Over the next 12 months, every single one of the 22 provinces, five autonomous regions and four municipalities in mainland China will undergo some kind of leadership change.
Local-level powers will transfer to new people and new personalities, each one with a fresh set of priorities and risks that may directly affect foreign investors. In this way, political risk in China is not national but local; it is not macroeconomic but rather industry-focused.
Foreign direct investment (FDI) in China continues to rise rapidly: in 2003, the country received US$53 billion to supplant the US as the world's top FDI recipient, and this figure is likely to top US$80 billion by 2012. Be it a mass market of 1.3 billion (laborers and consumers) or an ever more affluent middle class that could number as many as 200 million, there are many opportunities to say yes to – and that may be the problem.
"One of the fundamental things, lesson number one: it is a lot easier and cheaper making the right decision the first time than it is getting out of the wrong decision," said Robert Broadfoot, managing partner of Political and Economic Risk Consultancy, who has been examining risk from his Hong Kong base since 1975. "Getting out of something that is wrong is really difficult and expensive. It can kill you."
Compared to many other developing countries, China is a paragon of stability. People have become increasingly comfortable with the business environment because, as Paul Wilkins, greater China region chairman for risk insurance broker Marsh, puts it, "They have seen no losses."
Industry specific
The political risks investors do encounter are less related to potential changes and more to do with the individual approach to different industries in different areas.
Makers of notebooks and pens, for example, are not likely to have as much (potential) interference as investors in areas like telecommunications, energy and publishing. Mark Kitto found this out the hard way as he lost control of his small chain of magazines after years of publishing in a legal gray area.
Almost a decade ago, he and a couple of partners launched a small lifestyle and listings magazine targeting expatriates, which grew into the iconic and established That's Beijing, That's Shanghai and That's Guangzhou. They couldn't legally publish and charge for the magazines but could distribute them free of charge and did so month after month, regardless of the lack of legal protection or even security.
Several years later, however, Kitto was sidelined by people with local government backing, he said. He figures he lost something in the neighborhood of US$500,000.
"Ultimately, it is a very political system? that's one of the risks," he said. "You can complain but you have to know that is one of the risks."
Kitto's magazines had to change constantly to stay in business and, in that sense, they reflect a country in which change may be the only constant. "The almost continuous state of change is the major source of risk," according to a report by management consultancy Accenture.
"China is not a single market but a collection of many regional markets with different and very dynamic economic, political, social and operating conditions. Each is governed separately with poor co-ordination between them."
Regional variations
Therein lies the biggest source of political risk for investors, and global risk analyst Global Insight tailors its services accordingly, splitting coverage of China into 31 regions. The three most pressing risk factors are enforcement of regulations, labor and the environment, said William Hess, the company's senior analyst and country manager for China, but they have to be examined region by region for the analysis to be useful.
The main question is not so much what are the relevant laws and regulations, but how do local authorities enforce those laws. The implementation of minimum wage standards, for example, is likely to be very different in Guangzhou or Shanghai than in western China's Xinjiang region.
"We spend much more time looking at local government," said Broadfoot. "When we talk about political risk, I don't really care about Hu Jintao. It is very rare that Hu Jintao's (stability) as president enters my equation. It doesn't relate to most of my client's bottom line."
To illustrate this point, he refers to smartcard research his company did in the 1990s. At the time, semiconductors fell under one ministry's jurisdiction while moving money was the purview of the People's Bank of China. But using a phone line to move the money required approval from the Ministry of Post and Telecommunications.
Moreover, if the point of sale where the card was used was a hotel shop, the Ministry of Tourism was in charge. The testing was to be done in 17 cities and, at the local level in each of those cities, every one of those ministries wanted to be in control.
"That, to me, is political risk," said Broadfoot.
Most global corporations usually understand the reality on the ground and have access to expertise that can help them prevent mistakes. For those that don't fully comprehend China, it is that much harder.
"They don't understand the risk and the dynamics and it is very hard slowing that person down," Broadfoot explained.
Ultimately, he said, China is too big to analyze as a single unit. Investors are better off looking at where they plan to invest and in what sector. "In your company of widgets, if you keep your widget hat and your widget focus, you can analyze widget risk. Analyzing widget risk is a lot easier than analyzing China risk. China risk is too big to comprehend. Widget risk is not."
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