December 6, 2014, by editor
An Industrial Economic Perspective on China’s Prospects as an Innovative Country
Written by Junbo Yu.
The declaration of China’s “National Guidelines on a Medium and Long-term Program for Science and Technology Development 2006-2020” (hereafter S&T Guideline) epitomised the climax in Beijing’s technology modernisation attempt. This process of implicit, temporary and topical policy efforts were finally subjected to state will with explicit, comprehensive strategies (namely the “Independent Innovation Strategy”, hereafter IIS). Even at the initial stage of the IIS, the Chinese government had learned from previous failures concerning the experience of industrialized countries. Specifically, state will needs to be carried out consensually by the industrial sectors. Accordingly, though IIS covers a bunch of topics ranging from government procurement to education and S&T management reform[i], the process identified enterprises as the key to build an innovative country. Therefore, the analysis of China’s technological modernisation might be better informed through adopting the structure-conduct-performance approach in industrial economics, instead of being related to individual fields and being conducted in isolation.
Consistent with this approach, market structures determine the behaviour of the firms and the behaviour of firms determines the various aspects of market performance. Three focal issues of existing debates around the IIS, i.e. government intervention, R&D investment, and innovative capacity, enter into each of the three aforementioned methodological categories, respectively: the economist’s model of perfect competition assumes that a market structure consists of many small buyers and sellers, dealing in a standardized product, under conditions of free and easy entry and complete and perfect knowledge, while the government intervention’s intentions and results are always leading to volatility in market structure, i.e. changes in the number and size distribution of sellers or buyers alongside market entry conditions; R&D investments and associated activities, assumed to be conducted by firm(s) in a market economy, reflect attempts and efforts to destroy a perfectly competitive market, while seeking technology and product pre-eminence (monopoly). Other similar behaviour such as collusion in terms of purpose; innovation capacity typically represents the situation of the firm(s) in progressiveness or dynamic efficiency. This directly determines other performance indicators such as profitability and efficiency, and thus falls into the performance category.
Thus, the market structure in China is imposed with a political and ideological requirement concerning the performance of SOEs. Their administrative monopoly or nominal oligopoly tends to severely diminish the incentive for innovation. Whilst the market entry of competitors such as domestic private enterprises or MNCs is prohibited, the life-and-death matter for SOEs’ managers to fulfil their imposed multitasks will still be the stability of production within their prefectures.
The opportunity costs of risky R&D outlays on innovation become apparently unfavourable, compared with the investment in importing matured technology bundles. Meanwhile in critical but monopolistic industries, the Chinese government can’t afford “creative destruction” and allow private entrants to replace state-owned incumbents with revolutionary technology breakthroughs. Persons of entrepreneurial genius will be immediately paralyzed by the thought that their efforts will only win them punishment from Beijing. When monopolists or administratively segmented oligopolists are discouraged from participating in innovation and are lured to more matured, imported technology bundles, the outlets for technology dissemination are thus reduced. Independent innovators who prefer to become specialized licensors have to abandon their ideas, since there is less demand from the incumbents to commercialize their products and to put them into large scale production.
It is clear that China has to become innovative to sustain its growth, the tactics to achieve this is nothing less than the encouragement of competition in a free market economy. However, our concise industrial economic analysis reveals an ambivalence about competition. This invariably stems from the government’s concern to maintain political oligarchy which hampers parallel efforts to build an innovative economy. Does that mean that policy instruments such as IIS are merely bravado, and that the prospects for China’s technology ascendance is only a “phantom”?
The truth is more complicated. As we will see, “China is still a nation searching for a country”. In contrast to the Western democratic model, where a positive cohesion between government and society tends to exist, with the state merely being the codification of the nation through the rule of law, the Chinese model has yet to successfully codify a nation that has been accustomed to conduct transactions, according to customary un-codified norms. Establishing the notion of the criticality of innovation in such a huge and populous country, historically dominated by its preceding culture-history context, can’t be realized in the short term. Neither can state patronage in industrial governance be ruled out in the near future. The IIS declaration combines with the “decisive role of the market” and the stressing of the rule of law announced in the 3rd and the 4th Plenum of the CPC Central Committee. This trifecta of announcements will now enable the country to edge toward an incremental codification of the rules and institutions for innovation, albeit without the promise of an immediate takeoff.
Two other factors may also support prudent optimism. Foremost, some of the market entry restrictive measures are to be phased out. The result of China’s accelerated economic liberalization in order to retain growth momentum amid global uncertainties. This will prevent the Chinese government from slowing down its SOEs’ reform and associated political reform, so as to ensure the competitiveness of the whole economy’s and thus guarantee its legitimacy. Second, in those competitive sectors exempted from severe government intervention, though less technology intensive, more vigorous innovations can be expected through persistent competition, comparative advantage upgrading, and the implementation of IIS. Their upcoming bottlenecks in terms of technology modernisation caused by the backwardness of those monopolized industries will become a domestic “push” to annul prolonged government protection.
In sum, roughly 35 years after its reform and open-door policy, China is still seeking access to an express road for technology modernisation. Ambitious plans, e.g. IIS, are continually undermined by deep-seated structural and institutional issues such as state monopoly. The exploration of the solution to this conundrum can be likened to the life-stages described by Confucius as moving from “I stood firm” to “I had no doubt”, except that China’s road toward independent innovation is likely to be a long struggle rather than the work of just another 5 years.
Junbo Yu is an associate professor in public policy at the School of Administration Jilin University in Changchun, Image credit: CC by Argonne National Laboratory/Flickr.
[i] In February 2006 China’s State Council issued the “Complementary Policies” (CP) to support the implementation of IIS. The CP specifies that the government will support the strategy of building an innovative country by actions in ten areas, including investment; tax preference; finance; government procurement; the route of introduction-assimilation-innovation; creation and protection of intellectual property rights; management of talent; education; and building research bases for innovation and management.