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The Rise of China Inc.: Can it Prevail in the US-China Trade War?

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by Guanie Lim & Yat Ming Ooi

Founder and chairman of Geely Automobile Li Shufu (second from the left) pictured during a visit to Volvo Car Gent. Geely bought the Volvo brand in 2010 (Image credit: Belga)

‘The Fortune Global 500 is now more Chinese than American’. The headline piece of Fortune Magazine’s edition of August 2020 revealed much about the nature of global business. With more companies based in Mainland China and Hong Kong (124) than in the US (121), the list sparked intense debate China’s perceived ascendancy in the international economy. Following four decades of rapid growth, this is a clear image of what is conventionally known as China Inc. Searching for market share domestically as well as abroad, these Chinese firms (occasionally termed ‘national champions’) are known for their acquisition of large and well-established firms such as IBM, Club Med, and Volvo. Against the backdrop of an increasingly strained relationship between the US and China and instances of some countries pushing back against Chinese infrastructure deals in the Global South, a dual question can be asked: where is this rivalry headed to? And, what are the implications for the rest of the world?

Chinese Corporate Power

The Global 500 is a prestigious list and offers arguably the best snapshot of the state of global business. In its methodology, firms are ranked based on revenue. This approach is somewhat biased as it tends to favour companies operating highly regulated monopolies/oligopolies in large economies. Many Chinese companies fall into this category. Indeed, an analysis of those 124 Chinese companies in the Global 500 reveals that many are operating de facto monopolies/oligopolies in the domestic market, where non-tariff barriers remain high. Examples include Sinopec Group, State Grid, and China National Petroleum (all located within the top 4). Operating in chemicals, power, and petroleum respectively, these three firms are not only state-owned but also generate much of their revenue in highly-regulated, capital-intensive industries. Further down the pecking order, a similar trend emerges: of the twenty-four Chinese companies in the top 100, almost all operate in industries such as banking, insurance, construction, and mining.

At the same time, there is also a paucity of Chinese manufacturing firms on the list. This odd development has occurred despite Beijing’s push for ‘national champions’ in industries such as automobile production, steelmaking, shipbuilding, and aerospace. However, only two manufacturing firms – Huawei (private; 49th) and SAIC (state-owned; 52nd) – made it into the top 100.

Huawei can be described as a non-traditional firm in the manufacturing industry since a relatively large portion of its revenue is derived from what are essentially service activities (telecommunication installation, consulting, and repair). Even in the manufacturing of its renowned smartphones, core components are still sourced primarily from Western and Japanese business groups. For example, the Huawei P and Mate Series – which come with high-definition cameras – rely on German company Leica for the supply of camera-related components. Despite Huawei’s attempts at expanding into global markets, the firm continues to face difficulties in some markets, due to allegations of undue state support, and cybersecurity concerns. Most recently, its Chief Financial Officer has been under house arrest in Canada. In addition, the US has stepped up pressure on its allies to remove Huawei equipment from their telecoms infrastructures over concerns that the Chinese government could possibly lean on the company to allow it to conduct espionage, closely followed by the UK. Although it is premature to write off Huawei at this stage, it seems to be one of the highest-profile targets ensnared in the trade war between the USA and China.

For SAIC, an automobile player based in Shanghai, the outlook is somewhat better. Since its joint-venture with Volkswagen after the 1978 economic reforms, SAIC has been able to continuously strengthen its position in the domestic economy, emerging as a de facto lead firm. In the Global 500 list for 2020, it is ranked as the seventh-largest automobile company, surpassing brand name rivals such as BMW Group and Nissan Motor. However, like Huawei, there does not seem to be enough incorporation of critical manufacturing technologies, which forces SAIC to rely on more mature foreign companies. SAIC still sells vehicles from a variety of brands licensed from mainly Western automobile companies, in exchange for entry to the Chinese market. As of 2020, only two of its brands, MG and Roewe, have had (limited) success outside China. These two brands were acquired during the mid-2000s from now-defunct British carmaker MG Rover.

For the MG brand, in particular, SAIC’s internationalisation efforts have been bumpy. In 2012, SAIC entered into a joint venture with Thailand’s largest conglomerate, Charoen Pokphand (CP) Group, to produce MG cars in Thailand. With an annual production capacity of fifty thousand vehicles at the outset (which could increase to two-hundred thousand units), the company aspired to capture the Thai as well as the adjacent Southeast Asian markets. However, here again, progress has been slow. SAIC only managed to sell 23,740 MG vehicles in 2018, well below its total production capacity of 200,000 units. By capturing only a 2.3% market share in the Thai market, SAIC has failed to make a dent in the Japanese-dominated automobile market of Thailand (and by extension Southeast Asia).

Chinese Catching-Up in Retrospect

The experiences of Huawei and SAIC are sobering. Although undoubtedly ‘national champions’ in their own right within the large domestic market of China, there is not enough evidence to suggest they have become the sort of ‘global champions’ that successive Chinese politicians and bureaucrats frequently exhort them to be, nor are they necessarily setting the example for other national firms. Perhaps this suggests some underlying problems with China’s technological catching-up that goes unmentioned in both the euphoria surrounding the ‘rise of China Inc.’ and the pessimism engulfing the increasingly tense international economic environment? What we are advocating here is to step back and scrutinise both sets of development. While not denying China’s economic strengths, there is an equal need to unpack the nature of the Chinese economy.

As illustrated in the previous paragraphs, Chinese growth is mainly driven by a large domestic market, which obviates the need to create competitive firms with world-beating indigenous technologies. Chinese technological shortfall can instead be plugged by purchasing production and process expertise from foreign firms (through royalty payments for copyrighted products and mergers and acquisitions, for example), resulting in a dearth of genuine manufacturing ‘national champions’, for which long-term investment in R&D is required. If the fate of Huawei and SAIC is of any relevance, then we must more seriously take manufacturing as a key cog of development. More broadly, while one may like to envision a post-industrial society, no economy – barring small, wealthy offshore financial centres (e.g. Macau and the Cayman Islands) – transitioned straight into the high-income category without a competitive manufacturing sector. Without a strong manufacturing sector (and by extension command of technology), talks about a US-China trade war is overblown as China Inc. might not have the strategic depth to mount a sustained challenge.

The USA: Still No. 1?

Moreover, in the US, the situation is nowhere near as dire as what the popular media seems to suggest. Despite numerical superiority, Chinese companies account for only twenty-five per cent of the total Global 500 revenue against the US’ thirty per cent. Furthermore, two US companies made it into the top 10 – Walmart (first) and Amazon.com (ninth). Walmart, in particular, claimed the top spot for the seventh consecutive year.

In addition, thirty-four US companies made it into the top 100, outweighing the twenty-four hailing from China. Although US companies in the Global 500 participate heavily in service activities, it must be noted that some of the manufacturing behemoths have maintained or even enhanced their positions. In the top 100 roster, USA Inc. is represented by Ford Motor (31st), General Motors (40th), Microsoft (47th), and Dell (81st). Ford Motor and General Motors represent the mature automotive industry, while the latter two represent the more forward-looking information technology industries.

Amid the seemingly meteoric rise of Chinese companies, the US retains three salient points that will determine the outcome of the much-hyped trade wars. The first point that often goes unnoticed is the early mover status of US companies, which allow them to go abroad far more easily than companies originating from latecomer economies such as China and India. The US (and by extension, its cohort of companies) remains popular in many parts of the globe, in turn giving US companies quite simply the benefit of the doubt, a privilege that Chinese firms do not enjoy (at least for now). Take, for example, the ban that prohibited Huawei and ZTE from participating in Australia’s 5G network development. A cue the Australians took from the US.

The second point concerns the innovative capabilities of US companies. Historically, the US and other Western countries are famed for their ability to innovate. By innovating, we mean to create something new, and implementing it in the production process or bringing it to market as a new product. While US companies are moving some production out of China, this is unlikely to affect their ability to innovate as communication technologies have improved companies’ ability to innovate throughout their value chain. It is through the ability of US companies, often with support from the state, to continually renew and reinvent themselves that we see US companies extending their early mover advantage in the long run.

The final point brings our analysis into the behavioural realm. US companies have market-shaping capabilities. In other words, these companies can dictate what customers and consumers need and want in the US and global markets. No one knew we needed an MP3 player until the late Steve Jobs told us it is ‘cool’ to own an iPod. We had no idea we needed boutique takeaway coffee too. That is until Howard Schultz told us we should all be sipping on a barista-made, grande, vanilla latte with low-fat milk from Starbucks. Of course, there was more to the iPod story. Apple was excellent in crafting an ecosystem strategy, which created network and lock-in effects. The ability of US companies to create new demand, tap previously untapped markets, and influence consumer choices, reinforces US Inc.’s position in the global market.

Is China Inc. taking over from US Inc. any time soon? The short answer is no. Chinese companies are performing well in the globalised and connected world we live in today. But (most) open and transparent economies are ‘suspicious’ of Chinese companies’ intentions. Will China Inc. prevail if we have a full-blown trade war between the two largest economies? Maybe. Chinese companies are still learning and expanding. Moreover, they have the Chinese and surrounding Asian markets to fall back on if indeed a full-scale trade war materializes. Regardless, we can conclude that the US can prevail if it continues to do what it does best – extend its early mover advantage through innovation, market-shaping capabilities, and lock-in effects.

Guanie Lim is Research Fellow at the Nanyang Centre for Public Administration, Nanyang Technological University, Singapore. His main research interests are comparative political economy, value chain analysis, and the Belt and Road Initiative in Southeast Asia. Guanie is also interested in broader development issues within Asia, especially those of China, Vietnam, and Malaysia. In the coming years, he will be conducting comparative research on how and why China’s capital exports are reshaping development in key developing regions – Southeast Asia, the Middle East, and North Africa. He can be reached at guanie.lim [at] gmail.com

Yat Ming Ooi is Research Fellow in the Department of Management and International Business, The University of Auckland, New Zealand. He is also Adjunct Lecturer at Swinburne University of Technology, Australia. His main research interests are innovation management, technology and science commercialisation, and business models. Yat Ming is also interested in the role of new research funding policy plays in addressing grand challenges. He can be reached at y.ooi [at] auckland.ac.nz

 

The First Tech War? Why the Korea-Japan Tensions are about US-China Competition on AI

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by Yeseul Woo

Stand-off? South Korea’s Moon Jae-in and Japan’s Shinzo Abe (Image credit: Kim Kyung-hoon EPA-EFE)

The deteriorating relations between the United States, South Korea, and Japan have shaken the security system in Northeast Asia, which hinges on the alliances between the three countries. Observers typically attribute the slump in the relationship between South Korea and Japan to the latter’s removal of South Korea’s favoured “whitelisted” trade partner status, the imposition of export controls on its electronics sector, and South Korea’s August 2019 announcement that Seoul did not wish to renew the General Security of Military Information Agreement (GSOMIA). This is a naïve observation, missing the critical dynamic that is inextricably linked to the South Korea-Japan row-that is, great-power competition in artificial intelligence technology (AI) between the United States and China.

On 30 October and 29 November 2018, South Korea’s Supreme Court ordered Nippon Steel & Sumimoto Metal, and Mitsubishi Heavy Industries respectively to compensate South Koreans forced to work in their factories during the Japanese occupation period. The court ruled, that if the Japanese companies refused to oblige, the victims of forced labour could seek local court orders to seize their Korea-based assets.

Over the course of July 2019, then, Japan imposed export controls on three core materials required by South Korean tech companies to manufacture dynamic random-access semiconductors (DRAMS)—an essential part for 5G networks and AI. The export curbs require Japanese firms to seek licenses to export these materials to South Korea. Because Japan is the main producer of the core materials, the new export procedures disrupted supply chains and in so doing South Korea’s ability to manufacture DRAMS. On 2 August 2019, Japan removed South Korea from its whitelist of favoured trade partners, thereby prolonging and formalising the export curbs on these materials.

Although Japan claimed that the export regulations were designed to streamline export procedures in light of national security concerns, observers believed the new measures came in response to the South Korean Supreme Court rulings on South Korean forced labour in Japanese companies during the occupation period and due to the on-going disagreements between Japan and South Korean on the compensation of comfort women. South Korea’s response came later in August 2019. Seoul announced its intention to terminate GSOMIA, reasoning that Japan’s export restrictions had caused a ‘grave’ change in security cooperation. Although South Korea and Japan have since agreed not to let GSOMIA lapse, the issue of whitelist exclusion has not been resolved. The trade row between the two countries is set to worsen when South Korea will act on its Supreme Court rulings by beginning to seize the Korea-based assets of Japanese companies.

But Japan’s export controls resemble the US-China trade war. Semiconductors are vital components of AI and 5G technology, which are used in surveillance technology and missile defence. They are imperative for national security as for instance, AI is used to predict missile flight paths. The crucial link is this: two Korean companies, Samsung and SK Hynix, are the world’s largest and second-largest manufactures of DRAMS respectively, accounting for 72.7% of the global DRAMS market in the fourth quarter of 2019. But South Korean companies also account for a large proportion of Huawei’s DRAMS supply, China’s main producer of 5G and AI technology. Samsung’s recent launch of the Data and Information (DIT) Center, an effort to produce AI semiconductors, suggests that the company has outpaced its competitors.

South Korea’s DRAMS exports to Huawei might be a national security concern for the United States and Japan. By disrupting South Korea’s supply of the materials needed to manufacture DRAMS, Japan might potentially slow down China’s AI progress. Japan’s export restrictions undoubtedly align with US intentions. The Wall Street Journal reported on 17 February 2020 that the US Department of Commerce plans to restrict Chinese access to chip technology by seeking legislation to ‘require chip factories world-wide to get licenses if they plan to produce chips for Huawei.’ Furthermore, the US Department of Commerce plans on tightening export controls on chips to Huawei; license-free sales are only to be permitted where chips are less than ten per cent American-made. The threshold stands at twenty-five per cent at the time of writing. The United States has also pressured allies like Canada and European countries to contain Chinese semiconductor technology, causing a row between President Trump and Prime Minister Johnson after the UK allowed Huawei a limited role in the development of Britain’s 5G network.

In another twist, however, Japan’s decision to limit South Korea’s access to materials needed for its DRAMS production backfired. The export restrictions were a protectionist move - Japan was arguably hoping that its own companies would thrive once again to become the market leaders, which they were until Samsung and SK Hynix gained a competitive edge. But DuPont, a US chemical materials company, subsequently decided to establish a US$ 28-million production facility for extreme ultraviolet rays in Korea, which will ensure Korea’s supply of the key materials needed for the production of semiconductors. Therefore, if Japan is serious about its ambition to gain market share in the semiconductors industry, it should carefully consider its next steps.

In other words, what we may be witnessing with the row between South Korea and Japan is not so much a dispute over compensation of South Korean forced wartime labourers or comfort women during the Japanese occupation period but the onset of the world’s first tech war: competition between the United States and China over supremacy in AI. South Korea has long aligned with the United States in geostrategic terms, but China’s overtaking of the United States as South Korea’s most important trade partner has placed Seoul in an awkward position as the imposition of Japanese export controls—designed to hit one of South Korea’s major industries—has demonstrated.


Yeseul Woo is a PhD candidate at the Department of War Studies at King’s College London and a Developing Scholar at the Hudson Institute, Washington, D.C. She has previously served as a journalist for South Korean and U.S. media outlets and as a fellow at the East West Center, at the Pacific Forum and at the Harry S. Truman Institute