Getting The Dragon Right

On June 11, I attended an event in Beijing where Jack Perkowski, author of the book Managing the Dragon talked about his experiences doing business in China and on the Chinese economy. He also keeps a blog where he talks about China-related topics. In March, I had read the book and wrote an online review which you can read here.

During the dinner talk, Mr. Perkowski talked in greater depth about some of the issues he talked about in the book. Most of the audience of 20+ people were people who had considerable experience living and working in China.

He talked about how he saw China as having two different economies, which he calls the “local foreign economy” and the “local local economy”. He sees the local foreign economy as being made up of 400M people who have average annual income of US7500. The other 900M people have an annual average income of US2500. Right now, these are almost separate economies in the same country. The existence of the local local economy, which is very cost- and price-sensitive, means that there is a large part of the economy which needs modern things, but cannot afford western prices. Many Chinese companies are looking for new ways to reach this audience. This means that manufacturers are always looking for new ways to constantly cut their costs to reach them, which in turn leads to a very high rate of innovation.

An example he mentioned were piston rings. There are six global piston rings makers in the world, but there are 400 in China. The reason for the China discrepancy is because there is demand for cheaper solutions from the local local market, who are always looking for cheaper and more competitive components. While they have the same need for transport as the foreign local market, they cannot afford the expensive brand components.

In contrast, the foreign local economy accepts a higher level of costs, and is less sensitive to pricing pressure. These are mainly export manufacturers which have come to China from the US or Europe and come to manufacture auto parts first for their home markets and then later, other markets. Mr. Perkowski believes that in order to survive, it’s essential to reach down into the local local market. Unfortunately, many American car makers were unaware of this market, and wanted to sell only into the foreign local market. In the meantime, the toughest Chinese makers which have prospered and survived, claw their way into the local foreign market, where they are much leaner, meaner and smarter than the major US makers.

It made me think that in reality, China has a domestic market and an export market. The domestic market can be thought of as the local local market, and the export market is the local foreign market. Eventually, the two markets will merge, but it will take some time before that happens.

Mr Perkowski mentioned that the US “makes” 16M vehicles annually, of which 5M are imported from other countries. This means that in reality, the US makes some 11M vehicles annually. According to him, American makers are not able to make money on small cars, only on larger vehicles such as SUVs, which Americans are no longer buying because of high gasoline prices. The Chinese auto makers, in comparison, are able to manufacture small cars profitably. This year, Chinese makers will make some 10M+ vehicles, putting Chinese manufacturing capacity on a par with US makers. He believes that China will overtake the US economy in size, and Americans will have to get used to the idea of having the second largest economy in the world. (My note: Of course, it will take some time for India to take the world’s second largest economy position away from the US.)

He believes that the place where the US will continue to be dominant will be in efficient capital markets. This is a place where America will continue to be the world’s leader.

Mr. Perkowski does not speak Chinese, but his good common sense about doing business in China showed that he had a good deal more knowledge about China than many of those who speak the language. In his case, common sense and a good attitude have more than compensated.

6 Responses to “Getting The Dragon Right”

  1. Dan Harris says:

    Great post.

    I discussed this very same topic today with my hair “stylist.” Not kidding. We were talking about how the market for the $10 million Four Seasons condos in downtown Seattle is doing just fine but the market for the mid-market $600,000 condos is getting soft. There are two markets everywhere and I always find it fascinating to compare them. The questions for China, as I see it, are whether Western companies can make money in the local local market and, if so, which ones. I am also of the view that certain companies would harm themselves by even trying for that market at this point. For instance, it would probably make no sense for Apple Computer to get into that market with its computers, Ipods or Iphones; it should instead remain high end. But GM or Motorola might well be a different story.

  2. Florian Pihs says:

    Hi Paul, I tend to segment Chinese consumers into First World consumers, Second World consumers and Third world consumers as proposed by the China Life 2006 report. While the numbers need updating the concept still makes sense and is easier to understand than Foreign local and local local.

    Florian Pihss last blog post..All new Web Analytics Wednesday coming up this Wednesday featuring WebTrends (Location Changed)

  3. […] The event in Beijing was well-attended, and I was delighted to meet many people whom I have known by name over the years, but whom I had not yet had the opportunity to meet in person. Most in attendance have been in Beijing and China for several years, so it was a very experienced group. I was particularly happy to meet Paul Denlinger, who not only wrote a review of my book, but also wrote about the event on his blog, The China Vortex. […]

  4. […] 企业家协会在北京的活动反响热烈,我遇到了多位多年来只闻其名、未见其人的朋友,令我非常高兴。与会者大多都已在北京或中国逗留数年,因此北京分会可以说是一个经验丰富的团队。尤为让我高兴的是,我在会上遇到了保罗•戴林格(Paul Denlinger),他不仅为我的新作写了书评,还在他的博客(The China Vortex)中记录了此次活动。 […]

  5. niti says:

    er, about those efficient capital markets …