the sale for example); and regulatory shortcomings of tradable allowances could be recycled for (such as inflexible or prescriptive compli- energy efficiency and emission reduction ance requirements that limit ambitions to go programs to provide additional, targeted beyond government mandates). incentives. Recycling revenues can have a A basic element of enhancing the ability of tremendous multiplier effect on efficiency industrial enterprises to pursue energy effi- gains. For example, an analysis of household ciency projects is ramping up their ability to energy use in the United Kingdom shows manage their energy use through accelerated that recycling the additional revenues from a placement of competent enterprise energy 3-percent rise in energy prices into efficiency managers. Energy managers can also support programs produces cumulative energy sav- government-enterprise dialogue on comply- ings nine times greater than the savings that ing with energy efficiency policy. National could be achieved with a price increase alone regulations already require that key energy- (Lees 2012). The recycling approach has been consuming enterprises appoint energy man- an important element in policy discussions agers, but in-house staff in these companies and design in major carbon ETS examples typically only have general knowledge about in the northeast United States, California, monitoring energy use and assessing savings and the European Union. 35 Regardless of opportunities. Local governments can greatly how public revenues are recycled, govern- improve specialized, technical knowledge of ment-funded incentives for energy efficiency energy managers by cooperating with pro- should be evaluated regularly to ensure that vincial and national agencies to arrange for the greatest amount of additional and verifi- rigorous training, helping to monitor energy able energy savings are being achieved with manager proficiency by ensuring they meet the least amount of public money. The need minimum job and professional criteria, for periodic review and adjustment is also among other things. Energy managers are needed for existing incentives, such as invest- responsible for establishing energy manage- ment awards for energy efficiency projects ment systems (EnMS);36 The government has and tax rebates for buying energy-efficient required key enterprises to adopt these sys- equipment. tems based on a national standard, but left it up to the individual provinces to decide whether certification of EnMS should be Enable companies to respond more easily to mandatory. To avoid superficial EnMS adop- incentives and regulations tion, EnMS certification and accreditation Evidence has shown that higher energy standards should continue to be developed prices have significantly reduced the energy at the national level, drawing on local expe- intensity of Chinese manufacturing, but the riences such as an EnMS certification pilot impacts of higher prices vary considerably with over 130 enterprises in Shandong prov- across consumer categories and between ince (Zhu 2012). 37 Local authorities could industrial sectors (Fisher-Vanden and oth- continue to propagate the EnMS concept, ers 2013; Lin and Liu 2011). Raising energy experience exchanges among enterprises, prices to capture the social costs of pollu- mobilize technical assistance, and evaluate tion alone will not always result in indus- and publicize energy savings performance tries making investments in energy savings. outcomes from adoption of the EnMS. 500 URBAN CHINA Ensuring good-quality, competitive techni- experimentation, testing new delivery models cal and financial services is also an enabling that maximize cost-effective energy savings factor in which all levels of government play from public investments such as energy effi- a role. Most enterprises, especially small and ciency utilities and energy efficiency resource medium ones, cannot easily access all needed acquisition programs, like those in the United services alone—from energy audits to devel- States. In North America, for instance, local oping, financing, and executing projects. governments in about 30 states and prov- Te energy efficiency services industry has inces have through regulation effectively con- grown, especially the use of energy savings tracted for electricity distribution utilities or performance contracting promoted by energy specialized third-party companies to deliver service companies (ESCOs) (Sun, Zhu, and specific amounts of verified energy savings in Taylor 2011). However, the capacity of tech- key subsectors or targeted locations. Use of nical service providers still lags behind the qualified third parties eases the local govern- practical needs of many enterprises. For most ment’s direct burden because the company fi nancial institutions operating in the mar- is responsible for pursuing and delivering ket, energy efficiency fi nancing is at best a energy savings and receives compensation niche business. National policy encourage- against verified performance benchmarks. ment, from the China Banking Regulatory The company has incentives to seek out the Commission, for example, would be use- maximum amount of energy savings for the ful to further motivate Chinese banks to be least use of public funds. Over time, third- more active and create and use appropriate party companies typically become more new, innovative financial products. A greater adept at delivering more savings at lower diversity of fi nancing mechanisms needs to costs as programs grow, experience is gained, be available to industries with different finan- and market knowledge of end users is deep- cial circumstances, such as financial leasing, ened (see, for example, box 7.9). Such a pro- equity, and use of off-balance-sheet energy gram could be piloted in China is through performance contract financing from ESCOs. the national Demand Side Management Pilot Local city and provincial governments can Cities program, which allows utilities and cit- support the development of locally active ies to experiment with new models for reduc- service companies by procuring technical ing power loads. services for supervision of energy efficiency programs, fostering membership in regional Leading by doing: Serving the people in and local associations, issuing guidance on more efficient and cleaner buildings common energy efficiency service standards, and facilitating information flow between To achieve deeper and more rapid reductions enterprises demanding and supplying ser- in energy consumption in new and existing vices. Among the many forms of support at buildings, a core task for China’s national national levels, strengthening energy audits and local governments is to harness the busi- by standardizing the procedures and provid- ness interests of building developers, materi- ing good tools and training programs is a top als and equipment suppliers, investors, and priority because good-quality energy audits owners to construct and maintain a greener are fundamental to realizing opportunities built environment. For new buildings, spatial and developing new projects. The key is to planning rules, mandatory building energy help the service industry grow without over- efficiency codes (BEECs), green building regulating and stifling it. labels, and financial incentives need aligning. Encouraging the innovation of new busi- BEECs should be broadened to encompass ness models for promoting energy efficiency the main design elements of energy usage, can help both industry and local city gov- and clear, time-bound targets should be set ernments, particularly in the use of special- to progressively raise standards. Better train- ized third-party companies to package and ing, technical services, and market awareness deliver their energy savings projects (Taylor of green building designs and materials are 2013). Larger cities can be leaders in policy needed across the entire supply chain. For GREEN URBANIZATION 501 efficiency upgrades of existing buildings, a target for increasing the share of certified benchmarking can inform mandatory retrofit green buildings in new construction to 30 policies supported with incentives. Reducing percent (State Council 2013). Policies to meet exposure to indoor air pollutants will need these goals include mandatory standards, consistent building material standards and voluntary rating systems and labels, and tighter enforcement (see box 7.13). Local gov- fi nancial incentives for investing in greener, ernments should lead by example, promoting more energy-efficient buildings and appli- energy efficiency in public institutions and ances. Still, barriers remain. Even though helping to build a market for technical ser- many design techniques and technologies to vice providers, such as ESCOs—especially in achieve significantly higher energy efficiency still underdeveloped parts of China. in buildings have already been commercial- Buildings, where people live and work, ized, market incentives for building develop- are critically linked to the environmental ers to adopt green building features are weak. sustainability of cities, primarily because of Developers typically do not operate the build- their operational energy use and, in China’s ings they construct and may not see a direct case, the large-scale construction of new benefit in reducing energy costs for owners buildings. The staggering pace of new build- and tenants. Some reports suggest payback ing construction over the past two decades periods of up to 10 years for the incremen- has transformed China’s urban landscape tal cost of building to green standards. Con- and deepened its energy footprint. Total ventional design practices rarely use reliable floor space of residential and commercial energy simulation modeling, design profes- buildings in China’s cities has increased five- sionals lack expertise and experience with fold since 1995 to 33.3 billion square meters integrated design approaches, and there are in 2011. As a result, energy resource use few published green building performance has doubled over the past decade for space data for monitoring and evaluation (China heating and cooling, lighting, hot water, Greentech Initiative 2012). With uninspired appliances, and equipment in residential, developers, local city governments continue commercial, and public buildings in cit- to struggle to monitor BEEC compliance at ies, reaching about 491 million tons of coal the torrid pace and massive scale of new con- equivalent, or 14 percent of the nation’s total struction. More expensive retrofits may be primary energy demand (THUBERC 2013) required in the future to meet national tar- (figure 7.31). This figure does not take into gets for curbing energy use in buildings. account the amount of embodied energy used in the manufacturing of building mate- Building energy efficiency in new construction rials and appliances of building users. From an urban perspective, the operation of build- Mandatory building codes will continue ings dominates urban energy consumption in to be the fundamental policy lever for the modern, service-oriented cities. For example, national and local governments to enforce buildings account for roughly 60–70 percent higher efficiency levels in new buildings. of overall final energy consumption in Hong However, BEECs can be strengthened and Kong SAR, China, and London. Energy con- better aligned with fi nancial incentives and sumption is likely to be similar in the urban voluntary labeling programs to promote core of large Chinese cities (such as within ongoing improvements in environmental per- the fifth ring road of Beijing). formance. Cities have the power, particularly China has set ambitious goals and put through land use planning and zoning, to in place a comprehensive policy framework facilitate more energy efficient and greener for improving energy efficiency and environ- structures (box 7.14). mental performance of buildings. By 2015, Clear, time-bound targets should be set the country plans to reduce energy use in for tightening design standards for energy buildings each year by 45 million tons of efficiency to eventually require “low-energy” coal equivalent (MOHURD 2012), and by buildings. In the Chinese context, low-energy 2020, national authorities have established buildings could be clearly defi ned in terms 502 URBAN CHINA BOX 7.13 Cleaning the air indoors: The other air pollution As the rapid pace of construction has transformed tile organic compounds (VOCs). Medical studies in the urban landscape, the indoor environment of China suggest a possible link between birth defects buildings over the past 20 years has also undergone and asthma in children in urban areas and increased transformational changes. Increased use of plastics, exposure to organic pollutants and dust in the indoor polymeric floor and wall coverings, synthetic wood air. In China, indoor concentrations of known harm- products and cleaning agents, and air conditioning ful substances are typically higher than in other coun- in closed spaces have significantly increased peo- tries, so researchers anticipate that the negative health ple’s exposure to indoor air pollutants such as vola- effects are greater (Zhang, Mo, and Weschler 2013). FIGURE B7.13.1 Concentrations of formaldehyde and benzene concentrations in buildings a. Concentrations of formaldehyde in the air b. Concentrations of benzene in the air inside residential buildings in various cities of buildings in various regions Uppsala, Sweden Finland Boras, Sweden WHO Goteborg, Sweden recommended indoor Japan Nagoya, Japan Limit 0.08 ppm Shimizu, Japan (winter) Hong Kong SAR, China Shimizu, Japan (summer) New York City, United States (winter) Central Europe New York City, United States (summer) Los Angeles, United States Milan, Italy Mexico City, Mexico Ferrara, Italy Turkey Paris, France Quebec, Canada Korea, Rep. Prince Edward Island, Canada Cairo, Egypt Singapore Tianjin, China Beijing, China (winter) Guangzhou, China Beijing, China (summer) 0 0.10 0.20 0.30 0.40 0 10 20 30 40 50 60 Indoor formaldehyde levels Indoor concentrations of benzene (ppm) (μg/m3) Source: Liu and others 2012. Note: The World Health Organization does not have a guideline standard for benzene because “no safe level of exposure can be recommended” (WHO 2010). China has issued several standards establishing improved. For example, exposure periods and allowable concentrations of VOCs and other allowable levels for VOCs in building design and harmful substances. Systematic monitoring acceptance standards are not the same (Huang in individual buildings is much more difficult and Wang 2010). In addition, China has intro- than monitoring ambient air quality outdoors, duced mandatory certification requirements for because individual sources of pollution are building materials (standards CNCA-12C-049, harder to identify and the regulatory frame- CNCA-12C-050, and CNCA-12C-051), but cer- work for enforcing many standards is lacking. tification is limited. Other common materials are Consistency between standards must also be exempt. See figure B7.13.1. Source: Huang and Wang 2010; Li 2010; Liu and others 2012; Zhang and others 2013. GREEN URBANIZATION 503 FIGURE 7.31 Primary energy consumption in ing for BEECs to be raised progressively. China by end use in residential and commercial Both the European Union and the United buildings, 2010 States have set time-bound policy goals for new buildings to achieve low-energy build- 46 ing status. by the end of 2020, new buildings Tons of coal equivalent (millions) 26 in EU member countries will have to achieve nearly zero-energy building status. This type 35 of long-term signaling can also have a strong 124 37 influence on infrastructure planning in cities. 75 For example, dramatically reduced heating 37 loads may make district heating in some less 22 31 densely populated, peri-urban areas uneco- 89 71 nomic or require a higher degree of innova- tion in heating supply. Residential Commercial National BEECs should also be updated Other Lighting regularly on the basis of robust, whole-build- Cooking Central cooling ing life-cycle cost analysis, and they should be Appliances and equipment Space heating expanded gradually to include green building Hot water design elements like waste and material use. A three- to five-year cycle is appropriate to Source: Fridley and others 2012. keep pace with the changing technologies and Note: Includes both urban and rural buildings, measured in million tons of coal equivalent. economics of energy efficiency improvement. A fi xed cycle of revisions also improves the alignment of BEEC updates with the time- of maximum allowable design loads (that is, bound energy efficiency target. Underpinning energy requirements for space conditioning, the revision of BEECs with life-cycle cost lighting, and ventilation), achievable cost- analysis would help to determine the most effectively through a broad range of tech- cost-effective improvements to the codes. To niques for different climate zones. The targets this end, greater and more transparent use would provide a clearer signal to investors of building energy simulations are needed and direct the building market toward real- to help evaluate alternative building design izing longer-term targets for efficiency, allow- approaches. BEEC design-based energy sav- BOX 7.14 Münster, Germany: Low-energy building standards through sale of city-owned land By mandating low-energy building standards in sales 80 percent of all new buildings—even those not built contracts of city-owned land, the City of Münster on city-owned land—were following the city’s energy in Germany encouraged the local real estate market efficiency requirements. The standard has saved the to embrace energy efficiency. The standard, locally city 13 million kilowatt hours in annual energy use. known as Niedrig Energie Haus, imposes stringent The benefit-cost ratio to the city was more than 6 to thermal performance requirements for any building 1 and the estimated incremental cost to homeowners envelope that exceeds the existing German federal was, on average, about €2,600 a house (about 1.4 per- building regulations by 30 percent. Between 1997 and cent of construction costs). Riding the momentum of 2010, the standard was implemented in constructing positive market reactions, Münster’s City Council has over 5,600 low-energy housing units and 85 energy- since proposed a passive house standard to raise the efficient commercial buildings in the city. By 2010, bar for efficiency even higher. Source: Energy Sector Management Assistance Program, World Bank, http://www.esmap.org/node/1170. 504 URBAN CHINA ings estimates can have “simulation gaps” quate training is provided for the construc- because conventional design practices do not tion trades in county cities, which are admin- necessarily use energy simulation models. istrative subordinates of the prefecture cities. As discussed, revisions to urban spatial Local governments can also play an planning regulations are needed to create instrumental role in encouraging broader urban forms that optimize the overall energy market uptake of voluntary building label- efficiency of the built environment. Over the ing programs, including the three-star Green past thirty years, China has created an urban Building Evaluation Standard (GBES) and the fabric where buildings stand farther apart five-star Building Energy Efficiency Labeling from each other, creating a broken urban (BEEL) systems. Currently under revision, “fabric.” In cold climate zones, this broken the GBES was established by MOHURD in pattern leads to higher energy requirements 2007 and covers a broader scope, and is more for heating than a continuous urban fabric stringent, than the national BEECs. 39 Both consisting of buildings clustered together the GBES and BEEL are in an early phase of along the perimeter of street blocks. A com- market adoption, although they are required parative analysis done in Europe found that for all large commercial buildings and pub- in a temperate climate, in a 1.44 square kilo- lic offices with an area greater than 20,000 meter area, a continuous urban fabric con- square meters. By the end of 2012, just under sisting of 21-meter-high buildings requires 800 buildings had received green labels, and four times less energy for heating than a bro- fewer than 300 BEEL buildings had been cer- ken urban fabric consisting of 60-meter-high, tified. Although national and local authori- freestanding towers (Salat 2012). In warmer ties are setting hard targets for new buildings climates, buildings in densely populated to meet green standards, at this early stage, urban areas can be spatially organized to cre- the profusion of multiple, overlapping rules ate better ventilation and shading and reduce and ratings can create confusion in the mar- air conditioning requirements. ket (Levine and others 2012). A main task for provincial and city gov- Compliance with more aggressive BEECs ernments will be to improve enforcement of and uptake of voluntary rating systems for BEECs throughout the entire construction green building can be improved through a cycle to reduce the risk that buildings will not more strategic alignment of fi nancial incen- be in compliance when they are completed, tives with policy goals. Existing financial when they can be costly and difficult to fi x. incentives for new buildings have mainly Local city authorities also play a crucial role focused on integrated renewable energy in piloting and implementing new standards systems, including rooftop solar photovol- and are directly responsible for ensuring taic capacity and solar hot water systems— compliance. According to MOHURD’s offi- although in 2012, new incentives of RMB cially reported statistics, at the design stage, 45–80 per square meter were announced for compliance rates with BEECs in prefecture- buildings achieving two- or three-star GBEL level cities rose from 5 percent in 2001 to a ratings. Given the speed and scale of desired reported 99.5 percent in 2010 (Levine and market adoption for new green building stan- others 2012).38 Yet, especially at the county dards, additional incentives and support, level, there is significant gap between large such as preferential tax treatment and assis- and small cities in BEEC compliance during tance in completing the certification process, implementation. In China’s third-party com- are needed. Perhaps most important, public pliance enforcement system, the construction incentive programs should seek ways of lever- supervision companies are held accountable aging financial awards with improving access for BEEC compliance inspection and report- to commercial financing and project services. ing. Small cities often do not have sufficient (Levine and others 2012). Piloting coordi- resources to support the necessary govern- nated fi nancing incentives with mandatory ment oversight of the third-party inspections. building codes and voluntary ratings can test Such issues could be collectively addressed at such an approach, as in Singapore’s Green the prefecture or province level, so that ade- Mark scheme (box 7.15). GREEN URBANIZATION 505 BOX 7.15 Singapore’s Green Mark scheme Singapore’s Green Mark scheme, run by the Build- ity building and as a measure for determining gov- ing Construction Authority, was launched in Janu- ernment financial incentives for new constructions or ary 2005 with a strong focus on energy efficiency. It retrofits. By purposely integrating mandatory require- provides a meaningful differentiation of buildings in ments, voluntary ratings, and financial incentives for the real estate market and has had a positive effect on high achievers under a strategic plan for scaling up the industry’s corporate image and on the leasing and green buildings, Singapore demonstrates an effec- resale value of buildings. tive way for transforming the building sector toward The distinctive aspect of the Green Mark scheme green and sustained energy efficiency improvement. is that it is used to support the government’s green building master plan as the basis for technical capac- Source: Building and Construction Authority, Singapore, “About BCA Green Mark Scheme,” http://www.bca.gov.sg /greenmark/green_mark_buildings.html (accessed December 2014). In accelerating adoption of green building governments. Flexible, holistic approaches standards and given the high variability in to applying green design standards aimed at capacities in design, supervision, and inspec- reducing the overall energy footprint of build- tion of buildings nationally, China will need ings can be further piloted in those cities that a large-scale training and knowledge build- already possess a high level of competence ing effort across the entire supply chain. The and experience. Finally, as a part of knowl- concept of green buildings is rooted in an edge-building efforts, the national and local integrated approach to design, encompassing governments should also work with industry not just energy efficiency but also other envi- associations and stakeholders to expand the ronmental objectives, which may clash with scope, increase the credibility, and improve traditional zoning regulations and overly pre- market awareness of green building materials scriptive building codes. For instance, local labeling. Developers interviewed have cited design institutes may be more accustomed lack of credible information on materials and to traditional urban planning and building suppliers as one of the main barriers to green design approaches or may be concerned about building (China Greentech Initiative 2012). transgressing codes and regulations. With the ambitious pace at which national and local Building energy efficiency in existing buildings governments are seeking to increase the share of green buildings in cities, there is a risk of Focusing on efficiency in new buildings is “green washing”—the superficial and incom- not enough. Most buildings of pre-2005 vin- plete application or standards (Draugelis and tage were constructed without accompanying Li 2012, 186). The success of the U.S. Green BEECs. Especially in cold regions, upgrades Building Council in promoting the LEED of existing residential and commercial build- (Leadership in Energy and Environmental ings will be critical for meeting targets for Design) standard in the United States, for reducing building energy use. The govern- example, is owed in large part to its efforts to ment has initiated a large thermo retrofit reach out to all parts of the building commu- program in northern China with significant nity, including developers, property manag- subsidy support (15 to 20 percent of retrofit ers, materials suppliers, architects, and engi- cost). During the 11th Five-Year Plan, 150 neers.40 An accreditation system similar to million square meters of residential buildings the LEED Accredited Professionals program in cold and severe cold region were report- could gradually increase the pool of qualified edly retrofitted. In the 12th Five-Year Plan, professionals in China. Training will also be an additional 400 million square meters of needed for buildings authorities in local city residential thermal retrofit is planned for 506 URBAN CHINA this region. Yet, these buildings only account contributions. Energy audits needed to be for a small fraction of the pre-2005 urban translated into clear investment proposals residential building stock in the region (esti- and communicated in ways occupants could mated at about 5 billion square meters). understand. While there are some standard The main challenges to pursuing efficiency approaches, a degree of customization in upgrades in existing buildings are less tech- technical measures and fi nancing is usually nical and more financial and organizational. required. Buildings with similar types, uses, Home and property owners need both incen- and vintages might have significant structural tives and effective local organization to stim- and operational differences—and owners ulate interest in retrofitting. For instance, and occupants might have different prefer- the current practice of flat fees or area-based ences and financing capacities. It is advisable billing for heating does not give residents to introduce a degree of flexibility in govern- incentive to save energy on space condition- ment support programs that set clear metrics ing. Implementing consumption-based bill- for energy consumption reductions but allow ing for heating in the northern provinces for greater customization to reflect local would allow homeowners to gain fi nancial building conditions. benefits from energy cost savings, while For commercial buildings, building opera- retrofits would increase comfort levels for tors might not find energy bills sufficiently people living in cold flats. How retrofits and high enough to concern themselves with ret- billing are sequenced matters a great deal. rofits, so additional motivation is needed. Currently, retrofits are typically required Shanghai is experimenting with establishing before consumption-based billing for heat- energy consumption benchmarks that build- ing is begun to avoid saddling owners and ing operators are required to meet, while occupants with high energy bills for poorly extending dedicated lines of credit to support performing buildings that were constructed retrofits. There is ample experience and suc- long ago. However, postretrofit billing low- cessful examples of national loans for build- ers the motivation and interest of consum- ing retrofits in EU countries, providing long- ers. In principle, government subsidies for term, low-interest loans through commercial retrofits can provide incentives, but the level banks for residential retrofits based on a needed to accelerate renovations is likely to standard set of criteria and procedures, some- be very high. Any financial constraints could times combined with additional capital subsi- create an impasse that can slow down both dies for specific energy savings level achieved. consumption-based billing and the retrofits. Several countries in Eastern Europe facing Promoting building energy efficiency in public similar problems in the 1990s started with institutions consumption-based billing fi rst and started various support programs, including lines of Although the largest share of the building credit, to help stimulate homeowner inter- stock in China is privately owned, the public est in renovation. In China, the government sector has a significant role to play in leading could mandate a deadline for implementing the move to buildings that are more energy consumption-based billing after retrofit- efficient.41 Public buildings represent about ting to make the link between retrofits and 6.2 percent of final energy demand in China energy savings clear and it could allow cities and like other end-using sectors are depen- to implement the billing before the retrofits if dent mainly on coal and coal-fi red electric- they choose to do so. ity. Upgrading of existing public buildings To address organizational barriers, many and better construction of ones will have East European countries have promoted ret- an important demonstration effect and will rofits of existing building through vigorous create a larger market for green building public awareness initiatives involving home- products, resulting in lower costs and better owners, condominium associations, build- access to services for private building own- ing managers, and NGOs. Major retrofits ers as well. The benefits of improved energy required homeowner consent and fi nancial efficiency in the public sector make a com- GREEN URBANIZATION 507 pelling case for local city governments to Capital budgets for public institutions lead by doing. The local governments should are hardly ever sufficient in most countries, institute consumption-based district heat- and China is no exception. Continued use of ing metering and billing for all the facilities China’s national- and provincial-level special they own or control, for instance. A precon- funds to cofi nance capital budgets for pub- dition for improving efficiency in the public lic institutions is encouraged. Budget sup- sector is development of technical expertise port for project preparation costs, metering, and clarification of responsibilities for pro- and establishing statistics systems could also moting energy conservation. That will be a be shouldered by general funds to remove major and multiyear undertaking because of further transaction costs. China has just China’s size and diversity in public facilities. embarked on a power utility based demand Among the highest priorities is the establish- side management program that could make ment of good statistics on energy use. Meter- special efforts to target public institutions, as ing is fundamental to energy data collection is done in many countries. Revolving funds and diagnostics but is far from universal. could be managed at local levels to help lever- Better collection of energy use data through age capital budgets and subsidies. Careful online monitoring systems, some already in analysis of these schemes would be needed place, should be supported by better public to avoid crowding out commercial financing, disclosure. where available. The use of awards can harness the natu- Energy service companies offer an oppor- ral interest of local leaders and managers of tunity for public-private partnership schemes public entities for recognition. Award sys- and provide an alternative source of fi nanc- tems require unbiased data on energy use and ing for public institutions. ESCOs in China environmental performance to be publicly have started working in buildings but, unlike available. Rating systems are another way to the ESCO market in the United States, indus- bolster enthusiasm for improving energy sav- trial energy efficiency projects dominate the ings performance, including scorecards such market. The State Council in 2010 issued a as those issued each year to rate the perfor- decree identifying ESCOs as a major market mance of U.S. federal agencies in reducing mechanism for promoting energy efficiency greenhouse gas emissions, energy efficiency, investments. Accelerating penetration of the and water conservation. Piloting the use of public building market will require defi ning publicly disclosed scorecards in a subset of accounting rules for energy savings perfor- institutions, such as municipal office build- mance contracting and for selecting ESCOs ings, would recognize achievements, main- through public procurement procedures, tain accountability, and compel actions to including prequalification criteria public insti- improve their buildings’ performance. Public tutions can use. It will also require strength- facilities could also be allowed to retain the ening measurement and verification to ensure savings from reduced energy use in building efficient use of taxpayer funds. The European retrofits, as laid out under the State Council’s Union and the United States offer examples Order 531 (2008). Detailed local budget and of different ESCO schemes, which local accounting regulations are needed, and some governments could study. For instance, the cities, such as Beijing, have already developed SuperESCO model experience in the United them. Absorbing energy cost savings back States Federal Energy Management Program into general funds is a strong disincentive. provides opportunities to streamline procure- Instead, regulations should explicitly allow ment for energy efficiency retrofits across dif- for various expenditures, including small ferent public institutions. An ESCO could upgrades or new equipment, that directly be competitively selected for a multiyear benefit the facility. Retrofits in schools can performance-based contract and allowed to have multiplier effects when combined with approach departments with investment pro- classroom lessons on energy efficiency and posals without further selection procedures. sustainability that students then share at Some transactions could be subcontracted to home (World Bank 2012b). smaller ESCOs in the local market, further 508 URBAN CHINA facilitating their development. The details are from coal in the near term, cities need to rely complex and need to be studied carefully to more on electricity and renewable sources ensure transparency and efficiency. It is rec- of energy over the long term. Initially, most ommended local governments identify a spe- renewable energy will be produced outside cific unit that can provide technical assistance city limits, which will require the removal of for facilitating use of ESCOs. barriers related to pricing and grid access for commercial renewables and stricter emission controls on thermal power generation. Over Securing clean energy sources time, distributed generation and production No modern cities rely on coal as much as of renewables from municipal sources such Chinese cities still do. Because coal is a major as landfi ll gas, wastewater gas, and munici- contributor to air pollution and CO2 emis- pal solid waste within cities can contribute sions, reducing the use of coal must be a cen- to meeting energy demand where feasible. terpiece of urban energy strategies. Coal use China can adapt the most appropriate mod- can be reduced in cities by expanding access els for regulation, metering, and financing of to piped natural gas, scaling up local pro- small-scale renewable production based on duction of renewable energy, and “import- experience gained elsewhere. ing” from outside city boundaries supplies of Cities around the world have tended to energy that are as clean as possible. Natural gravitate toward cleaner fuels as incomes rise gas is currently limited in China, but domes- and cities develop. In China’s cities, however, tic production and imports are increasing. the transition away from coal has not hap- Given current supply constraints, gas usage pened quickly enough or on a large enough should be prioritized in the residential and scale to keep up with the rapid urban growth commercial sectors, where it can have the and avoid persistently bad air quality. Mil- largest environmental and economic ben- lions of urban dwellers continue to rely on efits. Because cities rely more on electricity dirty fuels for cooking and heating (figure and power generators and large industries 7.32). Although cities are actively taking will rely on coal for some time to come, emis- steps to rein in the most harmful uses of coal sions control standards must continue to (box 7.16), incomplete reforms in the gas, be tightened and enforced in those sectors power, and heating sectors have posed addi- and efficiency improved. While natural gas tional barriers to expanding the market for can be an important fuel to transition away cleaner energy alternatives. Completing these FIGURE 7.32 Access to natural gas in China’s 10 largest cities compared with other cities a. Access to town gas b. Access to LPG c. Annual income 100 100 60 50 80 80 RMB (thousands) % of population % of population 40 60 60 30 40 40 20 20 20 10 0 0 0 1990 2003 2010 1990 2003 2010 1990 2003 2010 China’s 10 Largest cities Other cities Source: NBS 1991b–2011b. GREEN URBANIZATION 509 BOX 7.16 Cities take active measures to reduce harmful burning of coal In Taiyuan, the capital of China’s largest coal- and, since 2012, gas-fi red heating supplies as a part producing province, city officials have been reducing of its plan to reduce severe winter air pollution. Heat- coal use by shutting down small heat-only boilers and ing in Urumqi was estimated to contribute 16 percent expanding the district heating network, supplying of total annual average concentrations of SO2 , and 8 gas to small and medium enterprises, and eliminating percent of PM10 and NOx. Since the 1980s, Beijing direct use of coal for cooking and heating in the city has led the trend in Chinese cities toward increasing center and in peri-urban areas near the city. Begin- the use of natural gas and phasing out direct combus- ning in the early 2000s, Shenyang removed 1,000 tion of coal by small-scale residential and commercial heating plants over the course of three years, reducing consumers. Many large district heating plants in the the number of heating enterprises from 1,062 to 410 city were converted to gas, the most polluting factories (many operating small dispersed boilers) and increas- were relocated, and a coal ban has been enforced in ing the share of centralized heating supply from 55 to the central downtown area. The ban was extended to 80 percent. the fourth ring road by the end of 2013. The city also Urumqi has promoted the use of combined heat recently announced a hard target of capping its total and power plants, larger district heating networks, annual coal consumption at 15 million tons by 2015. Source: World Bank 2012a, 2011a, 2011b; World Bank, Shanxi EPB, and Xinjiang EPB 2012; World Bank–MEP 2012. reforms will be necessary to accelerate efforts for gas-based heating (for example, whether to reduce the burning of coal and improve to supply base load or peak load for district access to cleaner fuels in densely populated heating or distributed generation), taking urban areas. into account potential renewable heat sources and existing sources from combined heat and power and waste heat sources. In distributed Increasing the supply of natural gas to priority systems, natural gas units are able to meet consumers in urban areas multiple demands of cooling, heating, and The potential benefits to urban air quality power, and can reduce the transmission and of expanding access to gas are enormous, conversion losses associated with heat-only but gas supplies are limited, and certain end- systems with lower heat load densities, which using sectors should be given priority to max- is an important consideration as buildings imize social benefits. Highest priority should become more energy efficient. Use of gas for be given to households—as cities worldwide electricity generation and industry, which have done. Once infrastructure for piped currently account for 60 percent of gas use natural gas (or “town gas”) is in place, small nationwide, should be carefully compared commercial users such as stores, hotels, and with the uses outlined above. Nevertheless, restaurants can gain more access to gas. increasing gas supplies to China’s power sec- Replacing coal with natural gas in the house- tor could provide important efficiency ben- hold and commercial sectors is especially efits if used for meeting high peak loads or important because end-of-pipe emissions it could provide additional flexibility to the controls are usually either too expensive or power system, including easier accommoda- not technically feasible. After residential and tion of intermittent renewable electricity sup- commercial users, centralized heating facili- ply (Kahrl and others 2013). ties should be the next priority for supply. A Because residential consumers are a top few cities, such as Beijing and Urumqi, have priority for scaling up natural gas supplies, already converted a large amount of district achieving universal access to piped natu- heating capacity to gas-fired capacity. Supply ral gas for urban households would require constraints make it important for each city the supply of gas to increase from around to evaluate the most efficient configuration 30 billion cubic meters in 2011 to nearly 70 510 URBAN CHINA FIGURE 7.33 Supply of piped gas to urban households needed to other sectors, particularly industry. Beyond achieve universal access to piped gas by 2020 adjusting prices, if China is to increase gas penetration, ultimately it should develop a gas 70 law that creates a competitive gas wholesale market and clearly defines the rights, respon- 60 sibilities, and obligations of operators and 50 government entities. A wholesale competition model could focus on bulk supplies of gas m3 (billions) 40 sold to large industrial customers and urban 30 distribution companies. Prices could be deter- 20 mined by negotiated contracts and competi- tive spot markets; transmission and distribu- 10 tion tariffs could be determined according to 0 a method approved by concerned authorities 2011 2015 2020 2025 2030 and regulated. While creating such a model is a medium-term goal, in the short term, it is Source: Team’s calculations. critical that China allow third-party access to the market. Without third-party access, it will be difficult to increase competition because of billion cubic meters in 2030 (figure 7.33).42 the dominance of the three oil companies in Urban population serviced by piped gas upstream development and transmission. would increase from around 500 million Greater urban access to gas requires more in 2013 to about 850 million in 2020 and investment in distribution networks and reach 960 million in 2030. Total investment storage (especially for dealing with seasonal required between 2014 and 2030 is estimated peaks). In addition to pricing, it will be nec- at RMB 154 billion, including RMB 16 bil- essary to address fi nancing, regulation, and lion in annual investment between 2014 and access to these facilities. Incentives and rea- 2020. The bulk of the investment would be sonable returns should be provided for inves- needed in the 2010s should China decide to tors and operators in domestic and upstream make access to piped natural gas for house- gas supplies, liquefied natural gas cargoes, holds a priority, replacing the use of costlier fuels such as LPG and dirtier fuels such as coal. Up to 75 billion cubic meters would be FIGURE 7.34 Estimated fuel required to supply 65 percent of district heating with natural gas needed to shift about 65 percent of district by 2030 heating to gas (figure 7.34), dramatically reducing the use of coal for heating in north- ern urban areas and resulting in significant 160 Metric tons of coal equivalent economic benefits from reducing local and 140 global pollution. 120 While the available resources of natural 100 gas can be expanded considerably, accom- 80 modating demand by urban users will depend 60 largely on reforms to pricing and market 40 structure. China is piloting pricing schemes 20 that would help address price differentials 0 between domestic and imported gas. Because 2011 2015 2020 2025 2030 imports may meet about 50 percent of Chi- Gas Coal na’s demand for gas in 2020, narrowing this price gap is important.43 Another needed Source: Team’s calculations. pricing reform is to address incentives to Note: Fuel use is estimated based on projections for the expansion of heated floor area in the more than 300 cities currently serviced develop the residential gas market, for which by district heating, assuming continued improvements in the prices are very low compared with those in energy efficiency of buildings and supply units. GREEN URBANIZATION 511 pipelines, terminals, storage facilities, and mittent sources of renewable power. World- distribution networks. Upstream market wide experience demonstrates that this situa- players also must have a reasonable expec- tion can be rectified by structuring two-part tation that price-setting mechanisms will be generation tariffs: one charge for available stable and fair—a task that many developed generating capacity (a capacity charge) and countries have fulfi lled by creating an inde- one charge for kilowatt hours generated (an pendent gas regulatory body. energy charge). The capacity charge would allow generators to maintain their current annual repayments of their investments and Removing barriers to renewable energy in cities fi xed costs, while the energy charge would In addition to maximizing energy efficiency allow them to recover the cost of fuel and and optimizing use of natural gas in cities, other variable costs. Such a reform could be China’s cities can expand use of renewable implemented relatively rapidly and would energy.44 Most cities in the world might be need to be complemented by changes in indifferent to receiving electricity generated dispatching practices (RAP 2013). Second, from renewables or electricity generated from transparent and cost-recovering transmis- fossil fuels, since both are “clean” at the user sion pricing should be implemented to allow end, in China’s case renewable generation has grid companies to recover all costs incurred added value by directly offsetting the amount in safely and reliably delivering power to of electricity that would be generated by coal. consumers, including the additional costs of That can reduce air pollution regionally and accommodating intermittent renewable elec- lower the carbon intensity of the economy. tricity. Without such pricing, grid companies Diversifying urban energy resources by will continue to resist bringing more renew- introducing more renewable-based energy ables online, and curtailment generation has the added benefit of enhancing cit- losses of renewables will become more severe. ies’ energy security through the “portfolio In fact, about 12 percent of wind power gen- effect.” Besides receiving more renewable- erated in the Three-North Region in 2010 based energy produced from beyond city was wasted because of curtailment. Because limits, cities can also increase their share this reform will be based on the future struc- of self-generated renewable production or ture of the power sector, it will need to be distributed forms of energy, where feasible. undertaken in a broader context of electricity Completing power sector reforms that began pricing reform in China. over a decade ago is a top priority for scaling A third action is to consider adjust- up clean energy in cities. In 2002, the State ing incentives to guide wind developers to Council issued Decree No. 5, which out- build closer to load centers (Song and Ber- lined comprehensive power sector reforms to rah 2013). Planning and coordination of introduce fair competition (starting with gen- grid development to accommodate major eration) and develop an open, well-regulated wind developments in resource-rich north- electricity market.45 Although there have ern China will take time and should be sup- been many achievements in the sector, prog- ported by comprehensive studies that would ress has stalled. aim to optimize connection size and connec- China’s government can take four actions tion circuit layout in consultation with stake- to support even greater development of holders. Shifting the focus to central and renewables. As a fi rst step, it can introduce eastern regions could lower overall incremen- a two-part generation tariff. Currently, gen- tal costs of wind power development. The eration tariffs of coal-fi red power plants are fourth action would be to discourage local given based on China’s dispatching approach, governments from imposing additional fees which ensures a certain number of operat- or harmful local sourcing requirements on ing hours for each plant. Coal-fired power wind developers that many have introduced producers may incur losses when dispatch as a result of value added tax reforms and centers ask them to reduce their generating rebates on wind power equipment. At higher to accommodate more wind and other inter- levels of development, VAT from wind gen- 512 URBAN CHINA BOX 7.17 The Beijing Sunshine Schools program: Linking green policy, pedagogy, and people Under the umbrella of China’s national Golden Sun In addition to policy replication, the program Program, Beijing will install 100 megawatts of roof- launched a parallel effort to educate students in top photovoltaic (PV) systems in schools and other the schools about environmental sustainability. It educational institutions in Beijing Municipality. It includes a competition with awards given out by both is the largest such initiative in China to date. Most Beijing and central government officials as well as projects under the Golden Sun Program involve large school administrators. Online monitors showing the PV installations in a single location. By contrast, the amount of renewable energy generated and carbon Sunshine Schools program will involve distributed dioxide avoided are displayed in the schools. Link- PV capacity in about 800 facilities. The capacities of ing faculty, students, and parents with sustainability most systems are expected to range from 50 to 200 initiatives in schools should reinforce green lifestyle kilowatts. The program will test the renewable energy concepts both at school and at home. service company (RESCO) business model for distrib- The World Bank is providing a $100 million loan uted rooftop solar PV systems, whereby investments for the installation of the solar PV systems, as well are fi nanced by the service provider, which also pro- as a grant from the Global Environment Facility to vides maintenance and other after-sale service. The establish online monitoring by the city of the renew- project is also expected to pilot two-way metering able energy generation of the schools and to conduct and net metering for rooftop PV systems. If proven technical studies on grid connection issues. The hope successful, the project would provide valuable experi- is that the Beijing project can be replicated in other ence and demonstration effects for China’s growing Chinese cities developing similar schemes. solar PV market. eration could be higher than pre-reform levels to develop new and appropriate models for (Song and Berrah 2013). advancing commercial renewables in Chinese Additional reforms are needed for regu- cities, such as in the “Sunshine Schools” pro- lating, financing, and metering distributed gram in Beijing (box 7.17). generation of renewable energy in cities. While power sector reforms entail action Worldwide, there is a trend toward consum- at the national level, local city governments ers becoming generators of energy, which is can also take proactive measures to intro- transforming energy markets. In China, too, duce more renewable energy into their sup- solar photovoltaic (PV) capacity has been ply mix. Because most Chinese cities import growing rapidly, but the development of grid- the majority of their energy from outside the connected solar PV has been inhibited by a city, they are dependent on regional sources combination of low retail prices for electricity of supply, which are mostly outside their and prohibitions by grid companies against control. Still, they can leverage their position installing distributed generation systems. in the energy commodity markets as large Recent policy breakthroughs have helped centers of demand to influence the types of break down some of these barriers to distrib- energy they receive. Several options exist for uted generation and should be aggressively cities to “import” more renewable energy by followed through with implementing regula- covering the additional cost for renewable tions. In 2013, the State Grid began provid- energy until parity with traditional energy ing limited grid access to distributed energy, supplies is achieved. One is capacity-based, with support from the State Council, and the where consumers in a city pay a marginal government announced that it would be shift- fee on their utility bills to install a spe- ing from capacity-based subsidies to feed-in cific amount of renewable energy capacity. tariffs (FITs) based on generation. These new Another is energy-based, where consumers initiatives should be complemented by efforts pay a small premium for units of renewable GREEN URBANIZATION 513 energy they purchase (for example, as a fixed Mandatory heat metering should be imple- percentage of the electricity they use each mented at least at the building level with a month). The Shanghai Jade Electricity Pro- binding timetable for introducing consump- gram, started in 2005, experimented with tion-based billing and two-part heat pricing. the energy-based approach. Three important Metering enables heating companies to under- lessons were learned in Shanghai: the local stand energy consumption patterns and allows government needs to play a very active role in consumers to pay according to use. While promoting the initiative and, ideally, to link apartment-level metering is preferable, build- up with national efforts; public education ing-level metering should be allowed to avoid and awareness is critical in achieving buy-in expensive and disruptive internal pipe retrofits for both nonresidential and residential con- and accelerate metering. Two-part heat tar- sumers; and financial incentives are needed to iffs include charges for variable and ordered stimulate participation (Peng 2012). capacity costs, and thus are incentives for end- user efficiency while covering justified fi xed costs. The popular practice to set the fixed District heating sector reform part on a flat square meter basis should be District heating is one of the last vestiges of changed to a capacity-based charge, creating the welfare state in China.46 District heating incentives for consumers with energy-efficient reforms offer some of the clearest and most buildings to reduce ordered capacity, freeing direct opportunities for improving environ- it up for new connections. Incentive-based mental quality in northern cities. In more tariff regulation would also encourage heat than 300 cities where centralized heat in the suppliers to improve their operating efficiency. winters is legally required, over 90 percent of Ensuring adoption of commercial accounting the heat supply is fueled with coal. Most Chi- principles based on uniform guidelines from nese heating utilities continue to bill consum- the Ministry of Finance by heat companies ers for heating based on a flat rate per square would help get tariffs right. The central gov- meter, removing any end-use efficiency incen- ernment could clarify tariff methodologies for tives. Old district heating systems in north- combined heat and power plants to improve ern cities are often highly inefficient and have transparency and consistency across cities. historically had poor pollution controls. As a In addition, general subsidies to households, result, ambient PM 2.5 concentrations of cit- including low tariffs, should be replaced with ies north of the Huai River were estimated more targeted assistance and extended also to to be about 55 percent higher between 1981 poor households just above the current thresh- and 2000, and to have reduced average life old for public welfare programs. A World expectancy by about 5.5 years, compared Bank survey conducted in Liaoning Province with cities where heating is not legally in 2007 found that in RMB terms, heating required (Chen and others 2013). The district subsidies for the richest households were simi- heating sector has grown about 12 percent a lar to those for the poorest households, so that year in the past five or six years and is about in the end, out-of-pocket spending on heating 50 percent larger in floor area coverage than bills amounted to 2 percent of income for the in 2005 (World Bank 2012a). Achieving a richest households and 7–10 percent of total greener district heating sector will require a income for the poorest households (World broad range of technical innovations, pricing, Bank 2009). and institutional reforms, including modern- China could consider issuing a national izing regulations. It will also require a major district heating regulation to address the lack effort in building technical and managerial of a strong legal mandate for related institu- capacities in the utilities and regulators to tions to undertake reform and issue national usher in modern management techniques. district heating planning guidelines to ensure Since the government issued guidelines for consistent planning approaches that incorpo- heating reforms in 2003, there have been rate energy- and carbon-intensity reduction many pilots and lessons learned that can be goals. The regulation could, for instance, used to accelerate reforms. establish licensing of operators as a key reg- 514 URBAN CHINA ulatory tool to force suppliers to meet their Integrating water resources and obligations (including for environmental per- pollution management formance and financial reporting). A broader provincial role in monitoring sector develop- China’s urban water sector faces two severe ment, facilitating knowledge exchange, and and interrelated problems. One is to supply supervising the regulation, if issued, would a sufficient amount of water to a growing help with the supervision of district heating urban population, while also providing for in the 15 provinces and over 300 cities where the needs of the industrial and agricultural heating is mandated. With sufficient capacity, sectors as well as ecological requirements. provincial authorities could take on licens- Water scarcity has become one of the great- ing responsibilities and participate in dis- est threats to China’s continuing urbanization pute resolution. The lack of an autonomous process, especially in the north and west, and regulator with clearly a defined role, budget, problems could become even worse in some and enforcement authority is a key reason for regions under plausible climate change sce- uneven and relatively limited modernization narios. The other challenge is to ensure the of the sector. A national regulation could cre- quality of water entering the city water sys- ate such an institution, perhaps even at the tem and of the treated wastewater returned provincial level. The guidelines would estab- to natural water bodies. Urban wastewater, lish principles and approaches for least-cost industrial emissions, and agricultural run- planning as well as dispatching guidance. off compromise water quality; poor water Because cities are very involved in the utili- quality in turn threatens health and leads to ties’ investment decisions, the city has impor- higher treatment costs downstream. Water tant responsibilities in investment approval. scarcity and pollution interact. Reduced river The planning function, combined with the flow leads to higher pollutant concentrations investment approval process, should not only because there is insufficient water for dilution. aim to ensure heat supply security but also China has addressed these problems in the protect consumers from unreasonable costs. water sector by improving the legal basis for The use of coal for heating should be delib- managing water resources and by investing erately avoided. Coal should be switched to in water supply and treatment infrastruc- gas where supply can be secured, renewable ture. Further progress can be made in three resources integrated where feasible, and strict areas. First, water supply can be improved emission controls imposed on remaining coal by increasing the efficiency of water use, heating sources. Gas is more expensive than especially in industry and agriculture, and coal, but a package of demand-side manage- by encouraging a more flexible allocation ment measures, together with modernizing of water rights across sectors. Underpric- district heating systems, pricing reform, and ing of water currently discourages use effi- targeted social assistance could help address ciency. Insufficient information about water affordability concerns. As a first step, gas resource flows hinders good decision making should replace coal-fired heat-only boilers for but could be addressed using new technolo- peak loads, connected to cogeneration units. gies such as satellite remote sensing. Second, Gas boilers are more efficient and flexible improving water supply quality requires and can open doors to more economic dis- reducing industrial pollution and addressing patch of heat sources, renewables integration, nonpoint source pollution in the rural sector. tri-generation technologies, and value-added Besides better enforcement of regulations, services such as district cooling. Alternatives instruments such as payments for ecological need to be carefully analyzed because heating services can be helpful where urban water is influenced by local conditions. Generally, users support actions elsewhere in the water- over the longer term, the estimated economic shed that protect water quality. Since one benefits of switching to gas-fired district heat- city’s waste water becomes the water supply ing are significant and appear to outweigh of another city downstream, further invest- the incremental costs (box 7.18). ments in waste water treatment will also be GREEN URBANIZATION 515 BOX 7.18 Phasing out coal in district heating provides significant environmental and social benefits As China’s cities expand in the coming years, central- FIGURE B7.18.1 Carbon emissions under different ized heating will also expand. In a business-as-usual scenarios of increasing gas use for heating scenario, heated floor space in China’s provincial, 140 prefecture, and county-level cities current serviced by Actual Projected district heating is expected to nearly triple from 4.7 120 Metric tons of CO2 equivalent billion square meters in 2011 to 13.1 billion square 100 meters in 2030. Heat supply meanwhile is projected to rise from 96 million tons of coal equivalent (Mtce) 80 in 2011 to 149 Mtce in 2030. Assuming that the share 60 of heat supplied by burning coal continues to hover around 90 percent, coal use for heating is projected to 40 increase from 101 Mtce in 2011 to 120–151 Mtce in 20 2030, with carbon emissions increasing from 78 mil- lion tons of CO2 to 116 million tons. 0 If the current share of centralized heating supplied 2001 2011 2021 2029 by burning natural gas (about 3 percent) remains Business as usual unchanged, total gas use is projected to be only Gas use reaching 50 bcm by 2030 2.7–3.4 billion cubic meters by 2030 in a business- Gas use reaching 75 bcm by 2030 as-usual scenario (figure B7.18.1). If the share of gas- fired heating were to increase to about 45 percent investment of RMB 47.0–54.4 billion from 2014 to of total heat supply by 2030, gas use would reach 2030 beyond business as usual. Cumulative benefits 39.9–50.0 billion cubic meters, requiring total addi- of reducing coal use and increasing gas use net of tional investment of RMB 34.0–39.2 billion from additional investment required are estimated at RMB 2014 to 2030 beyond business as usual (in year 2011 11.8–14.2 billion between 2014 and 2030 in the sce- renminbi). Increasing the share of gas-fired heating to nario where gas-based heating increases to 45 percent about 65 percent would require gas supply to increase and RMB 17.3–21.0 billion where gas-fi red heating to 59.8–75.0 billion cubic meters and total additional increases to 65 percent. Source: Team calculations. Note: Estimates are based on projections for the expansion of heated floor area in 316 cities currently serviced by district heating. BCM = billion cubic meters of natural gas. a high priority. Finally, and perhaps most Improving water supply by strengthening importantly, better water resources manage- demand management ment requires institutional reforms. Water With 20 percent of the world’s population but utility governance reform could improve cost recovery and coordination mechanisms only 7 percent of its freshwater, China has such as municipal water boards. And because water scarcity as a major problem for sustain- urban and rural water issues are highly inter- able urban development.47 Although China dependent, regional and cross-sectoral water has the fifth-largest endowment of freshwater management approaches will be needed to resources (Moore 2013), its annual per capita reform water rights allocation and pollution resources of 2,100 cubic meters are about control at a watershed level. Effective reforms one-third the global average. There are strong will promote sustainable water management spatial differences: 81 percent of China’s and help Chinese cities achieve a “water sav- water resources are concentrated to the south ing society,” a longstanding concept in China of the Yangtze River, where 60 percent of the that is in need of a strong boost from local population lives—only 19 is therefore avail- governments. able to the 40 percent of the population in the 516 URBAN CHINA north, where most of the major grain produc- and upper Yellow River areas, it is only 70 tion is located, and in the west. Annual per liters. Industrial water use intensities remain capita water availability in the north is only high at 131 cubic meters per RMB 10,000 of about 900 cubic meters (World Bank 2013b). industrial value-added. This is about twice About two-thirds of China’s cities—420 cit- the average for high-income countries and ies—are water short; 110 of those face severe ten times that of the best performers such shortages, with a total deficit of 10.5 bil- as Japan. Some of the most water-intensive lion cubic meters. For instance, Beijing’s and industries are among the worst performers, Tianjin’s per capita water resources were less with steel, oil refineries, paper, synthetic than 120 cubic meters, well below the bench- ammonia, and beer production having water mark for serious water shortage of 1,000 use intensities about 10 times greater than cubic meters (Wen and Zhu 2013). Eleven those of advanced international competi- provinces overall fall below this level and are tors. The energy sector, dominated by fossil drier than Iraq or Lebanon. These shortages fuel use, is one of the biggest water users, have led to severe overexploitation of ground- and some of China’s largest coal-producing water resources, which provide about one- regions are in the arid north. Fresh water third of northern China’s water supply and use for mining, processing, and consuming as much as two-thirds in places like the Hai coal accounts for a considerable portion of River Basin, which is home to Tianjin and water consumption in industry (ADB 2008). Beijing. Nationally, more than 160 ground- Agricultural water productivity is also low. water overdraft areas cover 190,000 square According to the Food and Agriculture Orga- kilometers, and each year overextracted nization, crop water productivity was $3.60 groundwater exceeds recharge by 22 billion per cubic meter in 2009, compared to an cubic meters. In the Hai River Basin, shallow average of $4.80 for middle-income countries water tables have dropped by up to 50 meters and $35.80 for high-income countries.48 and deep ones by up to 90 meters. The response to water shortages is usually The main driver of water demand is to increase supply—digging deeper wells or increasing consumption by a growing pop- building reservoirs or diversion infrastruc- ulation, by agriculture, and by expanding ture. But these are often no more than stop- water-intensive industries in the water-short gap measures in the face of rising demand. north and west, although declining pre- The first priority therefore must be to cre- cipitation, possibly due to climate change, ate incentives for greater water conserva- is probably also contributing to water short- tion and for implementation of water-saving ages in some regions. By 2030, under current production technologies. Water prices have policies, China’s total water demand is pro- gradually increased but are still low by inter- jected to rise by 61 percent over 2005 levels national standards. In Beijing costs are less (2030 Water Resources Group 2009). Urban than a tenth of those in Berlin or Copen- municipal and domestic use is expected to hagen, for instance (figure 7.35). These low rise from about 12 percent of total demand residential tariffs are offset in large measure in 2005 to 16 percent. However, the total by high industrial tariffs. In many developed amount of water use in China will be lim- countries, industrial water tariffs are usu- ited to 670 billion cubic meters by 2020 and ally lower than residential water tariffs. Ber- 700 billion cubic meters by 2030, accord- lin’s urban residential water tariff is $6.67 a ing to the National Water Resource Master cubic meter, while its industrial water tariff is Plan approved by State Council in December $2.16. The current industrial water tariff in 2010. The water use sectors are expected Beijing of RMB 6.21 and in Tianjin of 7.85 to take reduction measures. Although aver- RMB are higher than those in Canada, the age urban residential per capita water use United States and other developed countries. is lower than in high-income countries, it is Agricultural water prices are also very low, as growing as living standards rise. In the south- is common in many countries. China’s agri- east and coastal areas, per capita daily water cultural irrigation water use charges consist use is about 190 liters, while in the northwest of fees paid to state-owned water manage- GREEN URBANIZATION 517 ment agencies and end canal system water FIGURE 7.35 Water and wastewater tariffs in Chinese cities fees, and can vary widely. There appears to compared to other cities around the world be room for water tariff adjustments that can better incentivize all water consumers to con- Copenhagen, Denmark serve water and to use it more efficiently in Berlin, Germany industrial and agricultural production. Zurich, Switzerland Raising water use efficiency is critically important, especially in the large agricultural Luxembourg and industrial water-using sectors where Sydney, Australia water productivity remains low. Increasing Paris, France water productivity can help address the needs Singapore of growing urban population by reallocat- London, United Kingdom ing water resources from rural or industrial Barcelona, Spain use to municipal water supply. In some coun- New York City, United States tries, that involves market-based trading of water rights between rural and urban users. Stockholm, Sweden A prerequisite for such reallocations and for Rome, Italy reducing overextraction is better information Moscow, Russian Federation about available resources and current con- Kiev, Ukraine sumption within a given watershed. Within Hong Kong SAR, China any given watershed, water is extracted from Beijing, China surface or groundwater sources and used Kuala Lumpur, Malaysia for urban, industrial, or agricultural pur- poses; some of it then returns to rivers or New Delhi, India seeps back into the ground. Only a share is Riyadh, Saudi Arabia actually consumed, mostly as evapotranspi- 0 1 2 3 4 5 6 7 8 9 10 ration (ET) during plant growth. Allocation US$ per m3 of water rights requires information on the amount that may be withdrawn; the amount Source: Global Water Intelligence, “Global Water Market 2011-Meeting the World’s Water and that may be consumed (ET from irrigation); Wastewater Needs Until 2018” (2011), http://www.giiresearch.com/report/gwi108050-lob- water-wastew.html (accessed December 2013). and the amount that must be returned to the local water system at a level of quality suit- able for downstream users and ecological needs. If only extraction is monitored, as is tured items (Li, Liu, and Liu 2011). At the common practice today, there is a severe risk same time, Shanxi imports virtual water in of overexploitation of water resources. New the form of agricultural products (153 mil- methods using satellite remote sensing have lion cubic meters in 2007, equivalent to over made it much easier to monitor ET as a good 2.5 percent of total water use), but unfor- approximation to actual water consumption tunately these come from even more water- that could be the basis of an enhanced water scarce provinces such as Hebei, Shaanxi, withdrawal permitting system and in the and Xinjiang. In the Yellow River basin, future, potentially for water rights trading in contrast, food for water trade between between sectors (World Bank 2013b). downstream provinces like Shandong and In the medium term, a better understand- upstream provinces such as Ningxia pres- ing of virtual water flows—water that is ents win-win opportunities. Optimizing such embedded in traded goods—also helps iden- flows, for instance by moving water-intensive tify opportunities for improving urban water agricultural production to water-rich areas supply. For example, water-scarce Shanxi or relying more on importing virtual water Province exports large quantities of virtual embedded in food products from interna- water to water-rich eastern China through tional markets, would help increase water trade of water-intensive products such as use efficiency and free up water resources for coal, metals, thermal power, and manufac- high-value urban uses. 518 URBAN CHINA Ensuring the quality of the water supply FIGURE 7.36 Sources of main water pollutants, 2011 Water scarcity compounds the problem of water quality, which is at the core of Chi- na’s water-related challenges. As rivers and 14% 11% 1% 1% groundwater reservoirs shrink, pollution becomes less diluted and concentrations of 38% effluents, and their impacts, rise. Problems 57% include severe pollution incidents that may 2% be causing “cancer villages” near polluted waterways, but also lower-level chronic pol- 7% 45% lution that affects health and increases urban 25% water treatment costs. By some measures, water quality in China’s major river basins COD Ammonia nitrogen actually shows small but steady improve- Industry Households ment since 2001, thanks to investments in Sludge from Other agriculture end-of-pipe controls for industry, although water treatment Livestock and poultry water quality continues to be far worse in the northern basins. Industrial pollution Source: MEP, “Total Emissions of Main Pollutants” (June 2012), http:// accounted for about 19 percent of chemical jcs.mep.gov.cn/hjzl/zkgb/2011zkgb/201206/t20120606_231039 oxygen demand (COD, an indirect measure .htm; MEP, “Waste Water,” Environmental Statistics Report 2011 (March 2013), http://zls.mep.gov.cn/hjtj/nb/2011nb/201303/ of organic pollutants in water) in 2010, t20130327_249978.htm; MEP and MOA, 12th Five-Year Plan for declining to 14 percent in 2011. Discharges Controlling Pollution from Livestock and Poultry Industry(ℐ⚥䔄䥥 ℣㬾㰉㝻旚㱣 Ⱦ⋩ḴḼȿ 奬↺) (November 2012). of wastewater from urban households, mean- Note: Share of livestock and poultry in total emissions is assumed to while, are growing and now account for 38 be the same in 2011 as in 2010. COD = chemical oxygen demand, a waste quality measure. percent of COD in 2011 (figure 7.36). Yet, the largest share of COD comes mainly from nonpoint sources upstream of cities—mostly greater water quality. Regulations of agri- agricultural (also domestic)—and this share cultural practices and industrial emissions will likely increase (Guo and others 2012). such as technology and effluent standards Forty percent of Chinese rivers were seri- will remain the main policy instruments. ously polluted and unfit for drinking water Market-based approaches can also be effec- in 2010, and in 2011 the groundwater qual- tive, although pollution rights trading is even ity in more than half of 200 cities surveyed more difficult to implement for water than for was rated “bad” (40.3 percent) or “extremely air, in large part because both the pollutants bad” (14.7 percent).49 Groundwater pollu- and the impacts are more varied (Olmstead tion is especially worrying because it takes 2010a, 2010b). Damages depend consider- decades for polluted aquifers to recover. Also, ably on local conditions such as how quickly there are now concerns in major urban cen- pollutants mix and disperse with large quan- ters about new kinds of pollutants such as tities of water. medicine residues, micropollutants, and odor Downstream water users such as munici- and taste pollutants (World Bank 2012c). palities can also compensate upstream areas Treatment of water entering urban water for maintaining higher water quality by supply systems is the most immediate way to preserving forests and wetlands or reducing ensure safe water, but with growing pollution agricultural runoff. Such payments for eco- loads accumulating upstream, that becomes logical or environmental services (PES) can increasingly more difficult and costly. Cur- often achieve water quality targets at lower rent utility charges are typically too low to costs than additional treatment. Famously, fund the upgrading and operations of com- New York City saved $6 billion in construc- prehensive water treatment. Reducing pollu- tion costs and $300 million in annual operat- tion of upstream water resources is thus an ing costs for a new water fi ltration plant by effective way to keep costs down and achieve investing $1.5 billion over 10 years in con- GREEN URBANIZATION 519 BOX 7.19 Examples of cost-effective water treatment services provided to cities by natural ecosystems Western Cape, South Africa: Removing thirsty inva- that only a chlorine treatment is needed for disinfec- sive pine species from the Western Cape can reduce tion (Jones, Hole, and Zavaleta 2012). the unit costs of supplying water from facilities by $0.03 per cubic meter (2010 prices). Removing inva- Vientiane, Laos: Flood attenuation and wastewater sive species that used large amounts of scarce water treatment services provided by That Luang Marsh was two to seven times cheaper than augmenting next to the capital city have saved an estimated $1.5 water supplies by treating effluence or desalinizing million in construction costs for sewage treatment water (van Wilgen, Cowling, and Burgers 1996). infrastructure (Gerrard 2004). Bogota, Colombia: The city has saved $19.6 million Poyang Lake, China: Located in the heavily popu- in avoided costs for water fi ltration facilities thanks lated Yangtze River basin, the lake filters excess nutri- to wetlands above the city, which filter out contami- ents from the water, reducing sewage treatment costs nants and sediment in the city’s water supply so well by RMB 4.31 million each year (Zhao and others 2004). Source: Sall and Brandon, forthcoming. servation of the upstream Catskills water- greater emphasis on cost recovery. Low tar- shed, where it sources 90 percent of its water. iffs weaken incentives to achieve the govern- Stakeholders included state and federal agen- ment’s widely publicized water saving objec- cies, environmental groups, and some 70 tives. Even in better-performing cities like towns and villages. It reportedly took about Beijing where the wastewater treatment tariff 150 meetings to achieve agreement (Postel has already been increased to about 26 per- and Thompson 2005; Salzman 2009). Many cent of the water price, the fee barely covers such schemes have now been introduced, the cost of treatment and weakens incentives including in China (box 7.19), but they are to decrease wastewater. Cost savings could difficult to implement under the current fis- be achieved in smaller municipalities by cal system. PES requires transfers across aggregating water treatment services into a municipal boundaries and to stakeholders competitive concession or lease arrangement who in turn must use the funds for intended where one utility serves multiple cities. This purposes. This process requires competent is a longstanding practice in many countries. and transparent monitoring. Nevertheless, Likewise, wastewater should be managed PES programs represent an innovative strat- as a network utility business by integrating egy to rectify market failures and also to help drainage and treatment management and address fi nancial constraints faced by rural charging users for drainage services rather areas. than considering them as a public service. While maintaining the quality of upstream About two-thirds of the investment costs water sources for cities remains a major chal- and about half of thte operational costs for lenge, China has made significant progress wasyewater systems come from increasingly in improving urban waste water treatment. complex pipe networks and pumping sta- Coverage improved from 46 percent in 2004 tions across the city. Currently, wastewater to 84 percent in 2011 according to NBS data, utilities also have no control over industrial and the 12th Five-Year Plan includes RMB discharges into the municipal system, which 380 billion for investing in urban wastewa- can lead to overloading the drainage network ter treatment and expanding water quality and the treatment process. Incorporating monitoring stations.50 Those central govern- drainage infrastructure as a part of a com- ment transfers should be accompanied by a mercial or quasi-commercial operation of the 520 URBAN CHINA treatment system can create the incentives to age water use efficiency. A World Bank analy- control and charge for industrial discharges. sis of China’s urban water utilities from 2004 Better cost recovery in the water sec- to 2009 showed weak cost recovery and dif- tor would also support implementation of ficulties with achieving greater self-financing tightened standards that could “leapfrog” to of capital investments.52 Only 44 percent of match those common in high-income coun- urban water utilities generated positive net tries. While many cities have the resources margins, although this share varied by prov- and capacity to achieve high water quality ince (figure 7.37). Even the better perform- and treatment standards, some do not. China ing utilities were operating at just above the adopted ambitious new drinking-water breakeven point with only 10 percent generat- standards, following WHO guidelines, in ing net margins of over 10 percent (a healthy July 2012, but many cities do not have the fi nancial performance benchmark is 20 per- technical means to monitor water quality cent). The analysis also showed significant according to those standards. 51 In addition, variations in utility financial performance requirements issued in 2005 for expensive across provinces and within provinces, sug- tertiary treatment for all municipal wastewa- gesting that local government interventions ter treatment plants (SEPA Circular No. 110) do affect utility financial health. In addition, remain beyond the technical and financial performance was not correlated with size in capacity of many cities. Transitional arrange- the sample. Smaller utilities can perform well ments for water treatment and wastewater with supportive tariff policies and competent standards could be introduced in cities with weaker capacities specifically to ensure full and efficient collection of wastewater. Cities FIGURE 7.37 Share of utilities with net positive and towns that cannot afford the Class 1 or 2 margins, by province, 2009 discharge standards (the top standards) could start by ensuring full collection of waste- Sichuan water and low-cost treatment, with many Fujian technologies now available to come close to Jiangxi meeting Class 2 standards. Although this Jiangsu Guangxi approach does lower standards, it can help Beijing to treat wastewater that would otherwise Guizhou go untreated. Such arrangements need to be Tianjin Shanxi carefully monitored and understood to be Hunan part of the transition to full compliance. Guangdong Anhui Hainan Strengthening water sector institutions Yunnan Zhejiang In addition to continuing large investments Hubei Shaanxi in water infrastructure, achieving sustain- Shanghai able water supply for China’s growing cities Ningxia will also require institutional reforms. One Inner Mongolia Gansu priority is the reform of utility governance to Shandong strengthen the institutions that deliver urban Heilongjiang water and treat wastewater and sewage. The Hebei Xinjiang other priority is the establishment of regional Jilin coordination mechanisms that can manage Liaoning water allocations and implement measures to Henan ensure water quality at the watershed or river 0 10 20 30 40 50 60 70 80 basin level. Percent One aspect of utility governance, improved cost recovery by raising prices, has already Source: World Bank analysis and China Urban Water Statistical Year- been mentioned as an effective way to encour- book 2009. No data available for Chongqing, Tibet, and Qinghai. GREEN URBANIZATION 521 management. Finally, while most utilities (84 for both water resources and environmen- percent) generated operating revenues that tal management. It brings together relevant covered cash requirements for operations ministries, local governments, major water and maintenance, the ratios are razor thin users, and polluters. A pilot of the approach and leave little surplus for capital investment. has been successfully tested in the Hai River Further analysis of 27 utilities in 9 provinces Basin. It established a “joint decision-making between 2004 and 2009 showed that utili- conference” as a multistakeholder platform ties’ unit production costs rose on an annu- for debate and decision making among water ally compounded basis at least 5 percent and users. These processes can reach consensus much more in some cases, so raising prices on water use targets and pollution controls, will be necessary to provide a predictable and which are then allocated to the local admin- sufficient source of revenue for utilities and istrations within the watershed. Without such make them less reliant on support from gen- an inclusive process and appropriate incen- eral revenue. tives, there may be less interest in staying If urban utilities become more commer- within the targets as experienced in the Yel- cialized and autonomous, they will have low River case, among others. incentives to solve some longstanding prob- Finally, institutional reforms are also lems in the sector (Browder and others 2007; required at the administrative level. Water World Bank 2013b). Governance of the water and environment management are split, with sector is currently fragmented across differ- the water department in charge of water sup- ent offices. To improve coordination, cities ply and water infrastructure in general, while in some countries have created municipal the environment department is responsible “water boards” that coordinate and regu- for pollution control in general. Both have late their water sector. For instance, waste- overlapping areas of responsibility for water water tariffs are currently often included in quality control. A further problem is that the water bill and collected by municipal each department has its own institutional water companies, which do not always make and monitoring system and there is no cul- efforts to collect the wastewater bills. That ture of data sharing. No data sharing among also makes it difficult to collect wastewater related government departments can lead charges from industries with their own water to disagreements and misunderstandings. source. These two issues could be supervised Streamlining of responsibilities and greater by a water board—a mechanism that could incentives for cooperation and collaboration be piloted in more advanced cities first. Mem- and information exchange, piloted in some bers of these boards are typically appointed parts of China, would contribute to achiev- by city governments and have the power to ing national water sector objectives. make autonomous decisions or recommen- dations on key issues such as tariffs, budget Improved solid waste management transfers, and capital improvements. As with air pollution, water supply and As incomes rise and more citizens join the quality cannot be successfully managed at the urban consumer society, waste volumes level of an individual city or county only. Pol- in Chinese cities are growing rapidly. The lution and overextraction in the upper water- estimated solid waste volume generated in shed affect downstream users. Between 1995 China, including recyclables that are sepa- and 1998, for instance, the Yellow River did rately collected, was 346 million tons in 2011 not reach the sea because of excessive water (table 7.3), about twice the amount in 2000. extraction and as recently as 2009, 30 per- Urban residents make up about 55 percent of cent of the water in the Yellow River basin the population but generate about 80 percent was unfit for human consumption, according of the total waste amount, or 1.1 kilogram of to MEP. One regional coordination mecha- waste a day, compared with 0.3 kilogram for nism is an integrated water and environment rural citizens. The average of 0.7 kilogram is management approach, which establishes a similar to other large world cities at compara- strategic framework at the river basin level ble incomes. Waste volumes will likely double 522 URBAN CHINA TABLE 7.3 Estimated waste generation levels and main outlets in China, 2011 Kilograms Total waste Total waste Total waste disposal in of waste generated by formally collected Total waste harmless manner (sanitary Total waste not generated/ households & transported Total waste not separately collected landfill/ incinerator/ properly collected/ person/ Population (ton/y) (ton/y) collected (ton/y) (=recyclables) (ton/y) composted) (ton/y) disposed (ton/y) day Urban 722 million 281 million 219 million 14 million (50% 48 million (20%) 177 million1 56 million 1.07 (55%) of waste in towns) Rural 578 million 65 million 18 million 41 million 6.5 million (10%) 9 million (no data, 49.5 million 0.31 (45%) estimate 14% of total; 50% of waste collected) Total 1.3 billion 346 million 237 million 55 million 54.5 million 186 million (cities 106 million 0.73 131; counties 46; towns+villages 9) Source: NBS 2011a; statistical data from cities and county towns, estimates for towns, and calculations by the authors. again by 2030. To ensure a sustainable waste Total national waste management fees were management sector in China’s growing cities, only RMB 4.4 billion in 2011, while national collection fees need to rise to full coverage investment in fixed assets for waste treatment everywhere, waste segregation and recycling was RMB 19.9 billion and—assuming overall must be improved, and safe disposal of the management costs (collection, transfer and remaining waste ensured. transport, final disposal) of at least RMB 250 Achieving these objectives will also a ton—total municipal solid waste costs were require changing the way waste manage- likely no less than RMB 40 billion in 2011 ment is fi nanced. Municipal waste manage- for formal cities. These costs are expected to ment has high marginal operating costs and increase tenfold by 2030. A more sustainable is therefore different from other services fi nancing model would follow international such as water supply and sewage collection, practice in high-income countries and charge which have high fixed up-front costs but households and fi rms the full cost of waste relatively lower operating costs (Hoornweg management, even if charges are combined and Bhada-Tata 2012). Comparable costs in with those for other utilities to ease admin- China vary widely. For example, in Shanghai istration. Such explicit charges would also rates are RMB 120 a ton for collection and encourage reduction of waste generation. transport and RMB 90 a ton for disposal in landfi ll or RMB 240 a ton for incineration. Improving the efficiency of municipal solid waste In Kunming, rates are RMB 90 a ton for col- management lection and transport and RMB 90 a ton for incineration. About 70 percent of the waste is currently Despite high operational costs, households formally collected in China, and an estimated are typically not charged for formal waste 54 percent of the total waste is adequately removal. Instead, costs are covered through disposed of in sanitary landfills, incinerators, general spending. Waste management is or composting plants. Average waste collec- therefore underfunded in many cities, leading tion coverage ranges widely, from approxi- to poor performance. For example, incinera- mately 20 percent in rural areas to nearly full tors with insufficient gate fees often operate coverage in many big cities. The volume of with low temperatures and bad flue gas treat- waste incinerated (26 million tons in 2011) ment, leading to environmental problems. has increased rapidly. Another 15 percent is GREEN URBANIZATION 523 recycled. The remaining waste (about one- estimated. Finally, better planning could yield third of the total amount generated) that is greater economies of scale. Smaller cities, not disposed of properly or collected as recy- where geographically possible, could coop- clables, is burned, dumped, or disposed of erate with adjacent jurisdictions to develop without special environmental controls. more efficient and well-operated waste man- Formally segregation of waste at source agement facilities such as landfi lls or incin- organized by local authorities is still rare, but erators. Unfortunately, despite the potential a large informal sector collects and processes cost savings, such cooperation is still uncom- valuable recyclables (such as metals, plastics, mon in China. paper, and appliances). This sector provides income for low-skilled city dwellers, but Reducing pollution impacts from municipal solid makes formal recycling of collected waste less waste disposal profitable. Cities that seek to formalize these systems could integrate currently informal More efficient management can greatly systems or aid informal waste collectors in reduce, but not eliminate, the amount of fi nding alternative livelihoods. In the longer waste produced in China that requires dis- term, China could adapt European models posal. Municipal waste disposal is a challenge of product stewardship at both national and for many local governments because volumes local level. In such schemes, manufacturers are rising and land is scarce. To improve the consider the waste implications along the full waste disposal system and reduce its envi- life-cycle chain of their products, including ronmental impacts, the national and local the use of packaging materials and the fi nal governments need to implement improve- disposal of the product at the end of its useful ments across the entire waste chain—many of life. The government could collaborate with which have already been outlined in the 12th industrial sector organizations and introduce Five-Year Plan. One priority is to streamline voluntarily schemes and incentives that could administration by introducing greater inde- eventually lead to mandatory regulations. pendence and accountability for local EPB Besides raising the collection and recycling staff charged with oversight, clarify the roles rates, better overall planning and manage- between the Ministries (or Bureaus at local ment will boost sector efficiency. First, adopt- level) of Housing, Urban and Rural Develop- ing international practices for master plan- ment and of Environmental Protection, and ning of integrated solid waste management reform technical standards and sector guide- systems will avoid overbuilding some parts lines. As an example of the need for better of the waste management chain and neglect- standards and enforcement, during incinera- ing others. To properly function, the various tor operation there is often no proper testing, parts of the waste management chain (collec- treatment, or disposal of fly and bottom ashes, tion, transfer, transport, final disposal) need which causes local pollution problems. Bei- to be well matched and synchronized. Sec- jing provides a good model for an improved ond, introduction of international data moni- waste disposal system. The city has invested toring and financial accounting practices for in greater supervision of landfill and incinera- solid waste management would better reveal tion operations with an institution responsible the true costs of the waste management for monthly inspections. It developed stan- chain. About 50 percent of waste volumes dards for inspection and assessment of opera- are estimated simply by truck counting, tional performance, which have resulted in meaning that large volumes of waste streams improved environmental performance. are poorly recorded, and tools for analysis at Cities should also integrate waste man- the national level are inadequate. Accounting agement facilities into land use planning. In practices are also often insufficient. Even at the planning process, environmental impact the local level there is generally little insight assessments and permitting are currently into the capital and operating costs of all the treated as a formality rather than a regula- components in the waste management chain. tory tool. China currently also lacks hydro- As a consequence, costs are routinely under- geological information and know-how of 524 URBAN CHINA contaminant hydrogeology, and these fac- lems are institutional rather than technical. tors are therefore not sufficiently considered The main problems are inadequate resources, in landfi ll site selection and design. Finally, ineffective organization, limited channels for local governments need to properly rehabili- public participation, and insufficient incen- tate or close unsanitary landfills in a way that tives for environmental management. China’s minimizes long-term environmental impacts leaders can strengthen green governance by and allows eventual return of the land to pro- focusing on the following reforms that have ductive uses. Some cities, such as Beijing and been discussed in this report: Wenzhou, have completely removed old waste disposal sites by excavating the waste, sorting • Increase resources and enhance authority it, and then transporting the light portion to for environmental management to sup- a newly built sanitary landfill or incinerator. port more staff who promote greening and The remaining soil with some organic humus enforce environmental rules. Strengthen can then be used in gardens and parks. The data collection and widely disseminate cost of this restoration could be paid for from information to better monitor compliance, the increased land value of the site after it has which is necessary regardless of the policy been cleaned up for redevelopment. instruments used. • Revise the cadre evaluation system, so A more sustainable waste management sector local leaders have a greater incentive to pursue environmental objectives and focus At current growth projections, proposals for on quality of life of their citizens, while continued investments of RMB 264 billion for allowing some flexibility to adapt green solid waste management are in line with the goals to local conditions. ambitions to reach satisfactory levels of waste • Allow greater public participation in hold- collection, develop sufficient waste disposal ing polluters to account. Citizens, non- outlets that meet international good practice governmental environmental groups, and standards, and introduce waste minimization the media can all assist the government and recycling schemes. The key challenge in ensuring that ambitious environmen- will be to match the investments with the tal rules are followed. Public disclosure operational budgets needed to manage these of environmental performance shames waste systems and to gradually move toward companies into cleaning up. And the greater cost recovery through user charges legal system can complement government for these services. Fees currently make up enforcement if current experiments with only about 10 percent of the RMB 40 billion environmental courts and tribunals are needed to run waste operations, and these expanded and formalized. costs will further increase substantially due • Rebalance environmental policy instru- to the planned investments, the growth in ments toward more market-based tools GDP, and the urbanization process. such as taxes and trading systems, possi- bly for carbon and energy use if appropri- Cities where a billion people ate measurement and verification systems can be established and new mechanisms want to live and work calibrated with existing policies—while Three decades of economic growth brought enforcing well-designed regulations where great welfare improvements to China, but at price signals are insufficient. the cost of unsustainable resource consump- tion and pollution. China’s leaders have rec- Without strengthening green governance, ognized that resource depletion and pollu- necessary changes in resource- and pollu- tion have become a costly barrier to further tion-intensive sectors will be difficult, if not development. And with rising prosperity, impossible, because it is the application of China’s urban residents expect a future that green governance principles in sector poli- includes clear water and blue skies. The ulti- cies that will encourage cleaner and resource- mate causes of China’s environmental prob- efficient growth. As this chapter has shown, GREEN URBANIZATION 525 local environmental agencies need greater tend to be financially cost-effective even resources to encourage greening and to when ignoring broader ecological and health ensure compliance with environmental rules benefits, but deeper efficiency improvements in the energy, transport, buildings, water, to achieve greener ambitions will need smart and waste management sectors. In particular, incentives and mandates. Pollution abatement water resource and air pollution management is a cost to firms that essentially must pay for need regional management mechanisms. a service—removal of harmful byproducts Public participation and stronger legal mech- into air, water, or soils—that they previously anisms are most important in holding pollut- received for free. Nevertheless, many barriers ers to account but will also help gain greater still prevent these measures from happening, acceptance for efficiency investments. and a combination of both enforced regula- Across all sectors, the basic principle for tion as well as market-based approaches is environmental policy design is to rely as needed. But the high social benefits justify much as possible on market or price instru- the imposition of stricter emission stan- ments, which provide the incentives for firms dards, and fi rms can often achieve pollution and households to seek efficient ways to go reductions most cheaply through efficiency green. China has raised some resource prices, improvements or productivity enhancing but must also do so for others such as water. capital upgrading. China is also exploring carbon taxes and car- China could also find it easier to make bon trading, and similar mechanisms could needed sector investments than many other also work for water. Regulations will be emerging and developing countries that face effective where price instruments are not suf- severe environmental problems. It has the ficient, for instance where harmful pollution technical expertise among academics and must be urgently stopped or where behav- professionals and a growing green industrial ioral issues blunt price instruments. Finally, sector that can supply the needed technology. in some cases, the government will need to As China 2030 report pointed out, there are provide investments or financial support, for large business opportunities in an ambitious instance to fi nance pilots and to collect and green transformation. Countries such as Ger- disseminate information about what works many have shown that rising environmental in resource efficiency and pollution control; standards encourage domestic industries to or more directly to make public transit an innovate, developing clean technology that attractive alternative or to make building is now exported around the world. Despite energy investments financially viable. the needed rebalancing of the economy away Technical measures across the sectors that from low-value industries, China will retain a make firms and households more resource large manufacturing sector. The examples of efficient and reduce pollution are known. Germany, Switzerland, and Sweden, but also The core message is that sustainable sector the Republic of Korea, for instance, shows practices are compatible with green sector that this rebalancing can be compatible with policies. Although there are important non- becoming a green growth leader whose cities fi nancial barriers, investments in efficiency top quality-of-life rankings. 526 URBAN CHINA Annex 7A Smart Greening The foundation of green governance is cred- vices, and products. Vulnerable groups like ible, transparent, and publicly available the growing number of elderly residents will data. With China’s cities collectively grow- also stand to benefit from information on ing by about 15 million people a year, tradi- pollution to help them protect their health. tional city management methods are being Medical specialists could also be accessed challenged. This report proposes some new through remote service models. approaches, but the lifeblood of new man- There are many examples of smart city agement methods will be data and how it is applications. For instance, Singapore has used. Improved data collection, management relieved traffic congestion despite having and dissemination should be able to improve nearly two cars per resident by implementing the carrying capacity of cities’ growing popu- an electronic pricing system for traffic conges- lations. There is no universal defi nition of a tion. When the system was fi rst put in place “smart” city, but greater use of information in 1998, data collection was done by person. technology (IT) can benefit cities in the fol- Now, traffic is monitored by sensors and lowing ways: infrared equipment installed on roadways. With this real-time data, citizens can check Promoting a more service-oriented gov- traffic conditions using their mobile phones ernment, moving away from traditional or on-board global positioning systems in command and control approaches. Smart vehicles. Average vehicle traffic dropped by infrastructure moves information in both about 25,000 vehicles during rush hours and directions between government and its citi- traffic flow improved by 20 percent. zens. Two-way communication improves Cities worldwide have used different interaction and proactivity, and develops approaches to constructing smart technolo- greater understanding. For instance, appli- gies for cities ranging from government cations of smart technologies could reduce investment and operation to outsourcing. traffic congestion by providing greater logis- Full funding by government has applied tical information and knowledge to travelers. mainly to services such as fire prevention Social media can help disseminate informa- and emergency warning systems that are tion in the public’s interest and promote envi- supplied exclusively by public entities (as in ronmental awareness, while at the same time New York). For other services such as video allowing for feedback in near real time. monitoring, some cities, such as Singapore, Hong Kong SAR, China, and Shenzhen, Stimulating innovation in high-tech and have handed over operations to commercial information technologies. Information tech- companies. In these cases, the government nologies as simple as metering and informa- typically finances the capital investment and tion systems can transform an industry like part of the operating costs while the opera- district heating through consumption-based tor’s price is negotiated through a competitive billing or distributed generation in the power bidding process. Cities vary as to how much sector. risk and control of operations they pass onto commercial companies. Enhancing public services and people’s qual- Because China is still far behind in col- ity of life. Because the market still does not lecting basic data for many public services, deliver many public services, information leapfrogging to a big-data, smart-city con- asymmetry is prevalent. Applying e-com- cept is still an ambitious prospect. At this merce principles to e-government can deliver initial stage, Chinese cities should study the public services more efficiently to a large and experience of other cities—both at home and growing urban population. Greater public abroad—with big data systems. But there are disclosure of pollution discharges and air some areas in which immediate action can and water quality can support market-based and should be taken, for example in meter- approaches by raising people’s awareness and ing district heating and water use. Gov- stimulating demand for green lifestyles, ser- ernment guidance should be developed to GREEN URBANIZATION 527 avoid impractical applications of data and net apps to hail taxis or map current traffic plan ahead for how different systems might have boomed without government support, be integrated in the future. Currently, the reducing wait times and traffic congestion. highly fragmented nature of data collected Yet, even with greater use of IT technologies, for public services is a major challenge for the government will continue to play a very Chinese cities. Planning for better integra- important role in traditional public services, tion can help cities realize synergies in real- especially to ensure appropriate data and izing cross-sector objectives such as the inte- reporting for regulated services. Incentives grated management of the environment and will be needed for adopting smarter systems water resources. It also makes it possible to especially in utilities such as heating and use a more complete set of indicators for water, which tend to be more conservative assessing the progress of city management. and face fi nancing constraints. Strict public Beyond data collection, investing in smart oversight will be needed for services involv- applications in public services can help to ing the use of sensitive information such as unleash efficiencies—but with technologies personal medical records. The government comes a need to ensure public service man- should ensure norms and standards for infor- agers actually use these enhancements and mation security are clear and enforced while act on them. guarding against creating roadblocks where As they build smarter cities, local gov- the disclosure of information is in the public ernments in China will need to walk a fi ne interest, for example, in monitoring pollution line between providing public oversight of or assessing environmental impacts of proj- e-services and data systems and constricting ects. With the right balance, local govern- a highly innovative IT market. In many cases, ments in China can create smart cities that the market has solved problems on its own. are greener, more efficient, and better serve Value-added services such as mobile Inter- the people. Annex 7B Illustrative framework and analytical tools for urban energy and emissions reduction planning While traditional energy sector planning is Securing commitment essential, leading cities around the world have started to coordinate these traditional sec- A key piece of advice for the ambitious mayor tors to achieve specific, ambitious emission preparing to set out on the energy and emis- reduction objectives. As major consumers of sions planning process is to focus on creat- both benefits of energy use and its environ- ing the enabling conditions for planning mental consequences, cities have an interest (box 7B.1). As experts experienced in urban in least cost paths to accelerated greening. energy and emissions planning have noted, While there are many similar approaches, securing commitment by city leaders at the this annex illustrates a model framework for beginning of the planning process is another planning, drawing on the Sustainable Energy key to success. What this means is making and Emissions Planning (SUEEP) process sure relationships can be built across agencies that was developed by the World Bank and across sectors, which would not normally through its experience working with cities interact. Establishing trust between munici- in its East Asia and Pacific Region (World pal stakeholders—including energy, trans- Bank 2012) (figure 7B.1). It also highlights portation, construction, and environmental some methods and tools Chinese municipal protection agencies—is needed to encourage authorities could use in managing their cities’ them to share their data, time, and resources. energy use and associated emissions of pollu- Involving these stakeholders at an early stage tion. It concludes by demonstrating the need is also important because they will eventually for cross-sector approaches and identifying be responsible for carrying out recommended and overcoming challenges. actions.53 528 URBAN CHINA FIGURE 7B.1 An example of the energy and responsible for energy end use and emissions emissions planning process by the city. Also, overall measures may be biased by the structure of the urban economy, population, climate conditions, and other fac- tors, creating the need for bottom-up, sector- 2. Diagnostics 3. Target level indicators of energy end-use and emis- and benchmarking setting sions (Price and others 2013; Zhou and others 2012). Examples of bottom-up indicators for the urban transport sector and proposed benchmarks are shown in (table 7B.1). 4. Prioritizing 1. Commitment actions Target setting and prioritizing actions Once reliable data and measurements are 6. Monitoring obtained, and key problems identified, stra- 5. Implementing and review tegic objectives and goals can be determined. Understanding the technical feasibility and incremental costs of abatement measures will help establish the technical and afford- Source: Based on World Bank 2012. able abatement potential cities can strive for. Do cities promote micro-turbines or rooftop solar PV, or do they place their efforts more Diagnostics and benchmarking on importing green electricity? These ques- Diagnostics entail an assessment of how well tions can be answered through this process, the city is currently doing and where it could but with strong technical support from sec- do better. Elements of conducting a baseline tor specialists who understand the specific assessment include selection of indicators, resource potential for cities. a bottom-up inventory of energy use and Changning District in Shanghai offers an GHG emissions, and benchmarking to iden- example of priority setting for energy plan- tify under-performing sectors and potential ning based on strong analytics (box 7B.2; opportunities for improvement. World Bank ESMAP 2013). Having identi- Hundreds of cities around China have put fied potential energy savings and measures forward goals for becoming green, low car- for reducing carbon emissions, experts bon, or eco-friendly (sheng tai), but what it grouped options into three categories: actually means to be a green, low-carbon, or eco-city is much less clear in practice • “Do it now” or “no-regret” options that (Price and others 2013; Zhou and Williams are low-cost and are easy to implement 2013).54 Indicators bring operational clarity • Options to “start now, then acceler- to goals and provide a concrete basis for cities ate” that are either low-cost but difficult to measure baseline performance, compare to implement or higher-cost but easy to their performance against that of peer cit- implement and that can be piloted now ies or best-practice standards, evaluate their and then scaled up over the medium term potential for improvement, establish targets, as technologies mature and assess their progress over time. • Options to “develop now, and capture Aggregated indicators such as energy use over time” that come with high costs and per unit of GDP and per capita CO2 emissions significant implementation challenges but are commonly used to evaluate provincial have high abatement potential, which can and local city governments in reducing their be studied and possibly piloted energy use and emissions. While these top- down, macro-level indicators give a sense of With these options, scenarios were a city’s overall progress, they do not provide developed to assess how far the city could a detailed picture of which sectors are most “stretch” to achieve carbon emission reduc- GREEN URBANIZATION 529 BOX 7B.1 New York PlaNYC 2030 case study: Integrated centralized planning relying on decentralized delivery The population of America’s largest city, New This buildings effort has two major elements: the York City, is expected to grow by 1 million people promulgation of new laws (together called the Green, by 2030 and will place additional stress on exist- Greater Buildings Plan [GGBP]) and the formation ing infrastructure and resources, including energy. of the 200-person Green Codes Task Force (GCTF) Faced with this challenge, the city embarked on a to recommend code and other reforms to reduce a long-term planning process called PlaNYC 2030 to number of environmental impacts of buildings (i.e., devise strategies to reduce material and energy use, not just energy use) (NYC 2011). The GGPB requires improve natural spaces, plan for and mitigate the regular energy audits, retro-commissioning, and data effects of climate change, and create a more equitable sharing for large public and private buildings; lighting and engaged society. Strategies were designed and are upgrades; and sub-metering of government buildings being executed by a joint task force, led by a specially and commercial tenant spaces. These measures will designated mayoral office and comprised of 25 city impact more than half of the space in 16,000 build- departments and stakeholders from state and fed- ings in the city. To ensure compliance, procedural eral agencies, businesses, and non-profit groups. To incentives exempt from retro-commissioning and strengthen local ownership of the plan, the task force audits buildings that adopt measures early or comply has engaged in media outreach efforts and offered with LEED for Existing Buildings, a revolving retro- incentives and support to encourage active participa- fit loan fund has been created with federal stimulus tion by local business owners and residents, includ- funds, and the City is forming a large ESCO. ing grant programs and changes in zoning codes So far, the city is making notable progress in imple- intended to create new development opportunities menting the GGPB and PlaNYC. The city estimates (ICLEI-NYC 2010). The plan is now in its fourth that nearly 70 percent of private building owners have year of implementation. submitted energy use data (Levine and others 2012), The energy and emissions strategy for PlaNYC energy-efficiency program funding has increased six- is focused on achieving a goal of reducing city-wide fold in recent years, and 10 percent of the city bud- GHG emissions by 30 percent in 2030 compared to get is now committed to energy efficiency. The city 2005. Because buildings contribute to 75 percent of plans to further increase energy efficiency investments the city’s total carbon emissions, PlaNYC has kick- through public contracting (ICLEI-NYC 2010; NYC started a number ambitious programs and policies to 2011) and to roll out new programs for efficiency improve energy efficiency in the city’s building stock. improvements in small and medium buildings. Source: Adapted from Zhou and Williams 2013. TABLE 7B.1 “Green” and “low-carbon” indicators for the transport sector in Chinese cities Indicator Benchmark Source Public transit network penetration (km of network 4 km/km2 Upper end of China national target for transport per km2 of city area) planning (Code GB 50220-95) Share of public transit trips in total passenger trips (%) 60% 12FYP for Transport System target for cities with 10 million people or more Access to public transportation (share of built area 90% MOHURD public transportation demonstration within 500 meters of public transit) project Municipal fleet improvement (portion of electric, 100% Lawrence Berkeley National Laboratory expert hybrid, biofuel, and compact [<1.6 L] cars in public team assessment vehicle and taxi fleet) Source: Drawn from indicators included in the ELITE Cities benchmarking tool for Chinese cities (He and others 2013). tions beyond baseline targets in the current buy-in from citizens, businesses, and other Five-Year-Plan and become a leader for low- concerned parties whose understanding and carbon city development. support will be needed for implementation. Critically, stakeholder consultations are Feedback on targets, program design, afford- especially important to establish needed ability, implementing arrangements and so 530 URBAN CHINA BOX 7B.2 Heat cascading in the Rotterdam Energy Approach and Planning The Rotterdam Energy Approach and Planning also being modified to be energy self-dependent by (REAP) is part of the Rotterdam Climate Initiative, reclaiming heat from residual hot air and water, while which aims to halve the level of CO2 emissions in also becoming much better insulated by means of an the city by 2025, compared to 1990 levels. This is overarching climate façade which resembles a huge an ambitious plan which requires ambitious actions greenhouse covered in vegetation. in terms of urban energy planning. REAP rests upon REAP framework requires a substantial amount a simple concept based on re-using waste flows such of infrastructure changes. For instance, small com- as wastewater, household and agricultural waste, and munal facilities must be built to store and redistrib- residual heat, whilst using renewable energy to satisfy ute energy. Moreover, heat pumps and heat storage remaining demand. systems are needed for counter-balancing daily and REAP incentivizes urban planners to search urban seasonal temperature changes. areas for opportunities to exchange energy. For The following steps are implemented: instance, in the area of Rotterdam near the World Step 00. Make an inventory of the current energy Trade Centre, many new homes, offices and a second consumption. shopping mall and supermarkets are all forthcom- Step 01. Reduce consumption. New functions will ing. All of these buildings have their own heating be added: 20,000 square meters shops, 6,000 square and cooling needs and produce residual energy flows meter supermarket. Theatre Zuidplein and the infra- that can be “exchanged.” For instance, supermar- structure intersection will be renewed. Better insu- kets must continually operate cooling systems which lation of the existing shopping centre will in itself produce huge amounts of heat that, if not reused, already significantly improve the situation. simply disappears into the atmosphere. Within the Step 02. Reuse waste streams. The addition of REAP framework, heat pumps transfer this residual housing will create a better heat-cold balance. The heat to nearby homes and buildings. This principle of use of the waste heat generated by the supermarket heat cascading also allows for the exchange of heat and the typical morning and evening energy con- between offices and homes. On hot days, for instance, sumption in homes means that the match is perfect: A office air conditioning units roar into action, yet the one square-meter supermarket can heat seven square heat that is produced in this process is wasted. Within meters of housing. If 665 apartments are added, the the REAP framework, this heat is stored, for instance heat-cold ratio becomes 1:1.08, assuming that use is in underground aquifer layers (heat and cold storage) made of heat and cold storage. for inter-seasonal exchange (and then used to heat Step 03. Renewable energy generation. The homes during the winter months) or in tanks for cov- remaining demand for heat can be solved by the addi- ering diurnal or weekly differences. tion of greenhouses on the fi rst floor, which could be REAP strategy was applied in Hart van Zuid, an public areas (or greenhouses for growing tomatoes), existing district in Rotterdam, where urban planning or by the addition of PV-panels. PV panels could calls for homes (to be built near a shopping center) also be installed on the roof to supply electricity for that can use the residual heat generated by a local the whole shopping centre. The remaining energy supermarket. The Ikazia Hospital, which is located required could be sustainably generated at a higher nearby and consumes huge amounts of energy, is scale level. Source: Salat 2013. on can be extremely valuable in obtaining monitoring and reporting can sound mun- buy in to especially ambitious agendas. dane but it is essential to providing feedback and calibrating decisions. Cities should estab- lish a mechanism that is suitable to local con- Implementing, monitoring and ditions and mobilizes timely action using the reviewing information that is gather. Online monitor- The quality of the monitoring and reporting ing tools and public disclosure of progress process will largely depend on the quality helps to provide needed information that is of the data and indicators chosen. Periodic in the public interest and develops and under- GREEN URBANIZATION 531 standing, shoring up support for the abate- tors for climate, water, air waste, mobility, ment measures. economic health, land use, and social health that enable cities to compare their perfor- mance against national standards, targets, Tools to assist in the planning process and best-practice levels of cities in China and A variety of tools have been developed to abroad. assist city leaders in the process of urban Energy mapping for neighborhood and energy planning. Diagnostic tools which help city-level spatial plans is another example cities evaluate their performance include the of a cross-sector methodology. Energy map- Urban RAM and ELITE Cities tools. Urban ping enables cities to identify opportunities RAM (Urban Rapid Assessment Model) eval- for harvesting local energy supplies and uti- uates final energy use by consumers in the lizing flows of “waste” energy. For example, transportation, residential, and commercial to assist the Hart van Zuid District of Rot- buildings sectors, as well as the embodied terdam in realizing goals for becoming car- energy use in urban infrastructure and con- bon neutral, energy planners used heat map- sumer goods (Fridley and others 2012). The ping to evaluate the possibility of recycling tool’s explicit accounting of energy embodied streams of waste heat from a new ice skat- in consumer goods reveals the importance of ing rink to supply a nearby swimming pool purchasing habits and behavioral changes in (box 7B.2). By reducing the pool’s heating shaping a city’s energy and carbon footprint; demand, planners found that it was possible however, it does not cover energy use and to supply the residual demand for heat in the GHG emissions by industry, the dominant neighborhood by installing rooftop solar col- urban sector. Urban RAM has been piloted lectors on buildings (van den Dobbelsteen in Suzhou City. ELITE Cities (Eco and Low- and others 2012). Additional examples of Carbo Indicator Tool for Evaluating Cities) district-scale energy mapping by Dutch cit- is a light-touch benchmarking tool that, like ies are illustrated in figure 7B.2. In the left Urban RAM, was also developed specially for panel, columns are filled according to the use by Chinese cities (He and others 2013). potential for local energy supplies in Rotter- ELITE Cities is built on a system of indica- dam, including geothermal energy, biomass FIGURE 7B.2 Examples of energy potential mapping from the Netherlands, Rotterdam and Groningen a. Rotterdam b. Groningen Residences, holiday homes, spa, tropical paradise, Wind turbine park seasonal industry Heat cascading City of heat Industry feeds Horticulture feeds Residences Blue energy plant Tidal plant and blue Inundation energy plant Biomass boulevard Bio-plant, bio-refinery, bio-ethanol factory Natural reserves Forestlands and wetlands for CO2 sequestration Source: Broersma and others 2010 (left), and van den Dobbelsteen, Broersma, and Fremouw 2013 (right). 532 URBAN CHINA BOX 7B.3 Benchmarking and energy saving tool for low-carbon cities (BEST-Low Carbon Cities) The Benchmarking and Energy Saving Tool for Low was not included in TRACE) is particularly impor- Carbon Cities (BEST-Low Carbon Cities), developed tant for China because industries account for 70 per- by the Lawrence Berkeley National Laboratory, is a cent of urban energy use on average. Performance on decision-support tool designed to help city authorities key indicators is benchmarked against that of peer in China identify and rank strategies that they can cities with similar climate conditions, populations, pursue improve city-wide energy efficiency and reduce and levels of development, both inside and outside carbon emissions. China, to identify sectors with the greatest potential Adapted from TRACE, BEST-Low Carbon Cities for saving energy and reducing CO2 emissions. As is intended to synthesize, package, and delivery best with TRACE, BEST-Low Carbon Cities then allows practices from around the world in a way that is rel- city authorities to choose energy and carbon reducing evant for Chinese city leaders. The BEST-Low Car- measures from a “playbook” of proven options and bon Cities process begins with a quick assessment of to evaluate their appropriateness. By ranking strate- a city’s local energy use and carbon emissions in nine gies that yield the greatest reductions and are most sectors: industry, public and commercial buildings, suited to local circumstances, the tool helps local residential buildings, transportation, power and heat, government officials to develop a low carbon city street lighting, water & wastewater, solid waste, and action plan that can be implemented in phases, over a urban green space. The addition of industry (which multi-year timeframe. Source: Adapted from Lawrence Berkeley National Laboratory description of BEST-Low Carbon Cities and World Bank author’s interview with Zhou Nan and Lynn Price, 1 August 1, 2013. and solar energy, to satisfy heat demand. a US$ 100-million energy-efficiency invest- This method of energy mapping allows for ment program by the World Bank in the two city planners to incorporate local energy sup- cities. The Lawrence Berkeley National Lab- ply strategies into spatial planning for urban oratory is tailoring a new tool, built on the development, as shown for Groningen in the framework of TRACE, designed specifically right panel. for Chinese cities (box 7B.3). Other tools link diagnostics with tar- Like TRACE and BEST-Low Carbon Cit- get setting and prioritizing actions, as does ies, the MACTool (Marginal Abatement Cost TRACE (Tool for Rapid Assessment of City Tool) assists cities with baseline diagnostics, Energy). 55 Developed by the World Bank’s setting targets, and prioritizing actions. 56 ESMAP, TRACE is intended to assist cities MACTool compares the CO2 abatement with developing a portfolio of strategies for potentials and costs of deploying a suite of reducing energy use in six municipal sectors: mitigation technologies, allowing users to passenger transport, municipal buildings, construct a marginal cost curve for CO2 water and wastewater, public lighting, solid emissions reductions. National and subna- waste, and power and heat. TRACE enables tional governments have used MACTool for cities to identify under-performing sectors, estimating break-even carbon prices in set- evaluate their potential for improvement, and ting up carbon ETS schemes. Shanghai City’s select priorities for action among a menu of Changning District has piloted and adapted proven, cost-reducing measures for improv- the underlying methodology behind the ing energy efficiency. Twenty-three cities MACTool for use in China. Other innovative around the world have deployed TRACE so examples of tools being tailored specifically far, including Rio de Janeiro, which is host- for Chinese cities include the development ing the 2014 FIFA World Cup and 2016 of a simplified city-level GHG accounting Olympics, and Belo Horizonte, which is also methodology and redesigned Long-range hosting the 2014 FIFA World Cup. Outputs Energy Alternative Planning System (LEAP) from TRACE have provided grounding for by researchers at Renmin University, which GREEN URBANIZATION 533 TABLE 7B.2 Illustrative examples of tools to assist city leaders in developing low-carbon plans Benchmarking Develop options for action Process Target Implementation  Energy and Emissions Planning Tools  guide Energy CO2 Scenarios setting Identify Cost/Impacts Prioritize support MAC Tool World Bank Energy Services Management • • • • • • Assistance Program (ESMAP) TRACE • • • • • • World Bank ESMAP BEST-Low Carbon Cities • • • • • • • Lawrence Berkeley National Laboratory, U.S. EFFECT • • • • [b] World Bank ESMAP Urban RAM • • Lawrence Berkeley National Laboratory, U.S. SUEEP • • • • [a] • • • • • World Bank MCA4climate • • UNEP Climate Compass Compendium of Measures • Climate Alliance A Guidebook for Low-Carbon Development at the Local Level • • • Lawrence Berkeley National Laboratory, U.S. Sustainable Energy Planning handbook • • UNHABITAT, ICLEI ELITE Cities • • Lawrence Berkeley National Laboratory, U.S. Notes: [a] scenario modeling is not one of the tools in the toolkit, al though the guidance document offers advice on considerations for creating scenarios; [b] marginal abatement costs analyzed for major energy using sectors under different scenarios, MAC curves can be created for technologies in industry sub-sectors. they used to help Qingdao City craft a low- health, water, and environmental protec- carbon development strategy (Wang Ke tion. This section highlights two cross-sector 2012). The above is not an exhaustive list and approaches and methodologies that can be other tools may suit specific circumstances incorporated into urban energy and emis- (see table 7B.2 for illustrative examples of sions planning: climate-friendly air quality tools). Further tailoring China-specific tools management and spatial energy mapping. can help improve the perceived credibility of “Climate-friendly” air quality manage- these tools among city leaders and increase ment (AQM) aims to improve air quality and the likelihood that they are utilized. prevent dangerous climate change by pursu- ing concurrent reductions in traditional air pollutants and greenhouse gases (James and Cross-sector approaches and methodologies for Schultz 2011, 1). Evidence from around the energy and emissions planning world supports that designing and implement- Currently, there is a need for cross-sector ing coordinated strategies for reducing local planning approaches, methodologies, and air pollution and greenhouse gases is more tools that account for the interrelated effects cost-effective and yields greater economic of policy choices on energy, water, land, benefits than pursuing isolated strategies for air, and waste in urban systems. Such tools controlling single pollutants. First, it is usu- can improve coordination of urban energy ally much cheaper for local governments and plans with master spatial plans and sector businesses to meet regulatory requirements policies in industry, buildings, transport, for controlling criteria pollutants such as 534 URBAN CHINA BOX 7B.4 Climate-friendly air quality management planning in the San Francisco Bay Area The Clean Air Plan issued by California’s Bay Area impacts from air pollution in recent years and com- Air Quality Management District (BAAQMD) in pared the health and climate protection benefits 2010 is the first AQM plan developed by a local pub- (expressed in dollar terms) of measures to reduce lic authority in the United States to take an integrated targeted pollutants under different scenarios. The approach to air quality and climate change. The plan analysis of abatement options included an evaluation targets four categories of pollutants: ozone, PM 2.5, of potential trade-offs for control measures that could toxics, and greenhouse gases. The plan aims not only reduce some pollutants while increasing others. In to meet federal and state air quality standards, but all, the district estimated that a 1 percent reduction also sets long-term goals for reducing greenhouse gas in targeted pollutants would yield $202 million in emissions in the district to 1990 levels by 2020 and health benefits, including $158 million in health ben- to 40 percent below 1990 levels by 2035. In develop- efits from avoided PM 2.5 and $29 million in climate ing the plan, the BAAQMD estimated public health protection benefits from avoided greenhouse gases. Source: BAAQMD 2010. SO2 and NOx by investing in climate-friendly such as expanding clean energy supply, lim- measures such as improvements in energy iting direct coal use, eliminating small and efficiency than focusing solely on end-of-pipe inefficient boilers, and encouraging cogen- controls. The UNDP estimates that China eration of heat and electricity (State Council can reduce the costs of meeting its air qual- 2012). New requirements for cities to develop ity objectives by 60 percent and reduce local AQM plans in the 12th Five-Year Plan—and air pollution by an even greater margin if it mandatory targets for local governments to integrates investments in energy efficiency, reduce their carbon intensity—thus pres- co-generation, and renewable power genera- ent an opportunity. As they formulate their tion into local AQM programs (UNDP 2010). plans, cities in the key air pollution regions Second, accounting for both greenhouse should seek to maximize co-benefits by gas mitigation and local AQM impacts can beginning to consider the impacts of climate amplify the expected economic benefits of change mitigation as part of a multi-pollutant policy choices that may not appear to be cost- strategy. This requires a city greenhouse gas beneficial if impacts on local pollutants or emissions inventory and an explicit account- greenhouse gases are considered in isolation. ing of climate co-benefits as part of the evalu- The United Kingdom’s environmental agency ation of abatement options. The account- estimated that measures to increase uptake of ing of climate co-benefits would in effect low-emission vehicles by consumers would be an extension of the cost-benefit or cost- cost around 72 million per year and provide effectiveness analysis recommended by the annual benefits of 61 million from avoided air World Bank and MEP for strengthening the pollution. If avoided CO2 emissions were also AQM planning process under current minis- considered, however, total benefits would be try guidelines (see World Bank-MEP 2012). around 163 million, a much better deal (UK California’s San Francisco Bay Area offers an DEFRA 2007, 12). example of how local governments may take China’s central government has already a multi-pollutant, climate-friendly approach embraced the basic principles of climate- to AQM planning (box 7B.4). friendly AQM in calling for an integrated, multi pollutant approach to reducing air Identifying and overcoming challenges pollution in key regions (James and Schultz to urban energy and emissions 2011). 57 The main tasks for outline cities in reduction planning the 12th Five-Year Plan for Prevention and Control of Air Pollution include measures Data availability is one of the main chal- with significant climate change co-benefits, lenges preventing Chinese cities from using GREEN URBANIZATION 535 tools to develop low-carbon action plans. 58 dose-response function more appropriate for Tools such as Urban RAM and MACTool China’s very high pollution concentrations have been piloted in larger Chinese cities and a lower minimum threshold between air with extensive resources and analytic capa- pollution exposure and health effects. 3. h t t p : / / e p p . e u r o s t a t . e c . e u r o p a . e u bilities, but may be more difficult to employ /statistics_explained /index.php in smaller cities. Investing in technical capac- /Environmental_protection_expenditure. ity, including better data collection, moni- 4. http://www.nytimes.com/2013/03/30/world/ toring, and reporting, is absolutely critical asia/cost-of-environmental-degradation-in- for cities to be able to manage their energy china-is-growing.html; http://www.cleanbiz. use and emissions and make informed deci- asia/news/chinas-revived-green-gdp-program- sions about reduction strategies. In addition, still-faces-challenges. most local city governments—both small 5. Information was provided by MEP. See also and large—will probably not develop their Kaiser and Liu (2009). energy and emissions plans entirely on their 6. Information was provided by MEP. This total own. They will likely seek outside help or includes 46,000 provincial, municipal, and outsource some of the key analytic tasks to county EPB staff plus 146,000 staff in affi li- ated institutes at each administrative level. experts. Thus, energy and emissions planning 7. X iao X iang Morning Post ( 㻯㸀㘐㉍ ), also depends on building up China’s techni- “Media Investigation Finds Polluting Indus- cal service industry and expanding public tries are Income Source for Local EPBs” assistance programs for cities completing ( ⨺ỻ宫㞍➢⯪䍗ᾅ⯨烉㰉㝻ẩ᷂ㆸᷢ℞㓞ℍ energy and emissions action plans 㜍㸸), Xinhua News online, April 16, 2013, During implementation, fi nding champi- http://news.xinhuanet.com/yuqing/2013- ons of multi sector solutions and then identi- 04/16/c_124587694.htm (Chinese). fying financing to implement them are some 8. The management of pollution fees has been of the challenges for getting actions off the revised over the past few years so that salaries ground. Examples presented in this report are paid out of a “basic fund” that is sepa- such as in New York City or Stockholm offer rate from a “project fund.” Pollution fees are sent to the local finance bureau. EPBs can ideas for how city leaders could facilitate con- then apply to get back part of that money to version of plans into actions. Public infor- finance particular environmental projects but mation of the plan and the objectives also not salaries. But, as indicated in the Xinhua helps to keep the agencies accountable for article, this practice may not be followed by implementation. As in the case of Changning all EPBs. District in Shanghai, retrofitting commer- 9. This includes agencies such as the economic cial buildings would not happen on its own. commission, and the land resources, trans- A specific set of policy measures including portation, and construction bureaus, which targets and provision of financing through a through their decisions and actions have a World Bank loan were organized as a pack- large influence on environmental quality. age of measures that are intended to facilitate 10. ht t p: // w w w. ch i n ad i a lo g ue . ne t /a r t icle implementation. Understanding the finan- /show/single/en/5438-Officials-struggling- to-respond-to- China-s-year-of-environ- cial viability and nonfinancial barriers of the ment-protests- and http:// blogs.cfr.org measures is critical for targeted and effective /asia/2013/05/20/chinas-environmental- government support. politics-a-game-of-crisis-management/. 11. “ C h i n a ’ s P r o p o s e d R e v i s i o n s t o E nv i ron ment a l Protec t ion L aw Draw Notes M i x e d R e v i e w s ,” B l o o m b e r g / B N A , 1. “Polluted” or “seriously polluted” water is J u l y 17, 2 013 , h t t p : // w w w. b n a . c o m Grade IV or below, according to China’s /chinas-proposed-revisions-n17179875568/. Environmental Water Quality Standard 12. “The 10 most secretive cities were Zaozhuang (GB3838-2002). in Shandong, Datong and Yangquan in 2. One reason for these higher estimates is that Shanxi, Xiangyang in Hubei, Karamay in they include both rural and urban areas, Xinjiang, Changchun and Jilin city in Jilin, making use of satellite data available for the Zhangjiajie in Hunan, Jinzhou in Liaoning entire country. Another is that they use a new and Ordos in Inner Mongolia. Forty cit- 536 URBAN CHINA ies scaled back their information disclosure .ac.at / Research / TA P/rains_europe/intro last year, with Wuhu in Anhui, Foshan and .html, accessed December 2013). The GAINS Shantou in Guangdong, Baoding in Hebei, model can also be applied to combine co- Taizhou in Zhejiang, Changzhou in Jiangsu, benefits between local air pollution and Anshan and Dalian in Liaoning, Weifang greenhouse gas reductions (Liu, F., and others in Shandong and Yinchuan in Ningxia the 2013). most regressive.” Stephen Chen, “Most Chi- 20. This section draws extensively from Salat nese Cities Hiding Vital Pollution Data from (2013). Public,” South China Morning Post, March 21. This section draws from Ollivier and others 29, 2013, http://www.scmp.com/news/china (2013). /article/1202211/most-chinese-cities-hiding- 22. Wu Hongpo, “Wuhan trapped in public vital-pollution-data-public. parking lots: 45 out of 70 are facing delays” 13. Barbara Finamore, “A Step Forward for ( 㬎㯱℔ℙ 弎⛢星⚘⯨ġ 70 ᷒校䚖45 ᷒“ 晦 Environmental Transparency in China,” ṏ”), Chutian Jin Bao (㤂⣑慹㉍),7 March S W iTC H B OA R D, Nat u ra l Re sou rce s 2013, http://hb.qq.com/a/20130703/003378. Defense Council Staff Blog, 29 March htm (accessed June 2013). 2013, http://switchboard.nrdc.org /blogs 23. Li Shaoyi, “With Traffic Jams in Bei- /bfinamore/a_step_forward_for_environ- ji ng C omes H ig h L evels of Pol- ment.html. l u t i o n f r o m Ve h i c u l a r E x h a u s t ” 14. The average spot price at China’s northern ( ⊿ Ṕ 㰥 弎 ⯦㮼 㰉 㝻 ᷍ 慵烉椾 ⟝ Ờ 昷 䛨 椾 seaports in 2012 was around RMB 650. Esti- 㭺). Di Yi Ca iji ng R ibao ( 䫔ᶨ峊乷㖍 mates of tax burden were based on a look at the ㉍ ), ht t p: //f i n a nc e . si n a . com . c n /ch i n a fi nancial reporting of 12 large publicly listed /dfjj/20130116/011014295729.shtml. Jing firms (China Energy Network, June 20, 2013, Bao, “Vehicular Exhaust Accounts for http://www.cmen.cc/2013/coal_0620/49560 30% of Shenzhen’s PM 2.5 Emissions” .html). ( 㰥弎⯦㮼⌈㶙⛛ PM 2 .5 㜍㸸ᶱㆸ ), http:// 15. National Energy Administration, “Establish- news. sz news.com /content / 2012 - 01 /11 ing a Modern Tax System for Coal” (⺢䩳䍘 /content_6383292_2.htm. ẋ䄌䁕䦶峡⇞⹎), reposted from Economic 24. North Central Texas Council of Govern- Daily (乷㳶㖍㉍), March 21, 2013, http:// ments, “Regional Emissions Enforcement www.nea.gov.cn/2013-03/21/c_132251142. Program,” http://www.nctcog.org/trans/air htm; Xinhua, “Reducing Burden on Coal /hevp/reeptx.asp (accessed December 2013). Industry by Clearing Up Fees and Reforming 25. European Automobile Manufacturers’ Asso- Taxes” ( 䄌䁕埴᷂ⅷ峇 慵⛐“ 㶭峡”“㬋䦶”), ciation, “ACEA Tax Guide 2012—More reposted from Economic Daily (乷㳶㖍㉍), Governments Introduce Incentives,” 2012, March 21, 2013, http://news.xinhuanet.com/ http://www.acea.be/news/news_detail/tax_ energy/2013-03/21/c_124485886.htm . guide_2012_incentives_increase_further/ 16. Xie Jiu, “Difficulties and the Way Forward (accessed December 2013). in a World of RMB 8.00 Gasoline” (㱡ẟġ“8 26. Hunts Point Clean Trucks Program, “Fre- ⃫㖞ẋ”䘬⚘⯨ᶶ↢嶗). Life Week (ᶱ俼䓇㳣), quently Asked Questions,” http://www.hunts March 28, 2012, http://www.lifeweek.com pointctp.com/faq.html#overview (accessed .cn / 2012 / 0328/36802 .sht m l (accessed December 2013). December 2013). 27. U.S. Green Building Council, “LEED for 17. Other studies, such as the Stern Review (Stern Neighborhood Development,” http://www 2007), come up with higher estimates. .usgbc.org/neighborhoods. 18. Kang Sun, “Atmospheric Ammonia and 28. Averages are based on reported performance the Air Quality of the North China Plain,” statistics for 269 utilities in the International P r i n c e ton U n iver sit y, C h i n a E n er g y Benchmarking Network for Water and Sani- Group, http://www.princeton.edu/~puceg/ tation Utilities (IB-NET) database, http:// perspective/Atmospheric_ Ammonia.html www.ib-net.org /en/ (accessed August 9, (accessed December 2013). 2013). 19. An example of a method of nesting differ- 29. China’s cities treat an average of 108 mil- ent levels of resolution is the RAINS and lion cubic meters of wastewater a day, as GAINS models of the International Institute estimated according to the total volume for Applied Systems Analysis (see, for exam- of municipal wastewater that MOHURD ple, “The RAIS 7.2 Model of Air Pollution: reported being treated during the fi rst quar- General Overview,” http://webarchive.iiasa ter of 2012 (MOHURD 2012). Average GREEN URBANIZATION 537 electricity consumption per cubic meter of energy efficiency, and energy-related targets wastewater treated is 0.254 kilowatt hours, and caps benefited from written contributions based on a survey of more than 1,800 facili- by Max Dupuy, Regulatory Assistance Proj- ties conducted in 2009 (Liu and Jiang 2012). ect, Beijing, May 2013. Assuming an average electricity price of RMB 36. See Goldberg, Reinaud, and Taylor (2011) for 0.78 per kWh (the average for industrial users an analysis of policies adopted in different in 36 medium and large sized cities in 2012 countries to promote EnMS. as reported by the NDRC’s Pricing Bureau). 37. Institute for Industrial Productivity, “China: Cost savings are a gross, order-of-magnitude Energy Management System Requirements estimate intended to illustrate potential, not under the Top-10,000 Program,” Industrial necessarily actual, room for improvement. Efficiency Programs Database, http://www Savings do not account for annualized costs .iipnetwork.org/databases/programs/energy- of investments required to improve efficiency management-system-requirements-under-top- or for variations in climate, city, or plant 10000-program (accessed August 7, 2013). characteristics that influence energy use per See also Zhu (2012). unit of wastewater treated. 38. Despite the apparent improvements, Levine 30. This section draws from Taylor, Sall, and and others (2012, 103) note “there are uncer- Draugelis (2013). tainties about the accuracy and representa- 31. The “secondary sector” corresponds to ISIC tiveness of MOHURD’s officially reported divisions 10-45 in the International Stan- compliance rates.” dard Industrial Classification system (ISIC 39. An alternative and competing green building Revision 3) and is composed of mining; rating system relative to the GBES in China is manufacturing; construction; and electricity, the Leadership in Energy and Environmental water, and gas utilities. GDP is reported on Design (LEED), an internationally recognized a value-added basis. Urban industrial GDP rating system originated in the Unied States. and employment numbers reported here are A comparison of the two rating systems indi- for the 287 municipalities at the prefecture cates more similarities than differences and level. An “urban area” is the downtown area fi nds the GBES to be more rigorous (Levine directly under the jurisdiction of the munici- and others 2012). pality and excludes outlying areas within the 40. Team interview with U.S. Green Building administrative boundaries of the municipality Council senior staff, October 1, 2013. (NBS 2011b). The share of industry in GDP 41. This section draws on World Bank (2012b). for urban areas in 2010 was slightly higher 42. Supplying gas for individual space and water than the national average, which was 47 per- heating units in residences would require cent (NBS 2011a, 2011b). a larger supply. Estimates assume that per 32. Total industrial energy demand is projected capita usage for households connected to to rise from around 1,500 million tons of coal gas remains about the same as in 2010. It is equivalent (Mtce) in 2010 to around 2,500 also assumed that once households are con- Mtce in 2030, with industry continuing to nected to piped town gas, they will stop using be the largest end-user of energy in China’s liquified propane gas (LPG). The number of economy (Fridley and others 2012; see also households with access to LPG represents a Zhou and others 2011). substantial portion of the urban population 33. From an administrative point of view, China in some southern cities in China, although has many different kinds of cities. The role of LPG is typically more expensive and house- cities in the system of policies for industrial holds tend to favor piped natural gas. An energy efficiency varies with their administra- annual growth rate in the percentage of the tive rank. For the sake of discussion, the term urban population with access to piped gas is “local city governments” is used in this sec- assumed at 6 percent, slightly faster than the tion to refer mainly to cities at the prefecture average rate of 3 percent observed between level. 2004 and 2010. 34. X i n hua, “Draw i ng t he B ow on C oal 43. “Breaking the Ice on Natural Gas Pricing Resource Tax Reform” (䄌䁕峬㸸䦶㓡朑䭕 Reform” (⣑䃞㮼ẟ㓡䟜⅘), Caijing Magazine ⛐⻎ᶲ), June 9, 2013, http://news.xinhuanet (峊乷㛪⽿), January 3, 2012, http://magazine. .com/energy/2013-06/09/c_124835728.htm caijing.com.cn/2012-01-03/111587947.html (accessed December 2013). (accessed December 2013). 35. Recommendations on policy coordination 44. This section is derived from recent policy of carbon ETS, revenue recycling to fi nance notes and other contributions from Xia- 538 URBAN CHINA odong Wang, Senior Energy Specialist, World 56. World Bank ESMAP, “Modeling Tools and Bank; Ximing Peng, Senior Energy Specialist, E-Learning,” http://esmap.org/MACTool World Bank; Yanqin Song, Energy Special- (accessed December 2013). ist, World Bank; and Nourredine Ber- 57. The State Council’s Approval of the 12th Five- rah, retired World Bank staff and senior Year Plan for Air Pollution Prevention and consultant. Control in Key Regions calls for “coordinated 45. See the Green Growth Chapter of China actions to control multiple pollutants” and 2030 (World Bank–DRC 2013). “strengthening holistic management of multi- 46. This section draws on Draugelis and Li ple pollutants” (State Council 2012). (2012) and World Bank (2012a). 58. Zhou Nan and Lynn Price, Lawrence 47. This section draws from Jiang and Li (2013). Berkeley National Laboratory, interview with 48. FAO, AQUASTAT, “China,” http://www author, August 1, 2013. .fao.org/nr/water/aquastat/countries_regions /china/index.stm (accessed December 2014). 49. “China’s underground water in poor con- References dition,” Gov.CN (Chinese Government’s 2030 Water Resources Group (The Barilla Group, Official Web Portal), May 10, 2012, http:// The Coca-Cola Company, IFC, McKinsey & english.gov.cn/2012-05/10/content_2134183 Co., Nestlé S.A, New Holland Agriculture, .htm. SABMiller, Standard Chartered Bank, and 50. 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