Managing the China Challenge in Business

Because U.S.-China business plays such an important role in our overall relationship, the 2011 U.S.-China Strategic and Economic Dialogue (S&ED) is again highlighting major American concerns about access to the China market. The issuesChina’s policies on government procurement, indigenous innovation, and intellectual property protection, among otherspose serious obstacles to American corporations seeking to compete in the rapidly growing Chinese market, and they rightly receive a lot of U.S. government and media attention. 

But many of the limitations on U.S. corporate performance in China are more tractable than the above long term issues. These limitations result from insufficient understanding among multinational corporation (MNC) executives of the evolving Chinese opportunity and of how the Chinese political system operates and interacts with the country’s economic enterprises (that is, of China’s “political economy”). China’s system leaves a lot to be desired in terms of transparency, but there is actually a lot more understanding of business-relevant parts of its political economy than most executives realize. And those insights have major implications for MNC corporate strategy.

I have provided the pertinent details on the evolving business opportunities, on China’s political economy, and on the resulting significant implications for MNC corporate strategy in a new book, Managing the China Challenge: How to Achieve Corporate Success in the People’s Republic (Brookings Press, May 2011). As this book explains, the current Chinese political system produces rapid economic growth as a necessary outcome of the way the political system itself operates.

Core to this is “the deal”—the understanding that qualifies the top leaders at every level of the system from province through city through county through township for promotion if they can make the GDP of the territory they govern grow every year while avoiding popular unrest or major embarrassments (such as huge product safety scandals). In return for this performance, their superiors grant them sufficient flexibility to devise ways to produce GDP growth, high performance evaluations if they succeed, and considerable tolerance for corrupt personal enrichment. The local leaders also have the scope of authorityover bank lending, local regulations, and the court systemto enable their own enterprises to do well and major projects to get built.

The results are predictable. They include very rapid growth, competition among localities for resources and opportunities, an abundance of infrastructure projects (because they represent visible growth and provide large flows of funds from which to skim), significant local protectionism, very inconsistent (at best) implementation of environmental regulations, and substantial corruption.  This system promotes leaders who are highly entrepreneurial and also know how to manage politics and security. It is core to the reality that the Chinese Communist Party functions in fact as the Chinese Bureaucratic Capitalist Party, which in turn has become a virtually unstoppable growth machine.

Beyond “the deal” (which is nowhere codified in written form), there are many rules and practices that allocate authority in the Chinese party and government. If you know the right questions to ask, you can map out the lines of authority that are pertinent to the business objectives you seek. The bottom line is that the Chinese political system generally operates according to consensus, and MNCs may, if they know what they are doing, become active players in forging the consensus they need to move forward. The book provides details on how to do this.

This is, of course, an environment with enormous risks in almost every dimension. But there are risk mitigation strategies that are important to understand and apply. Because the risks reflect the underlying political economy, understanding that piece of the puzzle is critical to anticipating risks and forging effective approaches to reducing them.

All of this has major implications for the fundamentals of MNC strategy, including product development, marketing, human resources, and internal financing, among other issues. The bottom line is that it is possible to compete more effectively in China if you penetrate the veil of China’s seemingly opaque political economy, understand its internal workings, and apply those insights to corporate strategy. The resulting requirements are far reaching and difficult—but they are also key to sustained success.

The Strategic and Economic Dialogue is important, as are the economic and trade issues on the U.S.-China official agenda. But American MNCs can take appropriate measures in this tough Chinese environment to substantially increase their ability to benefit from China’s growth as well as from its deep-seated problems. This core reality should be kept in mind as the national media focus on the big issues in the S&ED. To the extent American-based businesses succeed in the People’s Republic, the beneficial repercussions for U.S.-China relations will be significant.