For prior posts in this series, see Whither Xi? Whither CCP? Whither China?

 

Whither China post #8 – Question 6 – But how about innovation.  Can you have that without democracy?

 

Willy Lam and others maintain that internet restrictions and other CCP constraints are anathema to building an innovative economy.  China is impressive on technical hardware, as noted by Timothy Beardson in Stumbling Giant: The Threat to China's Future, but it lacks non-hierarchical scientific culture, a fertile institutional framework, and critical thinking for innovation.  My own view is that Beardson and even Willy Lam are coming at this question from a perspective too old to take account of China now, in the second and third decade of the century.  Can China innovate now?  One need not think about this for a moment to answer. 

From a historical perspective, China had the most innovative society in the world for two thousand years, until Ming repression forced a halt. You know the four great inventions – gunpowder, compass, paper and movable type.  There are many more.  After 300 years of Ming and then one disaster occurring after another, or simultaneously in the Qing – opium, Opium Wars, treaty ports, Taiping Rebellion, Boxer Rebellion, various other rebellions, two devastating wars with Japan, fiscal crises, civil war with the Guomindang, and brutality from 1949 to 1976, it is fair to give China a break on being innovative.  Now, it is back. Innovation has returned in communications, medicine, artificial intelligence, and manufacturing processes.  McKinsey, of course, is unabashedly enthusiastic.  Fortune notes that venture capital has surged in China.  The World Economic Forum says that China is becoming an innovation superpower.  The Boston Consulting Group has a report from 2017 describing how the US is falling behind in basic research.  These are not really new stories to anyone who has been watching.  About 2013 China passed the US in late-stage research and development spending. In 2014, the projection was that China would be spending twice the US amount on late-stage R&D by 2018.  That projection may be low by now, since it was prepared before the ascendance of our current dear leader.

Spending is not dispositive of results.  It does help.  I am guessing that Chinese scientists and engineers are not bemoaning inability to get youtube or facebook, or vote in the next election for members of the Standing Committee. 

In the Run of the Red Queen - Government, Innovation, Globalization, and Economic Growth in China Dan Breznitz and Michael Murphree describe indigenous Chinese innovation in industry and technology and pharmaceuticals.  They find that Chinese companies have become world class innovators for technical, or process innovation – hence the ability to respond quickly to changes in demand for manufactured goods.  Perhaps not yet so superb at novel product  innovation, but one does what one is good at.   Chinese internet companies are far ahead of American companies in variety of services offered.  If censorship and corruption and lack of freedom are supposed to inhibit innovation, one might ask when the decline is supposed to begin? They cite the experience of Apple and the power cord in process innovation, rather than “breakthrough” innovation –

Do you own an Apple computer?  There’s a white power supply box on the power cord.  That box has been improved with continuous R&D  so it doesn’t go up in smoke and so it will do what it does ever more efficiently. This is entirely done in China.  The company that makes the power supplies is constantly doing research to make them smaller, more efficient, cooler, cheaper, and less energy intensive.  This can only be done in China because firms can find high-quality engineers and tell them, ‘You will make power supplies better’ and the engineers will oblige. What are the chances you can hire someone from an elite U.S. university such as Carnegie Mellon to do that? This gives China power in the global production networks.

 

The Center for Strategic and International Studies analyzed Made in China 2025, the most publicized recent effort at Chinese government priorities for research and development. The government proposes to make China the world leader by market share in more than a dozen high tech industries. There is certainly something to the argument that government funding for research always leads to government priorities for research and that can result in poor performance and misdirection.  Breznitz and Murphree echo this argument.  They see risk for innovation coming from fixation of government at achieving independence at all costs.  Breaking up the multinationals – by which I think they mean the dominance of big SOE – is necessary for future innovative growth.  Innovation by central government fiat is death for innovation, just as it has been death for developing manufacturing expertise when local industries are protected from competition.  

This is, however, precisely where Xi is going with Made in China 2025 and other efforts to stimulate national champions. China has caught up to, or in some cases has surpassed, the US in innovation.  A report in April, 2019 from the Information Technology and Innovation Foundation (ITIF) suggests that China has become far more than a copier or even an expert in process innovation.   

There are several downsides to the Chinese approach to innovation.  We know story after story of creating national winners, subsidizing local competitors, keeping out competition that might challenge the locals – subsidy and protection rarely win in the long run.  Michael Porter said so in his Harvard Business Review article on the Competitive Advantage of Nations -  

In international markets, innovations that yield competitive advantage anticipate both domestic and foreign needs. For example, as international concern for product safety has grown, Swedish companies like Volvo, Atlas Copco, and AGA have succeeded by anticipating the market opportunity in this area. On the other hand, innovations that respond to concerns or circumstances that are peculiar to the home market can actually retard international competitive success.

This does appear to be the China syndrome.  The home market is so large that innovation for foreign markets is secondary.  This can change, though.  Chinese IT and cell phones and AI are making great headway in Africa and the -stans and South America, based on early penetration into the markets with infrastructure and oil and mineral deals and trade.  In those cases, the foreign market adapts to the more modern and powerful Chinese market. 

The analysis by Breznitz and Murphree is consistent with the analysis of China by Acemoglu and Robinson in Why Nations Fail - Because of the Party’s control over academic and economic institutions, the extent of creative destruction is curtailed, and it will remain so until there is radical reform in political institutions…. (t)his growth will run out of steam unless extractive political institutions make way for inclusive institutions (Why Nations Fail, page 441).

And per the “government support means government priorities” argument – one should keep in mind how much of American innovation – the internet, for one thing – was begun or promoted by government.  And the Chinese government knows what its priorities are – to promote development.

To say China cannot innovate is to ignore the daily newspaper stories. China may not do creative destruction.  China may not yet be good at international competition in markets in which marketing is important.   One can ask, what of it?  And, moreover, what role for democracy in fixing something doesn’t really seem broken in any case?

 

Sometimes destruction is not creative at all … it is just destruction

Modern innovation is science and engineering.  There may still be some tinkering in the garage, but more often it is in the biology lab or at the computer.  Much is made of the greater numbers of scientists and engineers graduating in China than in the US.  The US, it is implied, should fear the numbers.  Top scientists and engineers in China are very very good.  But I don’t make too much of the numbers.  I have taught Chinese engineering students – undergrads, yes, and not at a top engineering school – but the general quality of the graduates is no competition for American engineering graduates.  The standard Chinese university flaws – plagiarism, cheating, everybody graduates no matter what, relatively low quality of the curriculum – keep student quality generally low, and the stimulus to invent absent.  Education destroys creative talent in this environment.  Incentives to challenge students are not to be found.

 

A minor experiment 

I taught several years of civil engineering students, in this case a mix of Chinese and foreign students.  The courses I taught were of secondary importance – in environmental management, urban planning, and a course in American politics (don’t ask).    Since my own bachelor’s degree is in civil engineering, I wanted to see something of the differences that a few decades would make in coursework.  My plan was to take the final exam in a course.  I chose the standard course in properties of materials – wood, steel, plastics, ceramics, perhaps some composites.  Result – I could not achieve the highest score on the final exam, but I did pretty well, much better than average.  To me, this was disappointing.  While basic material properties don’t change over time, the coverage certainly should.  Many years ago, we spent rather a lot of time on properties of different kinds of wood and steel.  That should still be covered, but I was expecting far more treatment of engineered materials, or glass and ceramics. There was none.  Here is a sample course from Berkeley.  More to the point, I checked online as best as I could, and with the possible exception of a program or two at Tsinghua and Shanghai Jiaotong University, there are no civil engineering programs in China that are accredited internationally.  This means that a graduate civil engineer must work for several years beyond graduation or take additional coursework before being allowed to take a PE exam in most of the world.  This does not mean that these students cannot innovate or start a business.  But their level of technical sophistication from university work is low.

Similar comments about irregular behavior pertain to publishing in academic journals.  China now leads the world in academic publishing.  The pressure to publish in China is far greater than any pressure in the US – one’s income this year can depend directly on publishing.  As a result, the number of journals has exploded in China.  When I began teaching in Hangzhou, several faculty asked me how much I had to pay to get published in western academic journals.  At first, I didn’t understand the question.  It is common for authors to pay 3000 to 10000 yuan for a published article.  To publish in a western journal is always the goal since it lends high prestige and leads to high salaries.  And, as one might expect, falsification of results and plagiarism are rampant.

 

But still …

There are electric cars in China, lots of them.  We had electric car charging stations at our residential development in Hangzhou before we left in 2016.  Didi kuaiqi beat uber.  Weixin and wechat are far more versatile than Apple.  China is the world leader in battery technology for cars. Where is the slowdown from lack of democracy?  If nothing else, a government that is interested in economic growth can be even more supportive of new ideas than the US government ever could be.

Richard Vague briefly describes current Chinese innovation in Democracy Journal - From Copycats to Innovators.   In addition to the electric cars, China has become a leader in modular construction, which is of interest in Africa.  The CRISPR-Cas9 technology, used to edit genes within organisms, was developed first in the US but has seen far greater experimentation in China.  As we all fear now, China is leading the world in artificial intelligence (AI).  We don’t like the social credit score and facial recognition technology, but it is far more developed in China than in the US, and it will come here.   A good part of the Huawei business is the threat to American dominance in 5G networks.   It appears that the US has lost that battle already, regardless of the implications for world security.  High tech manufacturing is also a growing China expertise.  Trump wants cell phone and computers made in the US, and thinks that tariffs will cause that to happen.  How?  What factories?  What workers?  Even more important, what suppliers?

A great deal of American innovation – from railroads to the internet – was supported initially by government.  Now, Vague says,

… there have been few moments in its almost 250-year history that the U.S. government has been less forceful in trying to lead science and technology. Even the U.S. military—a leading force in U.S. innovation ever since the Revolutionary War that ignited manufacturing in this country—has begun to come under criticism for underinvesting in innovation. Analysts suspect China’s new weapons advancements in areas such as A.I., drones, and cyberwarfare are at least equal to America’s.

No one mentions the need to increase American democracy in order to get more innovation.  I fail to see the argument made for China.

Chinese companies design for Chinese markets, mostly the largest in the world.  That can make Chinese companies highly profitable and responsive to Chinese markets. Chinese companies are also highly responsive to the government.   That may limit Chinese ability to compete internationally.  Part of the negative reaction to Huawei is the rational fear of what directives might come down from Zhongnanhai to spy or steal in the future.  The first rule of Hippocrates is do no harm, and in this case, the American government and a few others are right to be highly suspicious of China IT and AI.   Chinese IT is truly Pandora’s Box. 

 

And on the other hand …

Christopher Balding in Foreign Affairs,  recently of HSBC Business School, Peking University Graduate School in Shenzhen, reminds us of a fact that is particularly salient for high tech and innovation work -  China’s economy depends on the policies set by the central government to an extent that few other economies do. The government’s formal and informal signals give firms and people their cues on everything, from which businesses to start to where to invest. If Beijing were to restrain credit growth for small companies in high tech, true economic pain could set in.  Those small companies have a difficult time finding financing now.  Banks won’t loan to them, and alternative sources of credit are what is available.  Beijing wants to restrict these off-the-books and non-bank resources, and that only adds to the competitive problems for small high tech businesses.

Perhaps most tellingly, Chinese entrepreneurs do not press for political change.  Jie Chen and Bruce Dickson, in Allies of the State: China's Private Entrepreneurs and Democratic Change, find little to no support for political change or democracy as an aid to growth or development.  Particularly “red capitalists,” those entrepreneurs who come out of an SOE or government, are more closely tied to the system as it currently exists.  This only makes sense – political change would bring uncertainty to all, and that is most dangerous for investment.

Kellee Tsai provides additional details on why entrepreneurs fail to rock the boat of political change.  In Capitalism without Democracy - The Private Sector in Contemporary China she describes how business owners use more subtle means – including relationships and bribery – to influence local policy for both particular and general benefits.  This is in keeping with traditional Chinese practice – to publicly advocate for one’s own interests is unseemly. 

It is just not necessary for the 24-year old internet hot shot in Shenzhen to be a CCP member, any more than it is for the similar wunderkind in the US to be a Republican or Democrat.  If successful, at some point the kid will choose to have closer alliance to CCP just as the American kid might choose to register to vote.  Neither of them needs to vote in order to build his company.  They do need clear rules about markets, but China does not seem too deficient in that regard. 

 

Who needs democracy when you have guanxi?

There are additional ways for private businesses to have voice in government.  The state provides business associations like chambers of commerce and technical organizations – just as it provides unions for workers – and particular views can be heard without lobbying, voting, or protesting.  One of my students from Chicago was a leader in the Zhejiang Chamber of Commerce.  Such an organization in the US would be a dues-paying member organization, with perhaps a few persistent big supporters.  Staff would know quite well who the big members were.  In Zhejiang, my student knew nothing of the membership or how it was constituted by industry.  Such knowledge was irrelevant to operation of the Chamber of Commerce, since it was government funded.  These and other informal institutions are the way in which needed voice is heard, without resorting to democratic processes.  Business owners are busy people.  If they can be heard in a satisfactory way, what need for more?  Again, Chinese practicality wins out.

If anything, China sometimes pays too much attention to innovation. Excessive competition can only be the term for the hundreds of small companies seeking a niche in the internet technology field.  Major American and European companies have set up innovation centers in China, and even American consulting companies have gotten into the act.  See here and here and here and here.  A two minute CNN video here.

All observers say that the government is far too involved in setting priorities for investment, and that necessarily limits creative destruction. However, just as with the middle income trap argument, no one is claiming that “not doing creative destruction” means growth will cease.  Creative destruction, to the extent that it describes global scale innovation that puts prior technology out of business, is not necessary to growth when the new technology can be adopted or stolen.  The Chinese market will remain the largest market in the world, just as the US was for a century, and that alone will encourage design innovation.

Most countries in the world do not do creative destruction, unless the term is meant to refer to local location advantages from a new store or adoption of technologies invented elsewhere.   China’s growth will slow.  What of it?  I do not buy the arguments about the need to keep GDP growth at 8%, then 6%, now maybe 5% or 3% to prevent unrest.  With growth of 2% or 3%, the US – with a comparably sized economy – is still able to invest in some new infrastructure and provide some social services.  China is not the US.  Rights are still provided by the government to the people, rather than being inalienable.  And the government, representing all the factions and special interests and upper classes seeking to preserve positions and entitlements, will do what is needed to assist farmers and poor Chinese.  Not so unlike government in the US.  Barricades and protests look bad to governments everywhere.

Perhaps creative destruction in China will be less than in some idealized, Schumpeterian textbook world.  Process improvements, copying, theft and incremental improvements (as with nearly all “innovation” in the rest of the world) will suffice.   Chinese businesses can certainly innovate well enough for the Chinese market, and Chinese mobile phones and social media and internet applications seem to do just fine, thank you, in the –stans and Africa.

Finally, there is no necessary reason to think that ‘disruptive innovation” is really, actually, the thing driving all business in the 21st century.  Jill Lepore has an analysis The Disruption Machine.  Hers is one of a few voices against many.  But the disruptive innovation movement seems to argue only for being hyperactive and unfocused.  Is that any way to do innovation?

In any case, someone please, tell me again – what’s democracy got to do with it?

 

Next:  Whither China? post #9 - Question 7 – So no democracy, no resilience; heavy challenges. Now what?

 


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