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Impact of China's Growth


1.      Introduction

China is one of the fastest growth countries in Asia since it has adopted open door policy in late 1970s.  It is the least influence economies from the 1997 Asian economic crisis, while other Asian countries experienced a simultaneous worsening of external trade balances and declines in economic growth rates.  The growth of China lies on its expanded opportunities for business by freeing up agriculture, loosening central control on regional government enterprises, opening foreign investments, and increasingly encouraging private domestic business.  Moreover, its abundant resources are key success factors for its growth: land (China is the world¡¦s fourth largest country after Russia, Canada, and the US), labor and natural resources. 

China became a member of WTO at the end of 2001.  The accession as a WTO member involves significant opportunities and challenges for the economy.  Morgan Stanley reckons that if China sticks to its WTO commitments, by 2020, its economy would have grown to US$10 trillion which is the size of the US¡¦ economy today (The Economist, 2002).  ¡¥Across Asia, the emergence of China as an economic powerhouse has generated fear, loathing ¡V and a dawning realization that the region¡¦s fortunes are now inextricably tied to those of the People¡¦s Republic¡¦ (Wehrfritz et al, 2002).  Hence, this paper attempts to investigate this controversy statement in terms of the context of the countries of Southeast Asia, and recommends strategies for the companies doing or intending to do business in Asia.

2.      Emergence of China

Backed by appropriate macro-economic policies and structural reforms, China¡¦s economy has maintained a fast and healthy growth momentum.  UNCTAD (2002) also argues that China as a WTO member has changed the trading environments in Asia: it presents an opportunity for some countries, while others take a more cautious approach and emphasize the added competition that will arise.

2.1  China is a Threat: Generated Fear and Loathing

A recent report by the IMF comments positively on China¡¦s macro-economic conditions and fully affirms its economic policies (Asia Pulse, 2002).  It predicts China¡¦s GDP growth for 2003 will exceed 7 percent, and deflation trend will begin to ease in second half of 2002 due to recovery of domestic demand and price in the international market.  Asian Development Bank (2002) provides more concrete figures as shown in Figure 1. 

 

1999

2000

2001

2002

2003 Predicts

GDP growth

7.1

8.0

7.3

7.0

7.4

Inflation rate (consumer price index)

-1.4

0.4

0.7

1.0

1.5

Figure 1: China¡¦s GDP Growth and Inflation Rate, 1999-2003
(Source: Asian Development Bank, 2002)

It is clear that the Southeast Asian countries are increasingly concerned about how their economies are being impacted by China¡¦s emergence as a regional economic power.  Their fear and loathing about China¡¦s growth are basically in four main areas: lose foreign direct investment (FDI), lose market shares in export, transfer of production to China, threats of ethnic Chinese, and increase educated manpower in China.

2.1.1        Foreign Direct Investment

The FDI inflows to China surged in the 1990s, boosted by the acceleration of market reforms, export oriented development strategies and the introduction of incentives for FDI.  The accession as a WTO membership is also a swift increase in commitments of FDI.  According to the Economist (2002), China¡¦s stock of FDI in 2001 was the world¡¦s third-largest (US$350 billion, rose over a third from 2000), which behinds the US (US$1.1 trillion) and Britain (US$394 billion).  Nearly 40 percent of FDI (Figure 2) going to Southeast Asia and East Asia is sucked by China, and hence to its neighbors¡¦ growing alarm (The Economist, 2002; US-China Commission, 2002).

 

1995

1996

1997

1998

1999

2000

1995-2000

Asia

75.3

94.6

110.4

98.9

112.4

151.7

643.3

China

35.8

40.2

44.2

43.8

40.3

40.8

245.1

Hong Kong

6.2

10.5

11.4

14.8

24.6

64.4

131.9

China + Hong Kong

42.0

50.7

55.6

58.6

64.9

105.2

377.0

Japan

0.0

0.2

3.2

3.3

12.7

8.2

27.6

Indonesia

4.3

6.2

4.7

(0.4)

(2.7)

(4.6)

7.5

South Korea

1.8

2.3

2.8

5.4

10.6

10.2

33.1

Malaysia

5.8

7.3

6.5

2.7

3.5

5.5

31.3

Philippines

1.5

1.5

1.2

1.8

0.7

1.5

8.2

Singapore

8.8

10.4

13.0

6.3

7.2

6.4

52.1

Taiwan

1.6

1.9

2.2

0.2

2.9

4.9

13.7

Vietnam

2.3

2.5

2.8

2.3

2.0

2.1

14.0

Figure 2: World FDI Inflows into Asia, 1995-2000 (US$ Billions)
(Source: US-China Commission, 2002)

Most of the FDI in China are in the industrial sector, resulting in the tremendous expansion of export manufactures.  The Chinese economy has a dualistic industrial structure: highly competitive labor-intensive, export-oriented manufacturing sector dominated by foreign-funded enterprises (FFEs), a fairly traditional capital-intensive industrial sector dominated by state-owned enterprises (SOES), and an agricultural sector that enjoys a relatively high degree of government support and protection (UNCTAD, 2002).  Hence, China is even more attractive location for foreign firms, and this could lead to greater competition among developing countries for FDI linked to the labor-intensive segments.

2.1.2        Market Shares in Export

China's manufacturing is getting more sophisticated and employing more capital.  China is the third biggest producer of semiconductors and information-technology hardware.  Despite of the upgraded skills, the Economist (2002) argues that China will not lose its advantages in cheap and labor-intensive areas such as toys, textiles and shoes.  Other exporters in the Southeast Asia are having trouble in staying in the business and competing with the economies of scale and low living standard of the Chinese manufacturing. 

According to the WTO report in 2001 (US-China Commission, 2002), China¡¦s growth in merchandise exports over the past decade far exceeded most of its neighbors, with the exception of Philippines and Vietnam (whose export values were only a fraction of China¡¦s total) as shown in Figure 3.  This kind of growth in China is expected to continue further and China will increasingly share greater weight in Asia as a whole (Morishita, 2001).  This realization comes as a profound shock to China's neighbors as most of them have built a development strategy over the past few decades around export-led growth (The Economist, 2002).

 

1990

1995

% Growth

1990-1995

2000

% Growth

1990-2000

China

62.1

148.8

140%

249.3

301%

Hong Kong

82.4

173.9

111%

202.4

146%

Indonesia

25.7

45.4

77%

62.1

142%

Japan

287.6

443.1

54%

479.2

67%

South Korea

65.0

125.1

92%

172.3

165%

Malaysia

29.4

73.9

151%

98.2

234%

Philippines

8.1

17.5

116%

39.8

391%

Singapore

52.8

118.3

124%

137.9

161%

Taiwan

67.1

111.6

66%

148.3

121%

Thailand

23.1

56.4

144%

69.1

199%

Vietnam

2.4

5.4

125%

14.5

504%

Figure 3: Growth in Merchandise Exports of Asian Countries, 1990-2000 (US$ Billion)
(Source: US-China Commission, 2002)

2.1.3        Transfer of Production to China

Many Southeast Asian economies can no longer compete against China as a low-cost manufacturing center and their manufacturers consequently are moving significant facilities there. 

In Japan, the economic rise of China has had a growing impact on Japanese perceptions and expectations for the future (Shuja, 2002).  Many Japanese companies view the expansion of China¡¦s production capacity as a threat.  For example, 744 kitchenware factories in Tsubame (roughly 25 percent of the city¡¦s production) were forced to shut down in 2000 due to losing a chunk of global market share to China over the past decades (Wehrfritz et al, 2002).  It also happens in other countries such as Taiwan, Singapore and Malaysia.  It seems that the emergence of China as a major trading nation has to some degree been at the expense of its neighbors (US-China Commission, 2002). 

2.1.4        Threat of Ethnic Chinese

China¡¦s looming presence is not only stemmed from its population, but also comes from the ethnic Chinese in the region.  Overseas Chinese companies in Malaysia, Thailand, Indonesia, and the Philippines make up about 70 percent of the private sector in those economies (Lommen et al, 1998).  Thailand and Indonesia are examples of the domination of ethnic Chinese in the countries.  In Thailand, Chinese account for only about 10 percent of the population, but 9 of the 10 largest business groups belongs to the local Chinese; while in Indonesia, no more than 4 percent of the population was Chinese till late 1997, yet 68 percent of the top 300 conglomerates were owned by local Chinese entrepreneurs (Lommen et al, 1998).

The dominance of ethnic Chinese has generated uncomfortable feeling for the Southeast Asian countries.  It is because the Chinese-based economy articulates as the epicenter for industry, commerce, and finance in the region (Lommen et al, 1998).  Lommen et al (1998) cites an example, Taiwan contains substantial amounts of technology and manufacturing capability; Hong Kong is outstanding entrepreneurial, marketing and services acumen; Singapore has a fine communications network; China has very low endowments of land, resources and labor; and all of them have a tremendous pool of financial capital.  It is therefore reasonably viewed as a threat to the region as China¡¦s business ties frequently involve dealings by overseas Chinese.

2.1.5        Increase of Educated Manpower in China

There is also a near-limitless pool of extraordinarily cheap labor, including a large and growing supply of educated graduates in China.  According to the latest data from UNESCO (UNCTAD, 2002), for the mid-1990s, the number of university graduates in China exceeds a million, compared with about 380,000 for Indonesia and South Korea.  Moreover, engineers and scientists account for 35 percent of the graduates as against an average of 24 percent for Indonesia, Philippines and Thailand, and 48 percent for Singapore and South Korea.  Hence, China continues to have a strong competitive edge for its transformation and growth.

2.2  China is an Opportunity: As Fortune of Asian economies

In contrast, the US and European countries view the emergence of China as a business opportunity rather than as a threat, and success stories of their companies in China are on the rise.  Indeed they now lead the list of top ten foreign companies in China.  Among automakers, for example, Germany's Volkswagen has a market share of 50%, while the mobile phone market has been dominated by Motorola of the US, Nokia of Finland, and Ericsson of Sweden (Rieti, 2002). 

In fact, the Southeast Asian economies are also on the whole benefiting from China¡¦s economic renaissance as China has a locomotive or economic pulling effect on its neighboring economies (Millmow, 2002).  The fortune of Asian economies can be built on China¡¦s huge market, investment opportunities, low labor costs in the country, and FDI.

2.2.1        Huge Market

With a population of 1.2 billion, China has an enormous consumption potential.  The Chinese market has been regarded by investors as a big market yet to develop fully worldwide.  The people¡¦s purchasing power has been increasing at an accelerated pace and the domestic market has been becoming increasingly brisk.  In 2001, the total retail sales of consumer goods were approximately US$454 billions, up 10.1 percent over the previous year (People¡¦s Daily, 2002).  For example, the number of mobile phones users grew from 85 million at the end of 2000 to 130 million in September of 2001 leading to strong sales growth of handsets in mainland; the software industry is also another bright spot and the sales growth in China achieved by a major US software producer in the third quarter of 2001 was as high as 130 percent (Heng Seng Economic Monthly, 2001).

According to Institute of International Economics (Goad, 1999), WTO accession will turn China into a bigger market for the rest of the world (Figure 4).  Morishita (2001) argues that from a long-term perspective, China will become a plus factor for Asia as whole.  Hence, the Southeast Asian countries must take this opportunity in a positive way and aim toward realizing a balanced prosperity for all of Asia.  For examples, exporters of natural-resource products such as Indonesia, or agricultural products such as Thailand could gain from greater access to the China market (Goad, 1999).

 

US$ Billion

 

 

Before accession

After accession

Percentage change

Merchandise

150.0

168.2

+18.2

Services

16.7

19.8

+3.1

Total

166.7

188.0

+21.3

Note: estimated based on adjusted 1997 import figures and China¡¦s April WTO proposal

Figure 4: Selling to China Before and After WTO Accession
(Source: Goad, 1999)

2.2.2        Investment Opportunities

Because of rapid economic growth, a great many construction projects and technological upgrading projects have been undertaken throughout China.  China¡¦s rapid economic growth has also created a host of investment and development opportunities.  To attract foreign companies to invest in China, the Chinese Government has formulated many preferential policies in terms of taxation and import and export trade, and has introduced a relevant complete legal guarantee system.  For example, China is a market of 150 million telephone lines, 100 million mobile phone users and over 20 million Internet surfers (Hong Kong Trade Development Council, 2001).  It will only take a few years to surpass the US to become the world¡¦s largest market in all three areas, and hence it is a potential market to develop and invest.

2.2.3        Low Labor Costs

China has a huge population, abundant labor resources and a relatively low level of wages.  There are also high quality workforce and technicians.  Southeast Asian countries should enjoy such advantages in penetrating the Chinese market.

Japan is also shifting segments of its manufacturing industry to China to take advantage of China¡¦s lower production costs and market potential.  According to US-China Commission (2002), Japanese electronics manufacturers, including Toshiba, Sony, Matsushita Electric Industrial, and Canon have all announced plans to expand manufacturing operations in China.  Moreover, in many instances research and development (R&D) activities are following to access China¡¦s growing pool of low-cost engineering talent, for example, Matsushita has opened a R&D laboratory for household appliances in Suzhou; Toshiba is planning a tenfold increase in the number of engineers at its chip development center in Shanghai; and Hitachi, Sony Pioneer, Fujitsu, and NEC reportedly are among other major Japanese firms that have announced plans to establish R&D units in China as well.

In the case of Taiwan, it is successful in prolonging the product life cycle of declining export industries by opportunely shifting facilities to China (US-China Commission, 2002).  Many Taiwanese companies are already using China as an export base, particularly in the information technology sector as they believe it is vital to cope with the advantage of low labor cost in China to remain competitive in international markets.  Other countries are doing the same such as Singapore and South Korea.

2.2.4        Foreign Direct Investment

China¡¦s FDI outflows in Southeast Asian countries have not been a significant to date.  With the continuing of China¡¦s economic reform and its transition to a market economy, it will play an increasingly important part as a key exporter of capital to Asia (US-China Commission, 2002).  For example, Hong Kong will definitely benefit with the gradual open of China¡¦s financial-services industry, which should yield spin-offs for Hong Kong as foreign firms devote more resources to the China market (Goad, 1999).  Goad (1999) also claims that Chinese firms too will seek out sophisticated financial services and capital in Hong Kong because the Renminbi is not freely convertible for several years.

2.3  Implications

The emergence of China has gradually eroded the competitive advantages of Southeast Asian countries.  The countries are facing stronger competition from China, especially in labor-intensive segments.  Economists argue that countries like Japan and Singapore need to concentrate on high-end, high-value products and services that China cannot yet match but there is no great effect in short period (Wehrfritz et al, 2002). 

However, Porter (1990) argues that companies gain a competitive advantage when a national environment permits and supports the most rapid accumulation of specialized assets and skills, affords better ongoing information and insight into product and process needs, pressures companies to innovate and invest.  Hence, the Southeast Asian countries should accept the presence of China and well equipped with their own competitive advantages, for example Japan and Korea must innovate and upgrade to compete.  So instead of fear and loathing, the Southeast Asian countries should adopt policies and strategies to reap the benefits from China as their other source of competitive advantage. 

China¡¦s trade pattern is gradually moving towards conforming to its resource structure: labor manpower.  The rapid increase in China¡¦s export sector has been essentially in the area of labor-intensive exports such as clothing, electronic goods, etc.  In these activities, competition among developing countries will tend to increase.  However, in a number of areas, expansion of China¡¦s exports of final manufactured products can be expected to be accompanied by a concomitant increase in imports (UNCTAD, 2002).  For example, China has been increasing relying on imports of textiles for use in its clothing exports from Taiwan, South Korea, etc. 

Dominating imports are machinery, technology, and materials that necessary for manufacture of exports.  With increasing economic prosperity, the demand for consumer goods is also on the rise.  Since the industrialized countries and the more advanced developing countries have a competitive edge in these products, they are likely to be the main beneficiaries of increased imports by China (UNCTAD, 2002).  For example, South Korea is expected to benefit considerably from China¡¦s liberalization of the telecommunications and automobile sectors through both trade and FDI. 

Although the growth of China is more likely the fortune of Southeast Asia, there are number of concerns must be bear in mind.  With the rapid economic growth, there has been greater inequality of income which is caused by the huge gap between urban and rural incomes.  In addition, the Chinese economy is now suffering from the ¡¥unemployment disease¡¦ due to structural disequilibria: technological progress and the increasing use of capital have not been accompanied by a respective increase in the amount of investment-generated employment (Lommen et al, 1998).  A recent study shows that China¡¦s accession to the WTO could cause unemployment to rise as high as 25 million over the period 2001-2006 (UNCTAD, 2002).  If these two concerns are not managed well, opposition to further economic liberalization may mount with social unrest. 

Furthermore, liberalizations in trade will likely be extended to include closer connections with the international financial system, including eventual movement toward a convertible Renminbi, which might hinder the promotion of longer-term growth (Barro, 2002).  Finally, it is a major concern of most investors whether China can improve and allow for greater individual freedom, and with more accountability of the government in the near future.

3.      Strategies for Companies Doing or Intending to Do Business in Asia

According to Porter (1990), ¡¥differences in national values, culture, economic structures, institutions, and histories all contribute to competitive success.  There are striking differences in the patterns of competitiveness in every country, no nation can or will be competitive in every or even most industries.¡¦  This implies that although China is very likely the fortune for the future of Asia, it is not necessary for companies doing or intending to do business in Asia shift all the investments to the country. 

In order to success, Porter (1990) argues that a company must adopt a global approach to strategy.  A truly global approach may even require the company to locate production or R&D facilities in other nations to take advantage of lower wage rates, to gain or improve market access, or to take advantage of foreign technology (Porter, 1990).  Hence, the companies should investigate and evaluate the competitive advantages of each country, and adopt strategies to effective use the advantages of different countries depending on the industry they are in.

3.1  China

The competitive advantage of China is its cheap labor for manufacturing such as clothing, footwear, and recently electronic and high-tech production process.  Companies in the manufacturing sector may consider setting their production base here for cheaper labor costs.  As China has moved slowly in liberalizing its domestic financial system, which remains highly regulated and dominated by state-run banks (Barro, 2002).  It is recommended foreign entry into manufacturing or other means should be concentrated on joint ventures.  Barro (2002) argues that this has promoted the transfer of advanced technology from abroad, while inducing Chinese state enterprises to run more efficiently.

For consumer market, the companies may consider to enter China to gain the market share of the huge populations such as mobile phones, healthy products, home appliances, computers, etc.  Franchise operation is a good option in this area.  Although franchise operation only has a history of about 10 years in China, its pace of development outstrips that of other business modes.  As at the end of 2000, there were more than 400 franchised enterprises with over 1,000 outlets in the country covering 30 trades (Hong Kong Trade Development Council, 2001).  

Multinationals are also a dominant force.  For example, McDonald¡¦s and Kentucky Fried Chicken have almost 700 branches; Kodak has half of the market for film and photographic paper with Fuji holding most of the rest; Procter & Gamble is the biggest seller of shampoo; while foreign manufacturers led by Motorola, Ericsson and Nokia have 95 percent of the market for mobile phones; and China becomes Coca-Cola¡¦s biggest Asian market (The Economist, 2002).

Reforms will be continued with the accession of WTO.  For example, it may require building a national infrastructure of roads, railways, housing and fiber-optic lines that creating something like a unified economy (The Economist, 2002).  With the opening of China, it may allow FDI for such kinds of development works.  Good relationship is therefore a must with the Chinese government in order to gain the advantage.

3.2  Developed Countries

Hong Kong plays the role of gateways for China¡¦s trade and investment.  Nearly 90 percent of Hong Kong¡¦s exports to China during 1998-2000 were re-exports with additional processing; while vast majority of China¡¦s exports to Hong Kong are re-exported by Hong Kong to other countries after packaging or further processing (US-China Commission, 2002).  Hence, Hong Kong can be considered as a center for servicing and logistic for China.  Moreover, Hong Kong is still the world¡¦s freest financial center and plays as a financial hub for China because Renminbi is not freely convertible.  Similarly, Singapore can be the gateways for Indonesia and Malaysia.

The companies may also consider setting up office in Hong Kong to provide insurance, investment and tourism services for China.  The Chinese will require these services significantly with the growth of China.  Hong Kong is more advantaged in these areas because it has talented human resources, experiences, and location benefits.

In the case of Japan, South Korea, Singapore and Taiwan, their economic and technical levels are higher than other Southeast Asian countries.  The companies should make use of these countries¡¦ funding, advanced technology, product innovation, R&D, management experience, etc to develop their business.  For example, Taiwan supplies 60 percent of the world¡¦s motherboards and is the world¡¦s leading suppliers of notebook computers, monitors, mice, keyboards, video cards, sound cards, on-off switches, LAN cards, graphic cards, scanners, and laser disk drives (US-China Commission, 2002).  The companies may consider doing product innovation and R&D in Taiwan with its marketing know-how expertise, while manufacturing is held in China for the low production costs.

3.3  Developing Countries

In the developing nations, production-related projects tend to be in the form of machinery, raw materials, technology or labor.  For example, the companies may consider utilizing the natural resources of some developing countries to gain business from China such as wood and rubber from Malaysia and rice or food from Thailand.

In the case of Indonesia and Philippines, they are losing their competitive edges to China in the same export business: textile and clothing manufacturing.  If they continue to use traditional labor-intensive methods in textile manufacturing and produce low quality textiles, are unlikely to benefit unless they rapidly upgrade their textiles industries (UNCTAD, 2002).  Rather than direct competing with China in labor-intensive manufacturing, the companies should grasp the opportunity of the huge Chinese tourist industry.  They may consider developing tourist industry in Indonesia and Philippines for their cost advantages over the other Southeast Asian countries.

4.      Conclusion

The emergence of China has generated fear and loathing from Southeast Asian countries, while on the other hand it is viewed as the fortune of region.  Their fear and loathing about China¡¦s growth are because of losing foreign direct investment, market shares in export, and production domestically; threats of ethnic Chinese; and increasing educated manpower in China that may increase China¡¦s competitive advantage in the long-run.  On the other hand, the Southeast Asian economies are also on the whole benefiting from China¡¦s huge market, investment opportunities, low labor costs, and FDI.  Therefore, competition would be greater with countries having a similar export structure to China¡¦s; while greater complementarity can be expected for countries which have the capacity to supply the products in which the Chinese economy does not have a competitive edge.

China has gradually eroded the competitive advantages of Southeast Asian countries, especially in labor-intensive segments.  Instead of fear and loathing, the Southeast Asian countries should accept the presence of China.  They should adopt policies and strategies to reap the benefits from China as their other source of competitive advantage. 

Finally, although China is very likely the fortune for the future of Asia, it is not necessary for companies doing or intending to do business in Asia shift all the investments to the country.  Rather, the companies should investigate and evaluate the competitive advantages of each country, and adopt strategies to effective use the advantages of different countries depending on the industry they are in.


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