Learning from China's Export Boom

According to the Organization for Economic Cooperation & Development (OECD), China has overtaken the U.S. to become the world's largest exporter of information- and communications-technology goods. Crossing the largely symbolic threshold should put to rest outdated notions of China as a manufacturer and exporter of cheap T-shirts, though the country won't give up its thriving garment exports as it steps up production of laptop computers and memory chips.

Indeed, China's ability to hold on to the labor-intensive segments of the global marketplace as it climbs the technology ladder is one of the unique features of the country's ascent -- and a remarkable source of resilience for its economy. It's also a factor in the country's $100 billion-plus trade surplus with the rest of the world and double that figure with the U.S.

KNOWLEDGE PLAYER. It's easy to dismiss the importance of China's taking the lead in technology exports. Its tech goods contain substantial imported content, not to mention foreign technology, be it transferred, licensed, or "borrowed." Roughly 60% of exports are made by foreign-invested enterprises, and the percentage progressively rises with the technology level.

So is China merely an export platform, a convenient low-cost base for the world's multinationals, which in turn retain core knowledge and capabilities, farming out the simple, low-value parts of the value chain? Not really. China has absolutely no intention of remaining an assembler and proving ground for someone else's knowhow and advanced capabilities.

Rather, it's gearing up to become a producer of indigenous technology and a global knowledge player on the scale of Sony (SNE) and Samsung. If this sounds far-fetched, think of Sony in the 1960s and Samsung in the 1970s, except that this wave is coming much faster.

BUILDING INFRASTRUCTURE. To achieve its goal, China is undertaking a number of strategic measures. It's transforming its educational system, upgrading the capabilities of the 200,000-plus engineering students it graduates every year, and enlisting the help of foreign enterprises in developing a solid link between academia and production. At the same time, it's enticing Chinese students (many of whom are graduate students specializing in science and engineering) and scientists to return home with a plethora of programs and incentives (see BW Online, 1/6/06, "A Chinese Welcome for Entrepreneurs").

To make sure foreign investment translates into indigenous capabilities, the Chinese government continues to give preference to companies that are willing to transfer technology. The deeper the transfer, the higher the incentives. In a typical arrangement, the value-added tax (VAT) on integrated circuits was brought down to 11% from 17% for those willing to manufacture on Chinese soil, and 3% to 6% for those doing both the design and the manufacturing locally. And while this particular deal was shot down at the World Trade Organization, others are alive and well, often orchestrated by local authorities under the radar.

The R&D intensity -- that is, the proportion of investment dollars devoted to research and development -- of the China-based affiliates of U.S. multinationals is already more than three times their global average, and all indications are that this will not only continue but accelerate. A recent study by the Economist Intelligence Unit shows China as the No. 1 target for companies contemplating offshore R&D, ahead of the U.S. and India.

BUYING KNOWHOW. The doubters will tell you that what's going on in Chinese R&D centers isn't cutting-edge and consists mostly of local adaptation, but this doesn't preclude the diffusion of the skills that will enable practitioners to do it on their own one day. Nor does local adaptation imply second-rate research. For instance, China's pollution problem provides an impetus to invest in advanced hybrid and fuel-cell technology.

The desire for technological advance is also one of the driving forces behind Chinese mergers and acquisitions abroad, which are sure to increase dramatically in the coming years. The personal computer division sold by IBM (IBM) to China's Lenovo may have been a low-margin, if not loss-making business. But the progress in technology and knowhow that a Lenovo can obtain from an IBM cannot be measured in dollars, as the deal catapults a local follower into the ranks of a global competitor.

The automatic transmission technology that Toyota (TM) received via a joint-venture agreement in the 1960s wasn't the most advanced for the time, but it was sufficient for the Japanese carmaker to absorb the basic elements of the system and eventually move beyond it. Why should we think the Chinese cannot do the same?

WORLDLY THINKING. What does this mean for the U.S.? First, we should not take our technological lead for granted. The technology flow, one of the few trade indicators where the U.S. shows a positive balance, also shows a substantial increase in imports, a reminder that we have no monopoly on new technology. The experience of Britain, home of the Industrial Revolution, in the second part of the 19th century, may provide a cautionary tale.

Second, we need to solidify our knowledge edge by investing in education. Science and engineering come to mind, and they are critical, but I am also talking about such areas as international business and area studies, which confer understanding of the global environment, including international technology trends.

We also need to make sure we don't close the doors to the foreign students who are already a majority of our science and engineering graduate student body. Nor can we shut out the foreign scientists and tech executives who have already helped make this country a technology powerhouse. A more liberal student and work visa regime can go a long way toward sustaining this edge without sacrificing security concerns.

The name of the game is global talent, and if our companies and scientists can't have the skilled colleagues they need, they may be lured to other shores.

PROTECTING INNOVATION. Third, we must defend the ownership rights to our hard-earned innovations in an environment that does not respect those rights. Rather than complain to our government or hope that the Chinese will mend their ways, we may want to start by designing and building products and companies that are more difficult to penetrate and copy.

Israel-based Netafim, the world leader in irrigation systems, makes a core component complex and keeps its production at home so as to make copying difficult. But how many companies out there are asking their designers to come up with something that is not only functional and less costly to produce, but also bootleg-proof?

China is becoming the world's leading exporter of high-tech goods is not a reason to panic, but it is a wake-up call to the complacent. This milestone is for real, and we better draw the right conclusions about what it takes to stay ahead in a global environment where everything -- even innovation -- is up for grabs.

Burger King's Young Buns

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