How China Opens To Competition

by: Martin Lowy

This article contains new evidence about (1) how China will open its economy to greater competition that I wrote about a couple days ago, and (2) the growth potential of Chinese consumers.

Competitive Markets

First up, the Wall Street Journal reports on a speech by Premier Wen Jiabao, quoting him as follows:

"Let me be frank. Our banks earn profit too easily. Why? Because a small number of large banks have a monopoly," said Mr. Wen, according to the transcript of the program on the broadcaster's website. "To break the monopoly, we must allow private capital to flow into the finance sector."

Premier Wen may well have been playing politics with the hostility that many Chinese people feel toward their banks (a universal phenomenon, I guess), but that he chose to attack the banks on the ground that they are a monopoly is, I believe, significant. It shows that the Chinese leadership is quite cognizant of the potential benefits of competitive markets and is prepared to move policy in that direction.

"Mr. Wen's push is part of a broader set of issues over China's growth," the Journal reported, "and came on the same day that Beijing unveiled programs intended to support the development of the country's capital markets and to spread international use of the yuan."

Pay for Play (Payola?)

The New York Times reported that Chinese newspapers and magazines frequently are paid for publishing "soft" news that is flattering to a corporation, such as the high-end audio-visual company Bang & Olufson paying for a spread in the Chinese version of Esquire. The Times points out that this sort of practice lowers journalistic standards and makes it harder for readers to know whom to trust. But one equally could point out also that the practice is pro-competitive in that a foreign company like Bang & Olufson seeking to enter the Chinese market has a ready opportunity to tell its story.

In short, competition in China is heating up. And it is heating up just in time to serve the rising numbers of Chinese consumers who can afford discretionary purchases.

The Rising Chinese Middle Class

The recent McKinsey Quarterly reports on China's changing demographics:

This situation is changing. Because the wealth of so many consumers is rising so rapidly, many people in the value category [making under $16,000 per year] will have joined the mainstream one [earning $16-34,000 per year] by 2020. Indeed, mainstream consumers will then account for 51 percent of the urban population. Their absolute level of wealth will remain quite low compared with that of consumers in developed countries. Yet this group, comprising 167 million households (close to 400 million people), will become the standard setters for consumption, capable of affording family cars and small luxury items.

Which companies will flourish in the new China market? Which will be able to compete most effectively for the trust of those 400 million people that McKinsey forecasts will be substantial consumers by 2020?

Some foreign companies will succeed. But even so, I believe the largest share of Chinese consumer dollars will go to indigenous companies. It is for that reason that I believe that investing in China through diversified mutual funds that specialize in China is likely to be a successful long-term strategy. Like any long-term strategy, it will have its ups and downs, and there are political risks that could derail the entire competitive process. But where are there not political risks? Where are there not demographic risks? To take China investing off the table as part of a long-term strategy on political or demographic grounds would seem flimsy to me.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.