The Hu-Obama Summit: Big on Symbolism, Less So on SubstancePublished: February 02, 2011 in Knowledge@Wharton
Approximately $19 billion here, another $25 billion there.... The state visit of Chinese President Hu Jintao to the U.S. last month ended with the type of shopping spree that his country has become known for recently. And Motorola, Boeing and dozens of other U.S. multinationals on hand at the Chicago ceremony to sign the pile of export agreements surely were not complaining. Nor are the 12 U.S. states and an estimated 235,000 workers said to be benefitting from the pronouncements and pacts made during the four-day visit.
But summit-weary observers are not celebrating just yet. They note that thorny issues like China's currency policy were stubbornly sidestepped, and wonder whether the summit achieved what business leaders in both countries now need -- a mutual trust and assurance that their companies will be allowed to prosper.
Against that backdrop, "one of the things the meeting accomplished was that President Obama treated President Hu -- and by extension the People's Republic of China -- with respect," says Philip M. Nichols, a Wharton professor of legal studies and business ethics, comparing the 21-gun-salute and five-star welcome Hu received during this year's event to his last state visit a few years ago with then-president George W. Bush, which consisted of just a lunchtime gathering. "It gives President Hu a solid footing to negotiate with the U.S. back in China," he says, calling the summit "symbolically successful, [but] without significant substance change."
While the immediate reaction from both heads of state following the summit was positive on several fronts, expectations still need to be managed, adds Jacques deLisle, a University of Pennsylvania law professor and director of its Center for East Asian Studies. Like all such power summits, this one was "a mile wide and an inch deep," he says, so it is no surprise that a long list of business concerns, including the unnerving rise of protectionism and shrinking market access of foreign companies in both countries, had to vie for the two presidents' attention. As Obama and Hu scrapped over human rights, nuclear proliferation and geopolitical standoffs in Asia, each also did a fair amount of cheerleading about their countries' growing economic ties.
With that cheerleading, the context for business relations of the world's two largest economies has been set for the months ahead, according to experts -- and none too soon. Viewed from the vantage points of Corporate China and Corporate America, the rifts they have experienced in recent years have left both feeling at a disadvantage to the other in a host of areas.
However, both also know that given today's economic reality, neither side holds all the cards. With China the largest holder of U.S. debt (nearly $900 billion by many estimates), the jokes making the round on America's late-night talk shows were that Hu was calling the shots, and having to pick up the tab himself at the lavish dinners he shared with Obama. But as China's economy steams ahead -- its GDP in 2010 grew 10.3% -- concerns are growing inside and outside the country that it is perilously overheating. As the government rolls out new domestic policies to prevent what many see as an enormous asset bubble ready to pop, The Daily Telegraph newspaper in London reported on January 16 that hedge funds are ready "to get short on China." Distressed China funds are indeed now being set up in London's and New York's financial centers, according to the newspaper. For its export-dependent economy to power along, China needs the U.S. in more ways than one.
And as both Hu and Obama noted, the U.S. also needs China. With dismal growth prospects at home -- its GDP grew 2.9% in 2010, and other indicators, like unemployment, remain troublesome -- much of Corporate America is relying on emerging markets, like China, to keep their businesses above water. Obama also stressed during the summit that the $100 billion of U.S. exports shipped to China every year is as important for jobs at home as it is for corporate balance sheets.
An annual survey published last year by the U.S. China Business Council (USCBC), a nonprofit organization representing U.S. companies doing business in China, is particularly telling. Of the 220 member companies polled about 2009's business performance, 87% said their China operations experienced a growth in revenue (with two-thirds posting double-digit revenue gains) and 85% reported that this growth was profitable (with 88% of those at margins equal to or better than the company's global profit margin). What's more, the nonprofit's research suggests that U.S. companies have moved beyond using China solely as a low-cost site of offshore production for goods to send back home. In the USCBC survey, 96% said the primary objective of their China operations is to reach the local market, while 40% said the secondary reason is to use China as an export platform to markets other than the U.S.
Highs and Lows
According to Z. John Zhang a Wharton marketing professor, while the two heads of state met in Washington, D.C., facing different, but no less urgent, domestic economic pressures, they shared one goal: "to come out of the summit looking great, projecting a warming up of the relationship, with the two powers on equal footing." That was largely achieved, Zhang says.
But it by no means guarantees a return to the relatively upbeat relations of early 2009, according to David Gosset, director of Academia Sinica Europaea, a think tank run by Shanghai-based China Europe International Business School. Back then, "U.S.-China relations were at a high point," he says. When Obama headed to Beijing to meet Hu in November of that year, the two sides celebrated the 30th anniversary of the opening up of the Chinese economy to the West -- and underplayed the harsh truth that Sino-U.S. trade and economic relations were on a collision course. The gathering "was seen as not achieving much," says deLisle. "The narrative then was that Obama got very little out of China, [despite] being fairly nice and accommodating."
And then the "degradation" began, notes Gosset. While Obama was being pilloried at home by politicians and press alike for being too conciliatory with Hu, China was becoming more assertive, both politically and economically. A case in point: Last year's attempts by Capitol Hill to pressure China to revalue its artificially low currency, the renminbi (RMB), largely went unheeded by Beijing. The RMB has gained some ground against the U.S. dollar -- up around 3% from where it was a year ago. Bu China critics in Washington say further hikes are needed to stop U.S. goods from losing out to China's cheap exports, a key factor in America's ballooning trade deficit with China, which is expected to reach $270 billion this year. However, Hu has stood firmly behind China's policy of keeping a tight grip on the RMB, joining others in countering critics that a rapid rise of the RMB would unleash a hornet's nest of problems -- including skyrocketing prices and job losses in his backyard.
One upshot of 2010's tensions? A lot of misunderstanding in the East and the West, states Liu Wei, a political science professor at Zhejiang University in Hangzhou, China. He says what is viewed in the West as foot-dragging or lack of cooperation in China is often due to Chinese politicians' inexperience in international politics and efforts to get a grip on the inner workings of Western democracy. "Chinese leadership talks a lot, but they do not really understand U.S. domestic politics." On the flip side, Liu describes the U.S.'s argument that China's cheap labor is taking jobs from the U.S. as "simplistic." If jobs are lost in China, he adds, Americans need reminding that those jobs would not necessarily end up in the U.S., but in even lower cost countries.
According to Liu, the reason for Beijing policy makers' cautious steps with the RMB is a "big fear" that their country could be destabilized by economic or trade policies that are aimed at rectifying global trade imbalances in the long run, but may throw China's economy off course in the short term -- at a time when the country is in the process of encouraging more internationalization of its currency with RMB-denominated financial instruments. It is not in anyone's interest, he says, for China to see factory closures, rampant unemployment and potentially large waves of civil unrest, which has in fact already begun. Global economies are interlinked to such an extent today, Liu notes, that "if China can't create more jobs, it will be a disaster, not just for China or for the U.S., but for the whole world."
Beyond their summits, China and the U.S. "can continue to battle with rhetoric, but ultimately they should develop a relationship of mutual understanding," Liu says. "I think that's what they're now doing privately."
'The Worm Has Begun to Turn'
Perhaps they are, but there is another upshot of 2010's escalating tensions: "China now knows it has a problem with the U.S. business community that it didn't have before," says Penn's deLisle, who is also director of the Asia program for the Philadelphia-based Foreign Policy Research Institute. "Think back 30 or 40 years. U.S. business had been China's best friend in U.S. politics," including promoting China's membership in the World Trade Organization (WTO), which it eventually joined in 2001. "But the worm has begun to turn a bit," he notes. "U.S. businesses have become more frustrated with what they see as problems with China's behavior -- continued reluctance to open some parts of its service sector fully, distribution and other things that many U.S. businesses describe as a new protectionism favoring Chinese companies over foreign companies."
That is all part of a "necessary correction," according to Zha Daojiong, international political economy professor at Peking University. During a debate on Chinese television as Hu was on his way back home after the summit, Zha said the changes that are drawing the U.S. business community's ire are in many respects a re-leveling of the playing field. For years, China's private companies sat on the sidelines as the government wooed foreign companies to invest in their country with low tax rates and other special benefits. As those benefits wind down -- like December's raising of tax rates for foreign enterprises to be more in line with the national standard -- China's private companies are now getting the "equal treatment" they have longed for, he added.
DeLisle sees more than a re-leveling of the playing field, however. While the preferential treatments for foreign firms are being phased out, "not all of the old benefits for local firms, such as cheap credit in the form of bank loans that foreign companies cannot tap, are going away. So there are pockets of economic nationalism." One reason is that since joining the WTO, deLisle says, "China has learned how to play the trade game -- trade rules do allow protectionism, if you play it right. [China has] become quite good at relying on internal barriers to trade -- a bit like Japan in the 1980s, when goods cleared customs pretty easily, but there were distribution bottlenecks and other ways that foreigners were disadvantaged inside the country."
An $88 Billion Gorilla
It is those kinds of issues that summits like January's aim to address. So along with the fanfare of Chicago's purchase agreements, a handful of business-related announcements were made, including China's agreement to amend discriminatory practices that shut out foreign companies from big government procurement contracts. In 2008 alone, those contracts were worth as much as $88 billion, according to estimates from law firm Smith Reed.
The seeds of that policy are found in the 16-year program Beijing launched in 2006 to help encourage innovation at domestic Chinese firms and promote high-tech development within the country rather than buying -- and often pirating -- products from foreign companies. A recently introduced part of that so-called "indigenous innovation" policy applies to state-run projects, stipulating that the national and many local governments can only buy goods and services whose underlying technology is Chinese. "That was a problem since China doesn't have enough [home-grown technology] in enough sectors or technology owned by Chinese companies with almost no strings attached," notes deLisle. As for foreign firms wanting access to some of these government contracts, they were feeling pressure to agree to transfer their technology to Chinese partners.
Two things happened on that front at the summit. First, China agreed to renew its previously rebuffed attempts to become a member of the WTO's Government Procurement Agreement by the end of the year, requiring the country to have an "open" government procurement market. Second, and perhaps more importantly, Chinese officials agreed to "delink" the innovation policy from government procurement so that a technology's ownership is in theory no longer a factor in granting contracts, potentially opening a vast number of state-driven infrastructure projects to foreign competition. "Like so many things, a lot will depend on implementation," says deLisle. "But it's a step in the right direction."
Those discussions, however, shed some light on a far larger, more contentious problem: Rampant intellectual property (IP) theft in China, a frequent topic of discussion for Jon Huntsman, Jr., U.S. ambassador to China, who stated in a speech during the summit that IP protection "is not a U.S. versus China issue. This is an issue that affects anyone developing new ideas and new products." (Huntsman will leave his post on April 30, reportedly to explore a run for the U.S. presidency.)
To Beijing's credit, says Wharton's Nichols, the problem is getting high-level attention. Laws have been updated to meet international standards, more resources have given to enforce those laws and so on. "Hu is quite sincere in curbing IP infringement," he notes. "But it's a really hard thing to do."
DeLisle agrees. Other countries, including the U.S. at one point, have grappled with the same issue. "As a country becomes more sophisticated and depends more on industries that use IP, cheating becomes more complex," he says. "The turning point is when a country starts developing its own indigenous IP and wants that protected. It is hard to protect your IP and not somebody else's. You can do it in small areas -- and that's what [China's] indigenous innovation policy for government procurement was."
The Victory Lap
What is striking about January's summit for businesses is not just what was discussed, but also what was not. Take the RMB. Summit watchers noted that Hu offered no further concessions on its revaluation during his visit.
At this juncture, that might not be such a bad thing. In U.S. circles, the RMB, unlike the IP infringement debate, is increasingly considered a dead end. "You could have a massive revaluation of the RMB, and most economists seem to think that it will not really fix the trade deficit," says deLisle. "It might move the U.S.'s global trade deficit with countries other than China, but it's not going to fix the structural problems."
Experts cite several reasons why pushing China on the RMB's revaluation is not going to get the U.S. very far, including Beijing's deep desire for domestic stability. "China is gradually going to raise the RMB anyway," deLisle predicts. "They know they have to move domestic consumption, they know they can't rely on exports as they have, and they know that sitting on giant piles of foreign exchange [currently totaling $2.4 trillion] is a problem for them as much as it is for the U.S. and others."
When it comes to the RMB, adds Wharton's Zhang, "if the U.S. keeps trying to exert more pressure, you can be assured that you will see more friction." In other areas, like technology transfer agreements, "there is huge room for greater collaboration."
Zhang echoes others in arguing that although both countries have reason to feel satisfied with the summit, it was above all "a victory lap for Hu." President since 2003, Hu is expected to leave office next year, making the recent one-on-one with Obama his last as head of state. Feted in Washington and Chicago, and hailed back home for the success of his political charm offensive and upholding China's international profile as a cool-headed, determined negotiator who can stand up to the U.S. -- an image Zhang says reflects well on Chinese companies as they pursue their global growth strategies -- "it must be a very satisfying moment for him."