Part I: 10 reasons why China is ahead of India

Together India and China present the world's largest markets. China is regarded as India's only serious competitor and has become a reference point even for India to measure its success.

However, China averages close to 9 per cent GDP growth rate compared to India's 5 per cent and has become the manufacturing hub for the world.

But experts believe that China's growth will plateau and India will emerge as the choice destination in Asia for investors.

China's problems are being seen as related to its pursuit of a socialist market economy despite calling for private investment.

Recently, China's central government reasserted control of the 200 largest enterprises with the creation of State-owned Assets Supervision and Administration Commission (SASAC).

"Provincial and local governments control the vast majority of capital-hungry enterprises, and that creates an unsolvable collusion between regulators and the state's ownership interests. This is arguably advantageous in the early, low-tech stages of infrastructure and commercial development, but for the future its impact is likely to be less positive," says Kenneth J DeWoskin, a senior consultant, PricewaterhouseCoopers (China), who has been studying China for the last 40 years.

China's biggest asset

China's biggest asset has been its strong manufacturing base. While it will be very difficult for India to catch up with China in the manufacturing sector, there is a strong opportunity for India to build itself up as the back office to the world.

In the last few years, a number of IT companies like Oracle, IBM, Cisco, Intel and Microsoft have set up research and development centres in India, a sign that, industry experts say, speaks of the fact that India is slowly moving up the value chain.

"We should not lose sight of the fact that China's exports and inbound investment still largely focus on manufacturing with cheap labour. Successful technology companies are rare, maybe non-existent, and high tech undertakings like wafer fabs (fabrication units) are at least 5 per cent more expensive in China than in Taiwan or South Korea," says DeWoskin.

So how deep really are China's roots in the high technology sector?

China exported services and exports worth $325 billion last year and had officially classified just over 20 per cent, or $68 billion, as 'hi-tech exports.'

DeWoskin says that most of this 20 per cent were either components or low margin, commodity consumer electronic products. These include technology components, but with a value-add in China that is not really 'hi-tech.'

And these exports are not very Chinese either.

"Eighty-five per cent of China's hi-tech exports are produced by foreign-invested enterprises. A full 61 per cent come from WOFEs (wholly foreign-owned enterprises), taking advantage of ultra efficient manufacturing, often in huge, cheap labour plants run by Flextronics and other electronic manufacturing outsource shops. Within these walls, there is little hi-tech value creation, no robust R&D investment," he explains.

Chinese 'hi-tech' exports

In real hi-tech, China is estimated to have run up a $15 billion trade deficit last year, mostly in semiconductors, which contrasts to its huge trade surplus otherwise.

"In the semiconductor value chain, of design, manufacture, and assemble-test, all of China's export earnings are at the last, low-value end of the chain," says Dewoskin.

According to development economists, China follows the 'Flying Geese' model of development, where the path to economic maturity is divided into seven stages. The first three stages of development depend on cheap labour in factories that assemble products.

However, getting past the mid-point stages is more complex.

"It requires robust IPR protection, a functioning commercial legal system, a sound, market-driven financial system, and the ability to create and manage brands globally. It requires disciplined, commercial R&D supplemented by objectively directed public basic R&D spending, and a relatively open, competitive, objective standards process," explains Dewoskin.

According to DeWoskin, unfair regulatory practices are pandemic in China, some publicly acknowledged and others subtle and take the form of uneven application of taxes, duties, and user fees, uneven enforcement of regulation and law and politically influenced supply chain relationships.

"These practices certainly impact foreign investors but have a greater negative impact on China's own entrepreneurial domestic private economy," he says.

Unlike India or Taiwan, R&D investment and achievements are not seen as being as rewarded by the market that is largely focused on mass production and huge factories.

"This makes R&D funding in China forever dependent on government industrial policy and planning, and it allows reverse-engineering to masquerade as R&D. Neither is a formula for success in today's global competition for innovation and creativity," says DeWoskin.

FDI figures questionable

Last year China's foreign direct investment numbers came under much scrutiny too.

A study by the International Finance Corporation, a World Bank arm, questioned whether China's FDI figures were accurate.

IFC suggested that the reason why China's FDI numbers are so high is because it resorts to 'round tripping', a method where funds originated from the Mainland are disguised as foreign capital and repatriated back to it via Hong Kong.

IFC estimates nearly 50 per cent of total FDI flows in 1999 and 2000 to have gone through round tripping; and this would reduce net FDI inflows from about $40 billion to about $20 billion in China.

India's numbers of about $3 billion a year in FDI have also come under scrutiny, but for the reason that the IFC suggests that they are too low. IFC has said India's FDI statistics do not conform to international accounting standards. India excludes reinvested earnings, subordinated debt, overseas commercial borrowings; all included in other countries' FDI statistics.

A recomputation would raise India' net FDI inflows from $3 billion a year to about $8 billion, while China's inflows, net of round-tripping, are about $20 billion.

On that basis, IFC had said that FDI represents 2 per cent of China's GDP and 1.7 per cent of India's GDP, which is not much of a difference.

China faces long-term problems

For a while now, experts have been saying that China will hit a brick wall in terms of growth.

But DeWoskin says that such prophesies are a tad exaggerated.

Undoubtedly, China is growing faster and will emerge as one of the biggest economies of the world, maybe even more than India, but in the long-term it faces some serious problems that it needs to address.

"I do believe that the policies and practices of the first 25 years of reform have circumvented deep structural problems that will bedevil and frustrate China's next development stages, and this leaves plenty of room for economies with other strengths, and perhaps different problems, to compete successfully in Asia and the world," he says.