Research on the Law of China’s Rural Land Institutional Changes: An Analytical Framework of Economic Efficiency and Distributive Equity

Abstract

Institutions affect economic development and social stability, and the characteristics of institutional change are a complex and widely discussed topic. This paper constructs a theoretical analysis framework to describe the relationship between institutional change, resource conditions, and overall social welfare, so as to explore the preconditions for the formation of institutions with greater equity and higher economic efficiency. On the basis of this analytical framework, we conduct a case study on China’s rural land institutional changes over the past 70 years to explore the law of institutional changes. We found that when resources are scarce, economic efficiency and distributive equity usually pose difficulty to being improved and present a substitution relationship, while only when resources are sufficient could they realise these goals. The findings indicate that for regions with meagre resources, the advantageous sectors need to be identified and prioritised at the beginning of the development so as to recognise the appropriate initial resource accumulation. A certain accumulation of resources is the prerequisite for creating institutions that could improve economic efficiency and offer equitable distribution.

1. Introduction

A consensus has been reached on the important role that institutions play in national governance, but how to establish good institutions has not been conclusively settled yet [1,2,3]. It is generally believed that good institutions could protect property rights and promote effective interaction and feedback in the market, society and government [4,5]. In this sense, institutions that could improve both economic efficiency and distributive equity are arguably ideal. There are preconditions for the establishment of such institutions, but they are not yet clear, which serves as the motivation for this paper. This study is expected to provide some inspirations for the institutional reform of the low- and middle-income countries (or regions) in transition.

According to the existing literature, the relationship between equity and efficiency is mostly substitution (i.e., improving efficiency comes at the expense of reducing equity, or vice versa) [6,7,8] but occasionally complementary (i.e., both equity and efficiency could be improved) [9,10]. A series of studies has been conducted on the causes of these relationships. For one thing, the formation mechanism of a substitution relationship is exchange. Improvements in equity are often by means of redistribution, which may produce administrative costs and distort factor price, thus leading to efficiency losses [11,12,13]. For another, the formation mechanism of a complementary relationship is diminishing marginal productivity. As indicated by welfare economics, the allocation of resources per unit brings more utility improvements to the poor than to the rich [14]. Similarly, the productivity of the original advantageous sector might be declining in the accumulation process, then the allocation of resources to the disadvantageous sector would achieve higher productivity, thus realising improvements in both equity and efficiency [9,10]. These studies provide a general theoretical outline and some representative cases. However, there is no clear answer to the conditions for the formation of the above relationship or the prerequisite for the establishment of the corresponding institutions. Therefore, this paper attempts to answer the following questions, for the purpose of providing inspirations for the institutional reform of underdeveloped regions and for enriching the theory of institutional change. Under what circumstances can the institutions that improve economic efficiency also offer equitable distribution (i.e., complementary relationship), and under what circumstances can the institutions that improve economic efficiency widen the income gap (i.e., substitution relationship)? What are the key factors?

We address this issue in the context of a specific, historically prominent instance: China’s rural land institutional changes. Many countries, such as Japan and South Korea, have catalysed economic growth by enshrining greater equality for land rights [15], and there are also countries, such as Mexico, that have failed to spur economic growth through land reform [16]. China has experienced not only the substitution of equity and efficiency but also the mutual promotion of land institutional reforms over the past 70 years [17,18]. We divided China’s rural land institutional changes into three stages, discussing the key constraints of forming different relationships between distributive equity and economic efficiency and have here attempted to make a marginal contribution to this issue.

On the basis of the substitution and complementarity of economic efficiency and distributive equity, we propose an institutional change theoretical framework which describes the relationship between resources, institutions and the overall social welfare. The current setup for resources and institutions affects economic efficiency and distributive equity, both of which further determine overall social welfare. Then, the overall social welfare in turn constrains and influences the available resources and institutional change in the future. On the basis of this framework, an overall social welfare model is constructed, in which both the negative (substitution) and positive (complementary) correlation between economic efficiency and distributive equity are considered. The research hypotheses are proposed accordingly: First, in times of scarcity, economic efficiency and distributive equity mostly present an approximation of a substitution relationship. Second, when resources are sufficient, economic efficiency and distributive equity mostly present an approximation of a complementary relationship.

Then, the hypotheses are tested through the case study. According to the differences in land property rights, institutions and levels of resources, China’s rural land institutional changes are divided into three stages: private ownership of land→collective ownership of land; reforming land property rights for agricultural land; and reforming land property rights for rural construction land. At the first stage, endowment resources were insufficient, and the institutions were designed to realise egalitarian and rapid economic growth. But this setup is eventually trapped into generating greater inequality for rights and opportunities and lower economic efficiency. At the second stage, market mechanisms were established and capital gradually accumulated, resulting in a larger income gap and rapid economic growth. The relationship between equity and efficiency was mainly substitution at the second stage. By the third stage, some capital has been accumulated, and policymakers have begun to attach importance to equity. At this stage, in addition to the substitution relationship, equity and efficiency are also in a complementary relationship.

The rest of this paper is arranged as follows. The second section presents the theoretical analysis and hypotheses. The third section presents the background of China’s institutional reform. The fourth section focuses on institutional changes regarding China’s rural land over the past 70 years, discussing the law of institutional changes based on economic efficiency and distributive equity. The last section provides the conclusion and discussion.

2. Theoretical Framework: Institutional Changes Based on Economic Efficiency and Distributive Equity

2.1. Theoretical Framework of Institutional Change

Using Acemoglu et al.’s interactive framework of “political institution and economic institution” [2], we construct an analytical framework of institutional change based on economic efficiency and distributive equity. Institutions and resources jointly determine equity and efficiency, thus influencing social stability and economic development, while overall social welfare in turn imposes constraints on institutional change and resources. The theoretical framework of institutional change is constructed on the basis of the substitution and complementary relationship between economic efficiency and distributive equity (Figure 1).

As shown in Figure 1, there are two cycles. One is resources (at period T)→available factors of production→trade-off of economic efficiency and distributive equity→overall social welfare→resources (at period T + 1), and the other is institution(at period T)→utilisation and distribution of factors of production→trade-off of economic efficiency and distributive equity→overall social welfare→institutions (at period T + 1).

Specifically, resources, such as capital, technology, information and other factors of production, determine the number of factors available for use. Institutions, including political institutions and economic institutions, affect the utilisation efficiency and distribution of available resources. The two together determine the trade-off between economic efficiency and distributive equity. The specific process is as follows. Redistribution policies (e.g., taxation, financial transfer payments) can improve distributive equity but may produce administrative costs and distort factor prices, thus reducing efficiency. Preferential policies for advantageous sectors can improve economic efficiency but widen the income gap. Given diminishing marginal productivity, when the productivity of advantageous industries decreases to a critical value, allocating resources to other industries might simultaneously enhance economic efficiency and distributive equity. The above process affects economic development and social stability and ultimately influences the overall social welfare during this period (i.e., T), which determines the future for resources and institutions (i.e., T + 1).

2.2. Overall Social Welfare Model and Institutional Change Hypothesis

On the basis of the above theoretical framework, a model is constructed in this section. With the rise of behavioural economics, many studies have attempted to construct micromodels of social preference [19]. The most common modelling method is to introduce self-interest preference (i.e., efficiency) and equity preference into the model, independently, and the utility is positively proportional to income and inversely proportional to the income gap [20,21]. Although this approach has been criticised for not considering the endogenous preference structure, it is still a concise, explanatory and useful modelling approach. Accordingly, we extend the micromodel to a macro level to construct a model of a state’s (or a region’s) overall social welfare.

The model contains the following assumptions:

(1)

Only two sectors exist, namely A and B. A has more development advantages than does B, that is, higher productivity at t = 1.

(2)

The marginal productivity of input first increases and then decreases in an inverted U-shape distribution.

(3)

The overall social welfare level is affected by two factors, namely income and the income gap. Income is positively correlated with welfare level, while the income gap is negatively correlated with welfare level.

(4)

The wealth generated by investing in the two sectors is independent of each other, and the difference between them is the income gap. In other words, redistribution is not considered separately, and the costs of redistribution are included in the costs brought by the income gap.

Consider a utility function (U_t) starting at t = 1, where the first two terms are the effect of income and the last two are the effect of the income gap. The former exerts a direct influence on economic development, while the latter includes all utility loss from the income gap, such as the costs of redistribution and social problems brought by the changes in individual perceptions at the micro level. The overall social welfare model at time t is given by

U_t = (∂π^A(X)/∂X_t−1^A)x_t^A + (∂π^B(X)/∂X_t−1^B)x_t^B − β|W_t^A − W_t^B|

(1)

where x_t represents the input at time t for A or B; X_t represents the cumulative input in the previous t period for A or B, π(X) represents the income it generates; W_t represents the cumulative income (i.e., wealth) in the previous t period of A or B; and β represents the coefficient of utility loss caused by the income gap, 0 < β < 1. Overall social welfare (i.e., U) is a key variable that affects development strategy and institutional changes.

The input constraints are shown in Formula (2). RAI is a critical variable for exploring the dynamic characteristics of institutional change, which denotes the resources available for investment at time t, RAI_t < W_t−1. Put differently, on one hand, it represents the resource conditions and the national capacity and imposes strong constraints on the input; on the other hand, the current input must be less than the previous wealth accumulation1.

RAI_t = x_t^A + x_t^B

(2)

We assume that A has more development advantages than does B at t = 1, that is, ∂π^A(X)/∂X₁^A > ∂π^B(X)/∂X₁^B, and |W_t^A–W_t^B| measures the income gap at time t. Then, we draw the marginal income (i.e., ∂π(X)/∂X_t) curve (Figure 2a) and the wealth (i.e., W_t) curve (Figure 2b) according to Formula (1).

The resources in poor regions are relatively scarce. Consider an extreme case where RAI₁ is a positive value close to zero. Assume that the inputs in each period are independent of each other; that is, x₁, x₂, …, x_t are independent of each other. Then, Formula (2) is substituted into Formula (1), and the partial derivative of U_t of Formula (1) is taken with respect to x_t^A. The results are as follows:

∂U_t/∂x_t^A = ∂π^A(X)/∂X_t−1^A + ∂π^B(X)/∂X_t−1^B − β|∂W_t^A/∂x_t^A − ∂W_t^B/∂x_t^A|

(3)

The last term in Formula (3) is always greater than or equal to 0; thus, it is set as ε ≥ 0. From this, Formula (4) is obtained:

$$\left\{\begin{array}{c}\partial U_t/\partial x_t{}^A>0if\partial {\pi }^A\left(X\right)/\partial X_{t-1}{}^A>\partial {\pi }^B\left(X\right)/\partial X_{t-1}{}^B+\epsilon \hfill \\ \partial U_t/\partial x_t{}^A=0if\partial {\pi }^A\left(X\right)/\partial X_{t-1}{}^A=\partial {\pi }^B\left(X\right)/\partial X_{t-1}{}^B+\epsilon \hfill \\ \partial U_t/\partial x_t{}^A<0if\partial {\pi }^A\left(X\right)/\partial X_{t-1}{}^A<\partial {\pi }^B\left(X\right)/\partial X_{t-1}{}^B+\epsilon \hfill \end{array}\right.$$

(4)

According to Formula (4), if the productivity of A is much higher than that of B at time t − 1, namely ∂π^A(X)/∂X_t−1^A >> ∂π^B(X)/∂X_t−1, then increasing x^A at time t would help improve overall social welfare. If the productivity of A is slightly higher than that of B at time t − 1, that is, the difference is less than a certain critical value (i.e., ε), then increasing x^B instead of x^A at time t would help improve overall social welfare. Given that RAI₁ is close to zero, investment can be made in only one sector in the early stage of development, and only when some capital accumulation has taken place can investment be made in both sectors.

Therefore, given that the initial productivity of A is greater than that of B in a situation of poor resources, better overall social welfare can be obtained when a major investment is made in A at the initial stage of development. That is, concentrated investment increases efficiency but widens the income gap, whereas decentralised investment ensures more equity but is inefficient. Moreover, when some resource accumulation takes place, increasing the investment in B could jointly improve economic efficiency and distributive equity by narrowing the income gap or obtaining higher productivity. For states or regions with poor resources, concentrating efforts on promoting the development of advantageous sectors is conducive to improving their overall social welfare. This inference is consistent with evolutionary rationalism [22] and comparative advantage theory [23]. Although one emphasises spontaneous order and the other emphasises the role of government, in essence both of them means that sustainable development can be achieved only by complying with the laws of nature.

In addition, development itself would bring many new problems, a large income gap being one of the most intractable issues [24,25]. Thus, narrowing the income gap (i.e., equity) is a key to achieving sustainable economic development. In the middle and later stages of economic development, the obstacles posed by inequality to development become more apparent; the economy may continue to grow even when these obstacles are ignored, but certainly not for long. This model takes the idea of “use what you have” [26] a step further, pointing out that for low-resource regions, concentrating on developing advantageous sectors is the first step towards economic prosperity and that the income gap (i.e., inequity) would constrain sustainable economic growth. When wealth accumulation reaches a certain level, even if the productivity of the disadvantaged sector is still lower, the tilt of resources to the disadvantaged sector is conducive to improving overall social welfare. The model further points out that the best time to increase investment in the disadvantageous sector is neither the initial moment nor the moment when the productivity of the disadvantageous sector exceeds that of the advantageous sector but rather at a moment in between.

To sum up, when resources are scarce, institutions could take only either equity or efficiency into account. It is difficult to establish institutions that improve both economic efficiency and distributive equity, and institutional change is characterised by the sacrifice of efficiency for equity, or vice versa. Therefore, economic efficiency and distributive equity present an approximation of a substitution relationship in these cases. In contrast, when resources are sufficient, institutions would change towards the direction of improving both efficiency and equity, and an approximation of a complementary relationship would be formed between economic efficiency and distributive equity.

Accordingly, the following research hypotheses are proposed:

Hypothesis 1 (substitution relationship): 

In times of scarcity, institutions find spurring economic growth difficult while guaranteeing distributive equity.

Hypothesis 2 (complementary relationship): 

When resources are sufficient, institutions would change towards the direction of improving both economic efficiency and distributive equity.

To test these hypotheses, three cases are required, two for meagre resources and one for sufficient resources. Under the condition of meagre resources, if the institutions that could only improve one of efficiency or equity could be established and if the institutions that could improve both efficiency and equity failed to be created, Hypothesis 1 can be proven. When the case of sufficient resources and that of meagre resources are compared, if the former could create institutions with greater equity and a better economy and if the latter also failed, Hypothesis 2 can be proven. China’s rural land institutional changes over the past 70 years provide the three types of cases, and we test these hypotheses by conducting case studies.

3. Institutional Background: China’s Development History over the Past 70 Years

The well-known “China’s miracle” refers to the remarkable economic and societal achievements of China since the reform and opening-up (after 1978). However, the planned economy and catch-up strategy in the first 30 years after the founding of China led to a development disaster. Mainstream studies have focused on the institutional structure and development strategies after 1978 to explain China’s prosperity [17,27], ignoring or isolating the history in the first 30 years after China’s foundation. In fact, China’s institutional change over the past 70 years is a continuous process; without the lessons of the first 30 years, achieving such prosperity in the follow-up period would have been difficult. Therefore, we regard the institutional change over those 70 years as a whole to discuss their institutional changes, that is, the trade-off between equity and efficiency. This section introduces the institutional background of China’s reform mainly on three aspects: development strategy, economic level and income gap.

China began to prioritise the development of heavy industry from the first five-year plan period, which started in 1953. Through the endogenous distortion of product and factor prices and the implementation of a highly centralised resource allocation plan, a relatively complete industrial economic system was rapidly formed, aiming to surpass high-income countries in a short period of time. However, for China at the time, capital was scarce, and labour-intensive sectors had a comparative advantage [28]. China’s reform at that time made the common mistake of constructivist rationalism and did not obey the natural law of development, resulting in sacrificing the light industry sectors and in the stagnation of economic development.

Although heavy industry provides the material foundation for economic development and is the embodiment of national strength, labour-intensive sectors had higher productivity at that time. In accordance with the overall social welfare model, the productivities of heavy industry and labour-intensive sectors are shown in Figure 3a. Prioritising the development of heavy industry slows down wealth accumulation (Figure 3b). Given that RAI₁ is low, even if most investments are made in the heavy industry sector, achieving rapid and adequate capital accumulation is difficult. In contrast, if the development of labour-intensive industries were prioritised, then wealth would accumulate faster.

The factors that worsened the situation were the People’s Commune Institution implemented in the 1960s and the Cultural Revolution from 1966 to 1976. Extreme egalitarianism and sudden political turmoil left China’s national economy on the verge of bankruptcy. This crisis and new leadership led to the major institutional reform in 1978 (i.e., reform and opening-up) [23]. The new leader faced up to the mistakes brought about by fantasy, blindness and deviation from objective reality; accepted institutional innovation from the bottom up in an inclusive way; and gradually explored institutions with adaptive efficiency to seek pathways to development. The greatest and most important concept that was introduced during the reform and opening-up was first to allow some people to become rich, who will then help others to achieve common prosperity. This approach is the fundamental reason for the emergence of “China’s miracle”. China enabled some people to first become rich in two key ways: one was the establishment of a socialist market economy, and the other was gradual reform (i.e., the separation of incremental and stock reform) [29].

The core of the former is to use the market mechanism to adjust the allocation of resources. The core of the latter is to first reform the sectors with development advantages and then gradually reform other sectors. A typical case is the urban–rural dual land system, which means urban and rural land property rights have two sets of management systems. Market-oriented reforms were implemented first in urban areas and then gradually in rural areas. The greatest strength of this approach is that it can accumulate wealth most quickly and efficiently, whereas the downside is that it widens the income gap [30,31]. As mentioned in the overall social welfare model, more investment in sector A at the early stage of development is conducive to fast wealth generation, while income inequality would inevitably arise at the same time (Figure 2). Although individuals have inequality aversion, they are more likely than the equally poor to accept a certain income gap. Thus, this reform was implemented smoothly and made significant achievements.

China has also made efforts to achieve common prosperity. Since 1993, a series of policies that attach importance to equity have been proposed. The third plenary session of the 14th Central Committee of the CPC held in 1993 first proposed giving priority to efficiency and factoring in equity. Since then, the government has issued multiple policies to emphasise equity, as witnessed in many fields. For example, land appreciation benefits refer to the increased land output generated by land-use change or land-use development. From the perspective of its distribution policies, it has experienced three stages after the reform and opening-up, namely major shares to the state (1978–2003); increasing the share of farmers (2004–2007); and emphasising the protection of farmers’ property rights and increasing their property income (2008–present). The ongoing Trinity Rural Land Reform, which began in 2014, places particular emphasis on sharing land appreciation benefits fairly and paying more attention to the interests of farmers, who belong to the disadvantageous group. This approach witnessed the evolution of institutions from absolutely prioritising efficiency to giving more consideration to equity.

To sum up, China’s development was a process of trial-and-error learning and continuous reform. In the early days, the economy was in a backwards state, and economic efficiency and distributive equity got in the way of each other. Then, the market economy system was established, and the sectors with advantages were developed first, thereby promoting economic development and widening the income gap. Now that development has achieved remarkable results, more resources can be directed to the improvement of less-developed areas.

4. Empirical Evidence: China’s Rural Land Institutional Changes over the Past 70 Years

Land institutions are the fundamental institutional arrangement of national construction. This section conducts a case study on China’s rural land institutional changes to discuss the trade-off between economic efficiency and distributive equity in institutional change. First, we divide institutional change over the past over 70 years into three stages according to the reform of land property right institutions (

Table 1. Three stages of China’s rural land institutional changes.

Stages	Stage I: Private Ownership of Land by Farmers→Collective Ownership of Land	Stage II: Reform of Land Property Right for Agricultural Land	Stage III: Reform of Land Property Right for Rural Construction Land
Time	1949–1977	1978–present	2014–present
Resource	Poor	From poor to relatively sufficient	Relatively sufficient
Characteristics	Mainly imposed institutional changes	Mainly induced institutional changes	The combination of imposed and induced institutional changes
Performance	A greater inequity, with a floundering economy	An economic boom with a lager income gap	A growing economy, with improved equity
Typical institutions	Land privatisation reform in the early stage, socialist transformation and People’s Commune Institution	Household Responsibility System: no land allocation, three rights separations of rural land, rural land registration	Trinity Rural Land Reform: land expropriation, rural homestead and collectively operated construction land

). Then, we explore the relationship between economic efficiency and distributive equity under different institutional environments and resources and further discuss the law of institutional changes.

4.1. Stage I: From Private Ownership of Land by Farmers to Collective Ownership of Land (1949–1977)

The first stage (1949–1977) was to establish farmers’ private ownership of land and gradually change it to the collective ownership of land. The two typical institutions are land privatisation reform in the early stage and the People’s Commune Institution later on. In the former, the state used administrative measures to allocate land to landless farmers; in the latter, private land was transformed into collective ownership [32].

The background of institutional changes at this stage is the extreme lack of production materials and poor resources. In 1949, China’s GDP per capita was only 66.1 yuan (about $23). At that time, China remained newly established, and the socialist institution was designed mainly to imitate the collectivisation and planned economy of the Soviet Union and to establish a communist society as soon as possible. Therefore, the two most important keys to reform were central leadership and distribution according to needs, which guided policymaking at this stage. The institutions were dominated by the imposed changes during this period. The real GDP per capita from 1952 to 1977 is shown in Figure 4.

In terms of the distribution policy during this period, the communism that the government wanted to build was actually moving towards a kind of egalitarianism aimed at eliminating classes and polarisation [33]. In the beginning, small organisations (i.e., Huzhuzu) were formed in rural areas, in which members shared livestock and farming tools and shared profits and risks. However, distribution at this time was still according to work. By 1956, such organisations has been expanded to form primary agricultural producer’s cooperatives (i.e., Chujishe). Such cooperatives began to arrange planting plans, allocated labour and production materials, and uniformly distributed profits. Although distribution was according to work, the highly unified management had strictly controlled the income gap. These organisations were growing at the same time, and then advanced agricultural producer’s cooperatives (i.e., Gaojishe) were formed, in which members’ private land was converted into collective ownership without compensation. During this period, as shown in Figure 5, economic efficiency was still increasing slowly.

The People’s Commune Institution was formally established through a policy document issued in 1958 by the central government: “Resolution on the Establishment of People’s Communes in Rural Areas”. In the early days of this institution, all the production materials were publicly owned, and about 65% of the materials were freely and equally distributed, such as the free supply of daily production necessities. This mode of distribution was called Gongjizhi, which marked an egalitarian peak. During the first 10 years of the People’s Commune Institution, real GDP per capita experienced five times negative growth and two major economic declines (Figure 5). This situation clearly reflects the impediments of egalitarianism to the economy.

As the negative effects of this egalitarianism quickly emerged, Gongjizhi was soon abolished. By then, economic efficiency was creeping up again, but farmers’ incomes were still subject to many restrictions, and it was still not in essence a way to achieve more pay for more work. By 1977, the per capita GDP reached about $200 but was still a long way from the threshold (i.e., $265) in low- and middle-income countries. In this case, with meagre resource fundamentals, the attempt at creating institutions that could guarantee equity and boost economic growth simultaneously finally failed.

4.2. Stage II: Reform of Land Property Rights for Agricultural Land (1978–Present)

The second stage (1978–present) was mainly the reform of land property rights for agricultural land, which granted farmers land contract rights and guaranteed their rights. The four typical institutions were the Household Responsibility System (HRS), no land allocation, three rights separations for rural land and rural land registration. At this stage, capital is accumulating and the income gap is widening.

HRS reform started in 1982 to allocate land to farmer households, leaving farmers to cultivate their own contracting land and no longer share production materials. HRS was established mainly through induced institutional changes and was a product of accepting bottom-up institutional needs [28,34]. In 1968, China’s real GDP per capita was 158.56 yuan. By 1978, it increased to 282.3 yuan, with a total growth rate of 78% in 10 years, and it grew to 638.04 yuan in 1988, with a growth rate of 126%2. Thus, compared with the People’s Commune Institution, HRS could not strictly maintain equality or control the income gap (Figure 4), but it achieved significant economic growth. The substitution of economic efficiency and distributive equity was at that time still obvious.

When the HRS was first established, agricultural land was allocated to farmer households on the basis of the number of family members. As the number increased or decreased, the amount of farmer households’ contract land was proportionally adjusted; this process is referred to as land allocation. A series of policies that suggested no land allocation was then issued to guarantee the security of land rights. Specifically, policies were issued in 1984, 1993, 2008 and 2013 to emphasise the extension of farmers’ contract period for land, the final decision, in 2017, being to keep the land contracting relation stable and unchanged for a long time, that is, no land allocation [35]. The policy gradually put an end to the equal distribution of agricultural land. Given that stable land tenure is a requirement and a foundation for poverty reduction, economic growth, political stability and sustainable development [36,37,38], these institutions, to some extent, trade equity for efficiency.

The last two reforms were based on HRS’s providing an institutional foundation for farmers to rent their contract land in the market. The former, which was enacted in 2014, separates the ownership, contract rights and management rights of land so that the ownership of land belonged to the village collective and so that farmer households would own the land contract rights and could transfer management rights to tenants. Although rural land was still collectively owned, the efficiency of the market would not be weakened as long as farmers had the land rights of access, use, management, exclusion and alienation and the power of governing land was distributed to the village collective [39,40]. The latter was at the same time being implemented to guarantee the safety of farmers’ land rights and reduce information asymmetry in the land market. This reform was basically completed by the end of 2018. Thus, these two institutions were also concerned mainly with efficiency.

Figure 5 depicts the income changes of rural residents from 1978 to 2019. Under the influence of the above policies, the income of rural residents basically shows a continuous upward trend. In the second stage, the market mechanism was introduced, and a series of policies was formulated to improve the rural land market and thus promote rural economic development. These policies, as it were, have priority to efficiency and did not directly factor in equality. Although the market mechanism would also improve the income of low-income groups, the essential function of these institutions was still to exchange equity for efficiency. The above analysis indicates that at the initial stage of capital accumulation, the improvement of efficiency comes at the expense of equity and also proves that a substitution relationship exists between economic efficiency and distributive equity.

4.3. Stage III: Reform of Land Property Rights for Rural Construction Land (2014–Present)

The third stage (2014–present) involves mainly the reform of land property rights for rural construction land, including market-oriented reforms of the transfer rights of rural homesteads and collectively operated construction land. At this stage, capital has gradually become adequate, and the income gap has slightly decreased.

The second stage of rural institutional reform is mainly aimed at agricultural land, and the right to collective construction land had been subject to many restrictions for years. “The Regulations on Land Expropriation for State Construction”, issued in 1982, forbids any organisation from purchasing or leasing land directly from rural collectives and from purchasing or leasing land in disguised form, and rural collectives shall not participate in the operation of any enterprises in the form of land shares. “The Circular of the State Council on Several Issues Concerning the Development of the Real Estate Industry”, issued in 1992, emphasises that collectively owned land must first be expropriated and transformed into state-owned land before being used for market transactions. Since 2004, these restrictions have been gradually eased, and the central government has begun to encourage the exploration of ways and means for collective nonagricultural construction land to enter the market. However, practical reforms did not begin until 2014, when the Trinity Rural Land Reform started to be promoted in 33 pilot regions and the reform of land property rights for collective construction land had just begun.

The main problems this reform faces are the urban–rural dual structure and the problem left over from the period of incremental reform. As mentioned above, developing advantageous sectors first leads to rapid economic development, and the income gap between urban and rural areas inevitably widens. The main purpose of this institution in the third stage is to increase farmers’ share of the reform dividends and improve the quality of urbanisation.

Next, we construct a simple index (the ratio of the difference between urban and rural per capita incomes to their sum) to measure the urban–rural income gap (see Formula (5)). When the income gap does not exist, the index is equal to 0; when the income gap is very large, the index approaches 1. The changes in the urban–rural income gap index from 1978 to 2020 are shown in Figure 6. After the reform and opening-up, the income gap between urban and rural areas narrowed for a short time and then showed a trend of continuous expansion in fluctuations from the 1980s to the beginning of 2000, followed by slow declines.

Urban and rural income gap index = |urban per capita disposable income − rural per capita disposable income|/(urban per capita disposable income + rural per capita disposable income)

(5)

According to Figure 5 and Figure 6, since the establishment of HRS and the market mechanism, the economic level of rural and urban residents has been rising, while the income gap widened rapidly at first and then narrowed slowly. Rural development has become a short board, and the state has some capital accumulation at the third stage (or even earlier to the time when policies initially factored in equity); thus, such institutions present a complementary relationship between economic efficiency and distributive equity. Although institutions related to the rural land market promote the development of the rural economy, the urban–rural dual structure still restricts rural development and facilitates urban development. In other words, the overall pie of economic development has become bigger, where both urban and rural economic levels have significantly improved, but in terms of distribution, the urban area has gained a larger share. Individuals are more likely to accept greater wealth with a widening income gap rather than poverty for all, which is why these institutions are adopted and work well.

In most cases, policymakers’ focus on distributive equity is passive and problem induced. If they notice the importance of maintaining equity too late, then countries are more likely to fall into the middle-income trap. In a country that consistently invests in sectors with advantages for development and rarely develops weak sectors, the productivity diminishes, and the advantages eventually run out. Then, the state may ask the weak sectors for help, but no more productive sectors are available to provide resources for input at the moment. Thus, the growth would stagnate. In fact, China’s reform experience shows that the negative impact of the income gap manifested early. If work on improving distributive equity is not started while the economy continues to grow, then there comes a big risk of falling into the middle-income trap. The experience of China’s rural land institutional changes over the past 70 years is consistent with our hypotheses. Thus, the hypotheses cannot be proven incorrect and can facilitate an interpretation of the substitution and complementary relation between economic efficiency and distributive equity.

5. Discussions and Conclusions

In the process of institutional change, economic efficiency and distributive equity usually present a substitution or complementary relationship. This paper discussed mainly the preconditions for establishing institutions that could improve both economic efficiency and distributive equity, revealing the law of institutional change. Through the case study of China’s rural land institutional changes over the past 70 years, the research hypotheses were confirmed. The study indicated that a certain accumulation of resources (e.g., capital, technology) was the prerequisite for creating institutions that could improve both economic efficiency and distributive equity.

The three stages of China’s institutional reforms on rural land property rights were shown with three typical examples. At the first stage, in the absence of fuel (i.e., resources) for development, the attempt of creating institutions that could achieve great equality and rapid growth proved to be an unattainable ambition. Instead, the country was eventually trapped into greater inequality for rights and opportunities and lower economic efficiency, leaving an underresourced background for subsequent reform. Then, after endowing farmers with land-use rights and developing the market economy, economic efficiency was greatly improved, but the income gap was widening. Thus, the second stage was the process of resource accumulation, where economic efficiency and distributive equity presented mainly a substitution relationship. At the third stage, there was a considerable accumulation of resources for production, and the impediments imposed by inequity to sustainable economic development had already been magnified. The policymakers began to attach more importance to distributive equity. Many policies were committed to improving both economic efficiency and distributive equity in this period, such that efficiency and equity presented also a complementary relationship, in addition to a substitution relationship.

Furthermore, the theoretical framework constructed in this paper reflects that development itself is an input–output process. Resources, economic efficiency and distributive equity could serve as inputs, and the output is overall social welfare level. Thus, for countries or regions with poor institutions and resources, development is often faced with two choices: One is to rely only on the scarce resources at hand, thus developing slowly with constantly maintaining the balance between economic efficiency and distributive equity. The other is to initially concentrate on economic development at the expense of certain factors (e.g., ecology and equity), thus rapidly increasing the available resources, then gradually adjust the development mode, aiming to realise a transition from a substitution effect to a complementary effect. The former is difficult to achieve, and the latter easily triggers social conflict. This has always been a tricky problem in state governance. The solution, many scholars suggest, is to find a way first grow and then to make adjustments along the way, such as Lin’s theory of comparative advantage [23] and Ang’s idea of “use what you have” [26]. This study is consistent with their opinions. The policy implication of this study is that economic prosperity requires making full use of trial and error and carefully considering bottom-up feedback to identify and give priority to the advantageous sectors. Meanwhile, attention should also be paid to guarantee the interests of disadvantageous groups and make efforts to control and narrow the income gap while developing the economy.

Additionally, there are also some shortcomings in our study, such as a lack of a systematic, complete mathematical model and a lack of an accurate quantitative test in the empirical section. As mentioned at the beginning of this paper, the land reform towards greater equity has produced different economic effects in various countries. Sometimes it worked, and sometimes it was all in vain in that neither economy nor equity would be improved. In contrast, China’s reform over the past 70 years included exactly the typical cases, namely a greater inequity with a floundering economy, an economic boom with a lager income gap and a growing economy with improved equity. The marginal contribution of this study lies in providing an illuminating analytical framework of institutional changes and some inspirations for the institutional reforms of underdevelopment regions.