[Trades/Supply Chain] How China is shaping the future: from being the Factory of the world to the most powerful nation

We have entered a decade of geopolitical conflicts bewteen China and the US, having a look back to history can help to understand how China changed over the past decades from being the "Factory of the world" to the most powerful economy in the world.

Disclaimer: There are many things to tell about China, and an article is certainly not enough to cover everything, so I will only focus my analysis on trades and supply chain major changes over the past 30 years.

The 90'

Before the 90' China economy relied mostly on agricultural and low value production or processing. The influence of leader Deng Xiaoping upon South East Asia is at the begining of a decade of booming foreign investments in China. From less than $20M in 1992 to over $40M in 1996 the economical landscape twisted rapidly. At the same time, investment in India barely reached $1M.

Thus, early as the late 90' China started to turn into what some of us still have in mind today: The factory of the world, with a still relatively low GDP. (China line is in blue)

Chart1. China, Japan, India and USA GDP growth since 1960 - Wikipedia

From a financial standpoint, China set up a unique financial responsibility system in which each region and each municipality was very independant.

• Taxes from locality to central government incomes were fixed for a period of 3 years.
• All the surplus from local boom would remain in local vaults.
• This had been a strong incentive for local authorities to support and promote the development of their companies.
• Eventually local government became richer as some started to hide a significant part of their budget to the central government to keep the taxes low.

Over the 90' Jiang Zemin prime minister Zhu Rongji changed this paradigm as the central government revenue became relatively lower (speaking as GDP shares). Note: The fight against corruption has been at the heart of actual president Xi Jingping and today corruption is very limited over the country (don't misunderstand the difference between Guanxi and corruption).

• This led to the impoverishing of many locality, and in some regions China was on the edge of crisis and revolts.
• But with its new financial resouces the central government has been able to launch and support big programs over the country which would change it for ever (infrastructures, energy, communications).

In this new China, the peasants would eventually be able to migrate to the city to become the manpower of the big export manufactures, settled as foreign enterprises moved parts of their supply chain to China. The machine is running.

From 2000 to 2010

Right after the admission of China within the World Trade Organization, foreign investments boomed again and doubled in less than 10 years.

• All foreign companies has to build up joint ventures side by side with the chinese government owning 50% of the company, giving to the central government a huge influence upon the economy.
• Despite booming private sector, central state-own enterprise represents a third of all the companies in China. In 2015 (the last figures I found) it was up to 40% of the private sector.

During this decade, export from state-own enterprises collapse from 55% in the early 2000' to less than 20% ten years later, following a central strategy to limit the chinese dependence to external trades. The domestic market also boomed.

But still, foreign own companies export remained very high, fluctuing between 40 and 60% over the period...

The dependence of China

While importing none-manufactured goods for years, and doing almost only the processing steps in local factories (low added value) China only retained very limited incomes. The value was actually caught in South East Asia :

• Most components were manufactured in Malaysia or Singapore, some in Japan
• Goods transited and got shipped in Hong-Kong
• China was actually getting around only 6% of the total value

To turn this situation around, China would begin to produce high added value goods for its domestic market and for export.

• Share of processed goods decreased from 60% to only 37% of the in 2010!

Chinese-made-goods share increase by a lot in the decade, so followed the retained value.

However, the dependence of China to the US was still a big issue for Beijing until the mid-2010.

• Sino-US trade used to represent almost 17% of China trades in 1999 while it represented only 2.7% of the US global trades.

This vulnerability led to a new twist in Beijing policy. The central government pushed even more companies to develop high value products and services. I looked into the 2020 figures and the consequences are astonishing:

Chart2. Sino-US trades share 2020 - Figures from the United States census bureau and statista.com

While in 2014 the interdependence was finally almost even (13% of Chinese trades ; 11% of US trades), today the Sino-US trades share is higher in the US than for China.

We could understand it as China is no longer vulnerable to the US and this is a key factor to read the past years commercial war and taxes between the two countries. (Trump Policy, Biden policy)

Chinese companies going out

To complete this picture, we must highlight the Chinese strategy that goes beyond dependence and trading balance.

• The central government in Beijing initiated the going out strategy as early as 2003, encouraging firms to invest into foreign companies and seize strategic resources and technologies.

Beijing is convinced that investing into infrastructure such as road or harbors is critical to its influence. The new silk roads project is also a key element of Beijing ambition over Asia and Europe and will shape the new supply chain.

Supply chain leaders should keep it in mind to jump on the bandwagon before it is too late

Indeed, those ambitions also worsen the relationship between China and the US, but the US were probably wrong not to take part into this Asian infrastructure development and lost ground to China durably.

In my opinion, one other mistake I have found into the recent US strategy is to try to isolate Beijing.

• I had the opportunity to live and work in China and its domestic market is so dynamic that the local consumption is alone able to drive the economy. We have seen how China has resisted to Covid19 pandemic.
• While depriving China of critical resources was supposed to strike its national companies, experience has shown that the country is able to find sufficient resources and local talents (partly thanks to the foreign companies who invested long ago in the country) to build its own top tier companies.
• Companies such as Alibaba, Tencent, Huawei, or even Bytedance (Tik Tok) are proving that China has changed and how chinese companies influence is spreading around the globe.

The only threats to this is the slowing down of the growth and the labour cost increase as well as the recent energy crisis. But once again, many supply chain relies on China for production and sourcing and what strikes China echoes worldwide.

Sources:

To write this article I read a lot of press, made my own researches and share my own perspectives and experiences.

I also based it on the excellent course of Chinese politics from Professor David Zweig at the The Hong Kong University of Science and Technology which I attend for weeks on the Coursera.org platform.