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institutional framework, with particular flexibilities and freedoms - which is lacking in China, especially in the heavy industrial sector.
7. "Allocative efficiency" may be improved even given constraints on the living standards of particular groups - this is discussed in the comment on para 12 below.
Detail
8. HMA's Despatch
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Para 11: The need for increases in prices of certain goods in an attempt to achieve a better allocation of resources should imply only
once-and-for-all adjustments. These should have an impact on the inflation index only as long as the period over which changes in it are calculated, though attempts to resist implied changes in living standards can give rise to persisting inflationary pressures.
Para 12: In general, subsidies are best achieved by supplements to income rather than artifically low prices. There may be no net effect on the state budget of higher living costs (of food and housing, with lower subsidies) but higher wage-related costs, but there should be allocative improvements as consumers economise on goods and services whose true costs they are now facing, and supply increases in response to increased profitability (drawing resources away from sectors where real social returns are lower).
Para 15: (Field's estimates appear to be those used in the Economist leader of 4 October - copy attached.)
Para 16: I am not sure that this sort of improvement in the efficiency of new investment is plausible. It is likely that this efficiency has remained little changed, but that extra output has come from existing capital, and from non-industrial sectors with low capital endowment in response to increasing freedoms and material incentives. (This question is discussed more fully in Annex A for those less familiar with the ICOR and related concepts than HMA Peking!)
Para 20: See comments on paras 11 and 12.
Para 21: I think that one can imagine a system, with flexible prices and a planned heavy industrial sector ('the commanding heights') allocating its products according to quantitative quotas, but not at fixed prices. The question then is how it responds to higher or lower profitability on various goods. Theoretically, it could operate exactly as a competitive sector might in which case. the grounds for State involvement must be non-economic. If its characteristics were those of the current Chinese State enterprise system however, the tension would be between a fairly rigid planned sector, and the more flexible remainder of the economy, constantly thwarted in its production plans by various shortages.
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CONFIDENTIAL