Business Case Studies, Executive Interviews, Kai-Alexander Schlevogt on The China Factor

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Executive Interviews: Interview with Kai-Alexander Schlevogt on The China Factor
January 2008 - By Dr. Nagendra V Chowdary

Dr.Kai Alexander Schlevogt
Professor of international strategy
leadership at the National University of Singapore Business School
He serves as a Program Director of the Nestle Global Leadership Program
delivered in association with London Business School.

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    Besides, it is not safe to assume that China will continue to rise forever. Many scenarios are possible, including collapse. Alas, many executives have short memories. The disastrous Cultural Revolution started in 1966, less than half a century ago. Even if you believe that such turmoil is unlikely to reoccur, it is worthwhile remembering that a large scale student rebellion, followed by a violent crackdown occurred as recently as 1989. In the wake of the upheaval, powerful hardliners tried to stop the country's successful reform and opening policies.Since the government never openly discussed this Tiananmen incident and did not achieve closure on the

    issue, it can be revived by opposition forces in the future and ignite a democratic firestorm.In some respects, Russia is ahead of China, since it has already shed the official communist ideology and at least tries to convey the impression of being a democratic state, even if it is ruled with an iron fist. It thus pretends to resonate with the zeitgeist instead of opposing it.

    The Asian Financial Crisis, which started in mid-1997 and did not hit China hard, highlighted the instability of the region. And as if these major upheavals were not enough, the outbreak of the Severe Acute Respiratory Syndrome (SARS) epidemic from November 2002 to July 2003 showed that unexpected events can bring China to a virtual standstill. During this crisis, schools and factories were closed for months. In December 2004, a powerful underwater earthquake triggered several Tsunamis that created havoc in most countries bordering the Indian Ocean. Even though China was not hit by the waves, this event brought to light the danger of natural catastrophes, which some people believe will occur more often due to environmental changes such as global warming.

    In the future, further surprises are possible, which would prove linear growth forecasts wrong. Due to pernicious system dynamics, events can easily spiral out of control. Here is one potential seed of disaster: After the Tiananmen bloodshed, the Communist Party lost its moral claim to leadership dating back from the successful resistance fight against the Japanese invaders. It is replaced by a fragile unwritten economic contract between the government and its people. The rulers can stay in power as long as they deliver strong economic performance in terms of high growth and low inflation. Going ahead, any economic downturn may lead to its downfall and chaos. Other forces that may threaten the further rise of China include environmental degradation, its ageing population and associated cost explosions, tensions emanating from the increasing disparity between rich and poor, the negative consequences of migration to the cities, and separatists in areas with a high proportion of ethnic minorities. Ironically, the Communist Party, which is now caught in the capitalist web, allows poor working conditions and extreme imbalances to proliferate, even though Karl Marx identified them as drivers of a working class revolution.

    Besides, citizens in developed countries may rebel against the competitive pressures from China and demand protectionist measures from their leaders, which would dampen net Chinese exports and thus negatively affect China's GDP. In fact, such changes only depend on their will to push through their demands. Any government is paralyzed when unions organize a general strike and, unless it cracks down on dissent, will need to accommodate their demands if those persist for a long time. Already now, we are witnessing a backslash in Western countries against investment from China's sovereign fund and Chinese companies in "strategic" sectors, which some believe even includes yogurt production!

  • In the recent past, there were reports of the Chinese economy getting overheated. What are your views?
    In recent history, high rates of inflation have been one of the most potent factors causing unrest in China. They are often more visible to ordinary people than lackluster GDP growth rates. Consumers see price hikes whenever they shop and directly experience the erosion of their purchasing power.

    "Overheating" is not a scientific term. There are no commonly accepted thresholds indicating when it occurs. It is also important to distinguish between the overheating of an economy and specific sectors. To detect signs of overheating in the entire economy, I suggest watching the Consumer Price Index (CPI) carefully. As long as price increases in certain markets do not exert a strong influence on the CPI, the national economy cannot be said to be overheating. In individual sectors, you should not only track prices, but also examine whether speculative forces are at work. Let us look at the evidence:

    Until recently, China had to worry more about deflation than inflation. The decrease in price levels was partly a result of inventory buildup and price wars. Yet in recent months, inflation has reached the highest levels in a decade. Besides, prices in Chinese real estate and stock markets are soaring. Those whom I call "Red Heads" seem to hold a fair proportion of assets. In contrast to the more rational "Blue Heads", they acquire assets for speculative reasons, detached from the underlying fundamentals. Their presence contributes to the growth of a bubble, which will eventually burst. For example, in the stock market, many inexperienced citizens just follow the herd and buy popular shares. As a result, share prices increasingly move away from earning prospects. Many speculators even borrow money to invest, which increases their risk exposure. When market sentiment deteriorates, the Red Heads are more prone to panic sales than the Blue Heads. They are like dry wood that can be easily ignited.

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