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China: Ready to jump into the world market

The World Trade Organization has welcomed China. How will this long-sought, controversial step affect hungry U.S. tech players? China feature hed: dek: by James Mathewson and William Swanson

Michael Maibach has been through the trade battles. As vice president of government affairs for Intel for 18 years, Maibach was in charge of improving Intel’s trade relationships abroad. One of the largest and most difficult markets for Intel over that period was China, which has a longstanding tradition of protectionism for its state-owned industries.

According to Maibach, China is the third-largest market for computers and silicon, the second-largest for cellular phones, the third-largest for telecom, and the third-largest for IT services, after the United States and Japan. China is well on its way to becoming the second-largest IT market in the world, yet the market can be impenetrable for U.S. companies because of the stifling trade restrictions China places on foreign competition.

Maibach illustrates the trouble his company had in trying to sell its chips to Chinese computer manufacturers. “In China, foreign companies don’t have trading or distribution rights,” the recently retired Maibach explains. “We typically needed to sell our chips to a reseller in Hong Kong, who would then bring the chips into China and ship them to a computer manufacturer, such as Legend.”

Maibach explains that this situation has been intolerable for companies like Intel: “Once you leave the chips with the reseller, you really have no control over how they are distributed–whether the tariffs and taxes are properly paid; how quickly the chips are shipped to their destination; whether the chips are received properly or just left out in the rain, and so on.”

Fortunately, these and other distressing trade relations are receiving attention. After China falls into lockstep with WTO trading rhythms, many formal barriers addressed by the WTO, like foreign investment percentages and duties, will dissolve over the next few years.

But other economic, legal, and social trade impediments may require years of frustrating attention: some of the highest tariffs in the world; state subsidies for large, inefficient Chinese monopolies; and poor intellectual property rights for software and hardware manufacturers. Among these hindrances is what Maibach calls segmentation: With few exceptions, U.S. companies that manufacture products for Chinese companies do not have rights to do anything else with the products in China, such as distributing, promoting, or integrating them into other products.

New breeds of monopolies

Most analysts agree: China’s most challenging changes in the wake of WTO entry will be the reposturing of the state-sponsored monopolies vis-à-vis both domestic and foreign competition. The China of Mao Tse-tung consisted solely of state-run companies whose primary mission was to employ hundreds of millions of Chinese people. Deng Xiaoping’s capitalist reforms enabled some foreign competition with the remnants of communism, but the state-run monopolies persist as preferred business partners, especially for government projects in the telecom and IT services area.

In theory, China’s entry into the WTO attempts to level the playing field on which foreign and legacy Chinese companies compete. In practice, of the many impediments to smoothly ramping foreign trade, domestic company favoring by local bureaucracies will surely weigh heavily. As benefits accrue, of course, the aging and inefficient monopolies will be forced to restructure–many say by using new-age IT productivity tools.

“Many Chinese officials are nervous about unemployment and instability that could occur if the Chinese monopolies fail,” says Harris Miller, president of the Information Technology Association of America (ITAA). “For that reason, it will take time for these reforms to take hold throughout China.”

Miller says China’s inclusion in the WTO will have far-reaching implications for several U.S. technology sectors, especially telecom and IT services. He adds that inclusion in the WTO does two primary things for companies wishing to trade with China: It opens up the market for companies to compete with Chinese monopolies, and it obligates China to follow international rules of the road for trade.

“I’m fairly confident that China will follow through with its commitment to open up markets,” Miller says. “President Jiang Zemin is committed to following [WTO trade reform] time tables.”

But Miller cautions that change in China will take time–seven to 10 years in some cases. “As far as China’s commitment to play by the rules, it will take a much longer period of time than the two to four years laid out in the WTO accord,” he says. “Jiang’s commitments are meaningless if, when it comes to implementation, bureaucrats don’t in fact adhere to the rules of the road.”

Major WTO entry bruises are forecast as China embarks on the largest telecom infrastructure investment the world has ever known. The strength of China’s desire to grow as a trading partner will be strongly observed. For the past several years, it has built the equivalent of a Regional Bell Operating Company every year, a project estimated to take another seven years before it serves the entire country. Companies such as Lucent, Cisco, and Nortel have been able to compete with the state-subsidized telecom monopolies, but at heretofore unseen levels of low margins and high risk.

Miller says while the WTO will help U.S. telecom equipment manufacturers, there will be unique barriers in China. He says the model will be for a Nortel to invest in a local Chinese company and provide the wherewithal for the company to make money. “Majority ownership is a big issue in a lot of areas. As long as the company has Chinese ownership, issues of control, earnings, and repatriation of earnings will all serve as high-risk factors for foreign investors,” Miller says.

Intellectual property

In addressing intellectual property, Michael Maibach says China is the 10th-largest software market in the world, even with the competition from piracy (almost 80 percent of all software in China is pirated). He says one of the crucial issues with China’s inclusion in the WTO is the legal framework supporting intellectual-property (IP) rights to include not just copyright protections for software manufacturers, but also patent protection for hardware manufacturers. In this area, China lags far behind.

Robert Hollyeman, president of the Business Software Alliance, underscores the need for stronger, enforceable intellectual-property rights, especially for software companies. According to Hollyeman, the WTO will help legitimize China’s posture by setting standards for its copyright and patent laws in China. “A new copyright law for China, based on WTO standards, [is] working its way through the National Peoples Conference,” Hollyeman says. “This will improve the piracy situation in China tremendously.”

Hollyeman says history is a strong indicator of what will happen in China. “At one time in Italy, two-thirds of all software was pirated. When the government made a concerted antipiracy effort, the rate was reduced to 50 percent in one year,” he says. “We’re hoping to see that kind of decline in software piracy in China very soon.”

Hollyeman says he is confident that WTO reforms will boost the total Chinese software market, in part because strong copyright protections are as necessary for Chinese software companies as they are for foreign software companies operating in China. Most of the software in China will be written by Chinese people for Chinese people. It is necessary for Chinese companies to have enforceable antipiracy legislation in order for them to make money on their own software, he adds.

IT services

Both Maibach and Miller agree that another fast-growth market in China is IT services. As legacy Chinese companies revamp and modernize, there will be growing needs for productivity–enhancing help from the likes of IBM and EDS. The productivity of capitalism is a big swim from the make-work of communism, and China is midstream. As its global competitive stature grows, so will its reliance on technology to enhance the productivity of its huge labor force.

“One of China’s strengths is its tremendous talent base,” says Miller. He cautions that much help will be needed: Consultants and trainers will play a large role in properly meshing that talent with the necessary technology. Maibach agrees. “As the Chinese government’s use of technology continues to expand, they will need more technical help,” he says. “As they do that, they will need to contact companies for IT support.”

Proof in the eating

Will China make good on its commitment to WTO trade regulations? Its domestic aims and WTO trade partnering directions will be on display in coming years as it prepares for the massive $4 billion 2008 Beijing Olympic games–the success of which will ultimately be judged against the applauded 2000 Sydney games.

“To the extent the Chinese call upon foreign IT and telecom services companies in the next year or two, that will be a good test of China’s commitment to these reforms,” Miller says. “We’re looking for not just a minor role, but a substantial one.

“In Sydney, IBM and EDS played a leading IT role. I expect both companies to play a strong role in the Beijing Olympics,” Miller adds. “The proof of the pudding is in the eating.”

WTO benefits for U.S. companies that trade in China

Trading/Distribution–Full trading rights will be granted for U.S. companies to import, export, and distribute products directly to Chinese customers, including after-sales service and repair, without going through a Chinese middleman. Tariffs–Chinese tariffs will be cut from the current overall average of 24.6 percent to 9.4 percent by 2005. China will join the WTO’s Information Technology Agreement, so that tariffs on U.S. computers, semiconductors, telecommunications, and other U.S. high-technology products will be cut to zero. Services–Market access will be achieved for U.S. telecommunications and financial services under WTO Basic Telecommunications and Financial Services Agreements. Chinese GATS commitments cover U.S. priorities, including Internet, audio-visual, banking, insurance, and auto finance. U.S. Jobs–U.S. trade with China already supports more than 200,000 export-related American jobs, as well as tens of thousands of jobs in U.S. retail, financial services, transportation, entertainment, marketing, consumers goods, and services firms. By addressing Chinese technology transfer, distribution, and export performance requirements, WTO accession will make it easier to ship American products, supporting U.S. production and jobs. U.S. Exports–The Congressional Research Service, based on a Goldman-Sachs analysis, projects that a China WTO agreement would boost annual U.S. exports by between $12.7 and $13.9 billion by 2005.


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