Brave the enemy’s gunfire, rejuvenate!

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Defining the win in a trade war is difficult, even for a “winner” like Donald Trump. In an Apr 2018 tweet, the US President declared the trade war “already lost” with China by his foolish and incompetent predecessors. What he had been doing, first initiating a Section 301 investigation and then asking for tariffs to be imposed on roughly 150 billion USD worth of Chinese goods, appeared more like a penalty long overdue than the a strategically planned assault with clear objectives.

On the other side of the Pacific, victory was equally elusive to the Chinese government. “There is no winner in a trade war” was the official line repeated by the Ministry of Foreign Affairs(MoFA), the Ministry of Commerce(MOFCOM) and the official mouthpiece outlets such as People’s Daily. In the early days of the standoff, the message from the Chinese authorities was essentially of “peace through war”: we don’t think the war will benefit anyone, but if fighting is the only way to bring some sense back to the offender, we will retaliate with matching forcefulness.

That rhetoric escalated dramatically on Apr 6 upon Trump’s latest round of threat. In a MOFCOM statement responding to the US President’s announcement of his intention to slap penalizing tariffs on 100 billion USD worth of Chinese imports on top of earlier measures, the words used was “to fight till the end” and “at all costs”, even though, curiously, China has so far refrained from announcing its counter measures against Trump’s 100 billion “bluff”. If the country opts to follow suit in a one-eye-for-one-eye manner, it would mean a near blanket 25% tariff on all US imports (In 2017, total imports from the US amounted to 130 billion USD).In this sense, being rhetorically strong but substantively vague is all but rational.

Where official intentions remain ambivalent underneath the confrontational posture, social media is itching to offer some clarity. The trade war creates a rare spectacle of a massive Internet debate on China’s industrial and trade policies, through which one gets a glimpse of the public opinion foundation for China’s own brand of economic nationalism that is growing into an integral component of the increasingly prominent “national rejuvenation” narrative. If Donald Trump’s trade war has any effects, one of them would be uniting the Chinese internet under the flag of industrial self-armament.

Rejuvenation under threat

While the cyberspace was pretty calm about the relatively targeted tariffs on Chinese steel and aluminum announced on Mar 8, the following proposal to slap tariffs on another 50 billions worth of Chinese goods, a sure sign of a possible full-blown trade war, ignited the Chinese social media with excitement. As soon as China’s MOFCOM released its list of potential US products targeted for retaliation, online opinion leaders took note of the stark differences in the industries covered by each country’s measures. The Chinese goods and services included in Trump’s proposed levies ranged from industrial robotics to new generation information technologies, whereas China’s matching list consisted almost entirely of agricultural products: pork, fruit and nuts.

There was an almost gleeful response to the comparison. “It’s a trade war between an agricultural economy with an industrial power,” as one commentator put it. This might be a mischaracterization of both the makeup of the US economy and the nature of the trade war. The 10 categories of Chinese products selected by the Trump Administration were there not because they made up majority of Chinese exports now. They represented sectors that could challenge US industrial advantages in the future.

The message was not lost in Chinese online discussions, which seemed to be seized by a mixed sense of pride and threat. The juxtaposition of the two countries’ tariff lists quickly developed into a theory about what the trade war was really about: it was seen as an attempt to undermine China’s rise as a developed industrial power, with industries capable of competing at the highest level. “The trade war is but one interlude in China’s rise as a great power,” one commentator wrote in a long Weibo post.

Fluxing China’s engineering muscles has increasingly become part of broader patriotic propaganda in China. In 2013, a CCTV documentary series, “The Pillars of a Great Power“, amplified the “engineering equals national strength” narrative in the public’s mind. In Mao’s era, when China faced severe economic blockade from the rest of the world, developing its industrial might was often associated with achieving self-sufficiency. Today, honing China’s manufacturing capabilities has attained new significance: asserting China’s global competitiveness. The documentary, co-produced with the Ministry of Industry and Information Technology(MIIT), the government body overseeing the implementation of “Made in China 2025” strategy, was a tour de force of Chinese equipment manufacturing companies already occupying advantageous positions in their respective value chains: heavy duty bulldozers, high efficiency power generators, industrial robots. In one episode, a Chinese corporate executive recollected how, years ago, he and his colleagues got belittled by German engineers at a trade fair. By 2013 his company, a producer of cranes, was competing head to head with that German company globally. Similar accounts of an underdog fighting its way up abound in the series.

More recently, another CCTV made documentary “Amazing China“(the title is more literally translated as “Awesome, My Country!”) hit cinemas right before trade war talks began to heat up. The movie featured Chinese feats in building roads, bridges, high-speed trains, ports and networks. It was a visual manifestation of “industrial nationalism” at full play.

The propaganda shaped the national psyche when confronted with Trump’s provocation. The fact that the 10 sectors targeted by the US government were taken directly out of China’s catalogue of industries supported under the “Made in China 2025” strategy only intensified those sentiments. Zhanhao, one of the most-read grassroots nationalist accounts on social media, penned an incendiary Weibo post declaring that the trade war was the US’s desperate effort to “keep China in the bondage of low-end industries to be eternally exploited by the US hegemony, technologically and financially.”

Less melodramatic voices, which would not go so far as to brand Trump’s move as a calculated “Cold War” strategy to suffocate China, nevertheless saw it as a real trap in the way of a great national ascent. Multiple commentators pointed to Japan as a cautionary tale of the kind of unforced mistakes a country could make under the pressure of a trade war. “China is approaching the same sensitive spot where Japan was 30 years ago, in terms of population trends and economic conditions”, one observer noted. Improper response could cost China dearly, even ushering in its own version of the “lost decade”. He listed the four “wrong responses” China should absolutely avoid: restart real estate bubbling to hedge the potential loss of trade surplus; halt de-leveraging efforts due to external pressure; encourage households to take on more debt to boost consumption; reduce government support on new strategic industries to appease the US.

National strength vs. free trade

The conversation marks a notable departure from how trade issues have been discussed on the Chinese Internet. For years, online opinion leaders tend to hold the view that China should open its door wider, which would benefit consumers with cheaper and better imported goods and services, and, more importantly, exert much needed external pressure on the inert state-owned sector.

A 2015 article on FT Chinese summarized those sentiments. Two generations of Chinese leaders, from Deng Xiaoping to Zhu Rongji, had relied on a determined charge toward opening to integrate the country with the global market and inject much-needed energy and a sense of urgency into the reform process. Deng unleashed the nation’s productivity by removing shackles of the planned economy. Zhu spurred the system further by negotiating China’s way into the World Trade Organization (WTO). “Reformers have since then used China’s agreed deadline to meet its WTO commitments to accelerate domestic reforms of the state-owned sector and the expansion of the private sector.”

Those sentiments erupted at a few key moments in recent years, including when the negotiation of the Trans-Pacific Partnership (TPP) neared fruition in 2015, and when China’s 15-year grace period under WTO expired in 2016. Those moments invariably triggered public scrutiny of China’s fulfillment of its pledge to open up its markets, which would make desirable imported item, from cars to Hollywood films, more accessible to domestic consumers. One recurring theme in those discussions was a complaint that China never actually met its promises to the WTO, effectively taking advantage of its trading partners by winning access to their markets while restricting entrance to its own. “When China entered WTO in 2001, probably no Chinese took the 15-year deadline seriously… Nobody believed China would pay any price for violating the contract, ” a 2016 Weibo post by Huang Zhangjin, a veteran journalist and editor noted.

The pro-opening stance reemerged in the current debate in the form of support for Trump’s actions against China. A few dovish commentators said things like “Donald Trump is a godsend gift to China” and that “Chinese consumers would benefit the most from the trade war,” given the expected lowering of tariffs for imported goods and freer flow of capital and services. Some pleaded “surrender” and “compromise”, arguing that China’s unreasonable industrial policies should have been scrapped a long time ago.

But with “national rejuvenation” talks in the ascent this time around, such “capitulation-ist” voices got challenged, their core premises explicitly picked apart. “That China did not fulfill its WTO promises was a myth fabricated by the TPP camp (a trade bloc of nations excluding China),” one Weibo post stated after a Vice Minister of MOFCOM claimed that China had allowed access to 120 WTO designated business sectors, way more than the 100 it had agreed to open in 2001. In a lengthy WeChat post, Prof. Cui Fan of the University of Foreign Commerce and Trade traced the “myth” to the Information Technology and Innovation Foundation, a US think tank that produced a “misleading” list of China’s WTO entrance commitments. To the astonishment and dismay of the author, the “fabricated” list was translated and widely circulated in the Chinese cyberspace as evidence of China’s dishonest behavior. He quoted former WTO Director General Lamy as confirming, in multiple occasions, that China had fully met its commitments upon its entry into the trade club, and it was the United States whose number of violations way surpassed that of China. The issue of whether those commitments, made almost 17 years ago when the Chinese economy was way weaker than it is now, are inadequate by today’s standard, should be treated separately and “through re-negotiation.”

A telling sign of the turning tide in Chinese public opinion is social media reactions to Elon Musk’s open complaint to Donald Trump about China’s “unfair” treatment of foreign car companies.   In early March, the founder of Tesla sent out a few tweets, addressed to Trump, protesting China’s high import car tariff (25%) and coercive joint venture rules. To be clear, these restrictions, as highlighted by the above WeChat post, do not violate WTO rules, which allow developing countries to put up protection measures for their nascent industries. And Musk, despite his otherwise popularity on Chinese social media as a cultural hero, got a fair amount of ridicule for his comments. People questioned why he bellyached about the situation when other foreign car companies formed profitable joint ventures in China. Instead of supporting Musk’s plea to lower the bar for entering the Chinese market, which would potentially lower the price of imported vehicles for Chinese consumers, many opinion leaders spontaneously ran to the defense of Chinese policies nurturing its own EV industry.

ZTE complication and the “developmental state”

On Apr 10, President Xi Jinping delivered a closely watched keynote speech at the Boao Forum, re-affirming China’s commitment to global cooperation and to market openness. “Opening brings progress, while a closed door means backwardness,” the Chinese leader told his audience before announcing a series of market opening measures, including lowering import car tariffs. The second day, a MOFCOM spokesperson had to fend off interpretations of the speech as a concession to Trump’s threat, claiming that it represented a long-standing Chinese position on trade issues.

Even though it’s hard to believe that the speech was not some form of response to the trade war, there was detailed analysis showing that the high-handedness was indeed in line with earlier decisions made by the leadership, way before Trump got elected. Later developments, however, would soon put that commitment to test. 6 days after Xi’s appearance at Boao, a decision by the US Department of Commerce would send shockwaves across China and force the Chinese society into an intense round of soul-searching about its industrial ambitions.

On Apr 16, US secretary of commerce Wilbur Ross Jr. activated a “denial order” against ZTE, a Chinese telecom conglomerate, which would essentially bar any US company from exporting components and services to the Chinese company for 7 years. ZTE was accused of lying repeatedly to the US government while the denial order was in suspension after it paid a billion dollar fine and reached a deal with US authorities in Mar 2017 for violating US embargo to Iran and North Korea (it exported products containing US technology to the two countries).

The severity of the punishment already became clear on Apr 15, when a slew of US microchip suppliers, including Qualcomm, Intel and IBM, informed ZTE that they would terminate contracts, sending the latter’s production lines to a grinding halt. “The US denial of export could knock us into a coma,” ZTE’s President Yin Yimin told reporters at an Apr 20 press conference. An industry insider told Caixin magazine that ZTE’s microchip inventory wouldn’t last for another month.

The company’s predicament exposed just how vulnerable China’s telecom industry was to upstream supply shocks like this. Notwithstanding their reputation as pioneers of the country’s manufacturing upgrade and global competitiveness, players like ZTE and Huawei, which are able to compete head-to-head with traditional industry giants such as Cisco and Ericsson, nevertheless have to source core components of its products almost entirely from outside China. A widely shared chart showed the pathetic rate of domestic availability for a host of semiconductor chips.

Even though legally speaking the ZTE episode was a separate matter from the on-going trade war (investigation of its behavior started in Obama years), it inevitably got intertwined with trade war debates in Chinese social media. Ironically, the news made some nationalists almost ecstatic. Zhou Xiaoping, a notoriously provocative figure, openly celebrated the US ban as an “enormously positive development” that would force China to cast aside illusions about global interdependence and concentrate on creating its own microchips, “the spring has come for home-made chips!” Others even cited Mao-era philosophy to justify a return to complete industrial self-reliance. For economic nationalists, the incident only affirmed their belief that it was an all-out attack on China’s grand industrial ascendance. “This is a US plot to stave off China’s momentum of attaining dominance in 5G telecom technologies. The Americans are scared and desperate,” Global Times’s editor in chief Hu Xijin asserted as he mobilized support for ZTE on Weibo.

China’s state media, People’s Daily in particular, quickly distanced themselves from this brand of economic isolationism. It openly criticized Zhou’s view for being “extreme”, as it presented domestic R&D and international cooperation as “mutually exclusive”. On the other hand, the propaganda outlet also raised the flag of economic security by declaring that China would develop its own chip industry “at all cost”, after the painful realization that China is still very much at the mercy of a supply chain controlled by technologically more advanced countries.

“Extreme views” aside, ZTE’s troubles seemed to have pushed official stance and public opinion to converge on one key point: that China needs to build its own competitive processor industry. One Weibo user claimed that building the processor industry had become the new “political correctness” on the Chinese Internet. Public support for state nurturing of the industry was at all-time high. The difference was only on the question of how. In a long blog post, Liang Ning, a researcher who was deeply involved in China’s botched effort to develop its own CPU and operation system around 2001, advocated for massive government investment to be run in the fashion of venture capitals. The lesson she generated from the unsuccessful bid to open a new path not blocked by the Windows/Intel hegemony 17 years ago was insufficient funding into the field and the need for a domestically cultivated hardware/software ecosystem, which could only be achieved through an enhanced “natural selection” process on a massive scale.

Others did not agree. Government-run “venture capitals” are doomed to fail, as bureaucrats would certainly abuse their “permission to fail”, one commentator predicted. Only a genuinely incentivized healthy capital market can rise to the occasion of picking the right winners. Wu Jinglian, one of the most well-respected liberal economists, openly warned about the “danger of a state-led campaign to develop the semiconductor industry at all cost.” The old man was worried that corruptive administrative power would use the excuse to plug itself deeper into the economy. The alarmed voice found some resonance on social media, which was full of accounts of wasteful government R&D spending and the 2003 Hanxin scandal, where a former Motorola executive cheated the entire Chinese science and technology establishment by claiming to have developed China’s first 180nm chip, which turned out to be purchased Motorola products.

Nevertheless, advocates insisted that the Chinese state had a very big role to play, if not directly handing out cash to the industry. They pointed to China’s East Asian neighbors, Japan, South Korea and Taiwan as examples of “enlightened” industrial policies that led to the taking off of their respective semiconductor industries, with Samsung and TSMC now dominating the field. One commentator even came up with a full roadmap for how China’s weak microchip industry could catch up with its South Korean and Taiwanese competitors through strategic financial support from the government. The key, according to such views, was for government to help its high-potential corporates withstand the industry’s cruel business cycles: subsidize them to lower cost when they need to fight uphill price wars to snatch market shares from dominant players, reap benefits during high-demand booming years and patiently wait for an era-changing moment to complete a leapfrog. These once-in-a-generation moments came when email substituted fax and smartphones replaced PC. The next one, many believe, would be when custom AI chips become more widely used than generic processors.

No matter what route China takes with its chip industry, many commentators seem to share one presumption: it has to happen within the context of a global value chain, a functional capital market and strategic government intervention. In a 2016 article by Fudan University scholar Tang Shiping, he summarized the key factors contributing to a successful “developmental state”, a concept first advanced by Chalmers Johnson in the 1980s in his groundbreaking book about the “Japan Miracle”. Tang emphasized that an effective developmental state should play by the rules of a market economy, set industrial policies that take into account international division of labor, and most importantly, serve as a “helping hand” for a vigorous private sector, not a control-all planning machine.

This is the kind of thinking that Maoist isolationists don’t get, and neo-classic liberal economists, suspicious of all forms of state intervention, too readily dismiss. But increasingly, this is the message that the likes of People’s Daily send, and around which a social media consensus is growing: China needs strong state-guided industries that embrace the market and globalization.

Epilogue

On May 3, a high-level US delegation landed in Beijing. Chinese media described the visit as the “touching down of hawks”, as the team consisted of the most ardent China-bashers of the Trump administration: Robert Lighthizer, the US trade representative, White House trade and manufacturing adviser Peter Navarro, and Secretary of Commerce Wilbur Ross Jr. In a leaked “draft framework” brought to the table by the American side, the hawks demanded China to reduce its trade surplus with the United States by “at least 200 billion dollars by the end of 2020,” and “immediately cease providing market-distorting subsidies and other types of government support” to industries under the Made in China 2025 industrial plan.

The proposal was met with laughter and dismissal by Chinese netizens. “Those Americans came here just to poke fun at us,” as one financial observer quipped, “do not harbor any illusion about the intention of those American rightists.” Another Weibo user noted the short stay of the delegation, only for an afternoon, “this is not a negotiation. It’s declaration of a war using the trade dispute as harbinger.”

Trump’s negotiators might have misunderstood China’s state-directed economy. In a recent event, Lou Jiwei, a former Finance Minister said of the arbitrary surplus reduction target as “planned economy style” when China itself had all but given up on rigid GDP targets. They might have also underestimated the public support for the government’s industrial upgrade strategy, in part mobilized by US provocation. “If Made in China 2025 is negotiable, this Chinese administration might as well dress-up in Qing Dynasty costumes,” joked a Weibo commentator.

In response to the US proposal, the Chinese side, led by vice premier Liu He, suggested a list of counter-measures, which included cancelation of Trump’s proposed penalizing tariffs, adjustment of the ZTE denial order and a commitment to not initiate any future Section 301 investigation against China. The two sides held “constructive” discussions,  and agreed to disagree. No deal was reached, no victory declared by either side. The hawks left Beijing, leaving behind a nation more alerted and vigilant than ever about staying its course toward regained glory.

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Li Ka-shing’s Indignation

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What on earth can agitate the steely Superman? It turns out all it takes is an article written by some dubious “researcher” from a Chinese institute.

On Sept 29, the 87-year-old Hong Kong billionaire Li Ka-shing, nicknamed “Superman Li”, broke his cool by releasing to the Chinese media a statement in response to a controversy that had been raising eyebrows all over the country in the past two weeks. It started with an article titled “Don’t Let Li Ka-shing Run Away” that appeared on the WeChat platform of a major think tank run by the state-owned news agency Xinhua. In that article, author Luo Tianhao accused Li of being ungrateful and opportunistic by cashing out his real estate properties in mainland China and moving investments to Europe. It then moved on to instruct Li to do three things, with a tone at once condescending and menacing: invest in lower profit industries in mainland China; hold on to “symbolic” properties in the mainland and Hong Kong as a token of his loyalty and confidence; do more philanthropy. The author also spent a good portion of the article belittling Hong Kong’s business tycoons and highlighting their relative “dispensability” compared to the early days of China’s reform and opening.

As many Chinese observers have pointed out, the significance of that particular article is probably overblown by its somewhat unfortunate pick-up by the Xinhua-affiliated think tank. Likely what happened was that some inexperienced editor in charge of its WeChat account innocently carried it without realizing the potential explosiveness of its content. Commentators also dug out the bogus nature of the author’s numerous self-claimed titles, revealing that he was nothing but an aggressive self-promoter.

In a society where the ruling elites are accustomed to communicate in codes and hide political intentions behind cryptography, the probability of the signal-hungry public to misread or over-interpret things runs high. But even if this is a classic example of overreaction to an essentially trivial piece of opinion, the waves it stirred up and the fact that people so naturally associated it with some sort of high-level intention speaks to a deep-rooted concern that had been fermenting over this past summer.

Economists were among the first to cry foul of the mentality embodied in the article. They dubbed it “anti-market” and maintained that Li Ka-shing’ accumulation of wealth in the mainland was essentially a market phenomenon and should be encouraged. Applying moral judgments on market transactions (including cashing out) is going to affect the business community’s confidence in the system itself. The same sentiment also defines the reaction to the government’s botched effort to rescue a sliding stock market in the summer. Instead of “letting the market play a decisive role”, the authority displayed an assortment of administrative weaponry: suspension of IPOs, banning short selling and arresting a journalist whose exclusive report about the possible wrapping-up of governmental rescue efforts sent the market downward again. In both the Li Ka-shing and the stock market cases, observers sense the ominous encroachment of the logic of power into the sanctity of the marketplace, the former features demagogy, mass mobilization and coercion, while the latter run under the principles of contractual spirit, mutual consent and free will.  People satirically refer to the authority’s stop-running-away mindset as “the foundation of this strong nation” and a “panacea” to every conceivable problem the country faces.

But as business writer Wu Xiaobo writes, in the case of Li Ka-shing, as in many Hong Kong tycoons of his generation, the line between politics and market is never that clear-cut. He even considers Li the symbol of a business philosophy that treasures and embraces the partnership with an ascending power. By supplying the power with much needed capital and support, Li got handsome returns from his investment and therefore became the “biggest winner of China’s transition.”

That ambivalent relationship with power becomes an original sin that Li’s critics exploit. The author of the original article argues that since real estate development in China is almost impossible without some forms of governmental “benevolence”, Li’s cashing out is no less than an equivalence of betrayal. His status as the richest Chinese man on earth (only recently taken over by Wanda Group’s Wang Jianlin) also means that every move he takes carries a symbolic meaning beyond the transaction itself. As early as 2013, when Li’s initial shift of his portfolio to outside mainland China and Hong Kong drew public attention, Wang Shi, president of one of China’s largest real estate developers, sent out a Weibo post reminding everyone: “The very shrewd Mr. Li Ka-shing is selling properties in Beijing and Shanghai. This is a signal. Be careful!” And when China’s economic troubles make business transactions, be it stocks or real estate properties, an issue of allegiance, Li finds himself caught in a spot utterly uncomfortable.

It is particularly unfortunate that Li, a man who builds his life time of business career on optimally timed transactions on a global scale and an extreme prudence in cash flow management, would have to respond to morally charged allegations of ingratitude and disloyalty. Li’s Chinese biographer, Xu Zhiyuan, once compared Li with the likes of John D. Rockefeller, Henry Ford, Bill Gates and Akio Morita, all of whom were short-listed for the London Times’s 1999 award of the “Entrepreneur of the Millennium.” Unlike his great peers who had either enjoyed large home markets or generous government support, Li launched his business from a tiny free port city. From the very beginning he had to face the global market or perish, and up until this point his global portfolio still stands out among Chinese businesses.

His relationship with mainland China has also been complicated. Originally coming from Guangdong province, he spent a good part of his adolescent years sending back money to his mother and siblings who remained in the mainland while he struggled to make ends meet in Hong Kong, where his father died abruptly of tuberculosis and he himself almost died of the same disease. It was this attachment to his hometown that brought him back in the 1980s to set up the first university in the region of Chaoshan, so that kids from the same modest roots as his could receive first-class education. A 2013 profile of Li in a Chinese magazine also took note of his interactions with then Chinese leader Deng Xiaoping. Even though Deng individually received Li twice in 1986 and 1990, an absolute privilege, it was until after Deng’s 1992 speech in Guangdong that finally inject confidence in Li of China’s future. As a perfect example of his signature prudence, Li only started large scale investment in the mainland after that point, which sets him apart from Hong Kong’s other pro-Beijing tycoons who got into the game much earlier.

Xu, his biographer, noticed a sort of “unsophisticated patriotism” in Li. “His generation has experienced violent turbulence (in modern Chinese history). They have a special craving for a wealthy and strong China, and a deep affection for its traditional culture. For them, China is not only just a market. It’s an identity and a place where they can help change.”

This probably explains the tone of Li’s response to the article which sounds hurt and indignant. It is already quite unusual for the old man, who largely stays out of the spotlight, to make such a statement to begin with. The brief press release to the Chinese media contains a distinct personal touch of Li Ka-shing. In response to allegations of him being “unpatriotic”, he listed contributions to the mainland through his multi-billion dollar foundation, in particular the Shantou University endeavor which he dedicated more than a quarter of a century of his time. He quoted Su Shi, the poet from a thousand years ago, to describe his own sense of belonging: “Where my heart finds its inner peace, I call it my homeland.”

He strikes back at the article as “chilling” and representing a “cultural revolution mindset.” Yet while he defends his business decisions as based on a sound and common-sensical logic detached from political considerations, he also makes a gesture that shows his acute sense of his place: “We should not let this meaningless fight over words to become the focus and a distraction from the important message that President Xi tries to send through his state visit to the United States.” The old man, the second richest Chinese on this planet and a self-described “compassionate lion”, is following the thousand-year-old tradition of the Chinese merchant class: showing his subordination to his King.

From “Crazy Chen” to “Made in China 2025”

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We first met “Crazy Chen” at the Hong Kong Football Club two weeks ago. The venue still retains a somewhat cute residue of colonial snobbishness (alert: you are not allowed to make calls with your mobile phone in this venue, but the vintage landline phones at the lobby are ok!). It was part of a two-week workshop for professionals from major global corporations (banks, funds, insurance companies and manufacturing corporations) and non-governmental groups to better prepare themselves for the challenges of the 21st century, with a focus on Asia. A key component of the workshop was to spend a week with a real Chinese SME (small and medium-sized enterprise) to help it solve problems and in return gain some insights for ourselves.

When this Wuhan-based businessman refers to himself as “Crazy Chen”, you know it carries a sort of pride in it. It’s not lunatic crazy. It’s Steve Jobs crazy. He is the Chairman and founder of this Chinese start-up that makes a kind of environmentally-friendly plastic (I will not reveal too much technical details here). As someone who moved from real estate into manufacturing at the age of 54, Chen carries the mixed disposition of new money shamelessness and entrepreneurial respectability. He spent the first ten minutes of his speech boasting about how rich he was (he had a dozen debit cards each containing over 5 million RMB). He used inappropriate language to refer to women (a common feature of Chinese men of his age). He even bragged about how young he looked (indeed he did not look like someone over 70. Not sure how much money he had spent on cosmetics). On the other hand, his personal story of self-elevation does carry a flavor of legend on the verge of mythology. He decided to pursue a master’s degree in polymer science well after middle age, with almost zero preparation in math and English (two key subjects of the entrance exam). He claimed that he mastered math by himself within a few month and gave up completely on English (got only 26 in 100). Even so he still managed to get into one of Hubei province’s major universities and got his degree in a few years. Through the exposure to the academic world he developed this weird idea of citations: that citation means borrowing from others without innovation. And he wanted to do something new. So he started to spend long hours in his laboratory developing new materials, materials that are more friendly to the environment than traditional fossil based plastics. He claimed that once he stood in the lab for a straight seven days without rest. After he got home, his legs were so swollen that his wife had to use a scissor to cut off his pants before he could get into bed. He fell into sleep and stayed in a coma-like state for 48 hours.

When the 25 of us landed in Wuhan last week, we were immediately shuttled to Chen’s company headquarters, the fruition of his crazy hard work in the laboratory. The company is now managed by his son, “Crazy Chen Junior”. He brought us to our first stop inside the office building, a fancy showroom with all their products, certificates and awards on display. Two years ago, China’s President Xi took some interest in their products when he visited Wuhan. And not surprisingly his picture was featured prominently in the exhibition.

Our immediate next stop was their research labs which they seemed to take particular pride in. The director of their R&D department, a young petite woman, showed us around and introduced the working of their equipment and devices. The labs betrayed a resemblance to those rudimentary ones that you saw in high schools. But the company’s technological edge is not to be underestimated. It held dozens of international and national patents and was among the first Chinese companies to have had received the most stringent certificates from Europe and Japan for its materials. At this point I realized that this was not a poster boy Chinese SME that was complacent in making quick money by manufacturing fake Louis Vuitton handbags or tainted food. It is a technology driven enterprise that represents the break-away from the stereotype “made in China” workshops.

Yet the company was in trouble.

The reason why its management invited us to Wuhan was that it’s stuck. As a new material start-up, it was stuck in making two things: garbage bags and disposable utensils. It was not a very comfortable place to be in as a company. For one thing, it was a low-end, low-recognition category where price competition was fierce and no brand loyalty can be expected. Their biggest markets are those street-side restaurants and wholesalers who sell to those restaurants. But such customers are extremely price sensitive and would strive to cut corners particularly on items like disposable utensils. In this area the company faces formidable competition with cheap plastic products, especially at a time when oil price is at its low point. The policy environment isn’t giving them any edge against its competitors either. For years Chinese cities talk about setting up garbage separation systems and composting facilities which would favor more degradable eco-materials over non-degradable plastics. But such efforts are often fitful and are constantly stalled by a lack of political will and incentives. One city in China took the drastic approach of banning non-degradable plastic bags at the beginning of this year, but it was seen more as an exception reflecting the personal inclination of the mayor rather than a future norm. When we met with a group of municipal officials last week to discuss about this issue, their attitude was visibly tepid. I sensed it when they started to lecture us about the “complexity” of the issue. The underlying message was two-fold: first, they were not ready to disrupt the powerful industry of plastic makers; second, they fear if they did take measures, the “Crazy Chens” and their companies would not be able to bring production to a scale that would fill the opening, which would undermine the legitimacy of such policies.

Sadly, a country perplexed by its ever increasing stream of urban wastes is not ready to pay for an eco-friendly option yet. Left on its own, the company tried to move up the ladder of values by creating its own brand name products and found its way into large supermarkets where middle class consumers picked their household products. Unfortunately, even on those shelves they were unable to collect a premium due the lack of consumer awareness and demand for eco-friendly products. Worse still, they saw themselves squeezed on both ends by better known paper and plastic products on the one hand, and surcharges from the supermarkets on the other, in the form of “listing fees” and promotional expenses. To stay competitive, they had to keep their margin at close to zero or even negative in some cases.

The Chens have their rationale. They would like to make their material more visible for a wider audience to see its possibilities and potential. The retail adventure therefore morphed into an expensive marketing undertaking. The sad thing, though, is that people do not associate garbage bags and disposable stuff with a cutting edge material of the future. And the disposable nature of the products probably turns the really eco-conscious customers away. After all, the “throw away” culture is an antithesis to conservation, which is intrinsically contradictory to the image that the company would like to build.

After a few late night soul-searching sessions with “Crazy Chen Junior” and his management team, we began to realize where the problem was. The company’s core technical edge lies in its “resin”, for which they possess all the patents. Like Coca-Cola’s secret syrup that it sells to bottlers all over the world, the “resin” can be mixed with regular plastics such as PP and PE to create materials with new properties. They are the largest producer of this niche material in China, and the second largest in the world. Its key advantage is the lower carbon footprint and higher degradability compared to fossil-based counterparts. Being located in China, close to the world’s largest manufacturing powerhouse, also gives it an edge against international competitors. But these advantages are all based on a scenario where it sells its “resin” directly, which also gives it a higher margin.

Here comes the pitfall: there is a huge risk in this scenario, which is associated intellectual property. Their biggest fear is that Chinese copycat competitors can easily reverse engineer the resin, wiping out whatever technological edge they still enjoy today. The answer to this challenge is “camouflage”: mixing the resin with other plastic materials to render the resin indecipherable. To do that, they have to source such materials from the open market, allowing their margin to erode in the process. Moreover, they have to invest in blending facilities to be able to blend the resin with other materials. Essentially, it means they’d turn themselves from a Coca-Cola to a bottler just to protect their own syrup. But in China there are tens of thousands of converters who are better at this kind of blending job with a larger economy of scale. That’s why they have to move into consumer products in order to generate more added-value out of the blended material. They are even careful enough not to purchase its production lines in their entirety, but to buy parts separately and then combine them by themselves, which further undermines efficiency. The purpose is again to prevent competitors from following suit. All these factors cut into their profit and keep their bleeding wounds open.

This revelation makes me a bit frustrated. In the end, all we could do to help was to build a business model for them showing that a resin-based business is better for the company. Yet we all realized that they had known it all along. It’s the circumstance that had prevented them from moving toward that direction.

On May 18 this year, the Chinese central government unveiled its ambitious plan of “Made in China 2025“, with an intention to “upgrade” China’s manufacturing sector. In later speeches, China’s Premier Li Keqiang made it clear that his country was no longer content of making T-shirts and other low-end consumer products. He would like to see its massive manufacturing prowess turned towards industrial equipment, telecommunication and new materials, among others. This is not a simple re-configuration of the country’s manufacturing portfolio; it represents a change of business model that would allow Chinese companies to move up the value chain in the global market. A model based on the export of high-speed trains and commercial airliners is qualitatively different from one that’s based on selling toys and cheap plastic cups. But the plight of the “Crazy Chens” speaks to the challenge that lies ahead. The pains that those Chinese SMEs has to take in order to move one tiny step up the value chain illustrates the distance between a vision and the reality.