Can China Reinvent Itself?

GUEST AUTHOR BLOG: Can China reinvent itself? by Giles Chance, author of "China and the Credit Crisis: The Emergence of a New World Order."

If a Chinese person who died in 1980 was to revisit China today, what would surprise him most? Would it be the highway system and the fact that today, most cars in China are driven by private individuals? Would it be the Chinese digital mobile network, or the I-Pad? I suspect it would be none of these things. I think that what would astonish our recent ancestors most would be the variety of food on display in Chinese supermarkets (of course, there were no Chinese supermarkets in 1980), and the quantity of food that Chinese families eat every day.

But if we were to return to China in thirty years’ time from today – in 2041 - would we be as amazed as our ancestor of 1980? The Chinese economy finds itself in 2011 at a crossroads, as China continues to struggle with the inflationary after-effects of its huge post-crisis spending package, and as the Chinese Government attempts to rebalance China’s and the world economy by switching growth away from exports towards domestic demand. In its eastern provinces, China has reached middle-income status. Many of the countries reaching this intermediate level of economic development stagnate. And China faces an increasing economic headwind from an aging population, aggravated by the legacy of China’s one-child policy.

China and the Credit Crisis
China and the Credit Crisis

Scottish political economist Adam Smith was the first person to popularize the idea that a country’s wealth does not depend on the country’s natural endowment of resources (say of oil, land or even gold), but on its capacity for productive work.

No country illustrates the profound truth of Smith’s observation better than China.

Handicapped by its poor and limited agricultural land and its enormous population, China still succeeded in raising its annual output per person from $251 in 1980 to $7,519 in 2010 – an increase of 30 times in 30 years.

From Adam Smith’s observation, we know that this massive wealth increase in China must have come largely from huge increases in economic output per Chinese worker. Of several factors which increase productivity, and therefore wealth, innovation is the most significant.

But many of the productivity gains in China have been shown by recent studies as having taken place mainly in the export part of the economy, while productivity growth in many purely Chinese firms has lagged behind. Can future gains in Chinese productivity be large enough to compensate for a decreasing working population and big wage increases?

Although China increased its spending on research and development by 23% each year from 2000 to 2008, with a very few exceptions, Chinese factories remain as technological copy-cats or labor intensive links in global supply chains.

The reasons?

One is the prevailing business culture in China of quickly copying successful new products. This practice gives new products a very short time to recover the money spent on development. For this reason most Chinese companies compete on price, not on quality or innovation. They don’t see the point in spending a lot of money on developing new products, only to see much or most of the economic benefits taken by their competitors. Another reason is the Chinese education system, which emphasizes rote memorization and testing. In my MBA classes at the Guanghua school at Peking University it takes me two or three classes to develop a two-way dialogue with some of my Chinese students. They are not accustomed to directly participating in discussions, but are used to taking notes from the professor and repeating them all in the exam at the end of the term.

As the Center and West of China catch up with the prosperous East, and as China’s economy rebalances towards domestic demand, innovation will need to play a much larger role in China’s economy.

Private Chinese companies like Geely, Haier, Huabao, Huawei and ZTE are prepared to change, innovate, and do whatever is necessary to be successful globally. But a handful of successful companies is not nearly enough to drive forward China’s economy. For China to continue to prosper, these entrepreneurs’ examples of developing their own products to sell into new markets in China and overseas must be followed successfully by many others.

For China to impress us in thirty years’ time, much has still to change in the way that Chinese companies compete and operate their business. Productivity must increase significantly across the Chinese economy, not just in the export sector. China’s future depends on successful innovation.

But can China reinvent itself?

Written by Giles Chance, author of China and the Credit Crisis: The Emergence of a New World Order, published by Wiley.


Email me at bullishonbooks@cnbc.comAnd follow me on Twitter @BullishonBooks