Bullwhip

June 12th, 2010

American companies across industry sectors are complaining they can’t get their products made. “China won’t make our stuff,” one recently told me. Some traders have been informed of longer lead times, others have been offered excuses that make little sense. I ran across the following graph, which I find interesting, and which may be illuminating.

1The red line represents year-on-year growth of China’s imports. The blue line indicates year-on-year export growth. Remember that China imports include not only goods that locals consume, such as Microsoft software or BMW automobiles, but also large volumes of raw materials that get turned into products that are reexported. For example, China takes in large volumes of timber from Canada, which is then made into kitchen cabinets and bedroom sets sold in the United States. The more China exports, the more it needs first to import.

From the graph you can see that China suffered a blow during the global financial crisis. Import and export growth rates were steady for quite a long time, and then they dipped towards zero around this time last year. In 2010, orders bounced back in a big way, and China has been scrambling to bring in raw materials to meet sudden demand.

Perhaps the most interesting part of the graph is the third “blue bar” from the right. These blue bars represent China’s trade balance. When the bar is above the line, China has realized a trade surplus. When it is below the line, China has registered a trade deficit. China almost never registers a trade deficit as exports tend to outstrip imports, but the economy saw a deficit three months ago. The mainstream media happily reported on the event, suggesting that it was a sign of a more balanced trade situation. Little did anyone suspect.

The sudden inflow of imports was in large part connected to a ramping up of orders. Good news for those who want to know if the global economy is on the mend, bad news if it means we are returning to a period of growing trade imbalances with China. It’s going to take a few months to understand what we are going through now, and I’m as curious as anyone to see where we end up.

2The graph, by the way, reminds me of a lesson from business school, a phenomenon known as the Bullwhip effect.

Some may have a hard time understanding the problem with too many orders. Speaking with a friend about this yesterday, I asked him to imagine what it would be like if his business suddenly increased 100%. “Sounds good,” I suggested, and then I asked what if every business in the country realized the same overnight doubling. You might have trouble getting hold of stock. There might be pricing pressure. Shipping might be harder to come by as capacity was suddenly constrained. You might have trouble finding workers.

This is what’s happening in China. Shipping costs have shot up. Workers, seeing a sudden increase in demand for their labor, are demanding higher wages. It’s a supply chain nightmare.

For those who have standing orders in China, expect that the production situation will clear up over the next few months. For economists and analysts tracking trade figures and other macroeconomic indicators, I wouldn’t be surprised if we are entering a newer and even grander period of import/export trade imbalance with China. That monthly trade deficit that China ran in March 2010 might be seen as marking the beginning of such an era.

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Millions For Food Safety

May 21st, 2010

While on its way to become the world’s second largest economy, China has just accepted funding for an initiative that might have been self-financed:

The World Bank will provide a $100 million loan to the People’s Republic of China to improve food safety efforts, Food Production Daily reported yesterday. The loan, the bank’s largest ever for a food safety initiative, will fund 70 percent of the China’s initiative to up the safety of agricultural commodities from the Jilin Province.

Foreign Policy’s Evan Feigenbaum recently pointed out that China contributed a paltry $1.5 million towards the $5.3 billion raised for Haiti relief, “less than the cost of a house in some of the tonier suburbs of Shanghai.”

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The Silver Cup Episode

May 21st, 2010

As a result of writing a book, a number of unusual things have happened to me I suppose, things that might not have otherwise. One of the stranger things has to have been an email I received from an antiques dealer in the UK. He wrote explaining that he and his wife had come into the possession of an antique silver cup, and that I turned up on some China-related research.

I received details about their silver cup, which was engraved. Ten inches high and 5.5 inches wide, it weighed 25.5 troy ounces. The engraving indicated that the cup — a goblet, really — had been dedicated to someone named Midler who had either lived or passed through China in 1867. The resale value of an antique tends to increase with accompanying historical information, and so this British couple was interested in any information about a 19th century link.

1You can click on the image here for a larger view of the cup, and I’ll place a few thumbnails at the bottom, as well.

From the photos, you can make out a few details. Decorated with engraved bamboo leaves, the cup was dedicated to an “A. Midler, Esq.” It was given to this individual, “on his leaving China.” There are other markings, including the name of the engraver — Awing — and Chinese characters on the cup suggest that it was produced in Hong Kong. As was customary in those days, the characters were written from right to left (as opposed to the more common modern convention of left to right).

The Far East saw a large number of Jewish merchants in the 19th century, and so it might have been a possibility, but, no, I wrote to the antiques man and his wife, I had no reason to believe that relatives had ever been to China before I first set foot. Curious, I asked whether the cup might be for sale, and I got a price of 550 British Pounds (US$830).

It crossed my mind that there might be risk in a purchase, so I rang up the dealer directly to ask about assurances. The cup was guaranteed to be “sterling silver or better,” and the couple was willing to conduct a sale through eBay. I looked at the going rate for sterling, and the price for the cup wasn’t far above its “melt value”. Based on weight alone, it was close to what other silver objects sold for online anyway.

I sent details of the cup and my correspondence to friends and family. The response was universal: Everyone suspected a con. I tried to make the case why it might not be, but no amount of information or discussion could convince otherwise. For some reason, the very idea of the cup made people angry. One of my closest friends promised that she would never speak with me again if I was foolish enough to buy the thing. Of course, I had to laugh. As a China manufacturing specialist, I’ve done more than my fair of investigations, and on many projects, I make it my job to ferret out fraud. The reaction of these others was ironic. In this case, I was the only one thinking that the cup might be genuine when everyone else was certain it was a fake.

What a shame, I thought, because I imagined acquiring the piece and displaying it. I figured I might even take it on tour with me. When expatriate friends bragged about their early arrival in China, I would show them my sterling silver artifact and allow them to ponder the possibility that my ancestors had been through the region long before they were born.

The cup might be nonsense, I told one friend, but the antiques dealer and his wife were certainly not con artists. Never mind the good impression I had of the husband while speaking with him by phone. The couple’s eBay rating was 100% perfect; out of over one thousand transactions, not a single negative report had ever been filed! Had the antiques-dealing couple listed other silver pieces adorned with not-too-common surnames, I might have been forced to suspect they were the sort who prey on the desire among some to be associated with famous lineage. But this did not seem to be the case. The couple sold all kinds of silver items, most of them small and unremarkable.

Just as I trust my intuition, I believe my friends to have good instincts. In the end, I agreed with everyone that it was statistically unlikely that a “China antique” bearing my last name should appear on the market, and just as I’d completed a certain impolite book on China. Perhaps the cup was a joke — but initiated by whom? I did research and couldn’t come up with a single other example of a sterling silver cup given as a gift in the 19th century in China. This seemed important. If the cup had been a legitimate relic, strange that there should be no comparable items for sale anywhere.

I didn’t buy the cup, but I felt compelled to come to some sort of conclusion. If the cup was an attempt to defraud, profit didn’t seem to be the motive. There wasn’t enough margin to justify the long odds associated with only a remote possibility of a sale. The cup was probably fake, sure, but then it seemed to have found its way to a genuine antiques dealer. Why? In order to make the object appear more legitimate?  In the end, I wanted to buy it, but only because of the questions raised by such an unlikely fraud. If it really was a fake as the majority of those who heard of it have insisted to me, then why was it produced? Who would go to so much trouble?

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Pirate’s Paradise

May 19th, 2010

A reader mentions a copyright infringement case involving Expo Shanghai in an email:

The Chinese government spent RMB 10,000,000 [US$1.5 million] commissioning a theme song for the Shanghai World Fair, only to discover two weeks before opening that the song was cribbed from a Japanese song from the 1990s. Rather than scramble to come up with a new song, the Chinese government paid the copyright owner a JPY 300,000,000 [US$3.3 million] royalty.

Japanese papers apparently broke the news, and there’s been some criticism over the last-minute rights deal. China’s use of the song, some say, nearly sanctions the infringement. Not allowing the song to be played might have been a better message to send to an economy seen as a “pirate’s paradise” (盗版天国).

China is of course not the only place where songwriters suffer copyright infringement. The U.S. is home to a number of famous cases, including the one in which George Harrison was sued for “My Sweet Lord,” a rip-off of the Chiffon’s “He’s So Fine.” Even Mozart was said to have been a creative collaborator.

Some of the differences between music copyright infringement in the U.S. and China include (a) in the U.S., it is easier to obtain justice, and (b) fewer folks in China are bothered by piracy generally speaking. As I’ve suggested elsewhere, piracy can be seen in China as a positive value, some even make the claim that it is nothing more than flattery.

I’m sure the Japanese songwriter who picked up that unexpected 300 million yen (US$3.3 million) was indeed flattered.

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Let’s Talk Pharmaceuticals

May 15th, 2010

Long before my not-long-ago post on FDA, a man in Pennsylvania had run across my book and wrote to tell me about research that he was doing in pharmaceuticals. For those who may be involved in pharma and for many of those concerned about the threat posed by lax controls in supply chains, I present the following bedtime story: Potential Health & Safety Impacts from Pharmaceuticals and Supplements Containing Chinese-Sourced Raw Ingredients. Prepared for the U.S. China Economic and Security Review Commission, the report is detailed. From the first paragraph of the executive summary:

Against the backdrop of recent health and safety concerns caused by tainted, or otherwise unsafe raw materials discovered in imported products from China, this report attempts to address similar concerns on the potential array of health risks to American consumers from imports of specific raw materials supplied by China used in the U.S. manufacture of pharmaceutical and supplement products…

When I was in business school, a group of us made a field trip to the McNeil plant that manufactures Tylenol caplets. It was spotless; not a cart, tool or dustpan was out of place. Having visited that facility and then having later inspected hundreds of factories in China, I can assure you that we have far less to worry about at home than we do abroad. But this is not new information.

The report I mention (above) came out a good month or so before FDA’s recent investigation at McNeil, and I can’t be the only one who finds the timeline disturbing. Just when FDA should be highlighting problems with materials from China, it has turned the spotlight on U.S. manufacturers. It shouldn’t be this way. I’m in touch with a growing number of professionals who work in consumer product safety. Some of these people work for large multinationals, others are in government. Most of these folks are interested in increasing quality standards, in general, but there are, unfortunately, political aspects to the problem. I write on quality issues because they interest me, and in order to promote discussion on a subject that I believe is important to all. My hope is that some who might catch this note will choose to discuss this topic openly with others.

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Dealing In Dollars

May 12th, 2010

China’s currency is pegged to the U.S. dollar, according to Zachary Karabell, because when the planned economy began to liberalize, the dollar was “the most important avenue of access to the U.S., the world’s most vital and dynamic economy.” He’s got something there. Really. Another line from the WSJ opinion piece that grabbed my attention: “Because much of global trade is conducted in dollars, especially Chinese trade, governments and institutions throughout the world have little choice but to invest in U.S. assets.”

Now, those are two different ideas. On the one hand, China works with U.S. dollars because, like much of the rest of the world, it finds that it has “little choice.” On the other, China’s decision to link with greenbacks — and now to accumulate them in great wh2volumes — has something to do with Beijing’s desire to associate itself with “the world’s most vital and dynamic economy.” In other words, it’s an automatic, economic response, but at the same time there is also a prestige element involved.

I’m suddenly reminded of a real estate deal: At the end of 2009, a group of investors from China acquired the White House Theatre in Branson, Missouri, for $354 million. This was no small transaction, and you really have to wonder how profitable show business is in “The Show Me State.” I may be wrong, but I don’t think there would have been nearly as much investor interest in this property had the theatre been of a different architectural design. The symbolism was not lost on the China Daily anyway, which ran the headline, “Chinese Company Takes Over White House Theatre.”

Just as some in China may fantasize about a “take over,” officials in Beijing derive at least some psychological satisfaction from owning a significant chunk of the American economy (vis-à-vis U.S. dollar-denominated assets). American pundits have looked at massive foreign reserves in China and speculated about what the country might do with them one day (one possibility: “dump” them). Like that theatre in Missouri, there may be no point beyond the symbol of the thing.

While on the issue of foreign reserves, I’d like to correct a misconception, this notion that an “American spending spree” is to blame for the accumulation of now over $2 trillion dollars in China. The Atlantic’s James Fallows has been on the beat for some time, and in one article written last year, he suggested that Nouriel Roubini buys into this line of thinking:

Chinese commentators blame American “overborrowing and excess” for dragging them into a recession. However, [Roubini] states that “even they realize that the very excess of American demand has created a market for Chinese exports.” He adds that although Chinese leaders “would love to be less dependent on American customers and hate having so many of their nation’s foreign assets tied up in U.S. dollars,” they’re now “more worried about keeping Chinese exporters in business. . . .”

Like nearly everyone else on the topic, Roubini exclusively ties demand from American consumers with U.S. dollar accumulation in China, and yet the U.S. takes in only one-fifth of all that China exports!

Other countries have trade imbalances with China, too, and importers from around the world — the other four-fifths — are often paying for China goods with U.S. dollars. These other economies have collectively contributed significantly to the build-up of U.S. dollar-demoniated assets in China, a point often missed in the discourse.

Karabell’s piece is worth a read, if only for this reminder, that the whole world deals in dollars.


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The Cost Of Driving in China

April 20th, 2010

China may be the largest auto market in the world, but its expressways are empty. The reason is that they are privatized, and it costs drivers an average of 12 cents/mile to use them. When gas runs $3/gallon in the U.S., it’s close to $4 in China; expensive tolls can more than double the figure to an effective cost of $8/gallon+. While not having to suffer traffic congestion and pollution sounds attractive, there is underutilization on the expressways, and the economic cost of long-distance travel poses a challenge to a nation trying to convince its people to move away from dense cities on the coast and into the interior. China will invest $300 billion in high-speed rail, and it will spend another $62 billion to construct 100 new airports. Many have suggested these are the signs of progress. I’ve hinted in an article for Forbes that these investments may instead hint at China’s inability to get people riding down the highway.

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Book Cover: The Dangling “A”

March 27th, 2010

A number of people have been made upset by the cover of Poorly Made in China. You would think that their problem has been with the title, but in fact it is the graphic design that has raised ire. Here are two letters published by Chemical & Engineering News, in response to a book review it printed.

I’m a Chinese grad student studying chemistry in North America, and usually C&EN is one of my favorite publications. However, the review of the book Poorly Made in China makes me feel extremely uncomfortable. The word “CHINA” with a broken A on the book’s cover and reproduced in the review is very insulting. How would you feel if you saw “USA” or “CANADA” with a broken A?  – Chao Fang (Toronto)

The review of Poorly Made in China was interesting, and the reviewer gave interesting advice on doing business in China. What troubles me is the book’s cover, which was reprinted in the magazine. It makes one question the political position of the book’s author, its publisher, and even the review’s publisher toward China and the intent behind torturing the word “CHINA.” – Yong-Kang Zhang (San Jose)

A little background: While in the middle of writing the book, my publisher sent over a cover design that was was a concept meant to convey the idea of “quality fade.” One of the letters was nearly transparent. I thought that it made the title too hard to read. I suggested they tilt the last letter instead, and I mentioned something like a position of 2 o’clock. The designers took the basic idea but made it their own. The final result was a book jacket that catches the eye and which won a design award at a book fair.

aOn the picture posted here, I caught this in a small bookshop – Freefall by Joseph Stiglitz placed on a shelf next to Poorly Made in China. I’d seen Stiglitz’s recently-published book online and didn’t think too much about its cover design. Placed side-by-side, though, the similarities are curious. If only his publisher had chosen to flip a different letter, and could they not have gone for a color other than scarlet? Anyway, I should probably thank his publisher, since they’ve given me an answer to those who want to complain about a dangling “A.”

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Foreign Rights

March 13th, 2010

Poorly Made in China will soon be available in Chinese. For those who don’t know, Chinese can be written in one of two forms. Simplified characters are used in China, and traditional characters are used in Hong Kong, Macau and Taiwan. My publisher just sold the right to Orthodox Chinese, or traditional characters.

There’s still no word on whether a anyone on the mainland is willing to translate, but we are talking with publishers there. That’s all I can offer on the subject at this time (and thanks to the many who have asked when we can expect a version for China).

Also on the foreign rights front, we just sold transltaion to Indonesia. I have no idea about the book market there, but Indonesia is the world’s fourth most populous nation with 230,000,000 people, and so we are adding a large number of potential readers with this rights deal. Poorly Made in China is making the rounds. Stay tuned.

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Two Stories You Missed

March 12th, 2010

Story One: Hacking of Energizer Duo Battery Chargers. Energizer battery chargers made in China have been found to have “trojans” loaded onto them, so that when the devices are plugged into a computer via USB port, a backdoor is left on the machine that makes it possible for someone to hack it from afar. This sort of news of course raises questions like: Who is behind the malware, and why did they do it?

Marcus Sachs, a former National Security Council member and a member of the CSIS Commission on Cyber Security under the Obama administration, is downplaying the incident. In an article on CNET, he suggests that China may have once had problems with malware — back in the old days, meaning 2007? — but that things have changed. LOL moment: His suggestion that the malware is just a bit of shmootz, an issue with hygiene:

If the Trojan does date back to 2007, that is around the same time that there was a rash of products like digital photo frames hitting U.S. shelves infected with malware, said Marcus Sachs, director of the SANS Internet Storm Center. ”This may simply be from that time frame when all the factories in China were not clean and many were putting malware onto stuff, not intentionally but because the hygiene wasn’t good…”

Story Two: Tainted Chinese Fluoride. A water works company in Massachusetts has been getting its fluoride from China, and it believes that what they’ve been receiving is actually a kind of counterfeit. From one report:

Department of Public Works Director Rob Desmarais said after he mixes the white powder with water, 40 percent of it will not dissolve. ”I don’t know what it is,” Desmarais said. “It’s not soluble, and it doesn’t appear to be sodium fluoride. So we are not quite sure what it is.”

Desmarais said the residue clogs his machines and makes it difficult to get a consistent level of fluoride in the town’s water. Since April the fluoride pumps in Amesbury have been turned off and they will stay that way until Desmarais can find out what’s in the fluoride that’s imported from China.

Because this one affects public water supplies, some are suggesting it is a homeland security issue. I don’t know about the categorization, but I know that there are persistent quality problems out of China, and that these problems are often of the intentional variety.

I am more concerned about the fluoride case than the trojan case. The high level of game-playing in China manufacturing processes combined with a cultural inclination towards counterfeiting goods, mixed in with the nature of chemistry, suggests a high level of risk associated with chemical products in particular, one that is not appropriately being factored into the bilateral trade picture.

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