Fast and furious
Chinese private firms are embracing innovation
“CHINA MUST RELY on innovation to achieve continuous and healthy economic development.” To anyone outside China, that seems to be stating the obvious. What makes it striking is who said it: none other than President Xi Jinping, speaking last December.
China has long pursued an industrial policy of “indigenous innovation”, obliging multinational companies to transfer technology and propping up SOEs in strategic sectors. That has not worked, so now the country is pouring money into a renewed push from the top down. It is spending more than $200 billion a year on R&D, up fourfold in a decade. As a proportion of GDP the figure, at 2%, now slightly exceeds that for the EU.
Thomson Reuters, a research firm, claims that China is an “undisputed patent leader”. Central planners now want to triple the number of patents by 2020, to 14 per 10,000 people. They aim to increase R&D spending further and eventually match America’s current level of 2.8% of GDP, in the hope that all this will make China an innovation superpower. Already a fifth of the world’s technical graduates are Chinese.
研究公司汤森路透（Thomson Reuters）称中国是“无可争议的专利先锋”。中央决策者如今希望在2020年前把注册专利数量增加两倍，达到每万人14件。 他们的目标是进一步加大研发投入，最终追上美国目前的水平，即GDP的 2.8%，以期令中国成为创新大国。全世界的理工科毕业生已有五分之一是中国人。
The government could help boost innovation, for example by ensuring a sound legal framework and functioning financial markets, but so far it has failed to do so. Instead, it is overreacting in unhelpful ways. That is partly because it is confusing innovation with invention, which involves lots of research spending, patents and engineers. Innovation may or may not involve those things, but is essential to an economy’s wellbeing. Simply put, it is fresh thinking that creates value in the market. It may not require new technologies but simply the adaptation of products and business models from one industry or market to another.
Research spending, subsidies for high tech and PhDs are inputs. Spending more is no guarantee of better outputs, whether in the form of high-quality patents or rising sales. China’s official R&D funds often go to the well-connected rather than the deserving. The number of patents filed has soared thanks to government incentives, but many are worthless. After adjusting for quality, using a range of criteria, China still lags.
Gordon Orr, a former head of McKinsey’s Asia operations, thinks that SOE bosses find it easier to woo regulators to support existing products than to come up with new ones. New businesses are typically required to make money in the first year, which inhibits risk-taking. Guan Jiancheng of the University of Chinese Academy of Sciences and Richard Yam of the City University of Hong Kong quizzed over 2,000 manufacturing and technology firms in Beijing to see whether state aid in the 1990s led to more patents or higher sales and profits. They found that state money funnelled to SOEs was not only ineffective but “even occasionally had a negative impact on innovation”.
The World Bank reviewed various studies and concluded that the innovation effort at SOEs “tends to be unproductive and poorly integrated with the rest of their operations”. One reason is that big state firms are less efficient than smaller private firms at converting resources into innovations and patents. Total factor productivity has been growing three times as fast at private firms as at SOEs.
If China is becoming a lot more innovative, the private sector can take much of the credit. A recent report by the McKinsey Global Institute, the consultancy’s research arm, shows that Chinese firms are good at innovating in a number of industries. The authors avoid the trap of just counting patents and PhDs, relying instead on “the ability of companies to expand revenue and raise profits” as the proof of successful innovation. Having examined financial data for 20,000 publicly held firms in China and abroad, they conclude that Chinese firms sparkle in consumer-facing industries, such as e-commerce, and in efficiency-driven ones, such as manufacturing, but that they lag in industries that rely on the latest science and technology.
如果说中国的创新力大增，主要应归功于私营部门。咨询公司麦肯锡的研究机构麦肯锡全球研究院（McKinsey Global Institute）最近发表的报告显示，中国企业在几个行业善于创新。报告作者没有落入以专利及博士数量论高下的窠臼，而是以“公司提高收入和利润的能力”作为成功创新的证明。他们审视了中国及海外两万家上市公司的财务数据，发现中国企业在电子商务这类面向消费者的行业以及制造业这类效率驱动型行业里表现耀眼，但在依靠最新科技的行业则落后于人。
There are notable exceptions. Huawei, for instance, has emerged as a world-class telecoms-equipment firm. It spends some $5 billion a year on R&D and has research centres close to technology hotspots. It is one of the world’s biggest generators of high-quality patents. Along with Sweden’s Ericsson, it is now at the forefront of research on 5G technology for the next generation of mobile phones.
BGI, a privately run research outfit, is one of the world’s most highly regarded genomics institutes. It started life in 1999 when a handful of researchers left the Chinese Academy of Sciences to found a new genomics institute. They ended up in Shenzhen, where local officials, unusually for China, support businesses without trying to control them. BGI has hundreds of PhDs on its staff and owns half the world’s genome-sequencing capacity. It has won accolades for sequencing the SARS virus and decoding the genomes of birds and of the friendly microbes that live in the human gut. It advises most of the world’s large pharmaceutical companies on drug discovery and development.
George Yip of the China Europe International Business School (CEIBS) points to GE’s development of ultrasound technology in China, which has gone global. Chen Xiangli, head of GE’s China Technology Centre in Shanghai, lists many examples of world-leading research done there. One team has developed membrane systems that help dirty industries such as coal meet requirements for zero liquid discharge. Another team is pioneering the development of superconducting magnets with a significant reduction in the use of liquid helium.
Mr Yip and colleagues have recently published a study of research done by foreign firms in China in strategy+business, a magazine published by PwC Strategy&, a consulting firm. They found that 28% of these firms now work on cutting-edge R&D. In addition to GE, firms ranging from Microsoft to ABB have top researchers in China pursuing advanced projects for the global market. Novartis has committed $1 billion to its R&D centre in China, which has already come up with a novel treatment that promises to tackle liver cirrhosis.
If China is so innovative, sceptics often ask, why has it not produced a world-class car yet? A successful car industry requires decades of engineering experience and complex global supplier networks. Foreign car firms that set up in China were forced into joint ventures with SOEs, so the local firms involved have had access to global technology for 20 years. But when they try to make cars under their own brands, they still produce clunkers. China needs time to catch up, just as Japan and South Korea did, argues Neil Shen of Sequoia Capital.
Perhaps, but there may be another explanation. One of the most senior foreign businessmen in China exclaims that SOEs “have the smartest people in science and technology but cannot get a branded product out the door that people outside China want to buy”. There is too much control from the top, he says, and not enough faith in markets and competition.
In Japan and South Korea, it was private firms such as Honda and Hyundai that developed cars. By competing in the global market, they learned to innovate. In China, the state has decreed and protected national champions. Shanghai Automotive has joint ventures with both Volkswagen and General Motors. The resulting easy money and access to global designs has given it little incentive to innovate, says a manager at the firm.
But some privately run car companies are getting better. A few years ago, when your correspondent went to Shenzhen to visit BYD, a maker of electric cars, its engineers boasted that apart from the glass and the tyres, they made every single part themselves. It showed: the vehicles were awful. But recently, with advice from Mercedes-Benz and parts from outside suppliers, its quality, safety and styling have improved dramatically.
Chinese firms might even leapfrog current technology and make the internet-connected electric vehicles of the future. Not only car firms, but China’s internet giants and manufacturers like Foxconn are investing huge sums in this idea. Day Chia-Peng, a technology expert at Foxconn, thinks there are four reasons why Chinese firms could lead the world. First, thanks to its expertise in making electric motors and electronics, the country has top-notch suppliers. Second, electric vehicles lend themselves to being made by a number of smaller firms, so today’s car giants may lose their grip. Third, e-commerce, another area in which China excels, is changing the way people buy cars. And fourth, the involvement of China’s “BAT” (Baidu, Alibaba and Tencent) internet trio and Xiaomi may give it an edge in developing such cars.
On the minus side, the absence of academic freedom is an important brake on Chinese innovation. China’s universities, just like its SOEs, are run by party committees. This politicisation limits the flow of ideas. So, too, does the Great Firewall, which chokes access to global websites and popular collaborative tools like Google Docs.
Chinese firms have come a long way. What holds back the country’s innovators today is not lack of resources. It is certainly not lack of resourcefulness. The greatest obstacle is the oppressive hand of the state.