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SHENG Hong: Contracts before Law, Common Law before Statutory Law.
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by SHENG Hong, Director of Unirule Institute of Economics

Translated by MA Junjie, Researcher, Unirule Institute of Economics


I intended to speak after Professor Steven N.G. Cheung as I thought his theories, insights and the following discussion were very important and fundamental. One of his key contributions to the economics is his well-known “Steven Cheung's Demand Curve”, a critical innovation in economics, which I believe, will be included in mainstream textbooks soon. What he proposed was Say's law on the macro level. Say’s law of markets stipulates that supply creates demand automatically, or supply itself creates demand. It basically means that if the supplied products are sold out, income will come about, and this income is demand in essence. This is built upon a premise that there is an effective market. Professor Cheung added a mirrored demand curve in the original supply-demand chart, and he took this mirrored curve as the new supply curve, i.e., your demand decides the amount of  supply, and what you provide is for the sake of demand. He said this is an upgrade of Say’s law. These two curves are completely symmetric. This innovation bears great significance. And he says that this applies to every man, that a person supplies the same amount as he or she consumes. Everyone earns to spend, and the more time it takes for you to consume, the higher your cost is. When this time cost amounts to a certain level, you’d stop consuming as you feel the time cost is harming your leisure time. This is a very important discovery.


Of course, when Professor Cheung discussed this, what he stressed was that the effective market is a premise. This theory only stands when there is an effective market. When this market is compromised, it won’t work. Therefore, Professor Cheung also said that “the market price is a price without rent dissipation,” that the market price is a price reached in the market transactions without efficiency loss. Therefore, when we talk about this issue, we also presume that the market is effective, which depends on whether transactions are freely undertaken, and whether people are free to enter into contracts and agreements. Therefore, what I understand from Professor Cheung’s criticism of the current Labour Contract Law is that this law interferes with people’s freedom to enter into contracts, which raises transaction costs and results in an ineffective market. This is a very important point indeed.


I think this way of reasoning can be extended. As we know, a market is in essence a habit, and a collection of contracts. That is to say goods and services are exchanged in the market. But we are also aware that human behaviour goes beyond exchanges of goods and services. We have contracts, and we have habits. In a more general sense, let’s ask what is a habit? A habit is about people’s exchange behaviours, that is the exchange of people’s behaviours. This habit only comes into being through long-term human interaction, or in the economic term, through repeated games. What do these repeated games lead to, then? To an equilibrium. As long as the game parties are free and without external interference, these repeated games will inevitably lead to an equilibrium, an effective one. What I mean is that habits are effective, just like contracts are effective. On the other hand, when this habit is interrupted, or when contracts are interrupted, deviation from the equilibrium will be the result.


Let’s get back to the Labour Contract Law. Labour Contract Law is an odd combination. We all know what a contract is, namely an agreement reached by all parties of economic activities voluntarily. As for laws, they are coercive regulations. Why should these two words be put together? Does it mean “coercively reached voluntary agreement”? That’s absurd. When we read the text, apparently a lot of endeavours have been taken to draft it. However, as for details, this law is seriously flawed. In addition, it turned many voluntary articles that are supposed to be reached by both parties into compulsory articles. This law, therefore, dictates from the essence of contracts. What is the problem, then? I believe it is attributed to the misunderstanding of law in the modern times. In China’s modern history, modernisation of this country took a very extreme form, that is denial of traditions and habits, recognition of lofty and meta-physical theories and imposition of it on the Chinese social orders. This is a severe issue, which resulted from intellectuals’ misunderstanding of law.


When we talk about the rule of law, we should realise that there is broad and narrow understanding of this phrase in the Western background. When Montesquieu talked about law and the “spirit of the laws”, he didn’t mean the statuary law, but rules and general codes of conducts, or in the Chinese cultural equivalent, Dao. However, when this rule of law was translated into Chinese, it is narrowly understood as the rule of statuary law, which is a big mistake. That’s why nowadays many people put laws before habits and contracts, since laws are drafted and enacted by the authorities, and they are superior to rules that emerged among the people.


In addition, many people believe that coercive statuary rules are better than and superior to voluntarily abided rules, which is another huge mistake. They misunderstand the process for laws to be drafted. The origin of laws is contracts and habits, not the other way around. Contracts and habits should not be overruled by legislative bodies. Therefore, in China’s legislative practice, contracts and habits are usually overlooked, and the legislative power only resides with the legislature. But the question remains, is our legislature more effective than the common and long-term practice of rules and habits? I don’t think so. Firstly, legislatures are more coercive; secondly, they practice representation rather than direct participation; and thirdly, the legislature lacks the experience of people in economic activities. I believe the laws made by the legislature do not necessarily supersede habits and contracts. However, this is a fact of Chinese characteristics.


As we see in the history of global social order development and laws, there is no exception that statuary laws are a result of contracts and habits. In traditional Chinese culture, Li (rules) comes before Fa (laws), because Li is the so-called habits. These habits are more effective. Besides, Li is not compulsory. A society should pursue non-compulsory rules, instead of coercive and compulsory ones.


Another example I’d like to refer to is Britain’s common law tradition. The British common law tradition comes from habits, from the civil society, and acts as standard for judicial cases. In the 12th century, the royal court collected habits and rules people were used to across the country and made them useful as standards for judicial prosecution. In the meantime, royal judges gathered in Westminster to discuss and debate in order to establish some fundamental rules. A very strong and still relevant trend in the UK is that they believe common law is superior to statuary law, and that common law is superior to constitutions. This sounds hard to believe to a Chinese ear, however, it exhibits the due legal procedures, and how law developed over time.


Coming back to the Labour Contract Law, we find a very serious problem. This law has overlooked various contracts and spirits of contract, which emerged in China’s civil society over a long period of history. For a superior statuary law, a state law, this is unacceptable. It lacks several principles established in the society through the practice of countless voluntarily reached contracts, and it excludes the difference across regions and the diversity of local habits. By doing so, the exploration of better forms of law and better practices of habits and rules is interrupted.


Therefore, I think the biggest mistake concerning the Labour Contract Law is not in the texts or details of the law, such as the minimum wage stipulation, or the restriction of open-ended contracts. It concerns the principles of this law and the reasoning behind it. If any amendments are to be made to this law, I wish they wouldn’t be detailed articles or clauses. The Labour Contract Law, as compulsory as it is, should guarantee transparency and an environment where the contract parties are in equal positions, instead of stipulating detailed practices which are better left to the parties of the contracts. In the interaction between the employers and the employees, details of the contract will emerge as a result of compromises and negotiations. As Professor Cheung said, employers tend to provide minimum wage and worse conditions for employees, but they have to come to terms with higher wage and better working conditions because of competition for employees. Therefore, I think we should trust employees to be rational and the market to be effective. One thing we can do is to collect different labour contracts, and analyse them in order to find the rules, which they have in common. I was reading Mr. LIANG Zhiping’s Common Law in Qing Dynasty where he mentioned that there have been texts and anthologies of various contract texts ever since China’s Tang and Song dynasties, and the many reasonable elements were therefore extracted from these texts to form official stipulations to guide people’s behaviours, and these stipulations were not compulsory. 


Therefore, I think we should improve the legislation from the perspective of guiding principles, which may give us better laws. And this should also be commonly practiced in other laws. The Labour Contract Law should serve as a valuable lesson for better legislation.


This article presents remarks made by Professor SHENG Hong at the Seminar on “Labour Contract Law and Supply Side Reform” held at Unirule Beijing Office on July 23rd, 2016.





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