China’s tech future: pirate or innovator?

Beyond the trade war, what does the future hold for Chinese tech innovation?

Viewpoint

Western governments and companies routinely complain about the practice of “forced technology transfer” (FTT) in China, but are these grumbles justified? And beyond the trade war, what does the future hold for Chinese tech innovation?

The autos model

Not all sectors have been equally affected by FTT and research by Dan Prud’homme, associate professor at EMLV Business School in Paris, shows that “lose the market” policies proved particularly effective in high-speed rail during the 2000s. He noted that foreign firms that participated in FTT during that time – Siemens, Alstom, Kawasaki and Bombardier – unintentionally helped create CRRC, the Chinese company that now dominates the global high-speed rail industry.

But in other sectors, Western companies have been able to use joint ventures with local partners to their own advantage.

Take the car industry: Over the past 10-20 years, Western automotive companies have sounded alarms over technology transfer in China. In reality they have benefited a lot from the opening and widening of the Chinese market, to a much greater degree than Chinese companies have benefited in terms of gaining technology. Since the financial crisis hit auto sales a decade ago, big US and European car manufacturers have sought access to the fast-growing Chinese market. For the most part they have done so while successfully protecting their technology.

As part of its recent package of reforms, China has announced it will lift the 50-percent cap on foreign ownership of joint ventures; BMW says it plans to increase its half share in a venture with Shenyang-based Brilliance China Automotive Holdings to 75 percent when the law change comes into effect in 2022. Other car manufacturers such as Daimler are expected to follow suit.

The change in the rules signals the Chinese government is willing to see how domestic companies fare without the support of foreign branding and marketing expertise. Unlike Japan or South Korea, China has struggled to create a “national champion” auto manufacturer that can compete on the global stage, although companies such as Geely, which acquired Volvo in 2010, are progressing quickly in electric car technology. Other Chinese firms have spied opportunities to make inroads in the global supply of auto parts, such as airbags.

China’s domestic auto parts industry is developing quickly; not so much due to FTT but through targeted investment and acquisitions. Shanghai-based Joyson Electronic, for example, has been on a buying spree, acquiring German and Japanese suppliers. It aspires to be a credible global competitor to Robert Bosch, Continental and Aptiv, although it has yet to prove it can make a serious impact beyond China.

Semiconductor tension

The complaints over technology transfer have a sharper edge in industries such as IT, robotics and semiconductors, which have been prioritized by the Chinese government.

China is keen to upgrade its current manufacturing base, and as the country develops, China is aware of the risk of getting caught in the middle of the value chain between countries that offer low-cost outsourced labour and nations where manufacturing is of better quality, such as the US and Germany.

In particular, China wants to curb its reliance on foreign technology such as computer chips; it currently spends more on importing semiconductors than it does on oil. It has been unable to close the gap through foreign acquisitions, which tend to be blocked by wary Western governments. The US, along with South Korea, enjoys a commanding lead in chip technology and is fiercely resisting China’s attempts to buy expertise to catch up.

One consequence of such protectionism is that leading dynamic random-access memory (DRAM) chip makers have gained a defensive moat against fast-growing Chinese rivals, at least in the short term.

Chinese companies, such as state-owned Fujian Jinhua Integrated Circuit, had been catching up with the biggest DRAM producers amid allegations of IP theft from Micron and others. But in 2018, the US government banned American companies from supplying it with parts, which made it impossible for Fujian Jinhua to operate.

Faced with these political obstacles, China may have to develop the requisite semiconductor expertise the hard way, through long-term investments in training and R&D (it has reportedly earmarked US$100-150 billion of public and private funds for this goal).

Creating market-leading semiconductors has become harder as chips get physically smaller, which is slowing the progress of the leaders and may yet give China an opportunity to catch up. And emerging industries such as the Internet of Things do not require cutting-edge chips, only the kind of middling semiconductors China is already adept at developing.

What is more, the power of the US to maintain its lead through punitive measures on foreign companies is somewhat constrained by the intricate global supply chain for semiconductors – each chipmaker relies on several thousand specialized component suppliers. Consider Trump’s move to ban US firms from supplying Chinese telecoms company ZTE, which had been accused of violating sanctions in Iran and North Korea. This brought the Chinese company to its knees – but so many American firms were caught up in the economic fallout that the ban was quickly reversed.

Gunpowder, paper, movable type, the compass, the mechanical clock, alcohol, silk, tea drinking, porcelain, toothbrushes: China has a long history of inventions that are copied by other nations. As it rediscovers its knack for world-changing innovations, the arguments over technology protection could soon become a two-way street.

Alessandro Rovelli is senior corporate analyst and Xiaoyu Liu is emerging market equities fund manager, Aviva Investors.

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Date

26 Jun 2019

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