China Shuts Out GE as Homegrown Rivals Promoted Over Westerners

By Bloomberg BusinessWeek
March 26 (Bloomberg) -- Not so long ago in China, Western
business executives traveling to the provinces could expect a
hearty welcome and a banquet with endless toasts of maotai
liquor. In February, representatives of General Electric Co. and
a dozen more U.S. companies got a taste of the way commercial
relations have been changing.
They were in Wuhan, a city of 9 million on the Yangtze
River, for a seminar on water-treatment technology organized by
the U.S. embassy. At a dinner after the meeting they were
supposed to have a chance to mingle with top local officials. At
the last minute, Wuhan’s mayor canceled his keynote speech and
backed out of the gathering.
That same day the provincial party secretary and governor
begged off a separate event for American Ambassador Jon M.
Huntsman Jr., Bloomberg BusinessWeek reported in its April 5
issue. One attendee who declined to be identified speculates
that the Wuhan officials were responding to direct orders from
the central government in Beijing not to meet the Americans. The
provincial government acknowledges that the original lineup was
changed and notes other officials attended the events.
Nearly a decade after China’s entry into the World Trade
Organization, many foreign companies say the warm reception they
once received has turned frosty. While China can still be highly
profitable, some question how long that will last as Beijing
changes the rules to give a lift to its domestic companies,
especially state-owned enterprises.

Unlevel Playing Field

A new government procurement program known as “indigenous
innovation” features rules favoring local firms: It could block
sales worth billions of dollars a year, says Joerg Wuttke,
director of the European Union Chamber of Commerce in China.
Beijing has written strict standards for everything from
cell phones to cars, often couching them in a way that gives an
advantage to domestic producers. A recently revised patent law
could force foreign companies to hand over key technologies to
Chinese bureaucrats. And anti-monopoly regulations have been
used to limit foreign access to sectors such as construction
machinery and energy.
“They have moved away from a level playing field to
benefit their own companies,” says Wuttke.
Trade associations can speak more openly. A Jan. 26 letter
to the White House from the U.S. Chamber of Commerce, the
Business Software Alliance, and more than a dozen other groups
representing hundreds of multinationals such as Microsoft Corp.,
Boeing Co., Motorola Inc., Caterpillar Inc., and United
Technologies Corp. warned of “systematic efforts by China to
develop policies that build their domestic enterprises at the
expense of U.S. firms.”

‘Safer Environment’

The signatories asked the Administration for its “urgent
attention to policy developments in China that pose an immediate
danger to U.S. companies.”
The perception that China is tightening up is causing
friction elsewhere. According to a statement released by India’s
Press Information Bureau, Indian Prime Minister Manmohan Singh
told a panel on March 23 that Dell Inc. wants to move
procurement from China to a “safer environment” with “climate
conducive to enterprise.” He cited a conversation he had had
with Dell Chief Executive Officer Michael Dell.
Dell later disputed Singh’s summary of their conversation.
The release was removed from the bureau’s Web site after
officials from Dell contacted the Indian press office, said
Minari Shah, a Dell spokeswoman. Harish Khare, a media adviser
to Singh, declined to comment.

Huawei, Geely

Why a chill now? Chinese look across the landscape of their
economy today and see much that could be improved. After 30
years serving as the workshop of the world, mainly producing
low-value goods for foreign brands and distant markets, they
want to move up the value chain.
To date they have only been able to capture a fraction of
the value of a Nike Inc. shoe or Apple Inc. iPhone. And they
know they have a poor record in creating global brands.
Apart from telecom equipment maker Huawei Technologies Co.,
notebook giant Lenovo Group Ltd., appliance marketer Haier
Group, and perhaps consumer electronics maker TCL Corp. and car
companies Zhejiang Geely Holding Group Co. and Chery Automobile
Co., they have few champions. Even at home, General Motors and
Volkswagen AG vie for the top spot, while Nokia Oyj sells the
most handsets of any company in China, with a 32.9 percent
share.

Increasing Investment

“People feel that foreign brands have taken too much
market share,” says Wang Yong, director of the Center for
International Political Economy at Peking University.
Although China has been able to build a $227 billion trade
surplus with the U.S., its manufacturing might has brought it
pollution and energy waste. The Chinese want something better.
“They want sophisticated international companies and they
want to give them a leg up,” says Brookings Institution senior
fellow Kenneth Lieberthal.
The Chinese drive resembles Japan’s efforts in the 1960s to
become a global player, though China has opened up much more.
Foreign companies have invested some $600 billion into China
since 2001. Even as friction began to rise, U.S. companies
increased their investment from $2.9 billion in 2008 to $3.6
billion last year.
On top of all this, China has emerged from the global
financial crisis largely unscathed. As a result, political
analysts say, Chinese look at the rest of the world and feel a
lot less awe and admiration than they once did.

Asserting Own Interests

There is also a sense that the previous leadership of
President Jiang Zemin and Premier Zhu Rongji gave away too much
-- such as slashing tariffs on agricultural products and ending
local-content requirements for foreign automakers -- in their
desire to enter the WTO. Now, China feels it should assert its
own economic interests. If that involves throwing its weight
around, so be it.
Finally, China sees how other countries -- notably the U.S.
-- have used standards, regulations, and buy-local policies to
build their own industries. Beijing feels more than entitled to
do the same. The U.S. Trade Representative’s Office started 28
cases against Chinese companies last year.
And “states like California have wide latitude in their
procurement policies, so they can give American companies an
advantage,” explains Nicholas Lardy, senior fellow at the
Peterson Institute for International Economics.

Still Welcome

If foreign companies complain publicly -- which they often
don’t, since Beijing has shown itself capable of using
inspections, delayed approvals, and courts to make life
miserable for those who speak out -- China now usually says,
show us where we are violating WTO rules.
China’s leadership doesn’t want the situation to spin out
of control. The Commerce Ministry has assured foreign investors
they are still welcome, and on March 2 officials met with
executives from more than two dozen companies and associations
to hear their concerns.
At the close of the National People’s Congress on March 15,
Premier Wen Jiabao told reporters the government would try “to
level the playing field for foreign companies.”
Wen also met with foreign delegates at the China
Development Forum on March 22, saying trade and currency wars
“won’t help us cope with difficulties but just curb
cooperation.” Ambassador Huntsman declared himself “convinced
that blue skies are already on the horizon” in a speech at
Tsinghua University in Beijing a few days earlier.

Intellectual Property

Investment keeps rolling in. Ford Motor Co. has recently
been ramping up in China. And with President Hu Jintao expected
to visit the U.S. this year, both sides will no doubt extend
olive branches before he arrives.
Some cool-headed analysts call the current complaints
overblown. Charles Freeman, a China expert at the Center for
Strategic & International Studies in Washington, argues that
Beijing can’t shut out foreigners because it needs their
intellectual property: China’s technology lags Western,
Japanese, and Korean efforts in many key sectors.
Chinese wind turbines, for instance, are inferior to
products made abroad, he says, but wind is key to Beijing’s goal
of weaning itself from coal power.
“They won’t wait for Chinese innovation,” says Freeman,
who served as chief China trade negotiator for the U.S. Trade
Representative in the George W. Bush Administration. “They will
choose American, European, or Japanese products that are
cheaper.”

Google Glare

Those are sensible comments. Yet the frictions are
mounting. The largest potential troublemaker is the fight over
China’s currency, the yuan. On March 16, a group of U.S.
senators unveiled a bill to levy tough sanctions against China
for manipulating its currency to promote exports.
Brookings’s Lieberthal says the economics of that argument
are weak: A 20 percent appreciation of the yuan would just
cheapen China’s cost of imports, like oil and iron ore, that it
uses to make exports, so the final costs of U.S.-bound products
would rise only slightly.
The yuan is a political issue, though, and things could get
ugly whatever the economic arguments. The flap over Google
Inc.’s exit from China over censorship rules adds heat to the
U.S.-China debate, even though it has nothing to do with
currency or trade protections.
China, meanwhile, sees a weak U.S. economy as a threat to
the value of its vast holdings of Treasury bills. And Beijing is
livid over the arms sales to Taiwan, President Barack Obama’s
February meeting with the Dalai Lama, and a March 11 State Dept.
report criticizing China’s human rights record.

Policies of ‘Favoritism’

The efforts to develop homegrown technology are what’s
really worrying U.S. business.
Beijing has crafted “very direct policies of favoritism
for Chinese state industry that are hitting foreign companies,”
says James McGregor, author of a book on investing in the
mainland and former chairman of the American Chamber of Commerce
in China. “We are seeing a sea change.”
New rules giving preference to Chinese suppliers for
government projects make it difficult for General Electric,
Denmark’s Vestas Wind Systems A/S, and other foreign wind
turbine manufacturers to win contracts in China, a market worth
some $14 billion annually.
Hewlett-Packard Co. says China’s consumer protection agency
has criticized its handling of warranties and repairs for
certain notebook computers, the first time in memory the company
has had such troubles. On March 16, officials in Zhejiang
province impounded clothing made in Europe by Versace, Hugo
Boss, and other luxury brands. A government agency said many
garments failed quality or safety tests, a claim vigorously
rejected by the companies. And last year international express
mail carriers were barred from domestic deliveries of letters
and documents.

Kick in ‘Teeth’

The rule “is unfair and ... it’s bad for China to keep the
international companies out,” United Parcel Service Inc.
Chairman D. Scott Davis told analysts in a conference call last
fall. “It seems kicking the foreigners in the teeth is in these
days,” says American consultant Duncan Clark, a 15-year
resident of Beijing.
China’s membership in the WTO was supposed to make things
easier on foreign investors, who used to be treated like honored
guests and wooed with tax breaks and free land. After President
Hu Jintao and Premier Wen Jiabao took over in 2002, things
started to cool.
That has left multinationals far less bullish on China.
While foreigners have made substantial profits on the mainland,
last year confidence about future earnings took a tumble,
according to separate surveys from the U.S. and European
chambers of commerce.

Tires, Steel Pipes

Both groups report a majority of members make money in
China, but the ranks of the profitable are shrinking. A third of
European companies now say they’re optimistic about future
profits, down from half the previous year. In a separate survey
by the American Chamber in Shanghai, 39 percent of companies say
revenue fell in 2009, the largest number since 1999.
Tit-for-tat actions against Chinese tires and steel pipes
and American chicken could flare into a full-blown trade war.
Washington is mulling whether to respond to Chinese favoritism
by seeking punitive measures against Beijing at the WTO and the
U.S. International Trade Commission, says a senior Commerce
Dept. official.

Tax Breaks, Subsidies

“What worries me is that the Chinese-American relationship
is becoming more antagonistic,” says Kai-Fu Lee, a former
senior executive for Microsoft and Google in China. “That is
not healthy.”
Much of the angst stems from the indigenous innovation
policy. First introduced as an ill-defined national goal several
years ago, the initiative gathered speed last fall when Beijing
began offering tax breaks and subsidies to Chinese companies and
gave them preference in state contracts.
Provincial and municipal governments across China have
issued lists of everything from mobile phones to traditional
herbal remedies that can be purchased by their agencies.
Hardly any include goods made by foreign companies, even if
they’re produced in China. Shanghai, for example, released a
list of over 500 approved products -- Lenovo PCs, solar panels
from Chaori Solar and more. Only two items come from enterprises
with foreign ties.
Such policies aren’t in violation of WTO rules, since China
hasn’t yet signed an agreement that covers government
procurement. Although Beijing says it aims to sign this year,
that may not have much meaning, since it has asked for a phase-
in period of 15 years.

Crossing a Line

A key issue will be whether China defines government
procurement to include schools, hospitals, and state-owned
enterprises.
A broad definition could put billions of dollars of sales
of tech goods off-limits for non-Chinese companies.
“These rules in essence will keep out not just American
companies over here but also [block sales by] American companies
operating in China,” says John Frisbie, president of the U.S.-
China Business Council, a Washington lobbying group representing
more than 200 multinationals such as International Business
Machines Corp., Citigroup Inc. and Microsoft. Beijing, he says,
has “crossed a line.”
A patent law that took effect in October includes a rule
that would force companies to file patents or trademarks in
China before doing so overseas if they want to qualify for
government procurement.

Trade Secrets

Companies say that makes it impossible to sell any product
developed overseas and would give Chinese bureaucrats access to
trade secrets. The law could compel companies that use patents
to “compete unfairly” -- as defined by a vague 2008 measure --
to release them for use by rivals.
Foreigners rarely push back publicly for fear of angering
the Chinese, and often refrain from taking legal action because
they feel the justice system favors domestic enterprises. “We
complain but we don’t sue,” says Mark Cohen, an attorney at
Jones Day in Beijing.
That attitude was reinforced when French electronics maker
Schneider Electric last April settled a three-year-old patent
dispute with Chint Group, a maker of products such as
transformers and circuit breakers, for $23 million.
Western attorneys familiar with the case say Chint had
actually lifted Schneider’s technology, not the other way
around. Thomas Pattloch, IP officer for the European Delegation
in Beijing, says the case illustrates so-called junk patents
used by the Chinese against companies whose patents they have
infringed upon.
“The court did everything they could to ignore the
evidence Schneider presented,” says Pattloch.
A Schneider spokeswoman says the company disagreed with the
court’s initial decision and declined comment on the settlement.
Chint disputed the account but declined to provide details,
citing a privacy agreement. The court didn’t respond to requests
for comment.

Buried in Regulation

Beijing’s penchant for rule-making has created another big
barrier. Every year, China issues more than 10,000 new standards
governing industries from mobile phones to autos. That’s more
than the rest of the world combined, says Klaus Ziegler, the
standards officer at the delegation of the European Commission
to China.
The rules, ostensibly to protect the health and safety of
consumers and to ensure that products will work in China, are
often crafted in a way that boosts Chinese companies, foreign
investors say.

Stoves, Software

Germany’s Continental AG must grapple with rules mandating
that all tires sold in the country be imprinted with Chinese
characters and other mainland-specific information. Although
there’s a global standard for such specifications the Chinese
insist on their own rules -- so Continental and other tire
makers must make scores of special molds that cost nearly
$70,000 apiece.
That’s not a huge problem for mass-market tires, but it can
devastate profits on specialty products such as tires for
industrial vehicles.
Gas cooking stove makers faced similar problems. Buried in
the 50 pages of regulations about gas-fired appliances is a
clause that says burners must withstand temperatures above 700C.
That’s higher than standards elsewhere, and it means burners
can’t be made of aluminum -- the material most commonly used by
European manufacturers.
The result: Several Italian manufacturers were shut out,
says EC standards officer Ziegler. “China eliminated those
Italian producers,” he says.
Chinese software piracy is “intractable” and “deprives
U.S. software companies of literally billions of dollars each
year,” Robert Holleyman, president of the Business Software
Alliance told the House Foreign Affairs Committee on March 10.
In another side of the software issue, an executive
familiar with German software maker SAP AG says Beijing offers
tax breaks and other incentives to companies that buy products
from local rival Kingdee International.
Kingdee didn’t respond to requests for comment, and SAP
declined to address the issue.