ECON-How Big a Competitive Threat Is China, Really?

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How Big a Competitive Threat Is China, Really?


February 29, 2012

by Michael Beckley

Between 1945 and 1990, Japan went from rags to riches, entering the ranks of the world's wealthiest countries and posing a direct challenge to U.S. competitiveness. Today, China seems to be replicating Japan's economic miracle — with a population 10 times as large. Like Japan, China combines statist industrial policies with export-oriented development. And like Japan, China has logged several decades of rapid economic growth. Thus, the question: Is China becoming a serious economic competitor to the United States? Is China, in effect, a giant Japan? Most Americans think so. Bookstores are filled with titles such as When China Rules the World and Becoming China's Bitch, and opinion polls show that most Americans believe China is already the world's dominant economic power. As I show in a recent article in International Security, however, this view is a dangerous delusion held in the face of significant evidence to the contrary. For many reasons, China is unlikely to repeat Japan's success. Most important, China is developing in a far more challenging international environment than Japan faced in the second half of the 20th century. As a result, its economy will remain more compatible than competitive with America's for the foreseeable future. Japan had the good fortune to rise during the Cold War. At that time, industries were mostly self-contained within countries, allowing Japan to cultivate internationally competitive companies through targeted investment and trade barriers. The United States, which needed allies against the Soviet Union, not only tolerated Japanese protectionism but also transferred advanced technology to Japan and subsidized Japanese firms. China, by comparison, is rising in the WTO era. The world's wealthiest countries no longer tolerate the sorts of protectionism Japan employed during the Cold War. Far from granting China special exemptions, the United States aggressively pries open China's economy through WTO litigation and bars other countries from selling "dual-use" technologies to China. In short, Japan enjoyed asymmetric openness — access to foreign technology and export markets but protection from foreign competition. China, by contrast, is simply open.

Japan grew with essentially zero foreign direct investment (FDI). By comparison, China's FDI stock equals 8% of its GDP; more than 70% of that FDI consists of wholly foreign-owned enterprises (as opposed to joint ventures); and foreign firms produce half of China's exports and more than 90% of China's high-tech exports. Exposed to foreign competition, many Chinese firms eschew long-term investments in innovation and instead focus on lowering costs in existing manufacturing activities. For the past 20 years, Chinese firms' R&D spending as a percentage of sales revenue has remained seven times below the average for Japanese firms. When Chinese firms import technology, they spend 25% of the total cost on absorbing the technology, far less than the 200% spent by Japanese firms when they were trying to catch up to the West in the 1970s. As a result of this low investment, few Chinese firms have followed their Japanese predecessors up the value-chain to challenge American firms in high-value sectors. Since 1991, the United States has nearly doubled its lead over China in R&D spending, increased its lead in international patents by 35%, and nearly quadrupled its lead in shares of value-added in high-tech industries. In the 1980s, Japanese leaders spoke openly about bankrupting American firms and turning the United States into an economic backwater. Today, by comparison, U.S.-China economic relations are characterized not so much by head-to-head competition for control of industries, but by a division of labor within industries and, often, within individual products — iPads, Intel computer chips, and Nike shoes, to take just a few examples, are all designed in America and assembled in China. Of course, this system has turned China into a manufacturing juggernaut. But only 8% of American workers work in manufacturing, and many of those jobs are high-skill, capital-intensive jobs — think operating robots and writing computer code, not snapping together parts by hand — that are unlikely to be outsourced to China. China is obviously an important economic player. Simply because of its size, it commands attention in global negotiations on trade, finance, and the environment. But China will remain poor and technologically underdeveloped for many years. As a result, its prosperity will remain dependent on ties to the global economy and, in particular, on good economic relations with the United States. For the past 30 years, the United States and China have grown their economies through a division of labor. This cooperation can endure, but only if Americans and Chinese disabuse themselves of the notion that they are locked in zero-sum economic competition.

Source: www.hbr.org