Business Enterprise and Innovation in China

The 21st century has been called “The Century of Asia” with China clearly leading the pack. One of the driving forces behind China’s economic success to date has been the country’s ability to respond to an increasingly globalized and competitive marketplace through innovation and hard work. Although a hard work ethic has been a formative ingredient in contributing to China’s success to date, there have been some mixed results when it comes to developing and promoting technological innovations. On the one hand, China has succeeded brilliantly where many other countries have failed in transitioning from its former state-owned enterprise economy to a free market economy. On the other hand, though, the Chinese “old guard” continues to pursue economic developmental initiatives in ways that can stifle innovative developments. To identify the salient features of the business environment that are most likely to impact on China’s innovation activities, which industries will likely be involved, and the major obstacles that remain in place, this paper provides a review of the relevant literature, followed by a summary of the research and important findings in the conclusion.

Review and Analysis

Background and Overview

While no one can predict when an innovative concept will strike, what is known is that innovative practices are essential to achieving a competitive advantage in an increasingly globalized marketplace (Lin & Lin 2010). Given its spectacular economic growth in recent years, many observers might believe China has placed a high value on innovation to help fuel its economic development, but this view is only partially correct. In this regard, for the past 4 decades, China in fact succeeded in transitioning itself from a closed, centrally planned economy to a free market system that is playing an increasingly important role in the global marketplace, with China becoming the world’s largest exporter in 2010 (China 2011). The reforms that were implemented by the Chinese government to achieve this transition have been cited as being responsible in large part for the ability of Chinese firms to innovate where other countries have failed. For example, Gu (1999) reports that a number of features of the Chinese reform programs have facilitated innovative practices in Chinese industries in sharp contrast to the experiences of the former Soviet republics in Eastern and Central Europe.

This relentless economic growth, though, has not always been based on innovation but has rather been the result of ongoing oversight, and in some cases interference, with the private sector and even a reversion to some previous state-controlled policies (China 2011). For instance, according to U.S. government analysts, in some cases, the Chinese leadership has considered it in their best interests to nationalize certain industries as being essential to the country’s economic security (China 2011).

Despite such minor political backsliding, China’s performance over the past 30 years has truly been impressive. In this regard, U.S. analysts add that the series of reforms implemented by the Chinese government have had an impressive effect on GDP growth which has increased by more than 1000% since 1978 (China 2001). In fact, by 2010, China had become the second-largest economy in the world after the United States when measured on a purchasing power parity basis (China 2011). As a result of these gains, Chinese industrial and agricultural output surpasses the United States but per capita income remains lower than the world average (China 2011).

Recently, an increase in the Chinese domestic demand has also created an increased demand for imports which grew by 6.2% during the third quarter 2009; furthermore, new jobs have been created, primarily in the service, construction, and public sectors while employment in the export sectors has declined somewhat, a sign of the transition from a strictly export-oriented economy as well as the growing economic clout of the Chinese middle class (China quarterly update 2009). Nevertheless, China’s exports continued to experience strong growth as well based in part on the increasing competitiveness of the country’s manufacturing industry (China quarterly update 2009).

The Chinese government’s most recent Five-Year Plan (March 2011) stresses the need to target the country’s domestic markets in order to reduce reliance on exports but analysts expect only moderate success in achieving these ambitious goals by the end of the year (China 2011). In this regard, U.S. analysts predict that the Chinese economy is well situated to continue impressive growth in the coming years, and the Chinese government had pledged to continue its drive to increase domestic consumption to wean the economy off of its current export base.

China’s gross national income (constant LCU) in trillions for the period 1991 through 2010 is shown in Figure 1 below.

Figure 1. Chinese Gross National Income (constant LCU) (in trillions)

Source: Based on tabular data at http://search.worldbank.org/all?qterm=chinaconstantprices

Innovative Industries in China

Currently, there are signs that the most innovative industries in China are those that have a proven track record of success to build upon, including the life sciences, nanotechnology, high-speed computing and communications as well as fuel cell technology, among others (Simon 2009). Indeed, the younger generation of Chinese professionals who is taking the mantle of leadership today will become the innovators of tomorrow based on their recognition and appreciation of industry best practices, wherever they may be found (Simon 2009). In this regard, Simon emphasizes that, “Members of this talent community, large numbers of whom will have spent time abroad for work and/or education, will represent the cutting edge of an emerging wave of Chinese technological entrepreneurs who will help to redefine the operating environment for knowledge creation and innovation in China by introducing successful Western practices” (2009, p. 30). This point is also made by Kriz and Keating (2009) who report the current cadre of Chinese students being educated aboard numbers more than 100,000 and these professionals will be well poised to bring newfound innovative practices, generate new patents and become meaningful and productive members of international communities of interest in the future.

The Chinese government has also used international joint ventures as a method to promote innovation through its industries (Cheung 2007). The experiences to date confirm that this approach has proven benefits for all of the stakeholders that are involved. According to Cheung, “In the context of development, multinational enterprises (MNEs) often bring specific advantages such as sophisticated technology, financial resources, manufacturing skills, managerial talents and entrepreneurship when the level of competition in the host country is intense” (p. 228).

In some cases, international joint ventures provide the general framework in which innovation can occur, while in other cases, there are specific contributions that MNEs can make to promote innovation, including the transfer of technologies, and MNEs are more likely to make such transfers when they have a vested interest in the enterprise (Cheung 2007). This approach has been used since 1978 when China’s “open door policy” was promulgated in an effort to attract foreign investments and advanced technologies (Cheung 2007). Notwithstanding China’s enormous pool of talent and other resources, the need for advanced foreign technologies to achieve innovation remained firmly in place throughout the closing years of the 20th century. In this regard, Zhang and Pearce (2010) emphasize that notwithstanding the enormous amounts of underutilized resources that were available to the country, China’s current progress in innovation would not have been possible without advanced technologies from abroad.

One industry in particular appears to have benefited from these open-door policies and which reflect the type of innovation that is most suitable for the emerging Chinese business model. For instance, according to Gao and Damsgaard (2007), “China is the largest mobile telecommunications market in the world, which grows at one of the highest rates in the global scale” (p. 184). These authors, though, are also quick to point out that innovation in the mobile telecommunications market has taken place much differently in China that elsewhere in the world. For example, Gao and Damsgaard also note that, “Constrained by its unique social environment, China’s mobile telecommunications market has innovated in a particular way” (2007, p. 185).

In support of the foregoing assertion, Gao and Damsgaard (2007) report that markets in other countries have transitioned from second generation (2.0) technologies to 2.5 generation (2.5G) to the third and fourth generations (3G and 4G); however, the Chinese government has postponed issuance of even 3G licenses while it waits for the country’s domestic 3G technologies to catch up. This constraint on one avenue of innovation has resulted in yet another innovative approach being used by the Chinese in its stead. For example, Gao and Damsgaard note that, “Interestingly, we instead have seen the success of personal handyphone system (PHS), a cordless telephony technology generally treated as an extension of the fixed network. It is of practical interest to know the characteristics of mobile telecommunications market innovation in China and to disclose the driving forces to it” (Gao & Damsgaard 2007, p. 185). According to Harris and Dennis (2002), the PHS serves as a standard mobile telephone but also features facsimile and video transmission capabilities. In addition, the PHS is capable of sending and receiving email, and fully Internet compatible.

The “driving forces” that are fueling growth in the PHS industry are not unique, but they have been focused on an “innovation process [that] often leads to changes in market structure composed by varied players, and the appearance of novel services in the market” (Gao & Damsgaard 2007, p. 185). Not all industries have shared the positive experiences of the mobile telephone industry in China, though, and a number of obstacles and challenges remain firmly in place that tend to hamper innovative practices in China, and these issues are discussed further below.

Obstacles and Challenges to Innovative Practices

Obstacles and challenges to innovative practices can adversely affect an enterprise’s two fundamental innovative activities, (a) product innovation and (b) process innovation (Lin & Lin 2010). Typically, higher product quality is related to higher production costs, while process innovation attempts to minimize such production costs (Lin & Lin 2010). In either case — and given the enormity of the markets that are involved — even small innovations can result in a huge savings and a solid competitive advantage for Chinese firms (Lin & Lin 2010). There are a number of factors that continue to hamper the innovative process in China, though. Currently, the Chinese government faces numerous general obstacles and challenges, including:

1. Reducing the country’s inordinately excessive domestic savings rate which adversely affects domestic demand;

2. Sustaining adequate job growth for tens of millions of migrants and new entrants to the workforce;

3. Reducing corruption and other economic crimes;

4. Containing environmental damage and social strife related to the economy’s rapid transformation; and,

5. Inflation remains a problem as well as the amount of debt incurred by local governments in their rush to jump on the economic development bandwagon in recent years (China 2011).

In this environment, it is reasonable to suggest that some types of industries will enjoy some advantage over others in terms of their ability to innovate and this has been the case in China in recent years. For example, according to Cliff, “The macroeconomic environment, competition, and factor markets provide mixed incentives for technological innovation in China. Some aspects of the macroeconomic environment stimulate technological development; while others inhibit it” (2001, p. 50).

The Chinese government’s most recent emphasis on promoting the country’s domestic market may in fact also end up backfiring on them despite the efforts of policymakers to maintain stability and continued economic growth. In this regard, Cliff also points out that, “The high economic growth rates China has been experiencing are a major stimulus, as they mean that the market for new or improved products is rapidly expanding. Growth rates have tended to fluctuate greatly, however, and uncertainty about the domestic economy may discourage innovation” (2001, p. 50). Likewise, Cliff (2001) cites the continuing problems with inflation that have defied government intervention that may discourage foreign long-term investment in technology-related initiatives.

Moreover, and although things have definitely changed for the better from just a few years ago (at least from the perspective of foreign investors), some degree of political instability has also discouraged technological innovation in China (Cliff 2001). According to Cliff (2001), foreign investors remain somewhat leery of the Chinese leadership’s commitment to political stability as well as the long-term investments that are needed to bring new innovations to fruition and the global marketplace. In addition, an increasingly competitive marketplace also represents a challenge for the Chinese leadership with respect to the provision of incentives for technological innovation (Suttmeier 1997). Likewise, a number of industries in China already have significant incentives to export their products because this provides them with valuable access to foreign exchange and investments (Cliff 2001). Moreover, China’s accession to the World Trade Organization in 2002 resulted in increased competition for the growing Chinese domestic market (Cliff 2001).

Based on their analysis of innovative practices by service and manufacturing firms in China, Lin and Lin (2010) report that the intensity of research and development (R&D) activities is positively related to innovation resulting in larger numbers of patent applications, but such intensity does not necessarily translate into higher numbers of valid patents. The analysis by Lin and Lin (2010) also showed that smaller manufacturing enterprises and larger service firms are more likely to actively pursue innovation compared to their larger and smaller counterparts, respectively (Lin & Lin 2010). The results of the Lin and Lin (2010) analysis also indicate that many Chinese firms’ innovative activities are primarily hampered by economic and internal factors, and these are being recognized and addressed.

Conclusion

The research showed that China is well situated to build on its recent successes and many economists predict the country will become the leading global economy in the foreseeable future. Driving this economic growth has been a thoughtful (some would say overly cautious) approach to promoting economic development through innovative practices. Although China has much going for it in terms of a growing domestic market and a talented pool of younger professionals who will become the country’s leadership in the years to come, the country is still constrained in its efforts to promote innovative practices as a result of several factors, including an export-dependent economy that is vulnerable to fluctuations in the global economy and massive local government debt that resulted from the rush to modernize its infrastructure.

Despite these obstacles, the research also showed that enterprises in China have taken the initiative to overcome such obstacles and even though innovative practices have proceeded in different ways from elsewhere in the world, innovation continues to drive the Chinese economy in several industries, including mobile telecommunications and other high-tech industries such as nanotechnology, life sciences, high-speed computing as well as fuel cell technologies. In the final analysis, scholars in the 22nd century will likely cite the first decade of the 21st century as the beginning of China’s real economic development based on a free market philosophy where it is indeed “glorious to get rich.”

References

Cheung, K-Y. (2007). ‘The Impact of Ownership on the Propensity to Innovate in China’s Large — and Medium-Sized Industrial Enterprises.’ China: An International Journal, vol. 5, no. 2,

pp. 228-231.

‘China.’ (2011). CIA World Factbook. [online] available: https://www.cia.gov/library / publications/the-world-factbook/geos/ch.html.

‘China quarterly update.’ (2009, November). World Bank. [online] available: http://site resources.worldbank.org/INTCHINA/Resources/318862-1237238982080/5923417-

1257229995645/cqu_Oct_2009.pdf.

Cliff, R. (2001). The Military Potential of China’s Commercial Technology. Santa Monica, CA:

Rand.

Gao, P. & Damsgaard, J. (2007). ‘A Framework for Understanding Mobile Telecommunications

Market Innovation: a Case of China.’ Journal of Electronic Commerce Research, vol. 8,

no. 3, pp. 184-186.

Gu, S. (1999). China’s Industrial Technology: Market Reform and Organisational Change.

London: Routledge.

Harris, L. & Dennis, C. (2002). Marketing the E-Business. London: Routledge.

Kriz, A. (2009). ‘Doing Business in China: Tips for an Outsider.’ China Review International, vol. 16, no. 1, pp. 1-3.

Lin, H-L. & Lin, E.S. (2010). ‘FDI, Trade, and Product Innovation: Theory and Evidence.’

Southern Economic Journal, vol. 77, no. 2, pp. 434-437.

Simon, D.F. (2009). ‘China’s Future Have Talent, Will Thrive: Although the Chinese Clearly

Consider the Development of Their Human Resources to Be a Key to Economic

Development, the Details of the Path They Will Follow Remain Uncertain.’ Issues in Science and Technology, vol. 26, no. 1, pp. 29-30.

Suttmeier, R.P. (1997). ‘Emerging Innovation Networks and Changing Strategies for Industrial

Technology in China: Some Observations.’ Technology in Society, vol. 19, no. 3&4,

pp. 305 — 323.

Zhang, S. & Pearce, R. (2010). ‘Sources of Technology and the Strategic Roles of MNE

Subsidiaries in China.’ Multinational Business Review, vol. 18, no. 3, pp. 49-51.

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