Since the process of economic reform began in 1978, there have been five periods during which the Chinese government implemented contractive measures intended to slow down the economic growth. These periods were: (1) 1979 – 1981; (2) 1985 – 1986; (3) 1989- 1990; (4) from the second half of 1993 to 1996; (5) from the second half of 2003. The main reason why macro adjustment policies were necessary was because of over-investment in the state-owned segment of the economy that was causing the economy to overheat. The key factors behind this over-investment were the fact that the market mechanism was still not operating properly in China and the lack of clarity regarding property rights.
On the first four periods of macro adjustment, the implementation of macro adjustment policies by the Chinese government did not attract a great deal of attention from the outside world. However, with China having acceded to the World Trade Organization (WTO) in December 2001, while at the same time the size of the Chinese economy continues to expand, attracting increasing amounts of foreign investment and boosting both imports and exports, the Chinese economy has become more and more closely linked to the global economy as a whole, and the rest of the world has become more aware of the extent to which both production and consumption have been growing in China. As a result, when the Chinese government embarked on a fifth round of macro adjustment policies in late 2003, it was clear that the impact of these measures would be global in scope, so the international community as a whole sat up and took notice.
In order to explore the impact that ill-defined property rights and an improperly functioning market mechanism have had on over-investment in China, this study tries a mathematical model, employing game theory to analyze what constitutes optimal investment behavior for business managers and for industry as a whole under conditions of soft budgetary constraints and asymmetric info