Mar 2005
This article is part V, the final of a series. Click the following for part IV, Building Regional Ties. For part I, click here.
For the big multinationals, investing in China is a schizophrenic enterprise. Dreams of huge profits are balanced against piracy nightmares, soul crushing competition, and razor thin margins. This is exactly how China likes it.
Foreign multinationals are prized for their technology and expertise: if they stay and succeed, Beijing leans on them to share the wealth with local partners. Of those multinationals who head for the door with their tail between their legs, odds are good they were picked clean en route to the nearest exit. China has practically made an art form of bringing in outsiders to develop a market or industry, transferring said outsiders’ knowledge and technology to local imitators, and then brutalizing profit margins via local competition once the transfer is complete. Most companies are offered a faustian bargain: “To gain access to the middle kingdom, you must partner up. We share our markets, you share your expertise.” The bit about intellectual asset stripping is conveniently left out of the deal.
The typical turn of events goes something like this: the starry-eyed multinational, thinking of limitless profits to be made in the world’s fastest growing market, bears the brunt of initial costs to set up shop. By the time initial setup costs are recovered, the multinational discovers with dismay that copycats have crept in. The local partner, backed by Beijing, does not seem surprised; in a short while, profit margins have crumbled to dust. The multinational is then left with one of two less than pleasing prospects: soldier on near break-even and hope that prospects eventually turn up, or pack the bags and go home… with major strategic assets left behind.
The above may be a slight exaggeration, but not by much. Decent profit margins are hard to come by in China, and harder still to maintain for any significant period of time, because of the process just described. It has happened again and again, in everything from mobile handsets to microwaves to automobiles, as low margin producers imitate, conquer and dominate.
Optimists point out that Beijing is grudgingly moving towards general respect of intellectual property. Rampant piracy is recognized as a problem; China’s judicial wheels are turning against industrial counterfeiters, albeit in slow motion. The simple reality is that a lax attitude towards piracy and intellectual asset stripping is currently in China’s best interest (though it becomes steadily less so over time). Rather than reinvent the wheel, why not let a steady stream of naïve wheel inventors, who have already done the hard work, come in and give away their secrets?
China will take a harder line on intellectual property rights when one of two things happens. Either 1) multinationals will demand intellectual property enforcement and stop acting like sheep to be sheared, or 2) China will build up enough proprietary knowledge and technical expertise of its own to warrant the standard legal protections.
On a more ominous note, China’s hunger for knowledge extends to military technology. At the moment, Beijing’s defense budget is less than one fortieth that of the United States ($20 billion vs more than $400 billion). That gap will eventually close. Beijing will also have the advantage of leapfrogging the legacy systems and outdated programs that make up much of America’s military infrastructure, moving straight to the latest technology even as the US sees domestic spending pressures increase.
It is here, where the stakes are highest, that a distracted America is finally sitting up and taking notice. Europe, in a move led by France and endorsed by Britain, plans to lift the China arms embargo in place since 1989. From Europe’s point of view, lifting the weapons ban is a natural and harmless move. Put in place as a result of the Tianenmen Square massacre, China is a new country with a new attitude (Europe says). Europe and China both declare the move to be symbolic: China seeks acknowledgement as an upstanding member of the economic community, and claims to have no interest in actual purchase of European weapons. As for Europe, they merely want to smooth business relations with their second biggest trading partner. Not to mention paving the way for future cooperation, by offering the middle kingdom a gesture of respect.
America, once again, is stuck between a rock and a hard place. Protest seems pointless, but what other action can be taken? The true concerns of the United States are so grave they can hardly be voiced. From a diplomatic perspective, it is hard to discuss the possibility of engaging China in a war over Taiwan. It is even harder to bring up the possibility of American troops killed by European technology, bought for the express purpose of sinking American ships in the South China Sea. As an American diplomat, how do you explain to your oldest allies that they are whistling past the graveyard, when they are sure to breezily dismiss your concerns as paranoia?
When the weapons ban is lifted–if America is unable to find some last ditch effort to stop it-Europe will make all the right noises, all the right pronouncements. Promises will be made, peaceful intentions will be underlined, and all types of positive benefits will be sallied forth. The EU says assuringly that a “code of conduct” will be put in place. For American hawks, though, the phrase might as well be “peace in our time.” Though the move may yet prove symbolic in the long run—China has multiple sources for military technology at any rate—it is a potential harbinger of the dangerous game to come.
Who are the winners and losers in China’s quest for knowledge and technology? Naïve multinationals who do not understand the Chinese way are clear losers; Chinese firms who get a leg up on their foreign partners are clear winners. Avoid investments in companies who view China as a typical market with typical rules; instead, look to companies who understand exactly what they are getting into and have means to protect their intellectual assets.
Also consider exchange-listed Chinese firms who are in good position to upgrade themselves with the help of “borrowed” multinational expertise. Once intellectual property rights start taking hold in China, look for new investment opportunities in standards-dependent industries that were previously unfeasible in a lawless environment. Watch closely as China transitions from basketballs and sneakers to pharmaceuticals and computer chips.
On the military front, watch the drama unfold between Europe, America and China. If the weapons ban is lifted, expect America to consider an across-the-board withdrawal of cooperation with Europe on sensitive technology projects. Will the transatlantic alliance be placed in doubt?
It’s going to be a fascinating century.
