Ed Morrison · Thoughts on heading to China

October 16th, 2010

On Sunday, I will be heading to China for two weeks. I’ve been traveling to China since about 1990, so I’ve had the opportunity to see the enormous transformation in the economy.

For the past 10 years or so, I’ve been part of a small group of entrepreneurs from the U.S., China and Japan operating a small water factory outside Xi’an. (We are located one county over from the terra-cotta warriors.) This work gives me the opportunity to understand the Chinese economy at the ground level. There are a lot of misconceptions in the U.S. about what is happening in China’s economy.

Clearly, the Chinese economy thrives over low-cost exports. Yet, it is a serious mistake to assume that the manufacturing economy in China is limited to low-cost commodity products, like shoes. The Chinese have been rapidly moving up the value-added ladder.

Here’s an example. In 1994, I traveled to Shenyang, in northern China. In this city, General Motors launched its first joint venture. The project was designed to assemble light duty pickup trucks from kits. Both the product and factory were dismal failures.

Fast forward eight years. I am riding around Shanghai in a Shanghai Buick with the fit and finish of a luxury car made in the United States (thanks in part to a major decision by GM to transfer technology to China). We have yet to see Chinese auto exports to the U.S., but when we do, we will be facing yet another enormous set of pressures on our manufacturing base.

Sophisticated manufacturing and technology exists in China. In Xi’an, for example, the Chinese have built a cluster of aerospace companies. Xi’an Is the center of high-performance military manufacturing, especially in aerospace. (The reason: Mao located most of this military production away from the coasts.) In other words, the production is quite different than the Pearl River Delta around Hong Kong.

At the same time, there are serious weaknesses within the Chinese economy. Nobody knows for sure, but nonperforming loans could be as high as 50% of the total bank loans within the country. The economy does not have an effective banking system.

Banks are propped up by enormous flows of household savings, and individual Chinese consumers have very limited options as to where they can put their money. This tight control over money flows keeps the banking system from collapsing. Distortions within the banking system are serious, since the Chinese operate with none of the standard controls we consider in commercial banking . So, for example, commercial banks can effectively take equity positions in companies.

One of our major competitors in the water business is owned by a bank. They have financed the company with soft loans to finance a price war, all in an effort to drive competitors out of the market. (A five gallon bottle of mineral water in Xi’an sells for less than 7 RMB. The same bottle could fetch 15 to 25 RMB in other markets.)

Most of us who read about the enormous environmental costs within the Chinese economy. Air and water pollution created serious public health problems. Yet, the country has not moved seriously toward any kind of comprehensive health insurance. Environmental controls remain lax.

I leave the most troubling issue for the last. The Chinese system cannot manage the rampant corruption within the economy. I have personal experience with this problem, since our water factory has fallen victim to a local criminal gang. Despite our efforts, we have not been able to free ourselves to operate our plant.

My experiences with the Communist Party officials in Xi’an have helped me appreciate in a deep way the value of independent federal prosecutors in this country. (And based on my experiences in China, I find myself a militant opponent of any effort to politicize these positions.) The legal system — weak to begin with — has been shredded in recent years by forged documents. In our case, we are fighting a forgery of a land use certificate fraudulently issued by the local land office, as well as a judicial decision that was mysteriously altered to facilitate the illegal seizure of our property.

In the background, we confront physical intimidation. The gangsters have beaten to death three local peasants who got in their way. Our factory manager sleeps with an iron bar under his bed. Our appeals to the local police have resulted in no action. On this video, you can see how the police scattered the last time I showed up .



You can see more about the story of our water factory, if you’re interested on this website:

In sum, the press in the United States operates with a caricature of the Chinese economy. The competitive challenges posed by the Chinese are intense and will continue to grow. At the same time, internal contradictions of the Chinese economy are becoming more severe. Where this will end is anybody’s guess.

In a sense, it’s a waste of time to worry. We should be focusing on the challenges in front of us, including an education system that produces a 30% dropout rate nationally (and over 60% locally). We are generating thousands of economically disabled young adults, yet we seem incapable of responding in any meaningful way.

Instead, during this election season, politicians want to blame our plight on the Chinese. It’s a fool’s errand.

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