China's Approach to Improve Its Industrial Efficiency

Due to the current period of transition, China is in particular need of continued economic growth. While the nation has many complex internal problems and lack of political freedom, the Chinese people believe that continued economic growth would alleviate their problems and hope that the current path of growth will continue for the coming decades. The CCP also recognizes the political importance of economic growth and tries to maintain its growth rates.

However, China’s economic growth is also a controversial issue. Some people argue that it is not sustainable and one key basis for such a rationale lies in its inefficient economic structure. For example, while China’s GDP in 2005 was only one-seventh that of the United States, its consumption of primary energy was half of the U.S. level. Low efficiency incurs relatively high costs to produce a unit of goods and high costs lowers the competitiveness of Chinese goods in global markets, eventually risking stable economic growth.

The government of China also recognized the danger of inefficient economic structure and tried to enhance its efficiency in industrial sectors by using diverse policy options. By and large, it relied on the five approaches: 1. inducing foreign direct investment and allowing quasi-free competitions with domestic firms; 2. buying foreign firms to acquire skills and technologies; 3. allowing minor equity ownership to foreign strategic investors; 4. voluntary restructuring of inefficient sectors; 5. Providing business environment for efficiency build-up through macroeconomic polices. In this essay, each of the government approaches will be introduced and examined in terms of their effectiveness.

I. Foreign direct investment and subsequent competitions with domestic firms

China induced foreign direct investments from international companies by offering tax incentives and other benefits starting in the early 1980s and multinational companies set up joint ventures with domestic Chinese companies. While international companies decided foreign direct investment for the benefit of themselves, it offered great benefits to China’s economy. Through the incoming FDI, China could leap as a global manufacturing country and domestic companies could acquire skills and technologies from foreign companies and Chinese workers were trained by joint venture firms.

While some domestic companies could enjoy the effectiveness of foreign companies by investing in joint ventures, other domestic companies had to compete with these foreign companies for their own survival and which enabled them to enhance their competitiveness and productivity throughout this process. For example, China has more than 120 automotive brands and it has been the most competitive automotive market in the world. While Chinese automakers were regarded as a lemon car maker at the beginning of the industry, they succeeded to emerge as quality car makers recently.

II. Buying foreign firms

With the accumulation of capital, Chinese companies tried to increase their efficiency through buying advanced foreign companies selectively focusing on IT, automotive, and other technology-oriented sectors. When they acquired foreign companies, they could have the ownership of the technologies, patents, marketing network, and production skills that the company accumulated for many years, which was a source that helped Chinese firms advance many years in terms of competitiveness.

In May 2005, a Chinese IT company, Lenovo acquired the laptop unit of IBM at 1.75 billion USD and immediately became the number three maker in terms of laptop market share. By this deal, Lenovo acquired the global marketing networks of IBM and purchasing power by the economies of scale. In January 2005, a leading Chinese automaker, SAIC, also bought a Korean auto company, SsangYoong motors at 0.5 billion USD, which is believed to advance SAIC’s entry into the US markets by five years.

III. Opening its equity markets to foreign investors

The government of China recently opened its capital markets to foreign investors to obtain capital for development as well as advanced technology and management know-how. When foreign investors invested significant portion into Chinese companies, they would like to improve the performance of companies in order to maximize the investment value.

The banking sector is a good example. As of 2006, four major banks of China announced their selection of major foreign institutions as strategic investors with minority equity stakes. While the foreign ownership is minor, it is believed that advanced foreign institutions will bring transparency, business knowledge, and risk management system which is at