HH In China, Innovation Cuts Both Ways

Written by Matthew Bey

China is in a bind. The heavy industry that propelled the country’s economy through three decades of dizzying growth has reached its limits. To escape the dreaded middle-income trap, China will need to shift its focus from low-end manufacturing to other economic industries, namely the technology sector. Beijing has put tech at the center of its long-term economic strategy through campaigns such as Made in China 2025 and Internet Plus. But these initiatives alone won’t push the Chinese economy past its current plateau. The tech sector is notorious for relentless innovation. And innovation requires flexibility.

For the Chinese government, flexibility is an unsettling prospect. Giving tech companies the leeway they need to keep up with – and, ideally, get ahead of – their competition is the only way Beijing can achieve its goals for economic growth and development. However, granting tech firms and their influential leaders the autonomy required to compete on the global stage could undermine the central government’s power over the economy and set an uncomfortable precedent for the rest of China’s industries. Faced with the seemingly incompatible tasks of promoting innovation and maintaining control over the economy, the Communist Party of China is struggling to figure out how to regulate the tech sector without stifling it.

A Brave New World

China’s economy has come a long way during the past 30 years. In addition to the giant state-owned enterprises for which the country is famous, or perhaps infamous, a growing number of private companies operate in China today. Companies that are at least partly private, in fact, dominate the Chinese tech sector, though many of the firms still have deep political and financial ties to the government. Beijing’s level of involvement and influence varies from company to company, often in inverse proportion to a firm’s capabilities.

Many of the most capable and effective technology companies in China are variable interest entities, private firms that have managed to skirt regulations prohibiting foreign investment and list their stock overseas. By following the so-called Sina model – named for the telecommunications company that first exploited the regulatory loophole – China’s most successful technology firms have secured the funding and resources they need to get ahead. Listing their shares abroad not only offers tech companies opportunities for financing beyond the Chinese system, which Beijing often uses to influence private firms, but it also gives them greater access to foreign talent and expertise. That said, the companies that have followed this pattern, such as Alibaba Group, Baidu Inc., Tencent Holdings Ltd. and, of course, the namesake Sina Corp., had already established themselves on the Chinese market before setting off overseas.