Decreased risk sharing between rural China and rural areas

China has launched an ambitious campaign to close the income gap, tackle regional inequalities and unfair social welfare provisions, and make steady progress towards general prosperity by 2035. It marks a shift from overall growth to a focus on equitable and balanced growth. In order to assess the growing inequality in recent times of China’s rapid expansion, several papers have documented the evolution of income inequality, especially in urban China, since the beginning of economic reform and opening up (Khan and Riskin 1998, Meng 2004, Meng 2005, Ravalllion and Chen 2007, Benjamin et al. al. 2008). Others study changes in income inequality as well as consumption inequality (Cai et al. 2010, Ding and He 2018). Most recently, Santaeulàlia-Llopis and Zheng (2018) investigated the joint evolution of income and consumption inequality using a long family-level panel of income and consumption and established that there has been considerable deterioration of households in both urban and rural China. Ability to insure costs against unexpected changes in income during the growth period from 1989 to 2009. Our recent study (Atanasio et al. 2021) zoomed in on rural China and asked, in particular, how much was this loss of insurance? Reducing risk sharing within a village, as an insurance network, vs. across the village, and no process was effective.

The changing economic landscape of rural China

Using a family-level panel on the income and expenditure of about 150 rural villages in China from 1989 to 2009, using the China Health and Nutrition Survey (CHNS), we first confirm the main economic trends in our sample of a broad understanding of rural China. We document that in our sample rural households experienced rapid income and cost growth during this period, the average household income tripled and costs doubled. Furthermore, we show three broad trends in sectoral composition, industrial ownership composition, and central-local fiscal relations.

Trend 1. There was a gradual but steady shift from the agricultural sector to the industrial sector

This process of industrialization is reflected in our sample, that 90% of our village had agricultural land and 55% of the working age population worked on a farm in 1989, while in 2009 only 70% of the village had agricultural land and 45% of the working age population worked on a farm. Figure 1, panel a).

Trend 2. The dominance of urban and rural enterprises increased and fell during the economic transition

Rural industrialization was first pioneered by townships and rural enterprises (TVEs), which were enterprises owned by local towns and village governments, and yet allowed to respond to the slowly evolving market forces. However, they soon lost out to private firms that were newly approved in the market. In our sample, we observed a clear declining time trend in the number of TVEs per village and a reverse increasing time trend in the number of individual entities per village, especially in the 2000s (Figure 1, panel B).

Trend 3. Changed central-local revenue relations lead to increasing revenue inequality in local governments

With the 1994 tax reform, which centralized tax revenue from local government but also left financial responsibility to local governments, local governments became increasingly self-sufficient in financing public spending. In the wake of highly unbalanced regional economic development across China, local revenue inequality and spending between rich and poor counties have increased. This is illustrated by the increasing trend over time, especially in the 1990s and early 2000s, when the county-level revenue-to-output and expenditure-to-output ratios were 90-10 (Figure 1, panel C).

These broader trends suggest significant implications for risk sharing within and across villages: the collapse of agriculture and the end of TVEs indicate a decline in migration between villages, where the breakdown of central-local financial relations suggests a shift to counties, the lowest level of government for which we Let’s observe, which probably goes to villages all over the country.

Figure 1 Changes in agriculture, industry and the public sector in rural China

Panel (a)

Panel (b)

Panel (c)

Note:: Panel (a) and (b) based on CHNS sample and panel (c) based on county-level financial balance sheet sample from EPS China database. In panel (b), in 1989 the number of TVEs per village was normalized to one and in 1991 the number of private enterprises per village was normalized to one (right axis), the first wave where this information was collected. Panel (c) shows, by year, the ratio of output to county-level revenue and the 90-10 ratio of county-level local revenue to expenditure and output.

The evolution of consumer insurance in rural China

Based on the pioneering work of Townsend (1994) we begin by examining whether rural households in our sample have achieved perfect risk sharing within a village. The idea is that if a social planner can consolidate all the income of a village and distribute the expenses of each household according to the agreed weight, then controlling for the total income at the village level, household expenses should not vary with his own income. Our data strongly reject the perfect risk sharing within the village, and the correlation between household spending and own income increased significantly from the 1990s to the 2000s. When we extend this argument to share risk across villages in a province, we get similar results. In short, these practices indicate that risk sharing has decreased both within and across the village.

Although the aforementioned tests indicate the presence of incomplete insurance, they do not differentiate between shocks of different durations and sources. To complement these results, we apply the method developed in Attanasio et al. (2018) to decompose income shock along two dimensions: permanent vs. transient shock and village-aggregate vs. idiosyncratic shock. This allows us to infer how shocks of different natures affect usage. For example, one might expect that households have more ways to ensure their costs against diversified shocks than village-collective shocks, private or public, as the village insurance system (such as informal transfers within the family) can help with previous shocks but No. The latter

We see that there is a huge opportunity to share the risk within the village: about 60% of the fixed income push and 90% of the short-term income push are diversified within a village and thus insurable. We also see that all types of income shocks were well insured in the first years of our sample period, but this insurance deteriorated towards the end of our sample period, especially for overall shocks. In particular, compared to near-perfect insurance acquired in the 1990s, about 60% of village-aggregate fixed income shocks in the 2000s and about 20% of idiosyncratic transitory shocks went into use in the 2000s. The cost-equivalent calculation suggests that the welfare costs of these changes ranged from 0.5% to 1.5% of use. Furthermore, these welfare expenditures are driven almost entirely by the loss of insurance as opposed to an increase in income risk, and most of these insurance effects are due to changes in insurance against village-aggregate permanent shocks.

Possible process behind insurance reduction

To explain these results against the background of the drastic changes that rural villages have experienced in these twenty years, we further investigate the characteristics of villages that are associated with the decline of consumer insurance. Significantly, in areas where (i) the agricultural sector was weak, (ii) migration rates were high, and (iii) low government-owned TVs were low, the decline in consumer insurance was even more pronounced. These features, which marked the economic transformation of rural China in the 1990s and 2000s, all weaken insurance. In The village, as the village has less ability to provide social insurance from TVE revenue and family relocation can weaken inter-household bonds.

To explore the fall of insurance across the village, we investigate the changing role of the central government by measuring direct intergovernmental transfers using data from the County Fiscal Balance Sheet from 1993 to 2007. We see that county government tax revenues and expenditures are increasingly co-variable. Output over time, when transfer programs, which were set up for the purpose of insurance and redistribution, became less negatively related over time. These results indicate that after the 1994 tax reform, intergovernmental financial transfer programs became less progressive during the economic transition and led to a reduction in insurance coverage against shocks that affected local communities. With increasing regional disparities, local governments were left to their own devices to insure, making it increasingly difficult to insure the overall income risk of the village.

Conclusion

The events in rural China provide valuable lessons for other changing economies. Our analysis confirms that the amount of risk sharing depends on the economic and policy environment. In developed countries, strong personal insurance contracts and public insurance systems (such as unemployment insurance programs) play a prominent role in insuring income risk and protecting people in part in a volatile world. While the least developed countries have little access to formal insurance, informal risk sharing plays a large role, usually within small groups such as villages. Therefore, the level of risk sharing in agriculture or the collective economy may no longer be effective or sustainable when market incentives for growth are introduced. The story of rural China is a portrait of such change and reveals important challenges on the path to industrialization. For China, the question of how to better integrate rural areas into social insurance and social welfare agencies remains a key principle in the pursuit of common prosperity.

Editors note: This column was first published on VoxChina. Reproduction with permission.

References

Attanasio, O, C Meghir, and C Mommaerts (2018), “Insurance in the Extended Family Network”, Cowles Foundation Discussion Paper no. 1996 r.

Attanasio, O, C Meghir, C Mommaerts, and Y Zheng (2021), “Growing Apart: Declining Within- and Across-Locality Insurance in Rural China”, CEPR Discussion Paper 16654.

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