I am going to start this post out with a warning: in the world of global economic intrigue and gamesmanship, the following ranks rather low on the excitement scale … but on June 22nd, China announced that it would scrap the export tax rebate it gives to China producers of 406 categories of export products.  These products include steel, non-ferrous metals, fertilizers, chemicals, plastics, rubber, and glass.  This was the first adjustment in the export tax rebate since July 2009, when it was increased as part of China’s stimulus program.

Now I know that, for most of you, the phrase “export tax rebate” doesn’t send a thrilling chill down your spine … and if it DOES, then maybe you need to get out more.  But we think that there is something deeper here that is worth exploring just a bit further.

This policy announcement is coming at an interesting time.  The communication between the U.S. and China on the global economy and the RMB valuation has had more passive-aggressive subtext than a Midwestern family Thanksgiving – “PLEASE pass the SALT, DEAR!!” – so one rather hoped that any move by China would be attempt to alleviate some of the stress … as in “Please ADJUST your RMB rate, DEAR!!”.  However, at first blush, there is not a huge material impact to the trade imbalance as the policy change is not expected to make a major dent in exports, since it affects only $11 billion in exports, or about 1% of the total.

However, we think that the importance of this policy change goes beyond any material impact.  We think that China is trying to telegraph some very specific messages to two constituencies: the international community and its own people.

First of all, the Chinese government is signaling to its own domestic manufacturers that it wants them to curb overcapacity, move up the value chain, and turn away from the export-driven model of growth.  In this new policy, the government has focused on the environmental benefits of discouraging the production and export of these 406 products, which are highly energy-intensive and polluting, thereby scoring a point with the Greens, both domestic and international.  Lower production will save energy and reduce greenhouse emissions, in line with China’s stated promise of reducing energy consumption per unit of GDP by 20% from 2005 to 2010.  Again, this move is not going to get China all the way to environmentally friendly heaven, but it’s a step in the right direction.

At the same time, this move is a response to recent global pressures on the RMB and non-tariff trade barriers, trying to get China to be an engine of global recovery, rather than continuing its export-driven model.  Europe and the US are trying to export their way to recovery, so someone’s exports have got to go down.  By partially eliminating the export rebate, in line with RMB revaluation, China can better claim that it’s pulling its weight globally.  Given that this is a partial rollback of the stimulus package, China can also claim that it’s dealing with stimulus-induced preferences for domestic industry, further reducing what some say is over-investment by the Chinese government in their own infrastructure which has led to an over-inflation of China’s GDP growth.  So that’s quieting 4 squawking birds of international conscience with one stone of administrative action … not bad at all.  The tortured metaphor of that last sentence does not give enough Kudos to China for this move … China is definitely starting to understand that, for its policy changes to have impact, symbolism – properly spun – can have more power than substance in the world of international diplomacy.

However, of the two possible audiences for this move – internal and external – we fall on the side of this being a stronger message to its own domestic producers, an encouragement to move up the value-chain and pursue domestic innovation, not just be the manufacturer for the world.  Steel is a good example.  48 of the 406 affected products are made, at least in part, from steel that, until this action, had enjoyed a 9 percent rebate.  Steel exports from China have grown 127% year-on-year, and 266% alone just this past May.  However, along with this growth have been the installation of new steel-making facilities in China … despite a general ban on adding more capacity, Chinese companies found a way to build 40 new steel plants in this past year.  This has resulted in the overproduction of low value-added steel which means that China’s steel industry profits have come almost entirely from the 9% rebate.

But this new ruling makes a fine distinction between the two types of steel products. The rebate on the commodity steel goes away but the higher value-added steel products such as cold-rolled and galvanized steel – which many US buyers are more interested in anyway – still enjoy a 13% export rebate.  So, by getting rid of only the rebates on low-valued added products, the government is sending a signal to the domestic industry: “Start moving up the value chain, and stop building so bloody much capacity.  Move away from the low-cost export model and start innovating.”

After over 20 years of concerted effort on building their economy through exports, China is going to take awhile to turn this ship around.  In other words, China is not going to becoming a domestically-driven (and particularly a consumer-driven) economy any time soon … I don’t even think the next 20 years is going to get them there.  But bit by bit, they are moving that direction … and this recent policy change is one of those bits.  And keep your eyes and ears open for future policy announcements … more and more you are going to see the double purposes behind policy changes as China navigates the dangerous waters between both the internal and external constituencies most impacted by such changes.

In our recent Podcast series, we have been talking with Bill Powell, senior writer for Time and Fortune magazines, based in Shanghai.  In the last Podcast, we got into, what I thought, was a VERY interesting discussion about the uniqueness of what is going on in China these days.  Literally, what we are seeing in China is unprecedented … never before has an economy (and a society) grown and changed so much in such a short period of time.  Understanding it, let alone predicting it, is very difficult and we are all, in a sense, working without a script.  We talked earlier about what the U.S. and other Western economies could learn from China … to wrap up our conversation, I started by asking Bill what he thought China could (and should) learn from the West …

We are in the middle of a discussion with Bill Powell, senior writer for Time and Fortune magazines.  In the first part, we talked about China and the rest of the world, how we try to make comparisons to what is happening in China with what we have seen in the past.  In this Podcast, I wanted to start off by getting Bill’s take on the challenges of covering China.  I prefaced my question by saying that, in our consulting practice at Technomic Asia, we are very careful not to talk about “THE” China market … there are, in fact, MANY China “markets” taking into account big cities, small cities, northern cultures, southern cultures, urban and rural, etc.  I asked him to talk about the practicalities over covering such a vast subject and the challenges he finds in trying to do so …

Over the past 4 years of the China Business Podcast we’ve done many interviews with business people in China, typically leaders of companies or operations.  We’ve talked about the intricacies of doing business here, the opportunities and challenges, and specific strategies and tactics that have worked for them.

Well, I would like to take a chance to back up a bit and view the China environment from a different perspective through an interview with someone who has been reporting on the action, not only in China but around the world.  Bill Powell is the senior writer for Time and Fortune magazines and is based in Shanghai.  We’ve known each other for a couple of years and he calls every now and then to bounce around some ideas and perspectives.  I have always appreciated his perspective and I thought he would make a great interview … and I was right.

Here is part one of that interview …

Last week I posted the first part of an interview with Sayed Jafry of ThermoFisher where we discussed their decision to located the global headquarters for their environmental division in China.  Even though China is not currently a big part of their business, ThermoFisher management thinks that this will change and Asia – particularly China – will figure heavily into their business.  In Part 2 of my interview, we talk about the challenges in making China a global headquarters and how that is signaling some important changes in this market.

Those of you who are long-time listeners to the China Business Podcast have heard us talk, endlessly, about ways that companies need to be looking at the potential opportunities in China, not just the actual ones … to look not only at the present, but the future of China.

I loved to play and watch hockey when I was a kid, and nothing was more thrilling than to see the great Wayne Gretzky play … it was magical, how he would always be in the right place at the right time.  Someone once asked him why he was such a good hockey player and he said, “because I skated to where the puck was going to be.”

And that’s the challenge, isn’t it … to start working in China today based on where it is going to be in the future.  In today’s Podcast, we have a very special treat … we are going to talk with someone who is actually putting this adage into practice.  Syed Jafry is the President of the Global Environmental Division for ThermoFisher Scientific, a very diverse, publicly traded company.  Syed and ThermoFisher are on, what I believe, is the cutting edge of global business and we sat and had a conversation in his Shanghai office on a rainy morning just before the National Day holiday.

The story can be summed up in Friedman’s first paragraph: “I believe future historians may well conclude that the most important thing to happen in the last 18 months was that Red China decided to become Green China.”  While the juxtaposed color metaphors are cool, I think he might be reading too many of the government’s brochures!

Yes, China is starting in invest massive amounts of money into exploring green-tech initiatives, much of it coming from their economic stimulus plan.  However, China will have two ends of the spectrum … one VERY high-tech and “green” development and the other VERY old-school with polluting factories that will continue to dump junk into the environment for many decades to come.  China still generates 70-some percent of their energy through burning coal … I heard a statistic (but cannot support it) that China  brings on one new “clean” power plant a month (water, wind, nuclear) and yet a new coal-burning power plant still opens here EVERY WEEK.  This is the irony of China … kind of like the brand new airport built so far out of town that it is only reachable by dirt roads.

The air and water quality in China’s cities are still some of the worst in the world.  I was out in a Western city a few months ago and refused to eat any of the local seafood … I had seen the state of the fish ponds sitting right next to the chemical factories!  And just yesterday, there was a yellow haze in Shanghai that reminded me of a scene from Blade Runner.  New, high tech, green initiatives will certainly help China going forward, but there is a TON of damage already done to the environment here that is going to be difficult to help with the new magic.

Hopefully, the aggressive, growing edge of China’s green-tech developments will spur the U.S. and other Western countries into truly innovating, as did Sputnik.  China might be able to grow their leading edge, but it is going to leave the trailing edge even farther behind.