ONE
No Longer a Shrinking Violet

To be rich is glorious!

—Attributed to Deng Xiaoping

XINHUA, CHINA’S GOVERNMENT news agency, used to be known more for what it neglected to say than for breaking news. Not anymore. In New York’s Times Square, Xinhua’s flashing logo now radiates from a 60-foot-high TV billboard just below a similar spot for Prudential Insurance and right above an ad for Korean TV manufacturer Samsung. The spot—which can be seen by roughly a half-million people every day—had previously been occupied by an ad for the bank HSBC (named for its founding member, the Hongkong and Shanghai Banking Corporation). While HSBC—which briefly moved its headquarters to London after China’s takeover of Hong Kong in 1997 and then moved back again—was pondering a new round of layoffs in response to ongoing global financial insecurity, Xinhua was clearly on a roll. Similar display ads in the Times Square spot can cost up to $400,000 a month. Beijing, which previously had a reputation for staying demurely in the background, has discovered the value of building a global brand.

Not all of the new assertiveness from China is as in-your-face as a Time Square billboard. The news that Chinese investors were putting $750 million into a private equity investment fund, J. Rothschild Creat Partners, run by Lord Rothschild, attracted far less public attention, but it is characteristic of a new trend by China’s private investors to buy foreign companies in order to operate under an established European name. The Rothschild family invested in China as far back as 1830, and a branch of the family that owns Chateau Lafite Rothschild has been developing vineyards in China. The motivation for the investment in vineyards is not hard to understand. A single bottle of Mouton Rothschild, the ultimate symbol of status for many newly successful Chinese, can easily sell for $2,000.

The Rothschild deal was only a minuscule event in a tsunami of Chinese global purchases. In the first six months of 2011, Chinese investors bought at least 176 publicly traded companies, at least six of them worth more than $1 billion. Many of these purchases were intended to secure access to energy and natural resources, but the Chinese were buying up service industries as well. Purchasing companies not only provides access to new technology—a practice that all companies engage in—but it also enables Chinese companies to sell their own products and services under established brand names that Westerners can recognize. In short, it increases the customer’s comfort zone with respect to China’s burgeoning global commerce.

Closing the Technology Gap

It should not come as a surprise that the country that invented paper, gunpowder, and civil service examinations should want to resume its natural role as one of the world’s economic leaders. China clearly has the intellectual capacity to do so. In November 2010, for example, China announced that it had developed a supercomputer that was 40 percent faster than any other operating at the time. The Chinese model covered a third of an acre and incorporated some 20,000 smaller processing units operating in parallel. What impressed computer experts was the fact that the Chinese had developed some of the components without foreign help. (Six months later, a faster computer was developed by a Japanese computer center, and other supercomputers, many made in the United States, were expected to break the Chinese record as well.) Even more significant than its superfast computer, China launched the Sunway BlueLight MPP supercomputer in October 2011. The BlueLight is capable of making 1,000 trillion calculations, or one “petaflop,” per second, placing it among the world’s 20 fastest supercomputers. What makes the BlueLight special is the fact that the 8,700 ShenWei SW1600 microprocessors that drive it were designed at a computer institute in China and manufactured in Shanghai.

The bottom line is that China is no longer dependent on Western help to design complex technology. The BlueLight achievement was particularly impressive because only a decade ago, China had no supercomputers capable of competing with the top 500 of the world’s fastest computers. Today, it has more than 60 in the top 500, which puts it in second place behind the United States, which has 255.

The design of ultrafast computers is only one area in which China is beginning to excel. At the same time that the United States decided to reduce funding for its space program, the Chinese have been stepping up their program for manned space exploration. Plans are in the pipeline for a Chinese-designed lunar rover and for a manned Chinese space station to be in operation toward the year 2020. True, the Chinese version will weigh only 60 tons, compared to 400 tons for the U.S.-Russian-European international space station that was already in orbit, but China is clearly staking out its claim to be a major competitor in sectors in which the West previously thought that it had a comfortable advantage.

Other Chinese efforts are more down to earth. Less than a decade ago, China’s entire rail system was woefully inadequate. Today, China has more miles of high-speed rail lines than Europe, and despite the scandal over a July 2011 rail crash, it will soon have the most extensive network in the world. What is intriguing about that achievement is the fact that the Chinese were able to develop their rail network so quickly. Europe and Japan have been gradually developing their rail networks over the last 20 years. China was able to do it in a fraction of the time. The Chinese were able to obtain some of the core technologies by forcing foreign manufacturers into joint ventures that enabled the Chinese to learn trade secrets. The Japanese conglomerate Kawasaki was particularly annoyed by what it saw as Chinese attempts to profit from its technology. But the Chinese were also able to take the Japanese technology and move it to the next level, so that Chinese trains are much faster than those built by the Japanese. China’s are now the world’s fastest trains in regular commercial service.

Germany pioneered much of the development of ultra-high-speed magnetic levitation railways that use high-powered magnets to literally lift a train off the ground, virtually eliminating friction. Maglev trains can easily reach speeds up to 270 miles per hour. But today, the Maglev train that most businesspeople know and use is the connection from Shanghai’s airport to the center of town—an 18.6-mile, 90-minute trip by taxi, which takes only seven minutes on Shanghai’s Maglev. The Germans developed the concept, but hesitated about its economic viability. China took the idea, adapted it to its specific needs, and went ahead and invested the money needed to make it work in a real-life situation. And rail transport is not the only area where the Chinese are making strides through significant investments. Chinese rockets now launch American-made satellites into space for American companies, largely because the United States found that it had to cut back on spending for its own space program.

More and more, new ideas that are invented in the West need to be manufactured in China because the facilities to make them no longer exist in the West. For example, when French farmers tried to restart a high-quality wool industry with Merino sheep, they discovered that the only option for processing the wool was to send it to China. France no longer had any factories capable of processing the quantity that they needed.

Thanks to Western corporations having moved so much of their manufacturing to China, there is almost nothing that is being done in the West that cannot be done cheaper by someone, somewhere in China.

Welcome to Sanlitun Village

The gleaming new glass and steel complex in Beijing’s Sanlitun district, which now calls itself “The Village,” could easily be a swank shopping complex on New York’s Fifth Avenue or in London, Paris, Dubai, or any number of modern global cities. The term village sounds odd in these luxury surroundings, but the irony is not accidental. China is, in a sense, redefining the way the world thinks of it, and Sanlitun Village is not just selling expensive luxury items: It is transmitting a powerful message to the outside world. The period of Western domination, which the Chinese refer to as the “Century of Humiliation,” is drawing to a close, and Sanlitun is not a bad place to begin.

The Sanlitun district’s center is nearly a mile. A “li,” sometimes referred to as a “Chinese mile,” is actually 0.5 kilometers. The distance is 1.5 km or 9/10ths of a mile from the Dongzhimen Gate, one of the original entrances to Beijing’s ancient city walls. After China’s revolution in 1949, Mao Zedong decided to close the old Foreign Legation area and move the foreign embassies that had been located there away from Beijing’s center. Sanlitun became Beijing’s new foreign enclave.

For the next several decades, while China looked inward and grappled for control of its own destiny, Sanlitun served as an uneasy meeting place between East and West. For a long time, the district had an unsavory reputation for seedy bars, Western-style restaurants, and marginally illicit activities. Then Deng Xiaoping changed everything in China, and in the process, Sanlitun also changed. Today, with Greater Beijing approaching the size of Belgium, Sanlitun no longer seems that far from the city center. Foreigners, treated with suspicion under Mao, are now surprisingly welcome. Beijing’s buses and the new metro lines announce stops in both Chinese and English.

The Sanlitun Village shopping mall, which opened in 2008, is an example of China’s new openness to the outside world. A gigantic plasma video screen, spanning an elegant stone plaza, broadcasts MTV-style music videos. A few feet away, shoppers scan the offerings of the world’s largest Adidas sportswear store. Teenagers equipped with iPods casually stroll into a giant Apple computer showroom. LeSportsac, Fendi, Balenciaga, and Versace compete for the most elegant window displays, and a new multiplex offers the latest films. Smartly dressed toddlers laugh and play next to a futuristic fountain that sporadically spurts multiple jets of water into the air. At a corner of the plaza, a Starbucks coffee shop overflows with café lattés and cappuccinos. The Village, in short, has become a playground for Beijing’s new upwardly mobile middle class.

Looking at the Western brand names, it would be easy to conclude that the former colonial powers are once again invading China, this time through consumer materialism. But in fact, the opposite is true. To a large extent, it is China that is conquering the world—at least the consumer world. The brands that have the crowds glued to the showrooms in Sanlitun may have Western names on their labels, but nearly everything offered for sale is made in China. The great multinational names that once dominated the world market are to a large extent converting themselves into repackagers and distributors of China’s burgeoning industrial production. Most of these goods are produced in factories and workshops unknown to the public. The latest fashion accessories may have been designed in Paris or Italy, but it is more than likely that they were actually made in China. The Apple iPad is a prime example of the role China now plays in the consumer market. Although much of the world looks on this enormously successful tablet computer as a stroke of genius by a leading Silicon Valley company, the guts of the machine are assembled by Foxconn, an electronics manufacturer in Shenzhen, which until recently most of the world had not heard of.

Instead of signaling a Western invasion, Sanlitun boasts of China’s growing dominance in the world economy and the Middle Kingdom’s growing importance as the primary source of the world’s consumer manufacturing. What Mao failed to accomplish through Marxism, China is managing to achieve today through its own form of “socialized” capitalism.

The average Westerner happening on Sanlitun Village might argue that much of the sophisticated technology there still comes from the West, but that notion is also fast becoming out of date. China is evolving more quickly than even its most avid proponents expected.

China’s feats in high technology are increasingly matched by its development and production of more mundane consumer goods. China’s national entrepreneurs are no longer satisfied with simply implementing Western engineering. Given the growing competition from both Chinese manufacturers and the giant multinational corporations that gained access to the Chinese market when China joined the World Trade Organization in 2001, China’s biggest corporations are going global. If they want to survive, they have no other choice. Western corporations that had hoped to be able to sell to 1.3 billion Chinese are suddenly discovering that the Chinese are beginning to challenge them on their own turf.

Problems with Speed

The road ahead is not likely to be a smooth one for either China’s new entrepreneurs or the multinationals that will need to learn how to compete with them. The accelerated pace of development can create problems of its own. Success comes rapidly, but there is less time to identify and respond to the pitfalls. In a sense, the “village” is a metaphor. Traditional villages in both China and Europe developed by trial and error over centuries. As a result, the most serious mistakes were smoothed out and eliminated along the way. When development takes place at exponential speed, however, there is less time to assess what is likely to go wrong.

The surge in worker suicides at Foxconn in 2010, which made international headlines, is a case in point. Low pay and long working hours were clearly a cause of dissatisfaction, and the company moved quickly to improve salaries, but it is also clear that the company faced serious internal management problems that went beyond salary issues and created a working environment that employees ultimately found psychologically intolerable. The fallout not only threatened Foxconn’s future but also had potentially serious repercussions for the brand image of its U.S. clients.

Western corporations have evolved management structures and employer-employee relations over the last century, often with painful periods of friction and miscalculations on both sides. The lessons learned from these experiences are now taught in MBA courses at leading business schools. The new Chinese private sector entrepreneurs have not been given time to absorb that accumulated knowledge. They have largely been forced to develop their operations relying mostly on intuition and with very little outside guidance.

Illusions About the China Market

International companies competing in China tend to blame their lack of increased market share on government rules that favor Chinese companies, particularly when it comes to government purchasing. But this is hardly different from the situation in the United States or Europe. Most governments give preference to their own companies. A more serious charge is that in order to get access to foreign technology, China enticed international companies with dreams of selling to 1.3 billion potential customers. Once it had the technology, it simply rebranded it and froze the foreign companies out.

Many Chinese CEOs admit openly that their strategy from the beginning was to learn from the West, master the technology, and then develop their own products that took the technology further. What makes these companies such formidable competitors is the fact that they grew up as independent entrepreneurs in a hostile environment that neither understood private enterprise in its early days nor supported it. To survive, these entrepreneurs had to understand their own markets and teach themselves how to grow a company without access to the financial cushioning and venture capital facilities that business can rely on in the West.

Finding Profit in Markets That the West Overlooked

Where China’s new entrepreneurs excel is their readiness to plunge into markets and new technologies with a speed and flexibility that the giant multinationals find difficult to match. In many cases, Chinese companies have moved into markets that the major multinationals did not think worth the effort, and they have proved that these sectors can, in fact, be very profitable. Haier, a Chinese manufacturer of air conditioners and refrigerators, slipped into the U.S. market by selling compact refrigerators for dorm rooms, wine cellars, and other specialty uses—mostly through low-price chains like Costco, Best Buy, and Walmart. The big players in the field hadn’t thought the sector worth bothering with. By the time they finally realized that Haier was beginning to cut into their market share, it was too late—Haier was already a player. When it looked as though Haier was about to buy cash-strapped Maytag in order to get control of a brand name that Americans were more likely to recognize, Whirlpool—the market leader—was forced to step in and pay more than analysts felt that Maytag was worth. Whirlpool’s move was aimed far more at keeping Haier at bay than it was at gaining Maytag’s assets. (This is discussed in further detail in Chapter 10.)

U.S. corporations are just beginning to discover that Chinese-manufactured products are not only less expensive than products made in the United States but of very good quality. The products of Chinese technology giant Huawei started off as low-cost alternatives to more costly Western telecommunications systems, but after the company spent heavily on R&D, it became a leader in advanced technology. In fact, AT&T and Sprint tried to award Huawei the contract to design a major part of the next-generation 4G telecommunications system in the United States. The only thing that stopped the deal from going through, in late 2011, was concern from the Pentagon that U.S. strategic interests might be damaged if the contract went to a company with strong ties to China’s military. (This is discussed in Chapter 3.)

Intelligence and Flexibility at a Bargain Price

A highly educated workforce willing to work long hours at relatively low wages is an obvious advantage, but the most successful Chinese companies offer more than that. Chinese corporations frequently win major contracts not only because their products are cheaper but also because they can be delivered in a fraction of the time required by many of the large multinationals. Many European and American companies have lapsed into a “take it or leave it” approach, which leaves customers with requirements that may be only partially satisfied. In contrast, the best Chinese companies make a point of quickly adapting themselves to specific customer demands, often making alterations while equipment and systems are actually being used on a site, essentially doing their research and development on the fly. Often, this is because the company didn’t have the funding to finance major R&D in advance, but the effect is to make these companies pay close attention to the specific needs of individual clients. The end result is that Chinese corporations are increasingly a force to be reckoned with in many of the high-value sectors that Western corporations cherish the most.

When President Barack Obama took office, he listed clean energy as a major potential source for new U.S. jobs, but Obama soon ran into resistance from conservative members of Congress. The delay opened the way for China to get a head start on what it saw as an important component in its future supply of energy. In 2010, the United States offered roughly $4 billion in grants to American companies developing clean energy, and it made available $16 billion in loan guarantees. In contrast, the China Development Corporation lent $35.4 billion to Chinese wind and solar companies and sank another $54 billion into Chinese equity and project debt for clean energy.

Only five years earlier, China had practically no significant experience in solar or wind energy, but by 2010, it was responsible for 58 percent of the world’s production of solar cells and almost half of its wind turbines. A new wind turbine was going on line somewhere in the world every 30 minutes, and one out of three of them were manufactured in China. By 2010, China had doubled its wind capacity to 25.1 gigawatts (a gigawatt is equal to 1 billion watts). In contrast, U.S. wind power in 2010 added up to only 35 gigawatts. The difference is that while U.S. energy companies and conservatives in Congress pondered whether climate change should really be considered a threat, the Chinese were quietly planning to increase their wind power capability by up to ten times by 2020. The worldwide wind power industry currently employs around 600,000 people. That figure can be expected to increase dramatically in the future, and much of it will likely be in China.

Solar power is another technology that the West appears to be ceding to China. In March 2010, BP Solar—a pioneer with 37 years of experience in the solar field—announced that it was closing its solar panel manufacturing plant in Frederick, Maryland, and moving to China. Only three and a half years earlier, BP Solar had announced a $70 million plan to double the Maryland plant’s capacity. Despite this, it said in 2010 that it would lay off 320 workers, leaving only a reduced staff of 100 employees to stay behind to work in research, sales, and project planning. BP Solar estimated that by moving to China, it could cut unit costs by up to 45 percent. The cost of manufacturing in China was so low in comparison to anywhere else that it seemed impractical to try to develop one’s own technology. The former chairman of BP, Sir John Brown, once commented in an interview that if anyone could get a jump on controlling the energy of the future, it would be worth trillions of dollars. It looks very much as though those trillions are now likely to be Chinese.

The Downside of Exporting Manufacturing

The rush by Western multinationals to take advantage of the lower cost of human capital at all levels in China resulted in a tectonic shift in the global economy. Not too long ago, China manufactured 6 percent of the goods sold in the United States. Today, the figure is closer to 40 percent. While inexpensive Chinese labor has made Western distributors like Walmart and Costco extraordinarily wealthy, the broader impact is just beginning to become evident. Innovation tends to follow manufacturing. You have to be part of the process in order to know how to make the process better.

Once it became apparent that even the most advanced industrial economies could meet severe difficulties in an unrestrained global free market economy, the ardor for globalization began to cool. Former free marketers who suddenly realized that they might be losing in the exchange began to have second thoughts, and not surprisingly, their skepticism focused on China.

Learning Through Copying

Although Chinese companies unabashedly copied Western products when they were just getting started, China’s entrepreneurs are fast moving past that stage into the next phase of their development. Their goal is to turn out products that are less expensive than the competition’s—and also better.

Two powerful forces are driving the Chinese to try harder. The first is competition from inside China, which is increasingly moving up the value chain to find new customers in saturated market sectors. The second is competition from the foreign multinationals that gained access to the Chinese market under the terms of the World Trade Organization. Not long ago, foreign companies were interested in selling mainly to other foreigners operating in China, but these companies are now beginning to compete head-on with domestic Chinese companies in a fight for market share as China’s domestic population begins to have more spendable income. According to Forbes magazine, China is already just behind the United States when it comes to number of billionaires, and the rate at which new billionaires join the list has been nearly doubling yearly with the exception of 2009, when 19 Chinese billionaires dropped off the list, and the list itself contracted by 30% due to the global financial crisis. The key advantage, though, is that the Chinese are simply endowed with a greater hunger for success than many Westerners, and they are ready to do whatever it takes to achieve it. The Chinese term that well describes this trait is chi ku, or to “eat the bitterness that life offers.” The risk, of course, is that some companies will go too far and cut too many corners in order to get a competitive edge. Scandals over tainted milk and lead paint on exported children’s toys, and the labor problems at Foxconn, all threaten to damage the image of Chinese products in international markets. As that danger is realized, controls are likely to be tightened. The bottom line, however, is that the Chinese are willing to make the extra effort and go the extra distance that is necessary to close a deal. That in itself makes them formidable competitors.

The Wenzhou Model

Nowhere is the competitive spirit more in evidence than Wenzhou, a manufacturing center roughly 300 miles south of Shanghai. Wenzhou is generally acknowledged as the birthplace of China’s private sector economy. Today, it produces some 70 percent of the world’s cigarette lighters and about half the world’s cheap shoes, as well as much of its bra parts, plastic leather, and zippers. The population of the greater Wenzhou metropolitan area is estimated at 7.7 million, roughly equivalent to the population of New York City.

Wenzhou’s claim to launching capitalism in China stems in part from the fact that the first official license to engage in private commerce was issued to a Wenzhou resident, Zhang Huamei, in November 1979. Zhang admits that she was already doing business, selling toys in front of her house, before it became legal. Today, more than 95 percent of Wenzhou’s economy is in the private sector.

The city’s reputation for spirited private enterprise is famous throughout China. Since the region was poor, many of its citizens left to try their luck in other parts of the country. They ultimately linked up with each other to establish a formidable business network and powerful commercial connections, based on social relationships already established back in Wenzhou. Estimates are that about 2 million former residents of Wenzhou are now strategically positioned across China, and another 500,000 are doing business in 70 countries around the world. Roughly 100,000 of them are in the United States.

Economic success has led to shopping malls in Wenzhou being stuffed with luxury goods. A Wenzhou company tried to take over Pierre Cardin, and another attempted to buy Michael Jackson’s Neverland Ranch so that it could be dismantled and transported to Wenzhou. A new airport and opera house in Wenzhou were designed by Uruguayan architect Carlos Ott. Not surprisingly, sales of BMWs, Audis, Maseratis, and Porsches in Wenzhou increased substantially during the economic boom.

The flip side was that as the global economy began to slow substantially, many of the Wenzhou entrepreneurs found themselves strapped for cash. Many had borrowed from what is known as the “curb market”—a system of informal lending in which loan shark rates can range from 20 to 40 percent, depending on the number of intermediaries involved. For more than two decades, the importance of family honor, combined with the fear of social ostracism if a debt failed to be paid off, was enough to keep Wenzhou’s curb market relatively dependable. But the interest rates were hard for businesses to sustain over a long period of time. Between April and November 2011, at least 90 small and medium enterprises (SMEs) in Wenzhou collapsed and went into bankruptcy. Alarmist news accounts, combined with the fact that Chinese banks were also tightening credit, increased the pressure on SMEs to find new credit. It wasn’t the first time that Wenzhou had faced this kind of pressure, and it was a situation that China’s financial institutions could easily reverse if they decided to do so.

Size Counts

While China’s newly released entrepreneurial spirit is unquestionably an important factor in the country’s success, China’s immense size also helps. The United States became an industrial powerhouse largely because it had a huge, relatively homogenous population that provided both an enormous pool of talent and a unified market to finance the development of products that could eventually be peddled to the rest of the world. China is poised to match the U.S. model on steroids. It has nearly four times as many people from which to choose its best and brightest.

The global free market cuts both ways, of course. Coca-Cola currently dominates carbonated drink sales across the China market. Nokia, Cisco Systems, IBM, and others have also been extremely successful in the Chinese marketplace—not to mention McDonalds, Kentucky Fried Chicken, and Burger King. The bottom line is that China still promises significant profits to those companies that meet the specific demands of China’s market.

How the rest of the world adapts to these challenges will to a large extent determine the future of the global free market economy. As China begins to connect with the outside world, it is emerging as a force that will eventually also need to be reckoned with in international affairs. It is time for a clear-minded reassessment of where China is heading and a deeper look at the factors that have not only shaped China’s thinking up to now but have also shaped Western perceptions of China.

Different Attitudes About China

Western attitudes toward China often seem schizophrenic. On the one hand, the United States and Europe often seem dazzled by China’s immense potential as a market for Western goods and services. In a global market where competition is fierce, who can ignore 1.3 billion potential customers? The expectations are not farfetched. For example, despite the high cost of Swiss watches—around $550 each—more than 40 percent of the roughly 26 million Swiss watches exported annually are bought in Asia.

On the other hand, China’s sheer size and energy can appear threatening, not just to Westerners but to the Chinese as well. But the Chinese are looking at the situation from a very different perspective than that held by most people in the West. Thirty years of isolation, extreme poverty, and deprivation have created an enormous pent-up demand for a broad range of consumer products. While many Westerners focus on their leisure and quality time, most Chinese are now obsessed with catching up and getting ahead no matter what the cost. At the same time, most are intensely patriotic and proud of their recent achievements.

POLITICAL VIEWS WITHIN CHINA

While the West frets about political issues such as censorship on the Internet and freedom of expression, many Chinese see their current relative political stability and increased opportunity for advancement as welcome changes from the chaos of the past, which for many people is still a vivid memory. It is not that the Chinese do not care about politics or democracy—it is that for the time being, they care more about getting ahead, which translates as making money. If you ask most Chinese people about the turbulent recent past, they will respond by asking what profit they are likely to get from dwelling on the past. For most Chinese, reality is now, and the future looks promising. That is not to say that the Chinese do not care about human rights or government corruption. Public outrage was certainly sparked by scandals over infant deaths resulting from tainted milk and over buildings that collapsed because of faulty construction during the 2008 Sichuan earthquake. Internet bloggers have increasingly pressured for government reform, even at the price of facing jail terms. (The government is trying to control expression on the Internet and in the media, but it is questionable how successful it will be at shutting down dissent.)

Foreigners visiting Beijing today are often surprised at how outspoken the Chinese are on an individual basis. However, while it may be acceptable to make comments in a coffee shop, when the criticism goes out to the blogosphere over the Internet, those in power become visibly nervous. Instead of openly inciting authorities and upsetting the current period of relative freedom, many Chinese now seem to prefer evolution to revolution. They are going for incremental change within recognized limits that they expect to expand gradually. Above all, they want the changes to come from within China itself, not to be dictated by foreigners.

The Internet is emerging as a powerful tool both for communications and public expression, despite the government’s efforts to control it. At least 400 million Chinese are currently connected to the Net. In place of shutting it down, various government organizations have tried to flood social networking sites on the Net with their own points of view. A recent military-sponsored blog, for instance, criticized the social networking site Twitter for helping to incite violent street demonstrations that followed Iran’s 2009 presidential elections. As the blogger saw it, inflammatory comments on the Net simply made the task of running a stable administration all the more difficult, which seemed to the blogger to be an argument in favor of maintaining better control over public communications.

It is obvious that China’s current views on politics are often at variance with the West’s democratic ideals. But having experienced a century of colonization by the West, the Chinese also tend to view some of what they hear coming from the West with a certain degree of skepticism. One person’s defender of democracy, in short, is likely to be another’s political agitator and source of civil disorder.

Most young Chinese show more passion about getting on with life than engaging in politics. As long as the system offers jobs and a possibility of a promising future, they are content to deal with it. China, in short, is changing. There is considerable internal debate over its future, but most of the debate these days is about how to make the country more successful. For any Westerner hoping to understand the changes taking place, it is counterproductive to look at China’s government as a static monolith rooted in the missteps and false directions of the past.

The West expects China to move in a straight direction, but the complexity of China’s politics and culture often make survival for government leaders dependent on a path that is filled with twists and turns. What is clear is that a new generation is gradually moving into power with new ideas and new approaches. It makes sense for Westerners to judge China on its own merits rather than on its past.

THE EFFECT OF HISTORY

China’s history with the United States over the last two centuries has been a roller coaster of changing attitudes. The first influx of Chinese immigrants into the United States occurred during the Gold Rush in the western United States in the late 1840s. Chinese adventurers who arrived to work in the mines referred to San Francisco as the “hills of gold.” As competition in the gold fields increased, the Chinese gradually moved into small businesses, especially restaurants and laundries. Then came the first Trans-continental Railroad connecting the eastern United States to California. Leland Stanford, the railroad magnate, saw the Chinese as diligent workers and imported thousands of Chinese to work on the project. The sudden influx of Chinese coincided with massive immigration to the United States from Ireland, which had been stricken by the potato famine. Denis Kearney, a labor leader and populist originally from Ireland, saw the Chinese as eventual competitors for entry level jobs and decided to use the issue to build political support for his own Workingmen’s Party. Kearney’s argument, expressed in a vitriolic, racist campaign, was that the Chinese were prepared to work for wages low enough to make it impossible for anyone else to compete. Kearney’s efforts and those of others like him eventually led to the Chinese Exclusion Act of 1882, which restricted Asian immigration into the United States until the 1965 Immigration Act.

For the most part, the West has tended to look at China as an ancient empire that never quite managed to adapt to the modern world. The fact is, however, that China, in its unique way, had been the equal and often considerably in advance of the West for centuries. As previously stated, the Chinese not only invented gunpowder and paper but also developed the first effective civil service system based on examinations. Their philosophers were the equals of any in the West, and when it comes to business, the Chinese were there at the start. For example, the round Chinese coins known as “cash,” which have a hole in the center to enable them to be strung together, began to be used as early as 1200 BC. The English term “cash” is an evolution of the French word “caisse,” or “money box,” which dates back to 1590. (The word eventually referred to the money, or symbolic value of the tokens inside the box, rather than the box itself—a sophisticated concept that came into widespread use in the West a few centuries ago.) The word cash is virtually the same in Chinese and English, except that the Chinese were there at the beginning and have understood its meaning continuously ever since.

Where the Chinese unquestionably missed out in history was the industrial revolution that ushered in the modern age. Historian Mark Elvin, who has developed a theory called the High Level Equilibrium Trap, contends that China never experienced its own organic industrial revolution precisely because the agricultural and social systems that were already in place in China were so successful, and the workforce so plentiful, that there was no commercial incentive to turn to machinery to do the job.

China’s lack of technology put the country at a disadvantage when it was eventually driven into armed confrontation with the West. Colonialist attempts to dismember China reached a high point in the 1850s, when the British forced the Chinese to open their doors to foreign merchants, including those selling opium, in order to offset the balance of payments deficit that had resulted from the English obsession with Chinese tea. The British were concerned that they were losing too much silver in payments for tea, and by inflaming a Chinese addiction to opium (which was easily obtained from their concessions in India) they could stop the outflow of hard currency to China.

The British-inspired Opium Wars of the mid-1800s forced China to cede Hong Kong as a Western trading port for the next century and a half. The military victories by the British and other Europeans over China, combined with the court intrigues of the Dowager Empress and the last Emperor, Pu Yi—who eventually became a pawn of the Japanese—reinforced the impression that China was weak and somewhat backward. Seen against the last 3,000 years of Chinese history, however, the late 19th and early 20th centuries looks like a brief, albeit troubled, intermission in a highly sophisticated civilization’s relentless drive forward.

Globalization Flickers, Then Flames Out

In 1925, Chiang Kai-shek, a relatively young army general, replaced Sun Yat-Sen, the first leader of the post-imperial Republic of China. Chiang quickly drove out the Soviets who had tried to gain influence with Sun by providing funding and advice. The Soviets were mainly interested in their struggle with the Japanese over the territory to the north of China, which the Japanese insisted on calling Manchukuo, and which the Soviets wanted to annex to their own Siberia.

Until Japan occupied eastern China in 1937, China was relatively open to Western business as long as bribes were paid to the relevant officials. Many of the world’s major corporations piled into China. They included Standard Oil, Bethlehem Steel, British American Tobacco, Siemens, and IBM. AIG, which was to become one of the world’s leading insurance companies, was founded in Shanghai in 1919, and Coca-Cola entered the Chinese market for the first time in 1927.

Modern Chinese corporations also began to emerge during the 1930s. The top management was usually European or American. Meanwhile, new technical schools undertook the task of training a new class of Chinese industrialists. While some of these companies were successful, political power fragmented, and large parts of the country were left to the mercy of competing warlords, whose corruption resulted in unspeakable poverty and periodic starvation for much of the country’s neglected rural population. The inability of the nationalists to deal with these problems fueled the rise of the communist party led by Mao Zedong. Mao dispatched troops to fight the Japanese occupation in World War II, but Chiang Kai-shek refused to commit his resources. He knew that the real struggle for power would follow the end of the war with the collapse of Western colonialism.

By 1949, Mao’s forces had driven Chiang’s Kuomintang Party from the mainland. China entered a period of isolation from the West, which lasted from the 1950s through the 1970s. While China grappled with trying to establish a viable political system, it was largely cut off from much of the technological revolution that was having an enormous impact on the rest of the world. As earlier emperors had found, isolation can exact a heavy price in terms of national survival. Napoleon Bonaparte had famously commented that China was a giant, but that it was a sleeping giant. By the start of the 21st century, it was clear that the giant had already started to awaken.

The New Silk Road

The breakthrough, liberating China’s innate entrepreneurial spirit and opening the doors to the outside world, came in 1978, when a new generation of Chinese leaders under Deng Xiaoping began gradually nudging China from collectivism toward a market-oriented economy. To make certain that everyone was sure of the change of direction, Deng reportedly declared, “Poverty is not socialism. To be rich is glorious.”

Deng’s reforms had the effect of green-lighting a new generation of Chinese entrepreneurs and at the same time opening the doors to Western multinational corporations that wanted to do business in China. China increasingly provided battalions of inexpensive labor, effectively turning itself into a factory for the world, and it has had a seismic impact on much of the world’s economy. The impact on China itself has been equally dramatic. At least 300 million in China—roughly equivalent to the population of the United States—have been boosted from poverty to middle class status. China’s low-cost production has made thousands of types of goods available to markets that never could have afforded them before. Services have also been made more widely available. For example, the collaboration of Huawei, one of China’s leading telecom network systems manufacturers, with France’s Neuf SFR, a leading European competitor, have driven down prices for basic services in much of the West, making them affordable to the average consumer and not just a privileged class.

China’s purchase of U.S. treasury bills has inextricably intertwined China’s fate with that of the United States, linking their futures together and thus making both major powers more cautious and consequently more responsible in their approach to international politics.

Within China, the new openness to the rest of the world has brought a dramatic influx of new technologies and ideas about modern management. For some of the largest multinational corporations—General Electric, Microsoft, LVMH, and Cisco Systems—China looks as though it is delivering on its promise as the world’s most exciting emerging market.

The experience of the last 30 years has shown, however, that both multinationals and China’s homegrown entrepreneurs enter this new relationship with respective advantages. Established multinational corporations have thrived in China primarily in industries that depend heavily on developing new products and technologies and on brand management. Chinese-owned companies tend to be leaders in industries that depend heavily on low-cost labor and materials and that demand large production facilities and close connections with local political power structures.

Most analysts assume that Chinese companies will use their newly earned wealth to move up their respective industry’s value chains in China where they have a “home-field” advantage. But we believe that the situation is likely to evolve with a much broader scope than the Chinese domestic market. Our research shows that Chinese-owned corporations are currently rewriting the rules for how an emerging market corporation adapts and operates in the 21st century. The experience of the first wave of emerging Chinese multinational corporations indicates that tomorrow’s corporate giants will challenge the world’s established multinationals in knowledge-intensive and technology-intensive businesses, and that they will strike in the West’s home markets with extensive R&D and quick-learning and quick-strike capabilities.

Globalization Without Trust

The sheer scale of China’s economic and political ascent in the 21st century makes it a formidable force. In the long run, Asia is likely to be the center of gravity for the world’s economic expansion simply because it is already the center of gravity for the segment of the world’s population whose needs are expanding the fastest. When Asia’s share of global income reaches 54 percent in 2050, after it is expected to hit 49 percent in 2025, it will merely be returning to its historical past. In 1820, China and India represented roughly 56 percent of the global economy.¹

The influence of China’s 1.3 billion population is likely to be felt in global politics, much as the rise of the United States was in the 19th century and the rise of Germany and Japan were felt in the early 20th century. Even if China were to adopt a policy of isolationism as the United States did at various points in its history, the world would still feel the impact of China’s rising standard of living. A billion people driving cars, for example, are likely to have an impact on the climate that the planet simply can’t ignore. The competition for resources to meet the standard of living enjoyed in the West is also impossible to ignore. Although China has invested heavily in developing alternative energy, such as wind and solar power, it has no illusions about needing conventional fossil fuels and nuclear power to fulfill its needs. Estimates are that alternative energy will probably supply only 15 percent of the country’s needs. As a result, China is actively looking to international markets and foreign alliances to secure vital primary resources for the future.

This is where the CEOs of China’s emerging multinationals come in. In 1979, at the beginning of the Open Door and Reform Policies, China’s annual outflow of foreign direct investment (FDI) was virtually zero. The Chinese government continued to keep its outflow of FDI low throughout the 1990s largely because it feared an illegal flight of capital out of the country. Since China became a member of the World Trade Organization in 2001, the situation has changed dramatically. The government is now clearly willing to help Chinese companies become globally competitive.

Attracting FDI into China is the first stage of globalization for Chinese companies. Actually going global is step two, and this is now in full swing. The government has decentralized approvals for applications for overseas investments, and as a result, decisions are being made much faster at the local level. In addition, the Ministry of Commerce of the People’s Republic of China (MOFCOM) has created a database on market opportunities as well as investment and tax law in foreign countries. The government is also providing subsidies, including easy access to low-interest loans and credit lines.

This important change in the direction of China’s policy has already had a noticeable impact. From 2005 through 2006, China’s outward FDI grew at a rate of 60 percent or more annually. In the first eight months of 2007, according to the latest figures from MOFCOM, the turnover of contracts for Chinese projects overseas amounted to $22.66 billion, an increase of 32.5 percent over the previous year. New contracts were worth $41.6 billion, an increase of 27.1 percent. To put matters into perspective, the China Develop -ment Bank Corporation alone had twice the assets of the World Bank. By the end of August 2007, at least 239,000 Chinese personnel were working overseas, an increase of 6,000 over the same period in 2006.

Brand building, often seen as a weakness of Chinese corporations, has begun to thrive. In the first eight months of 2007, the turnover of China’s design and consultant services overseas amounted to $179 million, an increase of 2.8 percent. At least $404 million in new contracts were signed, an increase of 48 percent over 2006. By the end of 2007, the accumulated turnover in overseas design and consultant services amounted to $1.91 billion. Newly signed contracts reached $3.15 billion.

Chinese investors and public-private entities have clearly been spending money at a dizzying clip in a frantic effort to acquire the design know-how and technology needed to compete in a global marketplace.

The reactions to this burst of energy tend to run the full spectrum. Some observers in the United States hail China as a true champion of globalization. William Overholt, the Asia policy chair of the RAND Corporation, told the U.S.-China Economic and Security Review Commission in 2005 that China had managed to transform itself from an opponent of globalization to one of the United States’s best partners in promoting liberal economic and democratic values and policies in Asia, Africa, and Latin America—in short, where China does business.

Others see these developments more darkly. A number of recently published books aggressively challenge China’s motives. The titles range from The Coming China Wars: Where They Will Be Fought and How They Can Be Won to Showdown: Why China Wants War with the United States and America’s Coming War with China: A Collision over Taiwan.

Regardless of how one interprets China’s long-term objectives, it is clear that from a purely business point of view, the single greatest challenge for Chinese corporations seeking to expand overseas will be winning the trust of a public that is already experiencing misgivings about globalization and especially about China’s role on the world stage. As the Chinese are learning quickly, corporate growth in the next few decades is likely to be as much about managing geopolitical risk and foreign policy considerations as it is about best practices in business.

Working Toward a New Model of International Relations

While we live in an increasingly interconnected global economy, it is one in which global societies remain sharply divided. The fierce global competition that has brought us to this point also threatens to tear us apart, and it is limited as a tool for problem solving. It is clear that we need a new model for international relations.

What appears to be a paradox can also be an opportunity. The rise of China, the threat posed by climate change, the ballooning world population, and the poverty that has trapped a billion people are powerful incentives to rethink global cooperation and existing power relationships. Cooperation between U.S., European, Japanese, Brazilian, Indian, African, and Chinese institutions will need to become the norm if we are to survive the seismic events that will characterize the 21st century.

The readiness of the United States to come to terms with China’s increasing influence is critical to the shape that international affairs will take over the next decades. History so far has shown that bloodshed has often accompanied major shifts in the fortunes of the great powers. It remains to be seen whether the next few decades will see genuine progress toward greater international harmony and cooperation or a regression toward a potentially cataclysmic conflict.

Learning how to thrive despite these geopolitical challenges and being nimble enough to quickly understand and adapt oneself to differences in cultural perceptions are the qualities that distinguish a global multinational from a company that confines itself to a domestic market. Learning to adapt to this much more complex and potentially dangerous environment is the principal hurdle that China’s successful privately owned national companies need to master as they contemplate the transition to multinational status. In the next chapters, we will look at how Chinese corporations, having achieved success in their own domestic markets, began making their first tentative steps toward asserting their place alongside the world’s other leading multinationals in the profitable but dangerous waters of the global free market—and in the process, set about constructing what amounts to a new virtual Silk Road.

As we will show in the next chapters, the entry of China’s new private-sector entrepreneurs on the world stage promises to be the most significant development in global business in the next few decades. At the same time, both these companies and their competitors have a steep learning curve and very little time to master it.

The multinationals that have dominated the world market for the last 50 years have largely defined the rules for global competition until now. Although they have competed with each other, they have generally played by the same rules in which size counts. The Chinese companies that are emerging as newcomers on the global scene are changing the rules of the game. They operate with a lean cost structure. They approach innovation differently. They do not have legacy systems to hold them back. They are very aware that they are going to have to operate differently if they want to catch up. They cannot compete on size, so they compete on speed, flexibility, and faster reactions than the competition. If size is the determining factor in Western countries, in China, speed is the new rule of the game.

NOTE

1. Angus Madison, The World Economy: A Millennium Perspective (Paris, France: Development Center of the Organization for Economic Cooperation and Development, 2001).