China's Inflation Higher Than Expected

I’ve been watching inflation in China recently, which you can read about here and here. A recent Reuters report has announced inflation in China is even higher that expected, reaching an 11 year high. At 8.7%, inflation is approaching a full percentage point higher than predicted, and nearing the double digits expected later this year.

China’s Bureau of statistics confirmed what was already suspected - higher food prices caused by the severe winter storm coupled with rising energy prices are the driving factors of current inflationary pressures. The Bureau of Statistics went on to explain that with food and energy taken out, core inflation was a more acceptable 1% in February.

However, given the unique circumstances in China (i.e. a massive population, extreme energy shortages and reduced crop yield), trying to paint the economic picture in China without food and energy is unrealistic. It’s also not likely to be short lived since resources in China are stretched so thin.

The question becomes, with the economies of the US and China so inextricably linked, how will inflation in China affect the US?

More Microsoft Woes

I recently commented on the troubles at Microsoft in a post titled, "Microsoft's Purchase of Yahoo - An Effort to Remain Relevant". Recent news seems to have confirmed my suspicions about Microsoft's motivation for its move to acquire Yahoo. I just ran across an article in the New York Times titled "They Criticized Vista. And They Should Know." The article details a pending class action lawsuit Microsoft must answer to for the failure that was the Windows Vista release.

I'm not a fan of Microsoft products, but I think everyone must acknowledge the fact that Microsoft has a near monopoly on PC operating systems. This lack of competition has created an environment at Microsoft that lacked concern for continued improvement or attention to its customers. What we're seeing now is the consequences of that corporate culture.

I think my original analysis was correct, and this NY Times article confirms it. Microsoft is in reaction mode, trying to make up for a lack of management and direction.

The Decline of the US Dollar: What Does It Mean?

As the US Dollar continues to plummet to new lows on Forex markets, many business owners and managers are wondering what it means to them. The answer is fairly simple, but it really depends on your perspective and the type of business you are in.

First off, I need to explain that the US Dollar is not really losing its value. The value of the US Dollar (domestically) is actually a function of inflation. The US Federal Reserve has been very proactive about controlling the liquidity of currency in the market to insure inflation does not rise. In fact, the US Dollar is really only losing its value compared to other currencies. Or in other words, other currencies have more buying power than the Dollar.

Domestic Purchasing Power

So, what does that mean to the US? Domestically, nothing has changed. In fact, if the value of the Dollar on the Forex market was not on the news, US consumers would be completely unaware. Domestic products remain the same price, however products imported from countries whose currency is stronger than the Dollar are becoming more expensive (requiring more US Dollars to purchase). This makes the consumption of US made goods more economical here in the US.

US Exports

For businesses that export US goods overseas, the weak Dollar is good news. Strong foreign currencies can purchase more US made goods, making US imports more economical than (foreign) domestically produced goods. Therefore, the weak Dollar will actually increase US exports, stimulating US production.

US Imports

However, US businesses that rely on foreign imports are negatively affected by the weaker US Dollar. In order to purchase goods made in countries with stronger currencies, more US Dollars are required than before. This makes imported goods more expensive than US made goods, and therefore less economical to US consumers.

Travel

While a weak US Dollar is relatively meaningless to US consumers domestically, it really affects US citizens traveling abroad. Strong currencies in foreign countries means more US Dollars are required to purchase goods, making travel abroad expensive. The reverse is true for foreign tourists wishing to visit the US, making our country an inexpensive vacation destination.

Weak Dollar = Good News?

US citizens tend to make a strong US Dollar a point of pride. Reactions to the declining value of the US Dollar on the Forex market have ranged from humility to outrage with our elected officials. However, a weakening Dollar is actually a benefit to the US right now. With an economy on the brink of recession, a weak Dollar will increase US exports and tourism in the US by foreign tourists. Increased US production linked to the decline in the value of the Dollar abroad will translate into more jobs in the US.

"Made in China": Keys to Successful Sourcing

I had lunch today with Michael Bloom, founder of Off Shore Solutions and a board member of the Master's of International Management program I just graduated from. During lunch I had the opportunity to discuss with him an article in the Oregonian titled "Made Safely in China". The article was about recent recalls of Chinese manufactured goods, and the author of the article interviewed Mr. Bloom as he's an expert in the field.

US firms sourcing goods in China often make the mistake of assuming that the rules of business in China are the same, or at least similar to those in the US. US firms spend enormous sums of money on contracts that spell out every detail of a business relationship - or even a single business transaction. However, while contracts provide a good way to develop a framework of expectations for each side of a business deal in China, they are fairly useless for any other purpose.

As I've mentioned in previous blog entries, China is an extremely "relationship-based" culture. Often times, when the relationship-based business culture of China meets the legal-based business culture of the west, there are problems. When western businesses fail to develop meaningful relationships with their Chinese suppliers, opting for legal contracts in their place, they really lose a vital component of the business relationship - guanxi.

Without that guanxi aspect of the business relationship, Chinese suppliers can be tempted to cut corners in the production process as evidenced in recent scandals involving lead in Mattel's toys and melamine in pet food. Further, if the business relationship is not mutually beneficial, the Chinese may outright refuse to honor it. Mr. Bloom related to me a case where a Chinese manufacturer discovered it was not making money on the production of goods. When this revelation was made, the supplier simply shut down production, crippling a major multi-national corporation in the process.

What US businesses often don't understand is that the contracts they rely on really don't mean anything in China. Once the Chinese business partner decides to violate the contract, the US counterpart really has no recourse. The Chinese legal system is in its infancy. Further, Chinese courts tend to side with Chinese regardless of the details of the case.

One notable exception of this would be instances where the bad actions of the Chinese side make global headlines and/or a substantial loss of life ensues. However, the consequences in circumstances like this usually involve the execution of responsible parties. While this discourages Chinese from repeating the actions involved, it hardly compensates the US firms harmed by those actions.

Successful business transactions in China depends on 2 main factors: guanxi and responsibility. US firms need to learn to develop personal relationships with their Chinese counterparts. A single person or group of people must be the "face" of the US firm and represent it in China build guanxi there. Second, with an absence of consumer protection agencies US firms rely on in the US to insure quality control, firms sourcing in China need to learn to take responsibility for their own supply chain. If your firm is importing pet food for example, you should at the minimum have personnel in the manufacturing facilities in China doing routine quality control inspections.

Finally, if a dispute does come up in the process of doing business in China, don't count on legal recourse because there likely will not be one. Negotiating is really the only viable option for US firms, and guanxi is the best card that can be played when negotiating with the Chinese.

Looming Economic Downturn in China’s Future?

US investment bank Goldman Sachs recently revised its forecast of inflation in China from 4.5% to 6.8%. They further predicted that inflation could actually hit double digits in the coming months. This comes on the heels of China's Central Bank predicting the same, citing increased prices of food, which makes up 1/3 of China's CPI as the root cause.

This couldn't come at a worse time as Chinese stock market analysts are predicting a burst in China's stock market bubble. Investors are cashing in on the government's perceived unwillingness to step in to control the market before the 2008 Olympics. Many expect the government to begin regulating the market immediately after the Olympics and are planning to cash out just before that happens. A mass exodus from the market would cause a correspondingly large correction. Further, in a market without rules or regulatory agencies to speak of, that correction could have a devastating affect on Chinese businesses and the investments of those that will not be able to find buyers for their shares.

It will be interesting to watch this play out. As the US and Chinese economies have become increasingly intertwined, the domestic economies of each country are having a larger and larger affect on the global economy. The US Federal Reserve is desperately trying to fight off a recession in the wake of the "Mortgage Meltdown". China has played a major role in keeping the US economy moving by pegging the Yuan to the Dollar and financing the US national debt by buying US Dollars. An economic slowdown in China could have a dramatic effect to the US economy, which in turn would amplify the problems China is facing.

Harsh Winter in China

During a recent informational interview, I had the opportunity to discuss the impact of this winter in China with a local Chinese business man. We haven't heard much about it here in the US, but the severe weather in China has had a devastating impact on the middle kingdom. Farmers are reporting massive crop losses, and according to this video, the extreme cold is having an enormous impact on the Chinese power grid.

It's Chinese New Year!

新年 快乐！恭喜发财！

Chinese Market Information

Here's an interesting market research PowerPoint prepared by Ogilvy. It's got some very compelling information about the market in China.

Microsoft’s Purchase of Yahoo: An Effort to Remain Relevant

My takeaway from business strategy class was that even the best planned mergers and acquisitions usually fail. Redundancy or resources, overlap of product, and personnel/culture clashes are usually key to the failure of any M&A, and this deal has an abundance of each issue. I think Microsoft’s bid to purchase Yahoo! is not well planned at all, and is almost guaranteed to fail, but not for the same reasons many other critics think.

This deal signals desperation in the management of both Yahoo and Microsoft. Yahoo has been steadily losing market share to rival Google. And with continued innovative services and the G-phone looming in the future, the death rattle of Yahoo is only a matter of time. Microsoft is probably the only company with the assets to bail Yahoo out. But just because you can do something doesn’t necessarily mean you should.

From the Microsoft perspective, Yahoo’s misfortune is a gift from heaven. Microsoft management has apparently been looking at the global marketplace through the rose-colored glasses of its own marketing machine and completely lost track of reality. Focusing heavily on its software suite, Microsoft has missed the continued evolution of the internet and the convergence of technologies it is creating. Microsoft products are not stable, are not reliable, and consume massive amounts or processing. Add to this exorbitant licensing fees and a licensing strategy that has been compared to “entrapment” by some foreign courts (Taiwan, for example), consumers have been searching for alternative products.

Open source software has been a popular option for much of the world outside the US. But Google became a threat to Microsoft’s “cash cow” of software sales when it began to offer a free online alternative to some of Microsoft’s most popular products: Outlook, Word, Excel, etc.

The truth is, Microsoft got lazy and now it is struggling to remain relevant. Microsoft did not pay attention to its online business (MSN), allowing Google to run circles around it. Dominating the online world and understanding (or spearheading) the move to “Web 2.0″ Google is now threatening Microsoft in a way that they can’t really respond to. This isn’t a battle over price… it’s a battle over the hearts and minds of the consumers. Microsoft is grasping at straws in its bid to take over Yahoo, trying to erode Google’s revenue base. I believe they are too late. At this point, Microsoft has so much more to lose than Google. Going toe-to-toe, Microsoft will at best get hurt more than it can hurt Google.

Differentiating Chinese Culture

I was reading the China Law Blog, and one of Dan Harris' articles caught my attention; "Chinese Cultural Awareness Simplified: Don't Be An Asshole". Mr. Harris makes a very good point in his post and brings up something I should certainly clarify on my own blog. After reading his blog, I completely agree with Mr. Harris while at the same time disagree with him at least in part.

The importance of culture in China really depends on whether the western firm is buying or selling in China. For businesses that intend to sell in China, culture is everything. From a marketing and business development perspective, understanding Chinese culture is imperative to gaining market share. I've thrown out examples of how Starbucks, Dell, etc. have gone into China without cultural understanding and have lost money in the process. China has a complex culture, and brands that embrace that culture will be embraced by consumers there. Firms that don't understand Chinese culture will certainly struggle.

For businesses that intend to source from China, the culture as described above is fairly meaningless. Chinese manufacturers are capitalists as well as realists. Perhaps making up for American cultural insensitivity, I found the Chinese to be very gracious to foreigners. They are more than willing to overlook poor manners or general ignorance of local customs and practices, especially if you are spending money there. However, there is a side to Chinese culture - "business culture" - that is extremely important to western firms wishing to source from China. This is purely a matter of semantics as Mr. Harris would consider this a matter of "Chinese business pitfalls" instead. Dr. Bill Conerly interviewed Dan Harris for his blog, businomics.com and Mr. Harris touched on some of these business issues.

In my humble opinion the pitfalls Mr. Harris describes during his interview (as well as other pitfalls I've seen) have a root cause in "business culture" (as opposed to general Chinese culture). I would argue that cases of corruption in China are also a matter of culture as 60 years of communist rule have made corruption a necessity for doing business. In fact, I think that lack of intellectual property protection in China and Taiwan are rooted in culture. Further, the Chinese legal system's tendency to favor Chinese in litigation is certainly based on culture and cultural prejudices. In fact, that's a regional phenomena as Japanese courts have the same tendencies.

I would argue that there are two "cultures" in China that must be studied. For businesses penetrating the Chinese market, what typically comes to mind when one thinks of "culture" is of utmost importance. This is an issue of marketing. For businesses sourcing in China, the "pitfalls" of doing business in China (the negative side of Chinese culture) are of far greater relevance, and these are issues best suited for an attorney specializing in international law and China.