It’s election time in the US and everyone is talking about China. China bashing happens before the election and after it’s over, people will be back to business as usual. The fact is US trade deficit is due to domestic factors and not Chinese policy and we need to address the very core of "structural competitiveness" rather than these nonsense talk. We should be focusing on innovation on a large scale and reinventing industries of tomorrow. US will always procure from low cost countries whether it is China or others.
China is an integrated part of the US (and the world) economy and no one really has any idea of the true implications of rising Chinese labor costs and what does it mean for China, the US and the world? I’m traveling across Western remote China (I was in India last week) this week and visited dozens of companies and trying to understand development even in the remote provinces, so it’s the perefct time to write this blog post about innovation in China.
Labor costs in Guangdong province (in the southern part of China which is sometimes called the factory of the world) have been rising at 13-15% a year and with rising costs for logistics will at some point make China less attractive. China has tremendous competitive advantage even with rising costs.
First, the extreme flexibility and scalability of workforce is unmatched by any other country in the world. For them, if they need to ramp up a factory in 2-3 days with an additional 1,000 workers that are prepared to work 14-16 hours a day to meet a production deadline, they can do it.
Second, it’s a tightly integrated supply chain eco-system, the main reason being that companies are not moving their factories inland to save costs is the speed-to-market. Consider that a strategic innovation in industry structure by design.
China are constantly “playing” with the idea of “process innovation” by incrementally improving the way they make things and adapt to market needs. It is a matter of time that they will start to think how to capture high value opportunities going up-stream in the value chain, which resides in the design and technology development. Currently designers, engineers and marketers are the ones who create and capture most of the value from innovative products. Policy makers in China understand this (no surprise) and are pouring massive dollars into research and development. The five-year plan calls for “indigenous innovation”, which the government thinks it can foster by subsidizing “strategic” industries and strong-arming foreign firms to transfer intellectual property to budding national champions.
And smaller companies are happy to copy and learn from whatever they can get their hands on by working with their customers. The question is can China truly develop its own innovation capability beyond absorbing know-how from international companies, which are under pressure to protect their IPs, and trying to bring in as many jobs home as possible? Can innovation be orchestrated by the state? And is the education system and workplace training support the needs? China does not understand innovation. It is just way too difficult for any Chinese innovative ideas to move from the lab to the marketplace, there is a lacking of complete view of market dynamics and infrastructure.
Policy makers in China is taking a very short-term view and they need to balance between research and development as well as lack of market orientation and design capability. And they have no clue how the system works in the Valley and government bureaucrats will not tolerate the complete free market system that works in the Valley. “Favorism” is still the dominant way of big investments for obvious reasons and antitrust and competition laws are clsoe to non-existan or not-enforceable.
So that alone creates big barriers for start-up challengers. I don’t think China has done enough on new product innovation alone, not to mention strategic innovation on a larger scale. Product innovation is often the most important driver of growth. In most cases over 50% of the growth of many categories from snacks to drinks and electronics came from just a single new product.
China is a far friendlier place for product innovation than the developed markets because the cost of going to market is not as large and consumers are more forgiving when innovation products are on constant beta. And when products fall into grey area of regulations, China is the best place on earth to launch products and don’t need to wait for permission, and they might never need to. Combine with a big domestic and uneducated markets, this creates the ideal environment for innovation.