TCS Daily

China Unplugged

By Alan Oxley - April 27, 2004 12:00 AM

China has agreed in high-level bilateral trade talks with the US to stop piracy and shelve a standard for encryption of Wi-Fi wireless computer technology that would have curbed US IT exports to China. This is good politics for the Bush Administration. Organized labor and Democrats have been trying to damage the White House by linking increased imports (China is the fastest growing exporter) with job losses. The commitments are good politics for China. There is no gain in becoming a trade scapegoat in a US election. China's action shows that China understands it is now a trade power. We had better pay attention.

China's piracy pledge enables Bob Zoellick, the US Trade Representative, to deliver for the White House. The "anti-trade" mood was getting political traction. The real worth of the pledge is a different matter. Old trade hands know there are several, similar, previous pledges sitting on file in the USTR offices. Anyone pulling them out now will look churlish, at least until it becomes obvious that piracy continues. Curbing it is probably simply beyond Beijing's grasp, like many things in that Wild West economy.

The Wi-Fi issue is more interesting. The Wall Street Journal (23-25 april) carried a detailed report that China is toying with setting its own technical standards to secure advantage for products manufactured in China. It is an obvious temptation. China is acquiring substantial market power. For example, it now has the largest market in the world for mobile telephones. If it did start setting such standards, wouldn't that be blatant protectionism? Is China stepping away from its broad goal of creating a market economy?

Yes and no. First we need to be clear about the impact technical standards have on trade and business. China has a strong research and engineering tradition. It is highly likely some of its bigger enterprises will develop unique technical standards, like the Wi-Fi standard for encryption. This can become a problem in two ways. The first is when the sale of products based on different standards is prevented. The second is when governments make compliance with those standards mandatory, as it proposed with Wi-Fi.

Picking the right standard, especially when technology is critical, can make or break a product. Sony's failed punt on Beta technology as the industry standard for the first video recording technology is a business school classic. It was a perfectly good technology, but the market didn't want it. Deciding on a technical standard should be a purely commercial matter. Markets can sort out the winners and losers and determine the cost of failure. When government officials try the cost is invariably greater. However, this is all relatively new for China's officials.

China wouldn't be the first country to try to use market power to keep foreign products at bay while fostering domestic industries. Brazil tried for years to restrict imports of computers while its manufacturers labored to develop Brazilian computer technology. The only result was that Brazilian consumers ended up paying more for less.

There is no question China is committed to liberalizing its economy. But it is also committed to developing national industry champions. Not long after the Asian currency crisis in 1997, China's leadership issued a strategy document indicating that the desirable industrial model was Korea's. Korea has industrial conglomerates (chaebols - modeled on Japan's version, the zaibatsu) which include businesses that dominate their sector and receive special assistance from the state. In Korea, it was low interest money and high tariffs. In Japan, it was all sorts of things. For example, stock market rules in Tokyo don't allow shares to fall more one-third in one session. We have just seen how that benefited Japanese investors after DaimlerChrysler announced it would pull out of Mitsubishi Motors. The shares should have gone to the floor.

It is now clear to Korean academics and policy analysts that the chaebol system was one of the principal causes of weakness in the Korean economy which exposed it to the currency crisis. Public economic policy in Korea today is a war of attrition between the government and industry to dismantle the chaebols. The government is chipping away, but the battle is not won.

It is not clear the penny has dropped in Beijing. The official line remains that the free market is to operate within the socialist framework. Foreign investors are still required when they establish large businesses to ensure that there is a communist party cell set up for the company.

China has joined the WTO, but it was on condition that it continue the establishment of a market economy. It made specific pledges to remove discrimination against foreign companies and phase out measures that breach WTO rules. There are deadlines and soon they will start to be reviewed. In the meantime, China's economy powers on. Its market strength is steadily increasing and opportunities for foreign business are steadily expanding.

China's leadership is evidently starting to appreciate the value of the market power. It will confront business and other trade powers like the US, the EU and Japan with some interesting challenges. One will recur - do you want access to our market and if so are you willing to bend to our terms? The threat of a technology standard which blocks trade can easily be offset with an offer of the cut of the action.

Most of us will be the poorer if China does not complete the transition to a market economy. However some of us might profit mightily. Watch this space.


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