This is China! blog

I recently received an email query from a young American fellow who’s been working out of south China for the past five years, mostly in contract manufacturing. I’ve edited the letter to maintain his anonymity:

I seem to be plagued with constant thoughts of returning back to the states to go to school for an MBA or a JD, but I will turn 29 in November and I can’t wait until I am 35 to start earning a living…

I feel like I have a fairly limited perspective of world business and have been so focused on China for the last 5 years, I’m not so sure what the situation is like in the rest of the world.

My question to you is, would you recommend staying in China and gutting it out? Or is it worth it to try to get a higher degree in the US and do some networking?

I do speak Mandarin, conversationally fluent, and have quite a lot of QC and general China experience, is that alone enough to make me an attractive candidate to US multinationals?

I understand that this is not really up you ally, but I have been reading your blog for years and I trust you opinion.

To which I responded:

Thanks for the kind words about the blog.

Actually, you’re not the first American here in China with whom I’m acquainted who has been seriously considering returning to the States for good. I’m meeting an American friend on Friday for lunch who’s been in China likely nine years. He’s moving to Texas in a month or so with his very frightened Suzhounese wife; and another friend from New York City/Long Island figured that next year he’ll likely move back. I wouldn’t call it a mass migration, but the global economic downturn has certainly made everyone consider their situations.

As for returning to the U.S. in your situation (you’re younger than these guys I’m talking about), I’d suggest first seriously considering what region you intend to return to. The downturn Stateside seems to have dramatically affected certain industries and the areas in which they are concentrated. For instance, I wouldn’t council going to North Carolina for the textile business, which was seriously hit; the Research Triangle is not as strong as it used to be, too. However, if you wanted to begin to network in some of the green industries that have received U.S. government funding, Indiana is supposed to be a good place, and even some parts of Ohio (companies in the midwest got a lot of that funding). If you intend to return to China one day, you’d want to align your transition in the States with China industries and policies that the Chinese central government is strongly pushing; then, you return the conquering hero, having dug yourself out of the “import/export/sourcing” ghetto here in China.

Unfortunately, there are a lot of Western guys in that ghetto. We already know American consumer markets will not be coming back in strength the same way they had been; and the Europeans will always remain conservative. The problem with that trade sector is that you meet the same old problems after a while; and if you’re not the company owner, the work gets old real fast. It’s tough to feel like you’re advancing your personal and professional goals. And there’s a lot of Westerners who’ve stuck it out here in China who have similar levels of experience as yourself. So, you need to make yourself more special than the others!

I’d suggest for a young, bright fellow like yourself to move into a high-value services sector, and within that sector develop a specialty that allows you to toot your horn loudly. For instance, it could be law (IPR, international labor law, monopoly law, trade law) or finance or marketing (with your specific knowledge of China) et al. It kind of sounds like you’re burned out; so getting out of China for a bit isn’t a bad idea. If you’re looking for world perspective, though, I wouldn’t necessarily council returning to the States. How about taking a degree in Australia (so you have a base to explore the rest of Asia), or even the EU (more expensive, though)? But you’ll certainly get a broader perspective on world markets and the new world order forming up around Asia from any other country than bunker-America. Unfortunately, right now, the States is rather self-absorbed because of the economic disaster and the debacles in Iraq and Afghanistan. Heck, I’d even suggest Canada over the States, since Canadians were not at all touched by the financial meltdown. I’m not knocking the States; it’s just that folks back home figure they have enough on their plates without considering the rest of the world, too.

So, summary: figure out the sector->industry->specialty that will use what you’ve got and give you demi-god status; pick a place SOMEWHERE IN THE WORLD where you can learn and hone those skills, a place that will provide you a vantage point from which you can ponder the shift in balance of power from East to West and and where you can build a network of like minds that will help you along in achieving your worldly goals.

Any other suggestions for our friend?

I enjoyed Philip Bowring’s illuminating opinion piece in The New York Times, “Chinese Exceptionalism,” about the clout China is accumulating on the international financial stage:

For sure, the United States has been in an exceptional position and one that has enabled it to consume more than is good for it. Many countries, with China the most vociferous, wish for a more balanced world in which other currencies play significant roles in trade finance, capital flows and exchange reserves.

But while the cries against U.S. privileges ring out loud and clear, scant notice is taken of the exceptionalism successfully pursued by China. Beijing has so far insisted on maintaining both a pegged currency and controls on capital flows.

Point being, if China wants to be a stakeholder in the new international financial system that is shaping up after the global economic downturn, it is going to have to play by the rules:

All of North America, Europe and Japan have no controls on capital flows and have fluctuating exchange rates. Ditto for South Korea, Taiwan, Australia, South Africa and most of trade-oriented Southeast Asia. India has some exchange controls but a floating currency, which is also the norm in South America.

So much for a level playing field:

This exceptionalism has helped China accumulate over $1 trillion in foreign reserves, that it naturally thinks should give it clout in the world. But where would China be if that exceptionalism were removed?

Its citizens would have higher wages and better living standards, but the government would be unable to boast of such huge reserves. As it is, China boasts of its reserves as the Soviets once boasted of their missiles.

China claims to want its currency, the yuan, to play a role in trade and capital flows. But Beijing continues to underwrite U.S. deficits by keeping its currency pegged and capital movements subject to controls, thereby preventing the yuan from playing an international role.

Time to raise the bar, China.

The Obama Administration has set world trade on an ominous (read protectionist) trend these last few months. The latest is a poke in China’s eye; though, admittedly, China does need to blink, tear up a bit, and realize the days of its old trading ways are numbered. The Economist Magazine in its latest leader and supporting article came out dead set against President Obama’s approval of the 35% tariff on tires exported from China.

IN RAW economic terms Barack Obama’s imposition of tariffs on Chinese tyres hardly registers. The number of jobs affected is barely a rounding error in measurements of the mighty American workforce. The cost to consumers is also slight. But in geopolitical terms, it is a whopper. Mr Obama’s most overtly protectionist decision so far has triggered a predictably angry reaction from China, which threatened to retaliate against American chickens and car parts and to haul America before the World Trade Organisation. The Global Times, a newspaper that often reflects the views of hardline nationalists in China, ran a front-page headline saying “America has erred before the world”.

Problem is of late, China if anything has bolstered its subsidies to its export sector without liberalizing the currency controls that created the pile of cash Paul Krugman calls China’s “Dollar Trap”. The New York Times writes that before Obama’s prod:

For the most part, Chinese officials have grumbled but done little, preferring to preserve a trade relationship in which the United States buys $4.46 worth of Chinese goods for every $1 worth of American goods sold to China.

I tend to agree though with Robert Samuelson’s thinking in The Washington Post in his article, aptly titled, “Obama’s Tire Tariff: Bad Policy, Right Message” :

But tolerating China’s predatory trade practices is also dangerous. China’s cheap exports reflect more than low wages. Government actively promotes and subsidizes exports, especially through a deliberately undervalued currency. The undervaluation lowers the prices of Chinese goods. Economist Nicholas Lardy of the Peterson Institute figures the present price advantage at 15 to 20 percent. It might be more. Economist Eswar Prasad of Cornell University argues that cheap credit and subsidized land and energy enhance the price competitiveness of Chinese exports…

Similarly, the undervalued currency deters imports by making them more expensive, and China favors local production by other policies too. European companies have complained, for example, that China discriminates against them in its market for solar and wind power.

Question is: is there ever a “good” time to poke a dragon?

The Economist Magazine reported at the beginning of the month in an article titled “The Incredible Shrinking Surplus” the trade deficit between China and the United States narrowed by as much as a third compared to the year before, and that it’s set to decrease even further.

But look, bean counters in the two countries can slim the trade deficit even further when their numbers actually match:

In fact there are rather less sinister explanations for much of the discrepancy between China’s numbers and those of its trading partners. The most important is that a lot of China’s trade is shipped through Hong Kong. It is often difficult for China’s statistical agency to track the final destination of such exports, so goods which are exported from China to Hong Kong and then re-exported to America, say, are usually recorded by officials on the mainland as exports to Hong Kong. By contrast, it is easier for customs officials in importing countries to determine the true country of origin, so America correctly records these same goods as imports from China. Likewise, America’s exports to China which go via Hong Kong may be recorded as exports to Hong Kong, while China will count them as imports from America.

The article goes on to explain the way Hong Kong re-exporters complicate matters, as well as how customs in the two countries value goods.

Nevertheless, the trade deficit is definitely trending downward.

The economist Andy Xie wrote an insightful article in this month’s Caijing Magazine comparing how Japan’s failure to restructure its economy in the early 1990’s has a counterpart in China’s fiscal stimulus program.

Thus, China’s corporate sector is now behaving in a way similar to what was seen in Japan two decades ago. China’s businesses increasingly focus on asset investment rather than core business. When an asset bubble boosts corporate profits, it seems benign at first. Nobody sees the harm. However, when businesses earn profits from the investments in each other rather than their corporate businesses, their operating profitability deteriorates because they don’t invest in their core businesses anymore. Accounting profitability is just a bubble.

Show me the money!

As I traveled across China recently, it was rare to hear about a business whose officials are enthusiastic about their core business. But everyone seems excited about financial activities. The lending boom in the first half of 2009 seems to have been channeled mostly into asset markets by the corporate sector.

Landed gentry:

In particular, property seems to have become a main profit source for most big businesses. China’s corporate borrowing one way or another goes into the land market. And property development has become the most important source of profit for China’s corporate sector. If a manufacturing business is buoyant, odds are it is profiting from property development. The banking sector reports high profitability due to direct or indirect loans for property development. Property development profit is actually from land appreciation. If property development profitability is measured according to land price at sale time, the development itself would not be profitable.||

Keireitsu with Chinese characteristics?

China’s corporate sector increasingly looks like a shadow banking system. It raises funds from banks, through commercial bills or the corporate bond market, and then channels the funds into the land market. The resulting land inflation underwrites corporate profitability and improves their creditworthiness in the short term.

Enriching, but hardly productive.

The Dragonbeat blog posted a contentious article about why a brand of mediocre tea is beating the beejeezus out of local producers in China, which introduced the world to the joys of tea; a case study, really, about other Chinese industries:

Both at home and abroad, Chinese tea brands struggle to compete with foreign competitors. In China, Unilever’s Lipton brand has a market-leading share three times that of its closest local rival.

I remember years ago going to government and company offices throughout China and being served up a crappy cup of Lipton green tea at nearly every meeting. I would always think to myself afterward, “I travel all the way to the Home of Tea for a lousy paper cup of Lipton? Pull-eeze!” Occassionally, I’d get some leaves pulled from a box of local stuff (popular in the Yangtze Delta: Longjing from the West Lake District; and Biluochun, especially from around Changshu and Suzhou fields). Offices in Fujian are always nice to visit, because the officials and businessmen often go through the abbreviated ritual of serving up a pot of local Wulong tea. Admittedly, some of the nicest gifts I’ve received from government and business representatives in China have been boxes of lovely tea. Never the really good stuff, though, like Da Hong Pao. They keep that for themselves.

The challenges facing China’s tea industry are the same as those facing a host of Chinese industries: product quality issues; excessive competition in the domestic market; low prices and meagre earnings abroad; and weak branding.

China was once at the axis of world trade with its monopoly on tea (cf. my review of the book, For All the Tea in China).  A combination of corporate espionage on the part of the East India Company and the revelation that Chinese growers had been poisoning British consumers for a couple hundred years in pursuit of profit ended the British taste for Chinese tea in the mid-1800s. The British proclivity for rationalizing production and creating and then adhering to quality standards was Britain’s own  Boston Tea Party, serving notice of the end of Chinese hegemony of the tea trade.

Monitoring quality across millions of scattered tea gardens is an impossible task, and Chinese tea exporters have consistently had trouble meeting foreign safety standards. Chinese tea sells for an average of just US$2 per kg on international markets, compared with US$2.70 for Indian tea or US$3.40 for highly regarded Sri Lankan leaves.

Interestingly, most of the comments on the post were from Chinese esthetes, who accuse the writer of missing the point: Chinese tea in all its perfection was never meant to be debased through such crass commercial activities as branding and mass marketing, they argue.

Tell that to your ancestors.

I’ve recently been struck by the effectiveness of a subtle yet substantial change in personnel at the gates of my apartment complex. Starting the beginning of this September, young ladies dressed in neatly starched uniforms (sky-blue blouses, dark blue skirts, nylons and black pumps, if you really must know) have been stationed at the gates to the compounds. Previously, young men with 25-inch waists dressed in Smokey-the-Bear uniforms had been solely yet with some gravitas directing traffic past the wooden barriers.

Chinese drivers, though, aren’t very much impressed by gravitas, no matter how slim the waist – or perhaps because the waist is so narrow, and belongs to a male. Drivers would still block the entrances awaiting or disgorging passengers; horns would still honk at the slightest obstruction – in front of the “No Honking Allowed” signs; itinerant workers would still line up at the pedestrian entrances and argue with the no-waist guards to be allowed entrance to the compound so they could disrupt the sleep of the dead with their jack hammers and dentist drills.

Put the slim waist on a young, uniformed lady, and, oh my, how charming men can be. Now, all the gates in the complex are small islands of tranquility and serenity. Young, attractive, smart-looking women in pill-box hats give drivers with ear-to-ear grins a competent nod to pass through and use their own pass keys to permit residents into the courtyards. The cars don’t honk (as much) any longer – at least those with male drivers. And the male guards are less brusque and more polite; that is, when they are not all eyes for their new comrades. A British friend who lives in the same warren of apartment buildings noticed the same civilizing effect at the gate houses; he says he’s even tried to be charming now when he drives past the Sirens.

It remains to be seen whether this is just an experiment, meant to give the appearance of civility in a rambunctious corner of the world in the run-up to the Communist Party’s 60th birthday party come October 1st; or whether it is a permanent fixture.

I hope it’s permanent.

In my China business management column in the September issue of Eurobiz Magazine I revisit the relevance of international MBA programs for Chinese managers working in Western companies on the Mainland:

The MBA degree for Chinese nationals, though, serves an additional role: it helps them with communications and facilitation skills they otherwise find difficult to develop on the job. Also, the traditional Chinese education system does not equip them with the participatory skills that help them get ahead in Western organizations. One Chinese woman who was studying for an MBA through the CEIBs program in Shanghai complained the most difficult part of the coursework was participating in discussions with team mates, especially with what she  perceived as aggressive Western males. However, the experience helped widen the spectrum of people in business with whom she would be later working as plant manager of a Finnish company.

Though no one can accuse the Finns of being overly talkative.

Several Financial Times articles over the past month have pointed to a domestic business trend in China involving State-owned Enterprises (SOEs) coming in to gobble up private Chinese firms. The phenomenon in Chinese is called guojinmintui; literally, “the state advances as the private sector recedes”. One article cited:

Leaders have repeatedly denied that the government is implementing a policy of renationalising parts of the economy and most analysts agree there is no formal policy to support guojinmintui. But some argue that the government’s response to the financial crisis has allowed state-owned enterprises, which are often controlled by powerful political families and already monopolise the commanding heights of the economy, partially to reverse the privatisation that has occurred in China over the last 30 years of economic reform.

SOEs have become quite rich in the last five years because many avoid paying corporate taxes, many list on domestic bourses, they have low requirements for repaying surpluses back to the government, and free-flow bank loans on offer to extend their reach. Private companies in China, however, have few recourses to official means of gaining loans to grow or diversify, and must either bootstrap themselves or go to the gray market for loans.

Large parts of the economy seem to be increasingly dominated again by state-owned enterprises,” says Dan Lynch, a professor of international relations at the University of Southern California US-China Institute. “This is a long-term problem but it has been exacerbated by the financial crisis and the failure of large numbers of privately owned small and medium-sized enterprises.”

A perfect example of guojinmintui in action involves the sleight-of-hand replacement of the founder of Mengniu Dairy this past August by a state-appointed executive from China National Oils, Foodstuffs and Cereals Corp, (Cofco) China’s largest importer and exporter of food.

Analysts said the move reflected Cofco’s expansion ambitions and a move towards state expansion into industries including airlines, petrochemicals, consumer goods and metals where there had been a trend of sustained privatisation.

In the revived steel sector, yet another FT article cited:

A hostile takeover of one of China’s largest non-state steel groups by a state-owned competitor could be finalised as early as next week in a deal that has heightened concerns about creeping renationalisation.

State-owned Shandong Iron and Steel Group, the world’s ninth-largest steelmaker by capacity, is likely to take a two-thirds stake in privately held Rizhao Iron and Steel…

Of course, China does still have cases of reverse-guojinmintui, most recent and infamous of which involved the Beijing-based steelmaker Jianlong, one of the largest private firms of its kind in China. It had planned to take a majority stake in the Tonghua Iron and Steel Group, a provincial-level SOE that produces about 7 million tons of steel each year. A group of employees at Tonghua in ill temper at the thought of being made redundant violently and fatally disabused the interim boss of Tonghua of the notion. The acquisition has since been scotched.

If guojinmintui adds up to more than just a blip amidst the government stimulus program, then Tonghua may one day have its revenge by acquiring Jianlong.

The Wall Street Journal last week put it’s finger on just why the Chinese government has been reluctant to make its currency, the yuan, convertible; that is, so institutions and central banks can by and sell the currency and countries can keep reserves in it, too.

Capital account convertibility for the yuan would subject Beijing’s policies to the judgments of individual investors at home and abroad capable of contributing to large capital flows, including highly temporary and speculative gushes. It would put China’s economy much more at the mercy of global financial forces.

Mind you, it’s understandable after the Asian Financial Crisis of 1997 that the powers that be do not want to expose the yuan to Homerian struggles. Hong Kong, though, might prove the launch pad for a scheme that with time might build China’s confidence that it can effectively manage potential flights from its currency under market conditions:

This can best be accomplished in the short run by creating an offshore market for yuan financial instruments that foreign central banks and investors can trust. China’s latest move to create an offshore market in Hong Kong for yuan-denominated Chinese government bonds does just that. While the first step is very small, it might mark the beginning of a scheme to provide opportunities for central banks and investors to store capital in a secure, tradable and liquid form of yuan deposits.

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