insightful book: power & limits of China

Financial Sense News Hour - Asking the Expert:

George Zhibin Gu,

book author of

"China's Global Reach:

markets, multinationals, globalization"

JIM PUPLAVA: My guest this week is George Gu. George obtained his education at Nanjing University in China and Vanderbilt University and the University of Michigan in the United States, he holds two MS degrees and a PhD from the University of Michigan. Since 1990 he’s been an investment banker and a business consultant. He’s also worked for the last 15 years in the investment world with a focus on China. His work focuses on helping international businesses to invest in China and Chinese companies expand overseas. He’s got experience working with Prudential Securities, Lazard and State Street Bank. He’s also written several books, one Made In China: Players and Challenges in the 21st Century, and his current book is called China’s Global Reach: Markets, Multinationals and Globalization.

George, you grew up in China during a very difficult time, especially during the Cultural Revolution. How has this impacted your thinking today in terms of how you view China?

GEORGE ZHIBIN GU, PHD: Well, while I was growing up in China, China experienced a cultural revolution, as well as people’s communes in the countryside. It was chaotic, it was characterized by abusive government power which was expanding into everybody’s lives. What is more, it was an entirely closed society. In other words, every citizen had to work for the government to make a living. So the government exactly demanded the servitude of citizens, but today everything has changed fundamentally. So, in my mind two things are most crucial for modern society and progress, that is, having an open society is a must; secondly, private initiatives – people must rely upon their own efforts for progress and prosperity. That is exactly what has been happening for the last 25 years. This makes all the difference. The third one is that international participation in any country’s development is a necessity, otherwise development slows down tremendously. So, the situation in China and India shows [this is] the case. [3:05]

JIM: You know that was one of the points that you made in your book, that the grand lesson of China is that no nation can truly develop without making itself open to the rest of the world.

GEORGE: That is very true. 500 years ago, Europe became an open society expanding globally. Especially the US, it depended on talents, capital, and technology from the rest of the world. That’s why the US has become a dominating power globally for the last 100 years. Today, China is doing the same thing, relying upon all the resources from around the globe. [3:46]

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JIM: George, in your mind what are the key driving forces behind China’s economic development today?

GEORGE: Number one, opening up. During the Cultural Revolution, China’s economy was shutdown. It had no economic ties to the outside world whatsoever. So, opening up China has brought new ideas – technical and technology – as well as results, for growth. So, this is the most crucial aspect behind the growth.

Number two is the domestic consumption explosion. For example, 25 years ago China did not have any mobile phones, but today China has about 400 million mobile phone subscribers. Also, 20 years ago China had few television sets, but today almost every urban family has at least one television set, and in the countryside about 50% do. So, therefore China has become the biggest home appliances market really.

Number three is international involvement in 3 areas. The first area is foreign direct investment (FDI). In the last 26 years China has received more than 600 billion US dollars in FDI. This FDI has prompted new growth, especially in the manufacturing area. Number three is international trade. So far, China’s international trade has grown tremendously from next to nothing 25 years ago to one of the top three trading nations today. So, this international trade is another area of growth, but overall the domestic consumption explosion is the foundation. Without it China could not attract foreign capital or international trade. [7:33]

JIM: Now, you state in your book one of the ultimate goals for your country is to become a modern nation ruled by law.

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JIM: Now, in your book you talk about what makes a lot of this possible today is the emergence of multinationals, which you describe as the modern-day Columbus’ and Magellans. And China, to the multinational company is really the world’s last frontier.

GEORGE: That is true. Right now, we have basically everybody in China from the multinational group. They are active in all aspects of the business sphere, especially autos. They dominate China’s auto market. They are also major players in the mobile phone business, in high tech, in semiconductors. For example, right now, about 20% of the global semiconductor market is in China. So, regardless of which US semiconductor shares you hold, you are investing in China already because 20% of the sales are to China. [15:13]

JIM: George, what makes China attractive to multinationals?

GEORGE: Basically, there are several reasons. Number one, there is tremendous consumption growth, also better profit margins. Number three, there is a relaxed business environment and sometimes in very odd ways. For example, China does not have Western type labor unions, so employers have plenty of choices in terms of their power over their employee body. And employees don’t have any bargaining chips. That is also a factor. Another factor is the many incentives given by the government such as tax incentives and other privileges. And number three is quick growth for the multinationals which are already playing here, therefore they force their competition to come. For example, all the telecom manufacturing operators are in China. Last year, Nokia did about US.9 billion in business in China; FedEx did even more, about billion in sales in China. Then you also have a lot of other guys – their competition – also the new players coming in, especially in high tech. Therefore, all of them have become the most significant players in China. They have to be here, because right now up to 30% of their sales come from China, directly or indirectly. [17:06]

JIM: Now, in May of 2003 the Chinese government allowed 2 investment banks, Nomura and UBS to trade in the Chinese stock market. George is this a sign of things to come, and initially why only two companies?

GEORGE: Basically, the Chinese government has a law qualifying foreign institutional investors to play in the domestic market. Initially, they gave about a US billion allowance and you have to go through the selection process. So, in order to attract competition from foreign money managers so every month they gave permits to a couple of players, that’s how Nomura and UBS got the first tickets, but we’re seeing during the last year and a half about 27 UBS competitors such as Morgan Stanley, Goldman Sachs and JP Morgan all got [permission]. So far, they have invested about billion, now they’re putting an additional billion (US) into China’s domestic stock market. So, that’s what’s happening. [18:26]

JIM: I wonder if you might explain how the development of China has become the global manufacturing center has been more of, let’s say, a move by demand than by design.

GEORGE: Yes, that is one of the biggest Chinese growth stories, and nobody expected this to happen 25 years ago. It has come to life more by accident than by design. The initial stage was really a shift to meeting consumer demand for home appliances and electronics. At that time China did not have anything to manufacture on its own. It shared a lot of TV sets from Europe, Japan, and South Korea directly. But those TV sets had high price tags on them. You’re talking about the average Chinese family having to spend up to 10 years of their savings to buy a TV set. This huge profit margin prompted tremendous domestic investment. Immediately, we’re talking about several hundred Chinese TV manufacturers emerging by the mid 1980s. The same thing can be said of other areas of consumer products. The demand was tremendous, that’s because for most of the time China had a tremendous goods shortage for about 3 decades. There was nothing on the shelves. If you wanted to buy a pair of shoes you might have to wait or if you bought a bicycle you needed to find a friend to help you get one. So, there was a tremendous shortage meeting this huge consumer demand which therefore gave birth to the initial setting up of new manufacturing. Once this new manufacturing was set up, then they had to buy all sorts of components and chips. At that time, China couldn’t manufacture them itself, therefore it had to buy them from the overseas market, such as from Intel, Texas Instruments, and IBM, and Motorola. Therefore those international multinationals made huge profits sending their components and chips to China. Later they found out that they had better set up manufacturing facilities within China in order to make better profits. That’s initially how they came 25 years ago. So they were brought by the tremendous profit picture, and immediate business transactions.

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