Monday, February 6, 2017

Competition and Chinese Capitalism

A feature of the tech industry in the US has been the prolonged dominance of industry leaders like Microsoft and Intel earlier, and Google and Apple or Facebook and Twitter or Amazon and Uber now.

As Marianna Mazuccato has shown, all these companies ride on products built on pre-existing innovations, with largely incremental innovations. Once they become entrenched, despite the much-vaunted market promoting institutions, competitors struggle to make a mark. The incumbents accumulate massive cash surpluses, preferring to payout dividends or buy up firms instead of re-investing in product development. The Economist reports that for "every dollar of cash the tech industry makes, it reinvests 24 cents; that compares with 50 cents for other non-financial firms." 

Commentators rationalise these apparent contradictions with free market principles on aspirational values, network effects, intellectual property rights, and the nature of modern internet economy itself. Apple has positioned itself as an aspirational symbol and is therefore able to steer consumers towards its suit of products. Google and Amazon benefit from vertical and horizontal network effects. And in any case, all these firms have to fight the inevitable forces of Schumpeterian creative destruction. So why should we be worried?

Only that this argument is being upended in product after product in China. The entry barriers that are blamed for market concentration appear less applicable. Even without the Schumpeterian dynamics of new market creation, firm turnover in the same product market is surprisingly high. 

There is something about China that brings out the competitive juices of capitalism. The latest example comes from the rise of new competitors to the likes of Apple in the smart phones market in China,
OPPO, and its sister firm, Vivo, also a child of BBK, started out in 2004 and 2009 respectively, making cheap and cheerful phones like plenty of other obscure Chinese manufacturers. They probably didn’t even register on Apple’s radar. Xiaomi was the Chinese handset-maker to watch; urban sophisticates, enticed by viral marketing, flocked to its slick devices. But in June 2016 OPPO’s R9, which costs around $400, overtook the iPhone, which is priced at twice that, as China’s best-selling handset. Vivo, which targets younger consumers with lower prices, is also surging... Two years ago they were struggling to join China’s top five smartphone-makers; now they are among the biggest five globally. One out of every three smartphones sold in China in the third quarter of 2016 carried one of their brands; in 2012 their combined share was below 3%.
Apart from developing excellent products, their success has owed to very insightful appreciation of the market,
It took discipline not to be waylaid by the striking (though short-lived) success of Xiaomi’s hype-fuelled internet strategy. Many other companies tried to copy it. From 2011 to 2013, insiders say, OPPO looked hard at expanding its online sales channels, but decided against it... Instead, OPPO became still more expert at incentivising its physical retailers. It has shown itself willing to share some of its profits with local stores. It uses a sophisticated system of subsidies that vary by model and season. One retailer in a small town in Sichuan says that although he sells many brands of smartphones, OPPO’s generous subsidies make him extra-eager to peddle its wares.
And the result, 
Fat profits are hard to come by in China’s giant smartphone market. Because it is simple for firms to outsource almost every aspect of phonemaking, from designing components and chipsets to contract manufacturing, the barrier to entry is low (the physical networks that OPPO and Vivo have built will be far harder to replicate than an online presence). Teeming firms means vicious price competition, especially for cheaper phones. The price of a Chinese smartphone may drop to as little as $50, analysts reckon.
Competition has encouraged firms to share a greater part of profits with their retailers, spawned a large and vibrant eco-system of suppliers, lowered entry barriers, and dramatically reduced prices for consumers. 

Isn't it ironical that Chinese capitalism has generated outcomes similar to those taught in Econ 101, whereas American tech industry has spawned monopolistic behemoths? 

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