Is China a goldmine or minefield?

By Tim Weber
BBC News Online business editor

China is rapidly grabbing high-tech market share

"China is amazing", says Microsoft boss Bill Gates. "It is capitalism, but at an unprecedented speed."

"Amazing" is an understatement. This is an economy on speed.

Chinese exports have surged more than 50% to $325bn (£171bn) in the five years to 2002.

And they are accelerating, currently growing 20% year-on-year.

The economy, meanwhile, is expanding at a blistering 9%.

No wonder foreign investors want to join the gold rush.

CHINA'S EXPORT MIRACLE 1982: $22.32bn 1992: $84.92bn 1998: $207.24bn 2001: $266.15bn 2002: $325.56bn Source: World Bank

Just during the past few days,

Korea's INI Steel Company launched a $500m steel project in the Dalian development zone;

France's Saint Gobain invested another $70m in one of its existing glass production lines;

Germany's Siemens opened its 40th office in China, to develop high-end software applications in Nanjing, and warned that it could shift thousands of jobs from Europe and America to China;

while Finnish paper giant Stora Enso invested $1.6bn in a pulp-paper project in South China.

But is China really a capitalist goldmine - or a minefield, where firms are beholden to corruption or arbitrary acts of a communist bureaucracy?

And what about the biggest short-term worry of all: Will China soon end its currency's decade-old peg to the US dollar, wreaking havoc on carefully laid-out business plans?

How to make money in China

Make no mistake: The world's business leaders are transfixed by China.

If your business isn't making money in China, it probably wouldn't make money anywhere else Carlos Ghosn President, Nissan Motor Company

A few weeks ago, during debates at the World Economic Forum in Davos, China seemed to be the solution to every problem - and the cause of all potential trouble.

After all, business history is littered with failed Western investments in China. So what went wrong?

Blame poor management or timing, say those that have succeeded in China.

"With companies that don't make a profit in China, if you look at the case studies, there is always a flaw from the outset," says Dinesh Paliwal, group executive vice-president at Swiss-Swedish engineering group ABB.

Microprocessors are a case in point, argues Ulrich Schumacher, chief executive of German microchip giant Infineon.

Chip factories built in China during the past 10 years did not make any money, he says, because they produced the wrong chips at the wrong time.

Backward rural areas have huge potential for economic growth

Infineon, in contrast, moved in only recently and is making plenty of profit. As a result China will get 30% of the German firm's $1.2bn investment total over the next three years.

The sentiment is echoed by Carlos Ghosn, president of car maker Nissan: "If your business isn't making money in China, it probably wouldn't make money anywhere else."

"If you are focused, you can be very profitable", he says, and adds that for Nissan, China is the world's second-most profitable car market after the US.

From toys to technology

TOP FOREIGN INVESTORS (2002) Hong Kong - $373bn USA - $76bn Taiwan - $61.5bn Virgin Islands - $49.3bn Japan - $49bn Singapore - $40.1bn S.Korea - $27.5bn UK - $19.6bn Germany - $14.3bn Macao - $10.8bn Canada - $10bn Cayman Islands - $9.5bn Netherlands - $9bn France - $7.2bn Malaysia - $6bn Others - $6.3bn (total contractual value) Source: Chinese Ministry of Commerce

But what makes China special ?

The obvious answer is that it is big, with 1.3 billion people and a $1.2 trillion economy.

Its middle class is growing rapidly, domestic consumption is booming and the growth of its manufacturing sector is nothing if not spectacular.

"We set up our factories in China to export, but it is all consumed in the country itself," reports ABB's Dinesh Paliwal.

With inflation low, labour cheap and plentiful, urbanisation driving demand, and a savings rate of 30% providing easy capital, China is a manufacturer's dream.

No wonder the Pearl River Delta in the south-east of the country, once a rural backwater dominated by rice paddies, has turned into the world's factory floor.

And contrary to popular belief China is not just a producer of steel, cheap shoes and easy-to-assemble toys.

Gasp - engineers work on weekends

China has moved up the "value chain" and become a land of two economies.

The talent of Chinese software engineers is unbelievable, I can't believe how effective they are Bill Gates Chairman, Microsoft

The sweatshops are still there, giving employment to millions of desperately poor migrant workers.

But more and more companies become cutting edge and leapfrog foreign rivals.

Whether games consoles, DVD recorders or flat-screen monitors, Chinese factories are grabbing high-tech market share.

"Ten years ago, China was about low cost," says Infineon's Ulrich Schumacher. "Now it is at the forefront of technical development."

"Infineon can develop twice as fast in China than anywhere else," he says.

"Engineers are working in three shifts, seven days a week," enthuses Mr Schumacher. " In Germany that would not be possible, there engineers don't work on weekends."

Bill Gates is similarly impressed after his latest visit to Microsoft's research lab in Beijing, one of four in China and Hong Kong.

"The talent of the people there is unbelievable, I can't believe how effective they are," he says.

All this is worrying news for high-tech workers in industrialised countries, who hoped their skills would give them a competitive advantage in the globalised economy.

Trouble ahead?

But China's cost advantages are slowly eroding.

On the eastern seaboard, the cost of people, property and other assets is rising fast. "In Shanghai the price of a good engineer is the same as in Slovakia," says Mr Paliwal.

Foreign investors praise the eagerness of Chinese engineers to learn

So if investors hope to compete on cost, they have to move inland, well away from the coast, counsels Victor Chu, who runs Hong Kong-based First Eastern Investment Group.

And there is a host of other problems.

Without "good friends", both on a personal and a political level, there is little chance of investment success in a country that has no effective commercial courts, warns Mr Chu.

Which hits home when investors discover that their local rivals or even business partners are ripping off patents and other intellectual property (IP).

So investing in China is "definitely a challenge" and a "minefield", says Carlos Ghosn, who has seen the "logos, brand names, internal and external designs" of Nissan cars copied by Chinese rivals.

Monkey business

There are other long-term worries, like the stability of China's banking system, and whether the country can generate enough energy to sustain its economic boom

China has a huge pool of workers, many poorly paid

Today, though, the biggest headache for investors is China's currency.

For decades, the yuan has been pegged at a low rate to the US dollar. This has created stability, but also acted as an export subsidy, creating huge trade imbalances.

Washington is urging Beijing to float the yuan. Some Chinese manufacturers, depending on cheap imports of components and raw materials, agree.

Already "we see a massive inflow of foreign currency into China in anticipation of a floating exchange rate policy," says Professor Fu Jun of Beijing University, who is considered to be close to the Chinese leadership.

But the yuan is unlikely to suffer a dramatic devaluation. China will probably switch its peg from the US dollar peg to a basket of currencies, says Professor Fu.

Experts like Victor Chu predict that investors now have a "window of nine months".

"If you want to go into China, you should do so now," he argues.

In the Chinese calendar, 2004 is the year of the monkey.

Investing in China now would be "good monkey business", says Victor Chu.