China, so powerful and prosperous for so long, waned after the Opium War in 1840, falling prey to western powers. Ever since then, many patriots have been striving, unflinchingly and ceaselessly, to revive the nation's past glory. In 1949 the People's Republic of China was founded to realize the long-cherished dream of its people. The leaders of the new regime had to decide which development strategy and administrative system to adopt. Considering that China was a backward agrarian economy lagging far behind the world, the leaders decided to adopt a strategy of prioritizing heavy industries so that the country could leapfrog into an advanced industrial economy and achieve full independence and great national strength. This strategy was the logical starting point for the traditional economic system.

This chapter explores the institutional formation under the development strategy of prioritizing heavy industries and the economic logic underlying the traditional institutional arrangement. It then discusses the causes of the Agricultural Crisis (1959–61) and briefly reviews China's economic development before 1978.

The development strategy of prioritizing heavy industries and the traditional economic system

Chapter 3 provided a possible explanation as to why Chairman Mao Zedong copied the USSR's strategy of prioritizing the development of heavy industries after the founding of the People's Republic of China. In 1949 China very much resembled the Soviet Union of 1929 under the leadership of Stalin: both were backward agrarian economies aiming to rapidly develop heavy and military industries.