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Summary: A paradoxical phenomenon in China’s transitional economy is that markets developed under predominant public ownership, which nevertheless has declined with the development of markets. Previous studies reveal that initial political and economic conditions of reform and fiscal decentralization gave rise to local public enterprises’ leading role in early marketization. This paper explains the subsequent fall of such a role. Building and expanding on recent studies of privatization, we argue that market development and competition have constrained the abilities of local public enterprises to address revenue and employment imperatives, whereas local governments’ sales-oriented growth strategies have exacerbated governance problems. Panel data are analyzed to provide provisional test of pertinent hypotheses. [Copyright &y& Elsevier]