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China’s Social Market Economy

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DOI: 10.4018/jabim.2013010103

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International Journal of Asian Business and Information Management, 4(1), 21-30, January-March 2013 21

China’s Social Market Economy:

The Leverage of Economic Growth
Ron Berger, Department of Business Management, The Lander Institute - Jerusalem Academic
Center, Givaat Shaul, Jerusalem, Israel
Chong Ju Choi, Department of Shipping, Trade & Finance, Cass City University Business
School, London, UK
Ram Herstein, Department of Business Management, The Lander Institute - Jerusalem
Academic Center, Givaat Shaul, Jerusalem, Israel

ABSTRACT
In 2011, China continues to be the world’s largest recipient of direct foreign investment—which in 2010 totaled
US$105 billion. China is also the world’s second largest economy after the U.S. Once a staunchly Communist
state, China now advocates a “social market economy” as its business system. The purpose of this paper is
threefold. First, this paper seeks to understand what is meant by a “social market economy”. Second, the
paper analyzes the traditional shareholder and stakeholder debate by examining different national economies
together with their respective societies in terms of business systems. Third, the paper discusses some implica-
tions of the emergence of the Chinese economy and business system in the context of potential contributions
to social science research. This paper shows that China’s social market economy has many similarities to the
stakeholder business system increasingly advocated in global ethics research and presents the challenges to
be faced by China’s social market economy in the future.

Keywords: China, Communitarian Business System, Social Market Economy, Stakeholder Business System,
Stakeholders

INTRODUCTION tries has declared that China will continue its

One of the greatest changes in the global
economy of the 21st century is the emergence of
China’s as one of the world’s largest economies
(Song & Schein, 2011). China in 2011 is the
second largest economy in the world after the
U.S., and continues to be the world’s largest
recipient of direct foreign investment, US$105
billion in 2010 (Economist, 2011). China’s
President Hu Jintao in his visits to foreign coun-
twenty years of phenomenal economic growth
and transition from a Communist to a “social
market economy”.
To understand the current Chinese busi-
ness system and managerial practices requires
an appreciation and understanding of Chinese
cultural orientations. As China becomes in-
creasingly important to the global economy,
it becomes increasingly prudent to understand
the mindset of the Chinese business system

DOI: 10.4018/jabim.2013010103

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22 International Journal of Asian Business and Information Management, 4(1), 21-30, January-March 2013
compared to other prevalent systems. Global
business environments today, with China having
a major role in them, are acting as catalysts for
economic changes and the blurring of national
boundaries (Sun & Wang, 2010). The impact of
these changes combined with the ramifications
for firm activities and performance have led to
an urgent need to reassess the traditional purely
neoclassical, competition-driven frameworks
such as that of Porter (1990) used in interna-
tional management research Other social sci-
ence systems of exchange including sociology,
anthropology, cultural studies must be incorpo-
rated into the research paradigm (Bird-David &
Darr, 2009; Chu, 2009). The unique perspective
offered by other social science disciplines can
better analyze the characteristics of China’s
“social market economy” (Honig & Christie,
2003; Perraton, 2009; Schrank, 2009) than
traditional models.
The global balance of economic power is
shifting away from the US and Europe towards
Asia. Attention today is being directed toward
emerging countries especially China as one of
the major countries to bail out Europe from
the present financial - institutional economic
crisis (Berger & Herstein, 2012). Economists
forecast that Chinese consumers will mitigate
the effects of the present slow down in the
Western developed economies. China is seen
as the catalyst for economic global growth
as the West is gradually entering a period of
economic stagnation and institutional turmoil.
As China becomes more integrated and active
as a global policy setter managerial relation-
ships between Western and Asian countries
are receiving heightened interest (Barnes et al.,
2011; Song & Schein, 2011). What constitutes
good managerial practices are not universally
shared around the world. As China is emerging
as a dominant economic power, understanding
the direction in which its management theory
is developing is of high importance for policy
makers, academics and business leaders alike.
Theoreticians must move away from
neoclassical, economics-driven frameworks
in the study of the role of business in society
and models of corporate social performance,
social control of business and stakeholders that
Copyright © 2013, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited.
predominated throughout the 1980s and 1990s
(Donaldson & Preston, 1995; Shamir, 2009).
Indeed, only following or as result of the global
financial crises of 2008 and 2009, and the cor-
porate scandals of Enron, WorldCom, Adelphi,
and Global Crossing and others in the early 21st
century, have social science researchers begun
to think in a more pluralistic way in terms of
ethics as well as the diversity of comparative
business systems (Glynn et al., 2000; Gonzalez,
2003; Kilduff & Dougherty, 2000; Reed, 2002).
Nevertheless, there has been relatively less re-
search on China’s national business system or its
social market economy and the factors that are
influencing the emergence of one of the world’s
largest economies (Berger & Herstein, 2012).
The present paper aims to fill in this lacuna,
at least partially. Specifically, this paper has
three objectives. First, we examine the mean-
ing of a “social market economy”, which has
been used by the Chinese to describe China’s
business system. Second, we analyze the tradi-
tional shareholder and stakeholder (Freeman,
1984) debate in terms of business systems and
management research, looking at the economy
together with society. We show that China’s
social market economy has many similarities
to the stakeholder business system increasingly
championed by today’s global ethicists. Third,
we discuss the implications of the emergence
of the Chinese economy, and the Chinese busi-
ness system (Child & Tse, 2001; Tan & Peng,
2003) in the context of potential contributions
to social science research.
Comparative Business Systems
The revival of interest in comparative eco-
nomics – a popular academic subject up to
the disintegration of the Soviet Union – in the
twenty-first century focuses on the issue of
competing models of capitalism, or business
systems. For example, the sustained success of
the German and Japanese economies constitutes
an alternative model of political economy often
called alliance or Communitarian capitalism
(Chu, 2009; Gonzalez, 2003; Perraton, 2009;
Reed, 2002; Schrank, 2009;). Alongside these
systems is that of China, with its dramatic and
continuing global economic and business rise.
International Journal of Asian Business and Information Management, 4(1), 21-30, January-March 2013 23
In parallel, following the global financial crises
and the corporate scandals, as mentioned earlier,
the reform of corporate governance systems
and corporate restructuring has also become
a subject of intense global debate (Bird-David
& Darr, 2009; Donaldson, 2003; Martineze et
al., 2009) about comparative corporate gov-
ernance, and the need for resilient business
systems in the modern world.
The Anglo-Saxon business system or
model, i.e., capitalism (Albert, 1991), was the
dominant economic paradigm used by West-
ern countries in the nineteenth and twentieth
centuries. The revival of interest in compara-
tive economics, political, social organizations
and institutions in academic research has been
around the issue of competing models of capi-
talism, or business systems. The trigger for this
was the sustained success of the German and
Japanese economics, which provided an alter-
native model of political economy often called
‘Communitarian capitalism’and contrasted with
the US-UK shareholder driven model. There
has also been an intense debate on the reform
of corporate governance systems coupled with
various initiatives for corporate restructuring in
both Anglo-Saxon countries and Communitar-
ian countries. In addition, there is a compelling
need for an applicable model of business systems
for the former Soviet bloc countries as well as
other emerging market countries. 21st century
corporate scandals such as Enron, Andersen,
Worldcom have shown that the financial trans-
parency and shareholder driven model of the
United States can also have liabilities in terms
of governance and business ethics.
Although the terms West and Western are
often used to describe both North America and
Western Europe as a relatively homogenous
grouping of countries in terms of economic and
political systems, there is a significant difference
between Anglo-Saxon countries such as the
U.S., Canada, and the UK and those of conti-
nental Europe, which are often seen as having a
system closer to a “social market economy (Al-
bert, 1991). The social market economy seeks
a middle path between socialism and economic
liberalism (i.e. a mixed economy), combining
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private enterprise with government regulation to
establish fair competition, maintaining a balance
between a high rate of economic growth, low
inflation, low levels of unemployment, good
working conditions, social welfare, and public
services, by using state intervention. The idea
underlying the social market economy is that
the free market efficiently produces a quantity
of goods and would distribute them in a cer-
tain pattern among the economic agents who
produced it, but that this distribution can be
made morally and practically better by making
it more “social”.
The domestic business system of eastern
and western European countries, which empha-
sizes the role of government in economic and
social affairs, close linkages between banking
and industry, and society’s group orientation and
Communitarian values, advocates very different
values and ethics from those of Anglo-Saxon
countries (Naixiao & Chunua, 2012). In sum,
Continental Europe, which on the one hand
certainly represents Western civilization, has
a stakeholder system that is fundamentally not
capitalistic – at least in terms of its domestic
policies. The stakeholder theory is a theory of
organizational management and business ethics
that addresses morals and values in managing
an organization. Stakeholder based manage-
ment forms a natural theoretical and managerial
basis for this new environment in China with
the need to incorporate external factors and
align internal strengths to implement strategy.
Internal changes include valuing and managing
intellectual capital to respond to the external
environment, which entails development of
processes and systems, as well as innovation
and knowledge management that is responsive
to external factors and stakeholders.
As it appears today, despite President Hu
Jintao’s declarations that his country will have
a social market economy, China’s business
system is evolving into a hybrid of these two
major business systems. Given China’s focus
on a social market economy, its system can be
said to be evolving into one that is much closer
to the Communitarian business system prevalent
in Continental Europe and many Asian countries
24 International Journal of Asian Business and Information Management, 4(1), 21-30, January-March 2013
such as Japan and Korea. Communitarian busi-
ness system argue that the collective can have
rights that are independent of and even opposed
to the rights of the individual and contends that
the individual develops and can flourish only
within the context of a community. It recog-
nizes (1) both individual human dignity and the
social dimension of human existence; (2) that
the preservation of individual liberty depends
on the active maintenance of the institutions
of civil society; and (3) that the communities
and polities have duties to be responsive to
their members and to foster participation and
deliberation in social and political life. Under
communitarianism there can be no question
of eliminating all government influence from
business affairs because the state is responsible
for the welfare of its people whose economic
lives must be taken into consideration. It leaves
the way open for private initiative but is ready
to come to its assistance when private initiative
fails. It not only protects but positively promotes
all enterprises undertaken for the common good.
The fact that China’s $105 billion of
foreign direct investment (Economist, 2011)
originates from companies from both systems
is an interesting phenomena that will further
accelerate a mixed system. China’s phenomenal
economic growth and rapid development in vari-
ous industries including electronics, telecom,
and semiconductors has placed it in a league
of its own (Zhu & Sun, 2011). The traditional
terms, developing county or transition economy,
neither describe China accurately nor reflect its
unique character (Peng & Tong, 2003; Perraton,
2009; Schrank, 2009; White, 2000). Most likely
a new name will emerge for China’s advancing
business system.
Institutions and Strategic
Transparency
Many social science researchers, at least since
the 1980s, have focused on the importance of
national institutions and capabilities. North
(1990) studied economic institutions; Kogut
(1991) examined technological capabilities
and national systems of innovations; Hunting-
ton (1996) looked at social contingencies and
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elective affinities; Whitley (1990), Chang and
Hong (2000), Filatochev, Buck and Zhukov
(2000), Child and Tse (2001) researched the
comparative forms of business organizations
and management systems. These works, elabo-
rating on the global standardization and local
adaptation debate, have helped delineate the
complex realities of institutional and organi-
zational diversity that still persist in today’s
increasingly converging business environment.
We further suggest that the business system of
a country or a group of countries consisting of
various institutional and cultural factors are a
crucial determinant in analyzing differential
organizational and strategic modes as well as
differential rates of performance of firms and
organizations in today’s globally competitive
business environment.
Global competition can be understood
from the viewpoint of what motivates and
constrains firm strategy and behavior in today’s
global business environment (Xiaohui et al,
2012). Constraints include national culture, the
legal and regulatory environment, business-
government relationships, the role of financial
institutions, and corporate governance systems
in the home country as well as the host countries
of multinational firms. Note that globalization
and competition between competition-driven
countries do not mean that differences between
the latter and economics-driven countries do
not exist. In line with this, the importance of
the national business environment in influenc-
ing the organizing principles and competitive
strategies of firms has been analyzed in Kogut
(1991), Albert (1991), and Guillen (2000).
According to their analyses, domestic institu-
tions play as important role in determining
corporate behavior in response to the pressures
of globalization. For example, in many parts of
Asia, it is not the financial markets but various
government ministries that monitor corporate
performance and control financial allocation.
Today’s comparative analysis approach shows
that the traditional distinction between market
forces and the state has become more complex
and blurred. There seems to be an increasingly
dynamic relationship between these and institu-
tions within most countries.
International Journal of Asian Business and Information Management, 4(1), 21-30, January-March 2013 25
In many Continental European countries
such as Germany and Switzerland, the banking
sector, as institutional shareholders, monitors
corporate performance and investment deci-
sions. Firm behavior and strategy, especially
investment decisions such as new market entry,
diversification, and innovation and new product
development, can be significantly constrained
by the differences among their home market
institutions. Nevertheless, this diversity can, at
the same time, provide a competitive advantage
that may or may not be transferred across na-
tional boundaries (Berger & Herstein, 2012).
These constraints in turn determine the scale and
scope of collaborative activities across national
boundaries (Sun & Wang, 2010). That is, in spite
of the global nature of today’s competition, the
political, economic, and socio-cultural effects of
home market institutions can have both a posi-
tive and negative influence on firm capabilities
and competitive advantages.
Implications for China’s
Social Market Economy
A major research topic in management in the
1990s and early twenty-first century is the issue
of corporate governance, national business sys-
tems and accountability to shareholders versus
stakeholders (Donaldson, 2003; Donaldson &
Preston, 1995; Freeman, 1984; Hill & Jones,
Figure 1. China – shareholders and stakeholders systems and a social market economy
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1992; Jones, 1995). As discussed by Bowman
and Useem (1995), the traditional models of
corporate governance were based on economic
and legal theories and advocated distinct roles
for owners, directors, and managers. The well-
known Anglo-Saxon system contrasts sharply
with the Communitarian system of Continental
Europe and several developed Asian economies
such as Japan, Korea, Taiwan, and Singapore.
China’s business system and the foundations of
China’s social market economy will be a hybrid
of both systems. This is shown in Figure 1.
The debate in the 1990s and the early
twenty-first century on corporate governance
reform in the market-based corporate gover-
nance systems found in the UK and the U.S.,
for example, focused on the issue of protecting
stakeholders’ interests at the expense of share-
holders. Originally, the call for reform had an
economic orientation (Alchian & Demsetz,
1972), which asserted that the nature of the firm
recognizes capital suppliers and managerial
efforts as the main factors of production. Today,
the debate has expanded the nature of firm to
include all the stakeholders (employees, man-
agers, capital suppliers, community) who can
influence, or be influenced by, the firm’s deci-
sions. The literature presents a host of arguments
on the effects of stakeholders on agency rela-
tionships between a firm’s shareholders and
26 International Journal of Asian Business and Information Management, 4(1), 21-30, January-March 2013
managers (Chang & Hong, 2000; Demsetz &
Lehn, 1985; Gonzalez, 2003; Khanna & Palepu,
2000; Reed, 2002). As shareholders have always
been the focus of the Anglo-Saxon market-based
corporate governance system, a problematic
focus on short-term profitability in comparison
to Communitarian Germany and Japan, which
emphasize long-term relationships between
strategic capital suppliers, has developed.
At present, China’s business system is
closer to the Communitarian (Albert, 1991)
stakeholder-driven business systems (Freeman
& Reed, 1990). This system has much closer
linkages among government, firms, banks and
employees. This more holistic business system
should provide fertile ground for social entre-
preneurship (Xiaohui et al., 2012). Accordingly,
given China’s intention to continue on the path
of a “social market economy”, in conjunction
with its Communitarian roots, should further
enhance its contributions to global research
on comparative economic models and busi-
ness systems.
CHINA’S BUSINESS SYSTEM
Market liberalization in China has required
firms to follow the disclosure regulations of
the leading international financial centers in
the Anglo-Saxon business systems in the U.S.
and the UK, etc. Nevertheless, its weak legal
infrastructure has not enabled it to comply with
the regulations; there have been many cases of
Chinese fraudulent accounting and violations
of disclosure rules. The main areas of low or
absent disclosure are asset valuation, disclosure
of off-balance sheet items and transactions with
the parties related to controlling shareholders.
Strategic transparency, therefore, requires
bringing about structural change in the Chinese
corporate governance system. The economic
integration already underway in the country
will gradually liberalize the Chinese market
further, requiring even more disclosure to
outside investors. At this stage of its economic
transition, China requires low-cost long-term
financing (Sun and Wang, 2010), which cannot
be guaranteed unless financiers are sure about
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the near and far future of Chinese firms. In this
regard, China is considered to be in a good posi-
tion to reach reduced transaction costs because
it can leverage its technological information
advantage and become more transparent to the
existing and potential investors and stakehold-
ers (Gonzalez, 2003; Phan, 2001; Reed, 2002;
Tam, 2002). Evidence in the field supports the
positive relationship between firm transparency,
reducing the cost of equity and the cost of debt,
and improving product market performance
(Botosan, 1997, 2000). Since China is still a
giant, emerging economy, it is still too early
to know the precise characteristics that will
dominate its future business system and the full
impact China will have on the global economy.
To attain economic integration on a
global level, the Chinese financial institutions
(securities markets, banks) must focus on
long-run performance and avoid the problems
of short-termism that is very common in the
Anglo-Saxon market-based system. The role
played by China’s banks or even the country’s
subsidized debt is not the only reason for the
economic downturn we are now witnessing
in the region. In fact, looking at the situation
from a practical point of view, bank loans are
considered in the corporate finance literature to
be a very viable source of finance, especially
when a certain type of investment does not
appeal to the trends in the stock market. This
active role of debt has been realized through
the evolution of the Anglo-Saxon market-based
system. It is the result of the relatively heavy
reliance of Anglo-Saxon firms on short-term
financing through the stock market, which has
led to them making financing and investment
decisions that are designed to satisfy the short-
term interests of their myopic shareholders
(Laverty, 1996). For China’s business system
to focus on long-run performance, the state
must strengthen the legal infrastructure so that
bank financing can assume a more active role.
As noted above, China’s banks cannot, as yet,
play an active role in corporate governance.
In fact, low firms’ equity holdings in banks
institutions go against the principles of China’s
relationship-based business system, which is
unique to the region.
International Journal of Asian Business and Information Management, 4(1), 21-30, January-March 2013 27

Transparency will lead to better financ- (Honig & Christie, 2003). Table 1 shows the dif-
ing and investment decisions given that ferences among the three business systems and
market-based mechanisms use price signals their implications for a social market economy.
to efficiently allocate resources and monitor
market returns (Naixiao & Chunhua, 2012). In
this regard, we can suggest a reform measure CONCLUSION AND FURTHER
for China’s corporate governance system that RESEARCH
relies, inter alia, on the ratios of long-term and
Over the past few decades, China has recognized
short-term financing to total financing. The
the crucial role to be played by private enterprise
higher the percentage of long-term financing,
in building the country’s economy. This paper
the more we can infer the extent of outside
illustrated that the transition between Western
investors’ confidence in the future of China’s
and Eastern managerial systems is and will
firms. The long-term perspective is crucial to
continue to be slow and incremental; its final
sustainable competitive corporate governance
destination is illusive. Even though China’s
system in China, in contrast to the economics-
economy is already the fastest growing in the
driven business systems and the associated
world and China is well on its way to becoming
Anglo-Saxon corporate governance systems,
the leading economic power, China’s managers
which focus on the short-term in both their
are still searching for ways to become better
financing and investment decisions and thus
managers. Modeling the Chinese miracle of
have negatively affected the competitiveness
transition and development poses considerable
of Anglo-Saxon corporate governance. This
difficulties for economists (Fan, 2002). This is
highlights the importance of including the logic
because China adopted a gradual managerial
and analysis of other social science disciplines
transition approach, and because it continues
such as sociology and anthropology, in ad-
to manifest many vestiges of the old system,
dition to traditional neoclassical economics,
reflecting the stability and perseverance of its
in the analysis of national business systems
political system.
(Donaldson, 2001, 2003).
The past three decades have seen far-
It is most likely that China’s business
reaching and fundamental changes in China’s
system will be a hybrid, a mixture of the two
economic infrastructure and business envi-
major systems of Anglo-Saxon shareholders
ronment (Gu et al., 2008). During this short
and Communitarian stakeholders (Donaldson,
span of time, China has utterly transformed
2003; Freeman, 1984). In fact, the different
its economy, moving from a system based on
modes of corporate governance and information
central planning to a socialist market economy
disclosure can significantly impact the strategic
in which legally independent firms coexist with
behavior of firms and organizations, leading
a Communist political infrastructure (Barbieri
them to undertake social entrepreneurship
et al., 2010). Concurrently with these changes,

Table 1. Types of business systems

Types of Business System Key Characteristics

Anglo-Saxon System • Shareholders and the dynamics of financial markets
• Domination by private entrepreneurship and the profit motive
Communitarian System • Stakeholders: employees, suppliers, government, and the community
• Closer mix among social institutions, businesses and the community
China’s Business System • Privatization of government ministries, state-owned enterprises
• Social market economy
• Mix of both shareholder and stakeholder systems

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28 International Journal of Asian Business and Information Management, 4(1), 21-30, January-March 2013
modern China has evolved from one of the
world’s poorest, most economically backward
countries in the first half of its existence to an
emerging global leader.
The early twenty-first century has experi-
enced two major economic, social and business
events of global magnitude. The first was the
global financial crisis of 2008/2009, which was
preceded by the global corporate scandals of
Enron and WorldCom, etc. The second was the
emergence of China as a major global economy,
the world’s second largest economy after the
U.S. China annually receives $105 billion of
direct foreign investment, the largest amount
for any country in the world (Economist, 2011).
The implications for the global economy of
these changes are still being felt.
As part of these changes, China along with
many other countries in the world has begun
to adopt a wide range of corporate governance
reforms (Chu, 2009; Perraton, 2009; Reed,
2002; Schrank, 2009). The rate of adoption is
being determined by the pace of the country’s
globalization, which in turn is based on factors
in both the shareholder and stakeholder business
systems (Martinez et al., 2009). These changes
and the convergence of many business institu-
tions are shaping China’s new social market
economy. This emerging economy will take
into account the foundations of its complex
institutions, which have many similarities to
the Communitarian business system practiced
in the countries of Continental Europe and in
Asia in Japan and Korea, among others.
Our research shows the influence the busi-
ness systems have on the practices of corporate
governance, whereby transparency is consid-
ered one of the determinants of the success
of corporate governance modes. Institutional
transparency is closely related to the informa-
tion that is disclosed to a firm’s stakeholders
who are, in turn, affected by the structure of
corporate ownership. Information disclosure,
thus transparency, is affected by the institutional
arrangements typical for a certain type of
business system, among which is the effec-
tiveness of legal institutions that set boundaries
between mandatory and voluntary information
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disclosure. Global competitive pressures call
for firms to move sufficiently rapidly and not
to have to wait for new disclosure laws to tell
them what, where, why, bow, and when to dis-
close relevant information to their stakeholders.
However, this does not diminish the importance
of necessary improvements in company law and
bringing effective enforcement to the market.
Further research can be developed in at
least two ways. First, a theoretical analysis and
comparison of China’s private, non-profit and
government sectors would enrich the ongoing
discussion. Second, an empirical work analyz-
ing the role of a social market economy within
China’s emerging global economy would aid
in understanding the mechanisms of change.
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