Commentary: How China Turns Entrepreneurs into Outlaws

It's almost impossible to operate within the law in China. Anything local officials choose to permit is permitted--until it isn't

It may be hard to feel sorry for disgraced orchid king Yang Bin. In a celebrated case, Yang was sentenced on July 14 in the northeastern city of Shenyang to 18 years in jail for a gaggle of economic crimes. Yes, the harshness of the sentence likely was provoked in part by the flamboyance of the horticulturist-cum-real estate operator whose net worth once supposedly approached $1 billion. Yang had the audacity to flaunt his wealth by building a Dutch-style village complete with windmills in Shenyang and also agreed to set up a special economic zone in North Korea without sufficient consultation with Beijing. But he was also found guilty of forging financial documents, bribery, and other crimes.

Still, Yang's troubles are a vivid reminder of a key problem plaguing China: Beijing really doesn't know what to do with its entrepreneurs. lt's almost impossible for the owners of sizable private businesses to operate altogether within the law in China. Restrictive company laws, a dysfunctional tax system, and a government shrouded in corruption and secrecy all conspire against the development of an entrepreneurial culture that can fuel the growth the country's economy so badly needs.

This isn't anything new. Hong Kong Securities & Futures Commission Chairman Andrew Sheng, the territory's top securities cop, thinks China lost its economic momentum three centuries ago "because private-sector property rights were never defined by civil law." Today, legal changes are slowly being put in place to ensure that entrepreneurs are not discriminated against. Yet there have been a series of high-profile arrests of businessmen. Two months ago, authorities took into custody Zhou Zhengyi, the head of Shanghai Land Holdings, one of the city's largest property developers. And Sun Dawu, founder and head of one of China's biggest agricultural companies, has been held by authorities in Hebei Province since May on charges of running an illegal bank. Yang Rong fled to the U.S. last year following a dispute with authorities over control of Brilliance China Automotive Holdings Ltd., the New York Stock Exchange-listed auto maker he ran.

Without making judgments about these cases, it's clear that in China's convoluted and restrictive system, business owners often are forced to make illegal compromises with local officials to stay in business. These officials also want to generate jobs and economic growth in order to get promoted. That means anything goes -- as long as growth is high and tax revenues flow in. "If you are a good tax-paying company, the local government will tell you anything you want to do is O.K.," says Marcia L. Ellis, a lawyer at Paul, Weiss, Rifkind, Wharton & Garrison LLP in Hong Kong.

But as Yang Bin and others have found out, when the center decides it wants to crack down, these understandings with local officials amount to nothing. That nod-and-wink style of governing needlessly raises business risk.

China needs more "clarity of law," says Hong Kong-based attorney Peter Roberts of Jones Day. "Too much relies on [businessmen being told]: 'The government is keen to do this, and the law will follow."' China, notes Sheng, needs "to nurture a vibrant corporate-governance culture so that private enterprise can grow" without falling into what he calls a "robber baron" mentality.

For now, the system dictates that only someone willing to engage in constant bargaining with the local taxman and other officials can even think about running anything but the smallest enterprise in China. For most ordinary citizens, it's too risky. Yet China needs private business to pick up the slack left by the faltering state sector, which has laid off more than 25 million workers since 1998. Over that same time, private companies have been responsible for all of the country's job growth. If China wants to stay on its growth track, it will need to find a way to allow its Yangs and Zhous to get rich -- and stay on the right side of the law.

By Mark L. Clifford

    Before it's here, it's on the Bloomberg Terminal.