International Trade and China

Blogpost May 1, 2005 ? International Labor Day

Today I would like to comment on two articles, one directly and one indirectly related to Zhongguancun. They both appeared in the NY Times April 30 and May.

The first article is by Keith Bradsher entitled “A Currency Afloat (for All of 20 Minutes).” This article relates the fact that China’s currency, the Renminbi or yuan, was floated (traded at a level higher than its rate as pegged to the U.S. dollar) for 20 minutes on April 29, 2005. According to Bradsher, “The yuan climbed until it took 8.270 of them to buy a dollar instead of the usual 8.276. That difference, of only six thousandths of a yuan, might not seem like much of a change.”

The significance of this “floating” can be examined from multiple perspectives. The one I want to focus on is the relation of the exchange rate to economy, in particular the relationship of yuan-dollar exchange rates and China-U.S. trade. As is my understanding, allowing the exchange rate for yuan to climb means that it takes fewer yuan to buy a dollar, and consequently a dollar is exchanged for fewer yuan. To make things clearer, I imagine the current rate as 8 yuan = 1 dollar. Suppose the yuan were floated and climbed to a rate of 4 yuan = 1 dollar. For people in China, there should be no immediate change: a hamburger at McDonald’s is still 16 yuan; a yuan is a yuan. The real difference is felt in international trade: a widget (clothing, toy, computer part) that is made in Shenzhen for 80 yuan now costs $20 rather than $10 to produce. If the widget is exported, the cost to other countries (the U.S. for example) will be more, and hence other producers of widgets (in Europe or in U.S.) will be more competitive. Further, imports to China will be cheaper: in the past, a $10 bottle of wine would cost 80 yuan in China; with a new exchange rate, the same bottle of wine would cost 40 yuan, making it more difficult for competitors in China to compete with imports.

This explanation is, of course, exaggerated. In the NY Times article cited, it points out that a 10% rise in the value of the yuan is “larger than most economists expect.” Obviously, a large change in the exchange rate will have a large effect on industries in China that depend on exports or might have to compete with imports.

In the U.S., according to another NY Times article by Elizabeth Becker entitled “China Heads List of Problems for New Trade Official” (April 30), the confirmation of Rob Portman as new U.S. trade representative was “held captive” by democrats, labor unions, and business interests over their objections to China’s illegal trade practices. The administration has not taken China to task over violations that could be brought before the World Trade Organization.

There are two cases of piracy which I have witnessed first-hand that need to be cited in order to understand some of the significance of what is involved. Software is an ubiquitously pirated in Zhongguancun?pirated versions of Chinese Windows are very popular. One reason Windows is pirated is due to price: the selling price of pirated Chinese Windows is 6 yuan, less than 1 U.S. dollar; the price of authentic Chinese Windows is 2,000 yuan, or 250 U.S. dollars. While $250 might not seem like a lot of money for people in the U.S., in China it is a month’s salary for college graduates. The non-pirated version costs 40 times as much.

Microsoft has taken measures to combat piracy, including installing an update that makes the computer crash when it is turned on. For some, then, the only way to avoid computer viruses is to make trips to Zhongguancun every few months to get the software updates to Windows.

An important consequence of this piracy that is often overlooked is the effect it has on computer users in China: everyone uses Windows! If, for example, those who could afford Windows paid for the authentic version while others just went without, a huge portion of China’s population could not use computers or the internet. We can imagine a government-subsidized project or group of companies racing to fill this void: whoever can create an operating system that serves the millions of people in China who cannot avoid 2,000 yuan but CAN afford 200 yuan will make a fortune. Instead, the piracy of Windows has discouraged companies in China from developing their own operating system. Piracy, while taking revenue and sales from Microsoft, has also extended the regime of Windows over another part of the computer world. How can estimates of losses to Microsoft be calculated when something that “steals” from them, also “helps” them?

The other example of piracy is that depicted in the NY Times article by Becker: movies, especially VCDs (video compact disks, prevalent in China) and DVDs. Again, the same argument can be made: the global dominance of Hollywood is enabled by its extension everywhere through piracy. Revenues, profits, and sales are clearly lost when a DVD is reproduced for pennies and then sold for dimes. Yet there is something more that is gained by the movie companies: a global audience. If companies are paying more for product placement in movies then isn’t that a worthwhile expenditure, and can’t movie companies charge more for this given the global reach of its movies?

I believe the lesson to be learned from these examples of piracy is that there are ways to combat piracy that do not involve the government. China is the most populous country in the world, and expecting the already sparse police force in cities to deal with piracy is unrealistic. Instead, U.S. business interests need to follow the example of Microsoft and Hollywood, not in depending on government or bringing cases to the WTO, but in finding ways to deploy piracy in one’s own interests. Microsoft Windows reign over the world of PCs has meant that official and legitimate business in China all use authentic (non-pirated) versions of Windows. That is real revenue for Microsoft. But the millions of pirated versions of Windows maintain Microsoft’s position and discourage other companies in China from developing new, replacement operating systems. Similarly, Hollywood companies need not fear piracy of DVDs as much if they can gain revenue from other companies (Coca-cola, Prada, Nokia, China Mobile) who pay to have their products placed in movies.

These two articles from the NY Times have provided much food for thought. Both are related more to international trade with China than to Zhongguancun. I hope this discussion will reveal some aspects that might not otherwise be obvious. I advocate a more open, free-trade position with China, in line with the current administration of U.S. Protectionist moves, like those being considered in Congress, are not helpful to either the U.S. economy or to U.S. businesses, against what might be popularly thought.