Battling Beijing over Fakes

When President Bush arrives in Beijing next month for a summit with Chinese leaders Hu Jintao and Wen Jiabao, ongoing discussions over textile trade, currency revaluations, and North Korea's nuclear ambitions will be high on the agenda.  

While there are many complex issues confronting one of the world's most important bilateral relationships, the American president will probably say only a few words, unfortunately, about a key strategic challenge that continues to plague most foreign multinationals in Asia: intellectual property piracy and counterfeiting.

Much more than just fake DVDs and software, Beijing's failure to honor our copyrights and patents, as required by their own laws, takes away thousands of high—skilled American jobs, tens of billions of dollars in potential revenue, and saps our ability to compete in the future.

Shared Pain

For Chinese firms and major multinationals, alike, the seriousness of the problem is difficult to underestimate.  As Detroit continuous to struggle against foreign competition, Ford Motor blames counterfeiters of auto parts for $2 billion a year in lost sales. The Commerce Department estimates that automotive companies could hire 210,000 more employees if the counterfeit auto trade disappeared. 

As for software, the Business Software Alliance estimates the annual loss in sales to the global software industry is $3.82 billion, with China ranking third behind Vietnam and Ukraine with the highest piracy rates.

To the dismay of the Chinese leadership, it is not only famous foreign brands that have their brainwork stolen and products reverse—engineered, well—known local rivals like Haier and LiNing are facing the same headaches.  As the Chinese economy continues to develop in the years ahead, complaints from local firms and consumers are bound to grow louder.

A Shift in Priorities?

With the trade imbalance with the Middle Kingdom making headlines, there are some signs that the Bush administration is feeling the heat.  According to Washington's new 'piracy tsar' Mr. Chris Israel, US companies are losing the equivalent of US$250 billion a year to theft of intellectual property. This, Israel claims, translates into 750,000 jobs — a number impossible for any administration to ignore.  

Sadly, many in Congress these days seem to be more concerned about winning labor union friends than protecting technological innovation.  In the world's most advanced economy, what is more important: high—tech or textiles jobs? 

Who is Really to Blame? 

While shirts and skirts get most of the media attention, convincing Beijing to make a greater effort enforcing its own laws requires us to accept some hard truths.

First, the more Chinese firms use pirated technology the cheaper their products become, and the more we want to buy them.  When a Chinese exporter buys pirated Microsoft software, the firm's total cost of production is lower, and the American consumer enjoys greater savings at Wal—Mart.  When analyzing Chinese exports to America, it is interesting to note that a majority pass through the final assembly factories of foreign—owned enterprises.

Second, many of the greatest beneficiaries of knockoff goods are foreign enterprises themselves.  I am aware of joint venture companies in Shanghai blithely using pirated versions of American software.

Third, some Chinese have realized that fakes can also have a dangerous side.  As noted in a previous American Thinker article , a recent inspection conducted by the China Health Care Association showed that more than 25% of the health care products in use were fakes.  With more medicine being sold over the Internet, some potential harmful pills with inevitably end up in American hands.

Fourth, in America's steady move up the economic value chain in the past two hundred years, we repeatedly took advantage of European brainwork to enhance our way of life and strengthen our economic competitiveness.  US publishers, for instance, reportedly failed to pay royalties to Charles Dickens.  Chinese negotiators know many other examples of America's historical misdeeds when it was a net importer of intellectual property.

A Chinese Wal—Mart

Many Chinese complain that genuine products, especially from famous Western brands, are priced well beyond the means of most middle—class Chinese.  How many Chinese people would choose to pay $100 or more for Microsoft software, when the fakes are often just as functional, for a small fraction of the cost?

Every time I have discussed this topic with my business students in Shanghai in the past five years, a few of my financially—challenged Chinese students have argued that they would buy more real products if they could afford it. As one of my bright students eloquently put it last term, 'As you say, millions of Americans enjoy searching for bargains at Wal—Mart each day.  For us, fake products are a like a Chinese Wal—Mart.'  

Many experts in the developing world say America didn't get really tough on intellectual—property rights, until we had intellectual property to lose.  But can American policymakers just assume the same will hold true for China, a proud new member of the World Trade Organization?    

Finding an Effective Solution

In a developing country undergoing a major transformation, Chinese businesspeople often do not take what Beijing says overly seriously, where the desire to earn extra money is often more important than the rule of law.  So what can be done to improve this complex problem? 

A liberal Chinese expert, Ted C. Fishman suggests two controversial remedies, neither of them very appealing.  Arguing that negotiation and diplomacy have failed, he calls for a new 'technology tax' on a wide variety of Chinese goods coming across the Pacific, under the assumption that nearly all goods benefit in some way from stolen technology.

While admitting in USA Today that this remedy would be 'a hard sell,' Mr. Fishman would only be hurting many American multinationals that have built hundreds of factories in the Middle Kingdom that produce goods destined for American stores, including some which have not stolen intellectual property.  Similar to a new tariff, this ill—conceived tax would only damage America's reputation more, and increase prices for American consumers. 

And why impose such a technology tax on only on Chinese—made goods, when the exact some logic could be used against products which come from Vietnam, Eastern Europe, and Russia?   

Will Self—Monitoring Work? 

Fishman also suggests the United States could insist that corporate purchasing departments certify that no Chinese—made components and materials come from factories where pirated technology is widely used.  This kind of monitoring system has already been used to inspect suppliers that allegedly use child labor or have abusive management policies. 

While it is not cure—all, a new industry—wide monitoring system could be a major step forward. It could be used to target all foreign suppliers, not just those in China.  As Wal—Mart and Nike have discovered in recent years, a firm's reputation can be damaged overnight after allegations of abuse and unfair treatment against low—skilled workers.        

The risk is that the system could be abused by a firm's opponents to make trumped—up allegations that have little or no factual evidence.

Developing a Business Strategy to Take on the Pirates

In terms of business strategy, what can an American multinational do to win the war against the fakers?  For smaller firms, taking the litigation route could just lead to corrupt judges and endless headaches.  On the other hand, more well—known giants can win more respect from the Chinese authorities. After General Motors accused a local rival of stealing a new car's design last spring, the case was transferred to a higher Beijing court, in a move widely viewed by outsiders as a sign of the case's importance.     

Other practical advice includes redesigning business processes to make it more difficult to copy, and pay, if needed, for your own enforcement raids.  Only the foolish rely on local authorities to take action. 

In a culture where personal relationships and sharing are of paramount importance, foreigners should be very wary of doing joint ventures with local firms.  Since the Middle Kingdom started its reform and opening policy in the late 1970's and early 1980s, many outsiders have lost valuable trade secrets and unwittingly helped create a new Chinese rival.

If possible, design your products to have shorter life cycles, thus giving the pirates less incentive to steal it. Slashing prices and generating greater sales volume can also help keep the pirates away.

As crazy as it may sound, give away technology to the pirates in hopes that they will assist you in establishing a standard that you can control.  Another idea is to shift to a service/support business model, and give your products away.

Conclusion

The simple truth is that intellectual property owners will never start winning the war against fakes until more people around the world realize they harm the pose to our individual health and happiness.  In this regard, social awareness is growing with each passing day, even in China. Last year, the state—run media reported the sad story of 13 Chinese infants who died after drinking milk made from fake baby formula.

While American consumers enjoy cheap prices, they must also deal with the annoyances that a few fakes are often mixed in with each shipment of goods that come from abroad.  Imagine your reaction after realizing that the fake Kodak film in your old camera has destroyed all of your holiday memories.

With the Communists' need to appear strong and stand up to the West for their own domestic political reasons, Washington must admit that simply pressuring Beijing may only lead to more disappointment. Starting next month in Beijing, President Bush must continue to make the case that it is in Beijing's own interest to enforce their intellectual property laws and protect their own people. Incentives and penalties must be designed carefully,  and multilaterial approaches may be useful.

Theft has always been part of the human condition. Regrettably, intellectual piracy is a problem that will never be completely solved.

Brian Schwarz lives in Shanghai. His blog site is found here.

When President Bush arrives in Beijing next month for a summit with Chinese leaders Hu Jintao and Wen Jiabao, ongoing discussions over textile trade, currency revaluations, and North Korea's nuclear ambitions will be high on the agenda.  

While there are many complex issues confronting one of the world's most important bilateral relationships, the American president will probably say only a few words, unfortunately, about a key strategic challenge that continues to plague most foreign multinationals in Asia: intellectual property piracy and counterfeiting.

Much more than just fake DVDs and software, Beijing's failure to honor our copyrights and patents, as required by their own laws, takes away thousands of high—skilled American jobs, tens of billions of dollars in potential revenue, and saps our ability to compete in the future.

Shared Pain

For Chinese firms and major multinationals, alike, the seriousness of the problem is difficult to underestimate.  As Detroit continuous to struggle against foreign competition, Ford Motor blames counterfeiters of auto parts for $2 billion a year in lost sales. The Commerce Department estimates that automotive companies could hire 210,000 more employees if the counterfeit auto trade disappeared. 

As for software, the Business Software Alliance estimates the annual loss in sales to the global software industry is $3.82 billion, with China ranking third behind Vietnam and Ukraine with the highest piracy rates.

To the dismay of the Chinese leadership, it is not only famous foreign brands that have their brainwork stolen and products reverse—engineered, well—known local rivals like Haier and LiNing are facing the same headaches.  As the Chinese economy continues to develop in the years ahead, complaints from local firms and consumers are bound to grow louder.

A Shift in Priorities?

With the trade imbalance with the Middle Kingdom making headlines, there are some signs that the Bush administration is feeling the heat.  According to Washington's new 'piracy tsar' Mr. Chris Israel, US companies are losing the equivalent of US$250 billion a year to theft of intellectual property. This, Israel claims, translates into 750,000 jobs — a number impossible for any administration to ignore.  

Sadly, many in Congress these days seem to be more concerned about winning labor union friends than protecting technological innovation.  In the world's most advanced economy, what is more important: high—tech or textiles jobs? 

Who is Really to Blame? 

While shirts and skirts get most of the media attention, convincing Beijing to make a greater effort enforcing its own laws requires us to accept some hard truths.

First, the more Chinese firms use pirated technology the cheaper their products become, and the more we want to buy them.  When a Chinese exporter buys pirated Microsoft software, the firm's total cost of production is lower, and the American consumer enjoys greater savings at Wal—Mart.  When analyzing Chinese exports to America, it is interesting to note that a majority pass through the final assembly factories of foreign—owned enterprises.

Second, many of the greatest beneficiaries of knockoff goods are foreign enterprises themselves.  I am aware of joint venture companies in Shanghai blithely using pirated versions of American software.

Third, some Chinese have realized that fakes can also have a dangerous side.  As noted in a previous American Thinker article , a recent inspection conducted by the China Health Care Association showed that more than 25% of the health care products in use were fakes.  With more medicine being sold over the Internet, some potential harmful pills with inevitably end up in American hands.

Fourth, in America's steady move up the economic value chain in the past two hundred years, we repeatedly took advantage of European brainwork to enhance our way of life and strengthen our economic competitiveness.  US publishers, for instance, reportedly failed to pay royalties to Charles Dickens.  Chinese negotiators know many other examples of America's historical misdeeds when it was a net importer of intellectual property.

A Chinese Wal—Mart

Many Chinese complain that genuine products, especially from famous Western brands, are priced well beyond the means of most middle—class Chinese.  How many Chinese people would choose to pay $100 or more for Microsoft software, when the fakes are often just as functional, for a small fraction of the cost?

Every time I have discussed this topic with my business students in Shanghai in the past five years, a few of my financially—challenged Chinese students have argued that they would buy more real products if they could afford it. As one of my bright students eloquently put it last term, 'As you say, millions of Americans enjoy searching for bargains at Wal—Mart each day.  For us, fake products are a like a Chinese Wal—Mart.'  

Many experts in the developing world say America didn't get really tough on intellectual—property rights, until we had intellectual property to lose.  But can American policymakers just assume the same will hold true for China, a proud new member of the World Trade Organization?    

Finding an Effective Solution

In a developing country undergoing a major transformation, Chinese businesspeople often do not take what Beijing says overly seriously, where the desire to earn extra money is often more important than the rule of law.  So what can be done to improve this complex problem? 

A liberal Chinese expert, Ted C. Fishman suggests two controversial remedies, neither of them very appealing.  Arguing that negotiation and diplomacy have failed, he calls for a new 'technology tax' on a wide variety of Chinese goods coming across the Pacific, under the assumption that nearly all goods benefit in some way from stolen technology.

While admitting in USA Today that this remedy would be 'a hard sell,' Mr. Fishman would only be hurting many American multinationals that have built hundreds of factories in the Middle Kingdom that produce goods destined for American stores, including some which have not stolen intellectual property.  Similar to a new tariff, this ill—conceived tax would only damage America's reputation more, and increase prices for American consumers. 

And why impose such a technology tax on only on Chinese—made goods, when the exact some logic could be used against products which come from Vietnam, Eastern Europe, and Russia?   

Will Self—Monitoring Work? 

Fishman also suggests the United States could insist that corporate purchasing departments certify that no Chinese—made components and materials come from factories where pirated technology is widely used.  This kind of monitoring system has already been used to inspect suppliers that allegedly use child labor or have abusive management policies. 

While it is not cure—all, a new industry—wide monitoring system could be a major step forward. It could be used to target all foreign suppliers, not just those in China.  As Wal—Mart and Nike have discovered in recent years, a firm's reputation can be damaged overnight after allegations of abuse and unfair treatment against low—skilled workers.        

The risk is that the system could be abused by a firm's opponents to make trumped—up allegations that have little or no factual evidence.

Developing a Business Strategy to Take on the Pirates

In terms of business strategy, what can an American multinational do to win the war against the fakers?  For smaller firms, taking the litigation route could just lead to corrupt judges and endless headaches.  On the other hand, more well—known giants can win more respect from the Chinese authorities. After General Motors accused a local rival of stealing a new car's design last spring, the case was transferred to a higher Beijing court, in a move widely viewed by outsiders as a sign of the case's importance.     

Other practical advice includes redesigning business processes to make it more difficult to copy, and pay, if needed, for your own enforcement raids.  Only the foolish rely on local authorities to take action. 

In a culture where personal relationships and sharing are of paramount importance, foreigners should be very wary of doing joint ventures with local firms.  Since the Middle Kingdom started its reform and opening policy in the late 1970's and early 1980s, many outsiders have lost valuable trade secrets and unwittingly helped create a new Chinese rival.

If possible, design your products to have shorter life cycles, thus giving the pirates less incentive to steal it. Slashing prices and generating greater sales volume can also help keep the pirates away.

As crazy as it may sound, give away technology to the pirates in hopes that they will assist you in establishing a standard that you can control.  Another idea is to shift to a service/support business model, and give your products away.

Conclusion

The simple truth is that intellectual property owners will never start winning the war against fakes until more people around the world realize they harm the pose to our individual health and happiness.  In this regard, social awareness is growing with each passing day, even in China. Last year, the state—run media reported the sad story of 13 Chinese infants who died after drinking milk made from fake baby formula.

While American consumers enjoy cheap prices, they must also deal with the annoyances that a few fakes are often mixed in with each shipment of goods that come from abroad.  Imagine your reaction after realizing that the fake Kodak film in your old camera has destroyed all of your holiday memories.

With the Communists' need to appear strong and stand up to the West for their own domestic political reasons, Washington must admit that simply pressuring Beijing may only lead to more disappointment. Starting next month in Beijing, President Bush must continue to make the case that it is in Beijing's own interest to enforce their intellectual property laws and protect their own people. Incentives and penalties must be designed carefully,  and multilaterial approaches may be useful.

Theft has always been part of the human condition. Regrettably, intellectual piracy is a problem that will never be completely solved.

Brian Schwarz lives in Shanghai. His blog site is found here.