Archive for the ‘Technology’ category

Why?

March 8, 2010

We’ve got increasing US-China friction on a number of issues.  Observers have offered some pretty simple explanations for this situation, e.g. “the Obama Administration has been too soft on China so they feel they can push us around” or “China holds so much US debt that they have leverage to push us around”, etc.

Albert Einstein has been quoted as saying “Make everything as simple as possible, but not simpler”.  Chinese government behavior (like our own) is driven by a complex set of factors (with domestic considerations by far the most influential).  The following is a partial list of the factors as I see them:

  • Continued sensitivity about being bullied or dominated by foreigners, growing out of China’s experience in the period 1840 – 1949 (sentiments kept fresh by the Chinese educational system and media).
  • (Overconfidence) (Justifiable pride) from success in managing the domestic economy in face of global economic crisis, which has (incorrectly in my view) discredited the US model of growth in the eyes of some Chinese.
  • Leadership insecurity at home driven by Tibet, Xinjiang, and increasing protests over economic and social issues, leading to a stronger voice by security and propaganda officials, who tend to be more suspicious of foreign companies/governments than the average Chinese official.
  • Jockeying before unusually large leadership change in 2012 (Party Chairman, Premier, and most of the Politburo Standing Committee turning over); at a time like this hopefuls for senior positions want to look tough on domestic and foreign issues.
  • Success of foreign companies in the China market since China’s WTO accession in 2001 that has created a backlash (think:  US in the 1980s (yikes, Japan is buying Rockefeller Center!))
  • Impact of internet opinion, which by all accounts Chinese leaders regularly view and take seriously and which in turn tend to be dominated by a nationalistic tone (younger people use the internet more and they tend to be more nationalistic).

Ok, so what to do about this?  Complex issues do not have simple solutions.  There is no magic bullet, but there are important steps we can take.  The subject of a future post.

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A Simple Solution

June 13, 2009

This “Green Dam-Youth Escort” filtering software issues continues to get more interesting in highlighting the complexities of the Chinese political system today.  On the one hand, senior levels of the Chinese government continue to press their support for the new regulation and propaganda officials reportedly have ordered that criticism of the new regulation in the media be stifled.

At the same time, opposition in China continues to grow and is widely aired on the internet (sort of ironic, no?).  One of the most interesting developments is the potential use of China’s new Anti-monopoly Law (AML) to attack the new regulation as an administrative abuse of power.  Here’s a description of the issue from the WSJ (subscription required; full article here:  http://online.wsj.com/article/SB124482083845410171.html):

“Zhou Ze, a political science professor at China Youth University, said he and a professor from Hong Kong have submitted formal complaints to China’s State Council and the National Anti-Monopoly Committee saying the requirement is an “abuse of power.”

They argue that it is anti-competitive because it will flood the market with software produced by two companies selected by the Ministry of Industry and Information Technology in a non-transparent way.”

Ok, so in 1979 China begins its policy of reform and opening.  Years later as a part of that process China enacts the AML, to deal with the issue of monopolies in the economy, an important issue all market-based economies must deal with.  And today it is being cited to attack the non-competitive way this filtering software was chosen for monopoly status by the Chinese government.  And who says that economic reforms don’t bleed over into reform of the political system?

To make matters worse, there now seems to be some evidence that the Green Dam software is based in part on pirated computer code from a US company (full AP article via Physorg.com:  http://www.physorg.com/news164103095.html):

“Solid Oak Software of Santa Barbara said Friday that parts of its filtering software, which is designed for parents, are being used in the “Green Dam-Youth Escort” filtering software that must be packaged with all computers sold in China from July 1.

Solid Oak’s founder, Brian Milburn, said he plans to seek an injunction against the Chinese developer that built the software, but acknowledged that it’s new legal terrain for his company…

A report released Thursday by University of Michigan researchers who examined the Chinese software supports Solid Oak’s claim that the Green Dam software contains pirated code. The report also found serious security vulnerabilities that could allow hackers to hijack PCs running the Chinese software.

The report found that a number of the “blacklist” files that Green Dam employs were taken from Solid Oak’s CyberSitter program.

The report’s authors – researchers in the university’s computer science and engineering division – also said they found another clue that Solid Oak’s code was stolen: a file that contained a 2004 CyberSitter news bulletin that appeared to have been accidentally included in Green Dam’s coding.”

All in all this is turning into a larger and larger embarrassment for the folks who promulgated this regulation and for China’s government more broadly.

And here’s a pop quiz:  what one simple step could Chinese regulators have taken to avoid all this embarrassment?

Answer:  Publication of the draft regulation with an adequate period of time for public comment.

In fact, I believe that prior publication and public comment on this kind of regulation would fall under China’s commitment to this mechanism as a part of its WTO accession.  In any event, I think it would be clearly required under guidelines that have been issued (more than once), though never effectively enforced, by China’s State Council.

Just think about it:  had this regulation been published as a draft with a 60 or 90 period for public comment, all of the concerns of Chinese citizens and foreign companies would have been aired.  Chinese companies with competing products could have made their case for a competitive selection process and software experts inside and outside China could have reviewed the Green Dam software to assess its effectiveness and expose any use of software piracy it contains.  Then regulators could have assessed whether changes were needed in the regulation in an orderly, non-embarrassing way.

Instead, the folks who rammed this sweetheart deal through the Chinese system in secrecy have put senior Chinese leaders in an awkward position, domestically and internationally.

It is true that China has ramped up its public support for the new regulation in response to the increasing criticism it has generated.  But I stand by my predict (see my previous post) that ultimately this regulation will be withdrawn or allowed to wither away unimplemented, though it may take six months to a year for that to happen.

In addition, I have some hope that this debacle will reinforce the voices of those within China who have argued strenuously for more transparency in government rulemaking, including a strict commitment to prior notice and public comment for new regulations.

And when China’s most senior leaders get together and talk about the Green Dam issue, I hope they realize that it was this pro-transparency group, not the unhealthy alliance of Chinese IT companies in bed with their Ministry supporters, who had the interests of China foremost in mind.

It’s the Economics, Stupid

June 10, 2009

All readers of this blog will have seen the extensive press coverage given to the reported Chinese government requirement that all new PCs in China come with filtering software aimed at blocking pornographic sites.  The stated purpose is to ensure that children surfing the web are protected from viewing these sites.  (Tons of coverage on this; just Google; I like the WSJ reporting, which seems to get at the complexities a bit better than others).

Some coverage has focused on the political aspect, i.e., suggesting this may be a backdoor route to even tighter political censoring of the Internet in China.  But I think this is not really the main point.  It’s more about the economics.

Of course, this new regulations does highlight the differences between the (expansive) Chinese view of the scope of activities appropriately managed by the government vs. the (much more narrow (yes, even today)) view in the US, a subject I have opined on previously in this blog.  The US approach to the issue of objectionable material on the Internet is to, first of all, view it as the responsibility of parents, not the government, to decide what their kids should see on the Internet.  Then, if they want a filter, they can compare commercially available products, choose one, and buy it.

I can imagine the situation in which government and Party officials are discussing the rampant pornography on the Internet and each in turn tries to outdo the other in denouncing it and demanding a solution, sort of what we often hear from the US Congress on similar issues.  The difference of course is that our basic view of the scope of government activity in society usually prevents this kind of rhetoric from developing into concrete government mandates.  It is much easier in China, given the broader view of the role of the government, for the rhetoric to become reality.

But more significant here is how this regulation represents the distortions in the Chinese economy that come from the unhealthy relations between government and enterprises.

Keep in mind that the new regulation mandates inclusion of a specific software product (“Green Dam-Youth Escort”) developed by two government-affiliated Chinese companies with each computer.  Yikes!  Even if the US were to implement some requirement for filtering software it is almost certain that the government would specify a set of standards such software has to meet, make the standards public (following a period of public review and comment) and then certify any product that met those standards.

But equally interesting is the fact that, according to press reports, there is no requirement that the software be used.  It may be possible to meet the requirements of the regulation by having the PC manufacturer include a copy of the Green Dam-Youth Escort on a disc in the box with the computer.  Or, even if pre-installed, it can apparently be turned off.  In this sense, it still gives the Chinese consumer the option to use or not use the software, and to go out on the market and buy a competing product.  But is does ensure enormous monopoly rents will accrue to the “government affiliated” institutions that developed the software.  A bit of money will go to them for each new PC sold in China!  Great franchise.  These guys have used their relationships with the Chinese government to print money.

So, it’s great for the officials who now can feel they are “doing something” about the pornography-on-the-internet problem.  And it is great for the managers of the companies that have been granted this monopoly.  Who loses?  Just the portion of the rest of the 1.3 billion Chinese people who will be buying new computers.  The price of that computer will be higher (at least a bit) due to the mandated inclusion of the new software.  And in fact, the increased cost will be higher than it would be if one firm had not been granted a monopoly.

So, if you ask me, this new requirement represents in a microcosm a huge issue that will continue to be a drag on the Chinese economy for some time to come:  government actions taken to support favored Chinese companies at the expense of the Chinese consumer and broader economy.

Having said all of the above, I do want to note the bright side:  reporting over the past few days has highlighted the backlash in China among web users over this new mandate.  A lot of the backlash has focused on the aspect of increased government control over what people see.

This active public backlash is a sign of an increasingly free, public debate over government policies.  It highlights the fact that in many areas, people are free to express views critical of government policies.

In fact, I will stick my neck out and make a prediction.  I believe the Chinese ministry that inflicted this new measure on the Chinese people did so without adequate consultation or coordination throughout the Chinese government.  Nor did they allow for public review and comment of the regulation.  It was mostly a sweetheart deal with some well-connected institutions.  Therefore:

I predict the Chinese government within a few months will either withdraw this new regulation or allow it to die a quiet death.  This is not your grandfather’s China.

Update:  just saw the very good NYT article outlining the growing opposition to the new regulation (http://www.nytimes.com/2009/06/11/business/global/11censor.html?_r=1).  That article states that the Chinese government, not the consumer, will pay for the new software, to the tune of RMB 41million.  Nonetheless, this represents government money that could have been spent for the benefit of China’s people in many ways much better than by providing monopoly profits to a couple of government affiliated companies.  That article also has the Ministry of Foreign Affairs spokesman defending the new regulation.  Nonetheless, I stand by my prediction that the regulation will not wind up being implemented in any kind of effective way.

Role of the Government

May 20, 2009

I have previously opined in this blog that issues such as the exchange rate of the RMB and the size of the bilateral trade deficit are matters upon which have been lavished far too much attention by the US Congress and others (and if I have not made this explicit before, I should have).  In terms of the US-China economic relationship and the future of China’s economy itself, a much more important question is the scope and nature of the role of the Chinese government in its domestic economy and international trade and investment. 

A central issue facing China’s leaders in this regard revolves around questions of industrial policies and how best to promote innovation in China.  I have previously in this blog noted my view that while the US needs to “re-regulate” our financial services industry, China needs to continue to deregulate in virtually all areas.  The recent tendency of the Chinese government to continue, or increase, the use of industrial policies in certain industries runs in the opposite direction.

I have also noted that over the long run I believe a greater use of competition, transparency of regulations, strong IPR protection, freer flow of capital, etc. will help China best achieve its goal of promoting innovation.  An approach that has government bureaucrats picking winners from the vast array of emerging technologies and companies and nurturing them with government supports and protective policies is a sure loser in my view.  Yes, increased competition, etc. will improve the access for foreign companies in the China market, but I happen to believe this is ultimately to the benefit of China.

Having stated these views previously, some friends (and some not-friends) have cited the example of Japan to argue that industrial policies can be successful in propelling a country to the front ranks of technology.  In response, I have noted that I think China wants to develop an economy as dynamic and innovative as the US, not Japan, and anyway, outside of autos, how many successes has Japan had in becoming a global leader in industries due to its industrial policies?

With all of this background in mind, I direct readers to a fascinating article in the NYT today (http://www.nytimes.com/2009/05/20/business/20policy.html?_r=1) that examines issues related to industrial policies (in the US and Japan) and assesses its benefits and (substantial) limitations.  (Note:  When I say “fascinating” I mean it supports my previously stated positions.

One of the very points made in the article is the following:

“…Problems [with industrial policies], [economists] say, are typically byproducts of what economists call “political capture.” That is, an industrial sector earmarked for special government attention builds up its own political constituency, lobbyists and government bureaucrats to serve that industry. They slow the pace of change, and an economy becomes less nimble and efficient as a result.

Economists say the phenomenon is scarcely confined to nations with explicit industrial policies and cite the history of agricultural subsidies in America or military procurement practices.”

I agree with the analysis of US agricultural subsidies and military procurement practices.  However, I would note the scope of “industrial policies” in the US (until very recently, as discussed in the article) has been exceptionally limited, even when compared with Western European economies, not to mention China.

To me, continued broad government involvement in the economy and use of industrial policies by China will undermine China’s efforts to develop the dynamic, innovative economy it wants.  It will also lead to increasingly sharp trade frictions with the US and other trading partners.

I believe China’s leaders broadly recognize that in a country where the government’s role in the economy is huge the opportunities for “political capture” are also huge (just substitute “corruption” for “political capture” in this sentence).   The question is:  can those who specifically understand the damaging role industrial policies play in this equation overcome the substantial pressure that well-connected Chinese special interests are already bringing to bear?  For the sake of China’s continued economic development and the smooth development of bilateral economic relations, I hope the answer is yes.

What They Said

May 14, 2009

I previously offered my view that over the past decade or so the US financial system was under-regulated but that China’s government continues to operate at the opposite extreme, ie, by getting involved far too much in all aspects of China’s economy (and other matters).  I have also noted that the “industrial policy” model of government bureaucrats selecting champions from among Chinese companies and then tailoring policies to support them is not an effective path to spur the innovation that China wants.  (see my post “Who Decides”)

I just saw the following press release on a new World Bank study on the topic of innovation in China.  I provide the full text of the World Bank press release below (with bolded sentences reflecting my added emphasis, not the original).  The entire report is available here:  http://siteresources.worldbank.org/CHINAEXTN/Resources/318949-1242182077395/peic_full_report.pdf

BEGIN WORLD BANK PRESS RELEASE

Private Sector Development Crucial to China’s Innovativeness, says a World Bank Report

Contacts:

Li Li, 86-10-5861 7850

Lli2@worldbank.org

BEIJING,May 14, 2009 – Continuous government support for private sector growth is of strategic importance to China if it is to build up an enterprise-led technological innovation system, says a World Bank report released today. “In China’s existing national innovation system, state-owned enterprises and research institutes are the main performers of innovation activities; in the future, however, China’s success in technological catching-up is likely to rely more on the capacity of its private sector, especially large private firms”, the report concludes.

The report entitled ” Promoting Enterprise-Led Innovation in China” is the result of a recent World Bank study designed to assist the Chinese government in implementing its strategy of “enterprise-led innovation”. It notes that China has dramatically scaled up its investment in R&D since mid-1990s, with total R&D expenditure increased by 5.5 times in real terms during 1995-2006. China has also experienced a transition in which industrial enterprises replaced government-owned research institutes and universities to become the main performing sector of R&D activities. While industrial enterprises increased their spending on R&D, the relative importance of technology importation has declined significantly, the report shows.

Despite remarkable achievements such as expanded manufacturing capacity, greater ability to innovate at home and increased knowledge intensity of the economy, the World Bank study sees China still a late-comer in technological catch-up, facing substantial gap from international technological frontier. The global competitiveness of China’s leading manufacturing sectors rests upon low input costs, scale of production, technology absorption, speed of response to market demands and customer orders, and increasing attention to the quality of products, according to the report. To ensure sustainability, Chinese enterprises will have to derive their competitiveness more from innovation. ” In today’s highly globalized economy, innovation has become the key driver for growth and competitiveness. The capability to innovate will be increasingly a crucial determinant of the global competitiveness of nations over the coming decades”, says Mr. Vikram Nehru, the World Bank Chief Economist for the East Asia and Pacific Region. 

While innovation-driven growth is critical to the sustainability of China’s development and poverty reduction, its national innovation system remains in a transition from traditional government-led model to an enterprise-led and market-based one, the report points out. In addition to weak capacity and limited role of the private sector in innovation, market institutions are found not fully developed to spur and guide innovation, demand side incentives such as government procurement and standard setting are yet to be fully utilized, and the domestic venture capital industry operates in a rudimentary ecosystem, which points to the difficulties for innovative firms to gain access to external risk capital.

The severity of the challenge in innovation is compounded by the need for job creation. As  the report emphasizes, Chinese enterprises must not only innovate to sustain competition in the global market, but also create jobs to ensure full employment of a labor force of over 750 million workers, of whom more than 80 percent do not have an education attainment higher than junior secondary school. ” This is like to solve a set of simultaneous equations”, says Mr. Chunlin Zhang, the task team leader of the World Bank study. “The best solution, that is, the set of technologies that maximize both competitiveness and job creation capacity of Chinese enterprises, can only be found and installed by the collective action of the private sector and the market”. The government could promote innovation by refraining from involvement in microeconomic decisions on innovation, the report recommends. “There is certainly a role for the government to play, but it should start at the point at which enterprises and the market cannot do more or better,”.

The report also recommends that the government ensures the right balance between technology creation on one hand and adaptation and adoption on the other, recognizing that China, as is the case for India, stands to gain from a broad interpretation of innovation and sustained efforts in promoting technology adaptation and adoption. Further more, the government is encouraged to put a stronger emphasis on the effectiveness and efficiency of R&D spending, especially public R&D spending, given the fact that China’s spending on R&D as a share of GDP is already the highest in the developing world.

A series of policy recommendations are made by the report on creating the right incentives, strengthening the capacity of private small and medium enterprises, and improving the ecosystem for domestic venture capital industry. In addition to continuous private sector development, the government is advised to further strengthen corporate governance and scale down the scope of state ownership. It is also recommended that the State Council formulate a special regulation to enforce Article 7 of the Anti-Monopoly Law, which requires the state to regulate SOE operations to “protect consumers’ interest and promote technological progress.” As to fiscal incentives, the report proposes that pooled R&D efforts, such as research consortia and joint programs with local or foreign higher education institutions, be encouraged, and the ceiling on tax-deductible training expenditures of enterprises, currently 2.5 percent, be reviewed. “The government could consider policy measures to allow for institutional investors to begin investing more in domestic venture capital institutions”, the report further recommends, and adds that “recognizing that the risks of venture capital investing are high, the first step could be to develop a short- and medium-term action plan that would provide a roadmap for institutional investors to invest in private equity and venture funds”.  A range of programs aiming to enhance innovation capacity of small and medium enterprises are also recommended. 

END PRESS RELEASE

Readers will note the references above to use of government procurement and standard setting to promote innovation that seem to justify current Chinese policies.  Full report makes clear this is quite the opposite.  The following is a paragraph from the full report (page 41) regarding the use of government procurement:

“Government procurement can help or hurt innovation (box 2.3). The key to success lies in open competition, as indicated by case studies of OECD countries. The government of China is still in the early stages of implementing innovation-supporting procurement policies. One may anticipate a number of issues that may require further policy action down the road.”

This emphasis on “open competition” is precisely what the US and others have been urging China to adopt.

With regard to the use of technical standards the report (page 69) says:

 “Outmoded standards or, even worse, use of standards for motives other than to promote innovation, would be a disservice to China. An analysis by Porter (1990) of the OECD experience shows that “regulation undermines competitive advantage . . . if a nation’s regulations lag behind those of other nations or are anachronistic. Such regulations will retard innovation or channel the innovations of domestic firms in the wrong directions.”

For instance, limits on biotechnology research are considered to have threatened Germany’s agrochemicals and pharmaceuticals sectors.  As for competitiveness in export markets, “the practice of using idiosyncratic local regulations to protect a domestic industry will only work to ensure that its competitive success is domestic””

Interesting stuff.

Who Decides?

April 26, 2009

Every now and then something small starts me thinking about how different the US and China are with regard to the role of government in society:  Recently I had the pleasure of listening to a presentation on contemporary film and theater by Jonathan Noble of Notre Dame.  In the course of the presentation Jonathan mentioned that a Chinese film must get the approval of the Chinese government before it is submitted to an international film festival.

While I don’t endorse it, I understand the rationale behind Chinese government censorship at home, i.e., the need to protect the moral climate of the country and to “maintain stability”.  But what is the rationale for controlling which films get submitted to international film festivals?  Presumably the goal is to “protect China’s reputation” abroad.  In other words, the government believes it has the responsibility to make sure that the prestige of an international film award is not bestowed on a movie that would give a negative view of China.

Think about how broad a role this implies for the Chinese government and how blurry the line is in China between government and non-government activity.  In the US we see a clear distinction between government and non-government actors such that the government does not concern itself with the kind of image of the US that Hollywood is projecting to the rest of the world.  The Public Diplomacy bureau of the State Department and other agencies work to explain US policies and introduce others to US society.  But the US government does not see itself as the protector of the overall US image abroad.

As I said at the top, the issue of approvals of films at foreign festivals is a small thing, relatively speaking.  However, as China watchers know, this expansive view of the role of government permeates many aspects of Chinese society.

I was in Shanghai when China entered the WTO and we ran a number of programs at the US Consulate to exchange ideas with local officials on implementation of China’s commitments.  As implementation went forward, I heard the same interesting comment from more than one astute local official.  They said that prior to China’s accession, they had assumed the major effects would be felt by Chinese firms.  However, they had quickly realized that the biggest impact fell on the Chinese government which had to reduce its role in many areas of the economy and apply an outside set of international rules in others.

To me the most significant impact of implementation of China’s WTO commitments was a noticeable shrinkage in the role of the Chinese government in economic activity.  This was one of the factors that has contributed to China’s dramatic economic growth in recent years.

Whether in the arts, trade, stimulating high tech innovation, or in building globally competitive companies, I remain convinced that over time the decisions of government officials is inferior to that of (properly regulated) market forces.  I want to emphasize that I am not a libertarian.  Market forces should play out within an appropriate regulatory framework.  In fact, I believe that over the last 8 years or so we have reduced too far the US government’s regulatory role and we need reverse that trend in a number of areas.

But for China the opposite is true.  China’s WTO accession resulted in a reduction of government involvement in the economy and an increase in competition in the market, to the benefit of Chinese consumers and economic growth overall.  But the role of the Chinese government across society and the economy by any measure remains huge.  China could move an enormous distance in deregulating its economy and still be nowhere close to the kind of excessive deregulation we have recently seen in the US.

Unfortunately, there are signs that in some areas deregulation in China is stalled or even reversing.  Two recent examples are regulations on information security/encryption and the amendments to the postal law.  I intend to put down some more detailed thoughts on each in future posts.  But to put it briefly, I think in these and some other areas we are seeing the Chinese government, at the urging of special interest groups, implementing regulations that reduce competition and slant the playing field toward government-favored entities.

The heavy Chinese government intervention in certain areas worries some American business people because who feel their firms are being disadvantaged.  I agree with that, but I believe that ultimately the biggest losers are Chinese consumers who wind up paying more for goods and services whose quality is not up to global levels.

Effective regulation is important in a 21st century economy.  However, over the course of my career I never felt my colleagues in the government were particularly well qualified to serve as movie reviewers.   I feel the same way about government bureaucrats deciding which technologies or firms should get special, protected status.

Insecure, II

April 22, 2009

I spent most of my professional life working on the US-China economic relationship and therefore did not plan to spend a lot of time on this blog on issues like foreign intrusions into US computer systems.  Nonetheless, it is much in the news.  As a follow up to my previous posting on this subject, and in partial response to a question from reader LZ, I recommend the following article from CBSnews.com, via the tech news site CNET:  http://news.cnet.com/8301-1009_3-10225226-83.html?part=rss&subj=news&tag=2547-1_3-0-5

Seems to me a particularly balanced article that notes the involvement of lots of countries in these types of activities and underscores the difficulty in identifying with great certainty the source of such attacks.