The China Vortex

In China, the Chinese government is obsessed with maintaining economic growth at a high level. This is because a large part of the Chinese government’s implicit mandate with the Chinese people is guaranteeing continuing growth, which leads to a better standard of living. If growth slows down, then the whole basis of government legitimacy is challenged. This is why leading economists such as Michael Pettis, a very astute observer of the Chinese economy, believe that the Chinese government will continue their outbound investments in the US, for example.

Now for many other political observers of China, there is the widespread belief that Internet censorship is a human rights and free speech issue only, and something which is unrelated to economics. For them, this is an argument about humanitarian values which should be shared across the world. In the past few days, there has been a new crackdown on Twitter clones and some outspoken blogs in China have been deleted, according to this story in the Washington Post.

But what if economic performance and Internet crackdowns are in fact related, because the government fears outspoken criticism if economic indicators are much lower than the goals they have committed to and seek?

If that is the case, then the internal economic numbers which the government is seeing are a better indicator of how the people feel and will behave in the short-term, and bad numbers would make the government want to crack down pre-emptively, heading off potential dissent before the news becomes widespread.

When you put this into the Chinese context of domestic politics, and see that the Chinese leadership will be handed over to a new president and premier in 2012, what is happening on the Internet makes perfect sense. The current leadership of President Hu Jintao and Premier Wen Jiabao are due for retirement then, and will hand over leadership to a new leadership team. With two years left in their term, it is safe to say that world markets look unstable, with another wall of debt about to hit the US and Europe in the next year, further dampening consumer spending in the west. How can they manage a smooth handover without things getting unstable?

In China, there are early signs that there is an excess of white collar workers in the cities, and a shortage of blue collar workers in the factories, which is why factory workers have the leverage to slow down work or even go on strike. The traditional Chinese view of education is that the more educated you are, the better, but this view is being challenged now, and this view will sharpen over the next decade. China’s urbanization will mean more white collar workers will be looking for work in the cities, and they will have a harder time finding jobs. At the same time, this under-employed workforce will be aging quickly. Already, there are signs that a new subclass, the “ant people” are emerging, living in separate gated communities. Will this turn into China’s version of Brazil’s notorious favelas? This is the exactly the kind of situation the Chinese government wants to avoid. The gap between the urban rich and poor will become more marked.

As growth slows, the greatest challenge to the government will become readjusting the hopes and dreams of the Chinese people to a new reality of more moderate growth. This is an unprecedented challenge.

Is this a formula for social instability? You bet!

And where will they vent? On the Internet.

How will they potentially organize by spreading inflammatory remarks? On the Internet.

Seemingly this is a China problem, but as the world economy slows down, it will become a problem for other governments too. Free speech is taken for granted in good times, but in hard times, when social stability is at stake, it becomes another story.

Virtually all westerners, and most western companies, embrace the belief that information should be free. This means that it should freely cross national borders and be accessible by anyone with a browser. In short, as long as it sits on a web server, it should be accessible from anywhere.

Some individuals, such as Mark Zuckerberg, Facebook’s CEO, and Google’s CEO, Eric Schmidt, have gone so far as to embrace the concept that people should have almost no secrets at all, and that if you do have secrets, you are either backward, or have something bad to hide. Basically, they put forward the view that if you want to hide something, you are old, out-of-date and out-of-fashion, and that you SHOULD embrace openness as the way of the future. Mark Zuckerberg has gone so far as to say that if he had the chance to re-architect Facebook all over again, he would make it completely open, with no privacy controls.

Many in the west, especially libertarians, have embraced this idea without even debating the merits of this argument. People in the IT sector especially are sympathetic to this POV, so much so that it has become a white god. The white god syndrome is the widespread belief is that those in the west have always known what is best for the rest of the world, and that it upholds the precious values of personal liberty and individualism. After all, hasn’t the west been the leader in the struggle for human liberty and progress, fighting two world wars and numerous small wars so that others could be free? Many in the west adhere to this point of view, forgetting to question why accountability in the west is often applied selectively, in spite of all the claims made by its proponents.

If you accept this historical narrative, then anyone, or any government, which dares to object are either ignorant or evil.

Throughout the argument for free flow of information, there is no room left for defining the role of what a government does. There is only 1) information and 2) the rights of the individual to access that information anytime and anywhere.

Because the argument is framed this way, the Chinese government’s claims for Internet sovereignty have been met with derision and even contempt by the western press. The Chinese government’s claim is simple enough: IT companies in China must adhere to PRC laws. Looking at it from the surface, there is nothing revolutionary or different about the PRC claim; other governments, including those in the west, require IT companies to follow the laws of the country they do business in. If there is a difference in China, it has to do with due process, and what the government needs to do in order to obtain data from the IT companies. This is where things get blurry.

The infrastructure for the Internet was built in a way which did not clearly follow national borders. A US IT company may have web servers in Iceland, which now has the most stringent laws protecting data privacy. The data may or may not sit on the company’s own web servers; it could just as easily sit in the cloud, on servers provided by Amazon, Microsoft, Google or Apple, adding yet another layer of abstraction. Just thinking about the legal aspect of this is likely to throw lawyers into a tizzy of billable hours.

In contrast to this, the Chinese government has been very protective of Chinese consumer data. In China, consumer market research is a restricted industry, meaning that non-Chinese market research companies are not allowed to enter the field. In order to enter the industry, most western market research firms need to form joint ventures or partner with multiple Chinese market research firms. While the western market research firms do the analysis, the data is usually kept in the hands of the Chinese market research firms. This way, the data about Chinese consumers is always kept in the hands of the Chinese market research firms, and never leaves China’s borders.

The only exception to this rule comes with regard to personnel files in western multinational corporations. Most US and European firms have centralized HR departments at company headquarters; these include detailed personnel files for all staff and management, regardless of country and location.

Throughout this discussion, it has become very clear that the Chinese government does not adhere to the currently dominant western notion that information should flow freely across borders. This position has been made crystal clear in the showdown between Google and the Chinese government over censorship. I see the Internet sovereignty assertion as the first step in a systematic pushback against the free flow of information argument.

How could the Chinese government push back further? The simplest and most logical argument would be to claim that all personnel and data files on PRC citizens must not leave the PRC’s borders, and giving the security services the right to go to western MNCs’ HR departments to perform data audits to make sure that they are in compliance. Such a move would throw their HR departments into chaos, as it would mean that headquarters would no longer have the personnel files of PRC employees.

If the PRC government were to make this claim, it would effectively claim that it has control over all data about its citizens.

To sum up:

• There should be a healthy debate about the free flow of information across borders. For too long, this is a position which has been supported without question in the west, and those who have challenged it have been routinely tarred and feathered by the press. This lack of an open debate about this aspect of the white god is not a good thing.
• The PRC government should clearly state its position on data, and express how far it intends to go. If the government stakes a claim to all PRC citizen’s personnel data, will they extend that to their medical information and later, genetic data, too? Will the individual have any control or recourse over their own data, or will the government always be the final arbiter and decision-maker? The Chinese government should makes its position clear, without resorting to slogans and nationalism.

This would be best for everyone, especially the Chinese people.

Chinese e-commerce companies have done especially well in the past year, and many are putting their finishing touches on to get ready to hit the NASDAQ and other markets.
Will bring you more information and in-depth coverage on these companies soon.
The greatest weakness of these companies is not their operations and marketing in China, but the HR firms they hire in China are generally stupid, and are unable to help them bring in the level of experienced management to talk authoritatively to analysts and institutional investors.

As location-aware applications become more core for mobile services, especially with the launch of the new iPhone 4, location and mapping services become ever more important.

The Chinese government has made clear that non-Chinese owned mapping companies will not be able to provide basic mapping services and AutoNavi is filing for an IPO. Will be interesting to see if AutoNavi tries to get its products/services into mobile phones.

In the meantime, Apple is getting more aggressive about protecting and using the data it collects on iOS 4, and this has caught the attention of US legislators.

In the short term, this will give Hong Kong an advantage for developing these applications, because it is relatively restriction-free, as I mentioned in this article for Forbes.com The China Tracker.

The issues are complicated, and will converge in a way most people are not yet aware of. Will write more about this subject later.

A short time ago, Rebecca MacKinnon wrote an excellent commentary on the Chinese government’s white paper on the Internet. In the government-published white paper, there was effusive praise for the Internet as a tool for social change under terms set by the party.

The important thing to understand is that the party will set the agenda of what is acceptable for Internet development, and the Internet will develop along those terms in China regardless of what others may say. From the party’s perspective, this is non-negotiable. Those who challenge this basic requirement, as did Google earlier this year, will be forced out, or will have to conform to those regulations.

The Internet white paper was the party’s way of saying:

• Now we understand the Internet and its social ramifications
• We do not believe it should be banned from China.
• We believe that it should be controlled and managed in a direction which is suitable for China’s development under the leadership of the party.
• We will not tolerate any deviance or interference, foreign or domestic, from these guidelines.

In the west, the Internet developed as a grass-roots tool of programmers and hackers, since it was based on several different technology protocols. For this reason, many in the west continue to think of the Internet as the ultimate anti-authoritarian tool. Those who look at the Internet from a political perspective and have their own agenda often emphasize this aspect of the Internet.

Before the Internet came to China, there was no unofficial media. This was why one of the first applications which took off in China was Tencent’s QQ, which was an instant messaging tool based on ICQ. Following this, games took off, led by Shanda. More recently, online video and twitter clones such as Sina’s Weibo have taken off.

It has taken some time for the party to realize that the Internet also offers an alternate, unofficial media, and is dangerous from the party perspective because it has the potential to let people spread information, and even more importantly, organize very quickly. It is this ability to organize quickly which represents the greatest threat to party rule, which is why huge amounts of funding have been directed to the online security apparatus. It is very clear that the party places special emphasis on real-time filtering of the Internet to prevent social disturbances from spreading quickly, and this is a large part of many companies’ operational costs.

From the party’s perspective, social change is necessary, and in some cases desirable, especially when it is directed at non-Chinese companies such as Foxconn and Honda. These high-profile, limited-scale events give the government negotiating leverage in dealing with non-Chinese entities, and directing social and economic policy. However, if they become widespread in society as a whole and spread out of control, there is a real danger to party authority. This is why all of these events have been small in scope, and have quickly died down after the issues were resolved.

This is a very sophisticated Chinese strategy which has the west, including individuals, investors and governments, over the barrel. On the one hand, many in the west hope that China will change and become a more open society. In fact, the party in China also knows that Chinese society must change and become more open, but it wants to set the terms and the agenda. Should investors go to China, which offers better returns than most other parts of the world, including the west? Or should they obey their consciences, and stay out of China? Looking at things now, I would say that most are more interested in their investment portfolios than their consciences.

As for those who exercise their consciences, there is another challenge. Are they for change from within the system, or do they support change from outside the system? Change from within the system means that there must be dialogue with the ruling party. History has shown us that for long stretches of time this dialogue will not bear fruit, and will be open to widespread criticism in the west, which is always demanding fast results and change in China. Or will the China critics push forward a hard line, that there can be no compromise with the party, and a new substitute must be found?

This lack of a viable substitute is what has prevented change in China. It’s easy to criticize the party on multiple issues; it’s much harder to find a better solution.

So far, I have not found anyone in the west take a clear stand on this crucial issue, except for Google, which moved its search engine operations to Hong Kong earlier this year.

“Exactly what is the attitude of the west with regard to change in China?”

This lack of open, honest dialogue on the key issue of meaningful strategy with China is what prevents many western companies from moving forward with China.

Unless western companies, the public and their governments reach some kind of consensus on what they support, and what their position on change in China is, there will always be misunderstandings and disappointments for the west in China.

Gladiator movie poster

At the end of my previous post, where I painted a generally pessimistic picture of the near future, I mentioned that I would write about the businesses which would do well in this downturn.

In my opinion, they are bread and circuses.

During the decline of the Roman empire, the Roman emperors realized that in order to prevent uprisings, they needed to feed the people (bread), and to entertain them (circuses). Life was grim, ugly and short. People lived for the day. People were reduced to their most basic needs, food, sex and entertainment. Everything else was unnecessary, and most likely, did not do well as a business.

The most popular entertainment of the time in Rome were massively staged gladitorial spectacles which were fights to the death for the gladiators. When people were this miserable, they wanted to have power, if only for a moment, to see others fight to live. People were not happy, and they got pleasure and enjoyment out of what some would call sadistic entertainment (in happier times).

The Roman emperors provided a huge spectacle as an outlet for this frustration in the form of gladiator fights at the coliseum. Instead of trying to resist this angry urge, they saw that the only way out for them was to channel the urge away from them. The state rode this wave, and brought Hollywood production values and state funding to this entertainment to keep the sheeple happy. That is how they were able to extend the period of decline in the Roman Empire to 400 years instead of being overthrown much earlier.

Bread and circuses.

The times we live in will be very similar.

In China, where entertainment is already a large part of what makes up the Internet, there is already a very large entertainment component.

Historically, Chinese rulers have been experienced at putting down rebellions and uprisings, but when it came to entertainment for the masses, they could not hold a candle to the Roman emperors. On the other hand, they did not produce characters quite as twisted as Caligula and Nero either. The Roman emperors were in a league of their own.

Now, how to get state funding and production values for huge epic productions which recreate the smell, blood, excitement and drama of a real gladitorial spectacle as was captured in the movie Gladiator? Whoever can answer that question and can figure out how to bridge online games and the real world drama of life and death gladiator fights, creating a whole new experience, is in the money, not only in China, but globally.

Plus ca change, plus c’est la meme chose.

For the past five months, I have been researching about the feasibility of setting up an IAB (Interactive Advertising Bureau) in China. The IAB as a trade association was founded in the US in 1997, and has since spread to all major markets in North America and Europe where it helps to coordinate discussion and implementation of Internet advertising production standards and measurement standards for web analytics.

I have been invited as a guest of Web Analytics Wednesday to speak on the subject on Nov. 5 in Beijing. I plan to talk about what I have learned from talking to many digital companies and ad agencies, and about the progress which has been made so far. I also plan to include my own assessment of what is needed to make IAB successful in China.

If you are interested in this subject and have the time, I look forward to meeting you at the event.

UPDATE For those of you who are having trouble getting to the above link, it will be at 8PM Wednesday at Club Camp. You can get directions to Club Camp here.

What a difference a month makes!

Just a little more than a month ago, China was basking in the afterglow of the Beijing Olympics, and the US still had an investment banking sector. Now, all China news has been taken up with tainted milk scandal, and the US consumers have changed from spendthrift junk-buyers into wondering whether they will have enough money to buy Campbell’s soup. (Last Monday, when the Dow went down 777 points, Campbell Soup was the only stock to go up. Can you say dark days ahead?) At the same time, Americans have come close to openly rebelling against the Bush administration-backed Paulson plan to bail out the banking sector and create liquidity in credit markets.

In the meantime, economists and politicians are debating whether this is the beginning of a recession or depression. Let’s just say that it’s going to be bad.

In China, the bad has different roots, in how the dairy industry has been systematically thinning milk, then loading it up with melamine so that it doesn’t look protein-deficient (it is). In fact, the problem is systemic, and is not just limited to the dairy industry. This is something which runs throughout Chinese society on a wide systemic basis because local officials are judged only on quantitative results instead of quantitative and qualitative results.

Wall Street and China took different paths, but both ended up with the same sack of shit. The trouble is that this sack of shit affects the whole society in both the US and China, and the rest of the world.

Now, if the problems were not systemic, all you would have to do is hire a PR firm, and they would quickly put together a PR campaign, the public would gradually forget, and everybody would get back to their merry business.

But it’s not that simple.

Recessions/depressions are like forest fires; they destroy a lot of the accumulated undergrowth and excess, providing an opportunity for new growth. We are now going through such a forest fire. It is likely that it is only just beginning. But it is worth thinking about what are the new flora and fauna which will grow and flourish in the environment which comes afterwards.

Here are my thoughts:

• Transparency will be the rule instead of the exception. Instead of talking about quality, companies and government officials will need to show it.
• The Internet and modern IT will turn into a transparency enabler. Think of webcams in dairy processing and manufacturers’ plants in China which anyone can log into anytime. Think of US members of congress listing all the contributions they take and publishing their meeting calendars, live and online.
• For companies, proof of quality. This means that it won’t just be ads and PR. They will need to show how they create quality. A big question for service companies: “How do we show quality in what we do for our customers?”
• Creating quality is no longer a one-way communications process, it will be two-way. Consumers will challenge the companies and governments, and they better have good answers ready. Smart companies will think of ways to weave some of the criticisms into product/service input and incorporating it on a near real-time basis.
• We are witnesses to the crumbling and collapse of an old way of doing things, and the rise of a new way. Education systems all over the world have not prepared people for this, especially the business schools. If you are a newly-minted MBA, good luck!
• An awful lot of companies in China are not going to make it. Many of them don’t deserve to make it. But there will be refreshing new companies with new ideas and who are committed to quality and value. Most of them will come from the private sector. Keep your eyes on Zhejiang for new ideas, companies, products and services! In my opinion, Beijing and Shanghai are vastly overrated and are not truly representative of China. They are still like the Treaty Ports of old: they have enough Chinese to make westerners feel like that they are in China without having to make a major adjustment in lifestyle, and enough ministries and public buildings to make the Chinese officials feel comfortable and in control. The relentless drive to lopsided urbanization at the expense of the countryside which Yasheng Huang puts forward in his book Capitalism with Chinese Characteristics: Entrepreneurship and the State, is a view which is sometimes discussed among Chinese, but which most westerners are not aware of. China is just now beginning to pay the very high price of this lopsided development.
• There is going to be a lot of money to be made in helping the old companies make the transformation to the new value economy. Most of them won’t make it, but they are going to spend a lot of money trying. If you’re in change management and know how to market, you’re going to make a killing.

One of the fun things about China, and the Chinese Internet, is that new issues can pop up very quickly, and become major issues.

This has just happened with the issue of user privacy on the Internet. With more social network sites, and more users posting real information about themselves, along with contact information, etc. this has become a real issue.

I’m not going to offer a solution to this very complex issue. Instead, I’d like to bring up another issue: “How do you have a productive discussion, where all get a chance to contribute to the debate, get heard, and then come to some kind of agreement about a solution?”

Here is the problem. This issue flared up when many SNS sites started blocking Baidu’s spiders from crawling their sites. The official reason: to protect users’ privacy.

The problem is that there has been no discussion about what user privacy is. The definition of privacy is very different for a 12 year-old girl and her 40 year-old mother and, in turn, is very different for a 22 year-old gay man.

Each of them, or their parent/s, may have very different ideas of what constitutes user privacy. The gay man may not want to reveal his sexual orientation except for his closest male partner/s, and may not want anyone else, including family, to know. The same goes for religious affiliation, etc.

These are very real issues which need to be discussed and thrashed out in the open, and people need to be able to put forth their views for discussion. This is a vital and natural part of what constitutes a civil society, which is what the Chinese government supports and advocates.

Unfortunately, there is no clear mechanism for discussing a very complex issue like user privacy in China today.

Instead, we have companies coming out with thinly-disguised excuses about privacy, when in reality it looks more like a pissing match between companies over whose spiders can crawl over whose sites. Are the two groups going to come up with different, even opposing, ideas and definitions about what constitutes user privacy, and force people to choose one or the other? If that is the case, then it’s not really about user privacy, it’s about choosing between one camp or the other, with every user forced to make a choice.

But that isn’t what the Internet is all about. The Internet is all about empowering people so that they can make their own choices. The Internet is about pushing decisions to the edge, where people make their choices, and if they don’t like them, they can change them later on.

This is what is missing in China. Without this system or mechanism, there is just endless bickering and noise, and what should be a serious discussion with a well-thought conclusion, usually ends up in a lot of noise with the loudest shouters winning.

What is an important issue, usually ends inconclusively.

Or as the Chinese say 不了了之。

Chinese Internet users deserve something better.

As many of you already know, there are areas where the development of the Internet in South Korea has been influential in China, especially online gaming, which was really born there. Compared to China today though, the Internet in South Korea has much deeper penetration and is much more pervasive than in China. For most South Koreans, it would be unthinkable to live without the Internet and their mobile phones. Penetration across generations is much higher than in China.

Part of this is because the South Korean government in the late nineties decided to open up a huge amount of bandwidth and make it available to all South Koreans. Compare that to the US, China and most other countries, where the amount of bandwidth is much lower.

When this started in the late nineties, the Internet was still considered a young person’s thing, and most adult South Koreans still did not trust it for content, advertising and information. This is no longer the case.

I am looking for information on:

• What changes made the South Korean go from not trusting the Internet to gradually trusting the Internet? Were they laws, applications or events?
• Were there certain laws, applications or events which made the attitudes of certain generations of South Koreans change? What were they?
• Would any of these changes have been possible if the South Korean government did not open up bandwidth?
• How has the Internet and cheap, high-availability broadband fundamentally changed the society?

Look forward to hearing from you.

Thank you.