International Economic, Political, Financial, Legal and Socio-Cultural Analysis of China - Case Study Example

Executive summary China is the world’s leading destination for FDI sourced from a number of countries around the world. Previously, the country attracted labor intensive manufacturing companies but has now taken to attracting service based industries. With the world’s largest market, a reformed financial sector, a fast growing economy, a stable currency and immense FDI incentives, China provides the right environment for foreign firms such as The Wiggles to expand their global reach. However, operating in a new market controlled by a new set of rules, politics, culture, financial system, language among other differences requires meticulous planning for any interested foreign investor. This study indicates that China a bright future as an investment destination. However, the differences between Australia and China in terms of culture and governance could determine the success or failure of any venture into the new market. The Hofstede’s cultural dimensions comparison reveals that there is a huge cultural distance between the people of Australian and the people of China. It is therefore the role of The Wiggles to strategically manage the differences between China and Australia culturally and otherwise for the venture to be profitable and meet the long term and short objectives of the firm. From the findings, the study recommends that The Wiggles should venture into the Chinese market. Contents Executive summary 1 Table of figures 3 Introduction 4 Background 4 Economic factors 4 Economic policy of China 4 GDP & GDP growth (trend) 5 Per capita income 6 CPI and inflation trends 6 Unemployment in China 7 Infrastructure 7 Per-capita income (trend) 8 Trading partners and key imports and exports 8 Balance of Payments (BOP) – (trend) 8 Trade agreements 9 Tariffs 9 Political 10 Government structure and how it operates 10 Type of Government 10 International relations with other countries 10 Political risks 11 Corruption 11 FDI inflow 11 History of FDI 11 Industry access 11 FDI inflow and outflow 11 Government incentives 11 Finance 12 Banking 12 Access to finance 12 Interest rates 12 Foreign exchange system 12 Trends 12 Repatriation and taxation 13 Legal Factors 13 Legal system and how it works 13 Government rules and regulations for establishing a foreign business 14 Labor/employment law 14 Intellectual Property law relevant for The Wiggles (Aust) in China 14 Socio-cultural Factors 15 Key values and traditions 15 How is business done in China? 15 Hofstede’s cultural dimensions for China in comparison to Australia 15 Language(s) and communication styles 16 Religion and social stratification/structure of society 16 Conclusion and recommendation 16 Table of figures Figure 1 GDP trends 6 Figure 2 CPI trends 7 Figure 3 Per-capita income trend 8 Figure 4 BOP trend 9 Figure 5 Forex trends 13 Introduction China is one of the largest markets in the world with one of the fastest growing economies that continues to attract new marketers keen in expanding their international presence. The Wiggles is hypothetically considering entering the Chinese market as part of their international expansion strategy. The execution of this move though cannot be made blindly as it needs to be considered strategically informed by a reliable feasibility study. The following report provides the findings of an integrated International Economic, Political, Financial, Legal and Socio-Cultural analysis of China. From the findings, the report will also make informed recommendations to The Wiggles on whether to enter, ignore or postpone entry into the Chinese market. Background The Wiggles is an Australian “preschool rock band” that mainly markets children’s music and other merchandise geared towards children development. Their products include album in CDs and DVDs, television programs, live shows, concerts and an assortment of merchandise. Established in Australia in 1991, The Wiggles have expanded to other countries such as the US, Canada, New Zealand, UK and Ireland (Dowlings et al 2009). In 2009, the Business Review Weekly named The Wiggles the top earning entertainment group in Australia for the fourth in a row with earnings of A$45 million (The Wiggles 2012). Such success was only possible after the group changed its strategy to operate as business brand to be marketed all over the world. The Wiggles as was established in 1991 by two former members of the Australian rock band, The Cockroaches (Dowlings et al 2009). The group comprised on university students eager to infuse educational concepts to children’s entertainment. In fact, the first album was produced as university assignment where each song was explained by an essay indicating its education value in child development (The Wiggles 2012). However, the songs were done in rock which made appeal even to the adults. This fueled the growth of the Wiggles brand in and out of Australia. Concerts were held around the world and television programs broadcasted. This included venturing into new markets including New Zealand and North America and other English-speaking countries. This has seen over 17 million DVDs and 4 million CDs sold worldwide (The Wiggles 2012). In a bid to expand its market reach, The Wiggles is considering entering the Chinese market. So how suitable is the business environment in China for The Wiggles? The IFST tests below shows the specific issues of market. Economic factors Economic policy of China China is one of the fastest growing economies in the world which also has the largest population standing at over 1.3 billion people (DFAT 2012). Its rapid economic growth has seen the country being labeled as the world’s super power in waiting (Strother 2012). The huge population provides a ready market for both local and foreign manufacturers. With a growing middle income class, the spending power of the country has increased tremendously. This growth is prompted economic policy reforms that started in 1978. These were implemented in two phases. The first phase (1978-1993) involved decollectivization of agriculture, opening up to foreign players and enabling entrepreneurship among the locals (Mente 2012). This allowed many rural people to take up peasant farming and in the process increased productivity in agriculture. Entrepreneurship was also followed by reforms in the financial sector that saw many people access funding to set up businesses. Opening up to foreign players opened up a way for Foreign Direct Investment in the country for firms keen to explore the huge market and also make use of cheap labor costs. The second phase (1993-2005) involved privatization of much of the state-owned firms and industry and adoption of free market policy. However, the state retained monopolies in certain sectors. The private sector was the greatest beneficiary from these reforms (Mente 2012). The economy also responded well with an average of 9.5% increase since 1978. GDP & GDP growth (trend) As of 2010, China’s GDP stood at US$ 5.93 trillion and GDP per capita at US$ 4 421 compared to Australia’s GDP of US$ 1.2422 trillion in the same year. By 2011, China’s GDP stood at US$ 7.29 trillion and GDP per capita at US$ 5 414 (DFAT 2012). By any standards, such growth despite the recent global financial crisis, is phenomenal. GDP growth for 2009, 2010 and 2011 was 9.2%, 10.4% and 9.2% respectively. The first half of 2012 registered slower growth at 7.8% (Global Trade 2012). Real GDP growth has also been positive at 9.1% and 8.9% for the third and fourth quarter of 2011 (Global Trade 2012). This growth has taken place despite the contractionary policies adopted by the Peoples Bank of China (PBOC) which increased the reserve requirement ratio for large commercial banks to 21% as of 18th May 2011 to curb inflation (IndexMundi 2012). However, by December last year, the rate was revised downwards by 0.5% and another cut by February 2012 (Global trade, 2012). Figure 1 GDP trends Source: HKTDC Though the Chinese economy fared well during the global financial crisis, it experienced significant inflationary pressures. An increase by 6.9% in food prices and 1.6% in non-food prices was recorded in the first half of 2012. The inflation however, seems to be on the decline dropping from 3.6% in March to 2.2% in June (Indexmundi 2012). Per capita income Also known as purchasing power parity, it has been on upward trend for a long time. In 2009, it stood at US$6 792, US$ 7 550 in 2010 and US$ 8 382 in 2011 and expected to be US$ 9 143 in 2012 (DFAT 2012). CPI and inflation trends Consumer goods experienced 18.4% growth in sales in 2010 and 17.1% in 2011. Sales in luxury items such as jewelry registered 42.1% rise in 2011 alone. As of January and February 2012, growth in retail sales has slowed down to 14.7%. These fluctuations are also recorded for inflation rates. The Consumer Price Index (CPI) grew by 5.9% in 2008, 5.2% in 2009, 3.3% in 2010 and 5.4% in 2011. As of the first two months of 2012, the CPI increased by 3.9% (HKTDC 2012). Figure 2 CPI trends Source: HKTDC Unemployment in China As the largest manufacturing economy in the world, demand for labor in China is growing. As a result, labor wages have increased by 20% a year since 2008. Other foreign players report that wages for blue collar employees have increased by 12% annually between 2002 and 2009. Since 2006, unemployment has averaged 6.1%. However, the unemployment rate gradually increasing as noted by 2010 rate at 6.1% compared to 6.5% in 2011. The IMF projects that the unemployment rate will remain stable below 8% up to 2017 (Foreignercn 2012). Infrastructure Investment in railway lines increased by 16% in 2012. Total investment in infrastructure for 2012 rose to 470 billion Yuan ($73 billion) up from the 406 billion in 2011. Power consumption for 2012 is expected to grow by 6%-7% to 4.98 trillion to 5.03 trillion kilowatt hours (Dickie 2012). Per-capita income (trend) If the trend is to be maintained, per capita income is expected to grow to over US$10000 by 2017 (Trading economics 2012). Figure 3 Per-capita income trend Source: Trading economics Trading partners and key imports and exports China has numerous trading partners in the world including Australia. According to DFAT (2012) China’s external trade was the second largest in the world after the US at US$3,642 billion. China is a net exporter which has enabled it to have the largest foreign exchange reserve in the world standing at S$3,240 billion by the end of June 2012. In 2011, exports and imports grew by 20.3% and 24.9% respectively. However, with a higher demand for imported luxury goods, imports are on the rise. Balance of Payments (BOP) – (trend) Figure 4 BOP trend Source: DFAT China largely exports manufactured goods to other countries. It has specialized in telecommunication and motor vehicle industry. Imports are largely raw materials such as wool and mineral ores. Luxury items such as perfumes and jewellery have also found a market in China as a result of the growing middle class (DFAT 2012; HKTDC 2012). Trade agreements In 2002, China became a full member of the World Trade Organization (WTO). China is Australia’s largest two-way trading partner. Negotiations for free trade agreement with Australia begun in 2005 and are still on-going. Based on 2011 data, China’s top trading partners by value are U.S, Japan, Hong Kong, South Korea, Germany, Taiwan, Australia, Malaysia, Brazil and Russia. Trade with these countries accounted for 55% China's total external trade for the same year (DFAT 2012) China is not a member of ASEAN though it heavily trades with the members through the ASEAN plus Three. The country has signed free trade agreements with Peru (2006), Costa Rica (2009) and Chile (2006) (Mente 2012). Tariffs Countries in which China has signed trade agreements with are levied special tariffs. Other countries who commodities are levied a special tariff are 40 least developed countries. Other countries face normalized tariff schedule. The Tariffs for children entertainment equipments for amusements parks range 6.5-7.7%. Tariffs for casing material such as for DVD’s and CDs are charged flat rate of 10%. Political Government structure and how it operates China is a communist state by name though it follows some capitalistic ideals. The capital is Beijing whose time zone is GMT+8. The whole country falls under the same time zone despite its enormous size though many people in Xinjiang Province ascribe to the unofficial Xinjiang time zone of GMT+6. There are various administrative divisions in China. There are 23 provinces (Sheng) comprising of Anhui, Fujian, Gansu, Guangdong, Guizhou, Hainan, Hebei, Heilongjiang, Henan, Hubei, Hunan, Jiangsu, Jiangxi, Jilin, Liaoning, Qinghai, Shaanxi, Shandong, Shanxi, Sichuan, Yunnan, Zhejiang and Taiwan (Tong 2011). However, Taiwan considers itself a sovereign state. There are five autonomous regions (Zizhiqu) namely Guangxi, Nei Mongol (Inner Mongolia), Ningxia, Xinjiang Uygur, Xizang (Tibet) and four municipalities (Shi) namely Beijing, Chongqing, Shanghai, Tianjin. The country’s governance is guided by the Chinese constitution which was promulgated in 1982. However, the constitution has undergone several amendments (Tong 2011). Type of Government There are three main bodies of the Chinese government; the CCP (political arm), the Peoples Liberation Army and the state council (administrative arm). All senior government and army positions are occupied by loyal members of the CCP. The CCP is headed by a group of 4-9 people who make all major national decisions. The highest power in the government belongs to the Paramount Leader, currently Hu Juntao, who heads all government bodies. The power of the CCP is embedded in the constitution (Tong 2011). International relations with other countries China follows a policy of international exceptionalism in relating with other countries. This policy allows China to mix myths and facts in selective use of its vast resources and cultural experiences to interact individually with each country while at the same pursuing harmonious and inclusive relations. While it is viewed as a competitor for global power by the US, third world countries strive to emulate China for its impressive economic development. The US and other western countries are angered by China’s human rights records and involvement with Iran while Australia views China as a significant trade partner. For countries like Taiwan and Tibet, China has expansionists and colonialist tendencies (Tong 2011). Political risks Australia is a close trading partner with China. The political risk The Wiggles could face in China is minimal as the Communist regime has phased out nationalization of private enterprises (Tong 2011). Labor related protests and riots are common in China especially in labor intensive industries which can interrupt business (Facts and details 2012). Corruption Corruption remains high especially in government offices. Services are rendered on who-knows-who basis which does not help aspiring foreign entities such as The Wiggles (Harris 2012). FDI inflow History of FDI China begun opening up to foreign enterprises in the late 1970’s. This prompted western based firms in labor intensive industries to relocate to China to benefit from government incentives cheap labor. The Chinese government offered numerous incentives including tax rebates and exemptions to encourage FDI inflow (Harris 2012). Industry access The Wiggles face no restrictions in channeling FDI into China. The financial environment in China is excellent as there is available funding provided by the Banks and the move is in line with Chinas policy of attracting FDI from its key trading partners such as Australia (Harris 2012). FDI inflow and outflow In 2011, a total of 738,415 foreign investment projects were approved to bring the actual utilized foreign FDI to US$1,088.4 billion. The major sources of investment include Hong Kong, Taiwan, Japan, Singapore, the US, South Korea , UK and Germany. As of 2010, Chinese FDI outflow stood at US$68.8 billion with Hong Kong being the largest recipient at 62.8% of the total. Other recipients include the US, UK, Australia and Germany (Bloomerg 2011). Government incentives By operating in marked areas, foreign investors pose to benefit from tax incentives. In the special economic zones, foreign investors are exempted from tax for the first two to three years and discounted rate thereafter (Tong 2011). Therefore for The Wiggles, any intended set of operations, location should be determined in part by government incentives. Finance Banking The banking sector is highly regulated with six major banks each with a special function. The peoples Bank of China acts as the central bank. The Bank of China manages foreign exchange reserves and transactions. The China Development Bank distributes foreign capital from various sources. The China Construction Bank lends funds for construction projects. As of 2007, there were more than 70 foreign banks in operation (Mente 2012). Access to finance There are a number of international Banks and Australian banks such as the Commonwealth Bank with branches in China. This means that The Wiggles can obtain financing from home-based banks if there is a risk of borrowing from Chinese Banks. Again, there are several Chinese banks operating in Australia and around the world (Mente 2012). Interest rates Interest rates in the market fluctuate with market forces and the control of Peoples Bank of China through its Monetary Policy Committee. As of July 2012, the base lending rate was set at 6.31% and the one-year deposit rate at 3.25%. Between 1996 and 2012, China interest rate averaged 6.4600% (Trading economics 2012). Foreign exchange system China uses a fixed foreign exchange system which also called pegging. This system allows China to suppress the value of its currency by pegging to other international currencies (Trading economics 2012). Trends As of 10th august, one Chinese Yuan was exchanged for 0.148 Australian dollar. Due to the positive balance of payment in China, the Yuan has gained over major international currencies (Forecasts 2012). Figure 5 Forex trends Source: http://www.forecasts.org/yuan.htm Repatriation and taxation Since 2008, tax on profits for all foreign and domestic companies was set at 25%. Tax on profits of 15% in Free Trade Zones, Special Economic Zones or other similar zones, 24% if in a municipality. Mandatory fees for WFOE such as for expansion purposes, reserve funds, staff and workers welfare and bonus funds must exceed 10% of profits (Mente 2012). WFOE are subject to 14 types of taxes as follows: Consumption Tax, Business Tax, Value Added Tax, Income Tax on Enterprises with Foreign Investment, Individual Income Tax, Resource Tax, Land Appreciation Tax, Urban Real Estate Tax, Vehicle and Vessel Usage License Plate Tax, Stamp Tax, Deed Tax, Slaughter Tax, Agriculture Tax, and Customs Duties. However, under the ASEAN Plus Three agreement, Australia receives specialized taxation to encourage investments (Mente 2012). Legal Factors Legal system and how it works China’s institutional legal system was established in 1978. The system was established as a response to business needs thus largely ignored matters of civil liberties and human freedoms. Technically, this system does not operate independently from the influence of the Communist Party. The Chinese Communist Party has a strong influence on the court system hence a lot of injustices have been reported. The civil and commercial law business related disputes such as patent infringement, contract matters, people displacement by constructions and labor disputes. Such laws are outlined in the country’s constitution. However, there are numerous statutory laws that apply to all business in the country. Alternatives to legal redress especially for businesses include petition system, mediation, and protests (World Savvy 2012). The greatest threat to The Wiggles operations would be a weak law that cannot adequately cater for possible counterfeiting of their merchandise, DVDs and CDs. Government rules and regulations for establishing a foreign business There are three main options of a starting a business in China; Wholly Foreign Owned Entity (WFOE), a Joint Venture (JV), or a Representative Office all of which take the form of a limited liability company (LLC) (HKTDC 2012). Many foreign firms opt for a WFOE. To set up a WFOE, three major steps are followed. The first step is to ascertain whether the business of the firm is approved for foreign investment as some local industries are protected from foreign competition. The second step is assessing the investment field of the investor. This step requires the provision of the following documents which must be translated into Chinese; Articles of Incorporation, national business license, Certificate of Status, Bank endorsement letter and a description of the investor’s business activities (World Savvy 2012). Export oriented businesses are highly encouraged. Step three is government approval. This requires several documents namely; articles of association, feasibility study, leases, proposed personnel salary and benefit budget and any other necessary documents. The approval of setting up of a WFOE usually takes 2-5 months. Total fees charged approximately equal more than 1% of initial capital. Representative offices are easier to establish though they are not allowed to engage in any profit making activities. These offices are only allowed to conduct research, promote their parent company and coordinate parent company’s activities in China etc (World Savvy 2012).. Joint ventures basically replicate the requirements of WFOE. However, foreign investors are encouraged to seriously vet their partners and ensure that the partners are in legal business in an industry that permits foreign investment (World Savvy 2012). Labor/employment law The labor Contract Law enforced in 2008 requires that employment contracts be put down in writing. The contract must address issues such as severance pay, probationary periods, lay-offs, non-compete clauses and collective bargaining. The law further stipulates that the standard working time is 40 hours per week. Usually, this translates to 9:00 am- 6:00 pm though unpaid overtime hours are common. All employees are entitled to a three national holidays, each lasting a week. However, the week must be covered by working through the previous weekend of each holiday. As for employee mistreatment, all complains must be reported to personnel department in writing before suing. A month’s notice must be given in case of firing (Foreignercn 2012). Intellectual Property law relevant for The Wiggles (Aust) in China As a member of the WTO, China must abide by Traded-Related Aspect of Intellectual Property Rights (TRIPs). Despite stringent statutory protection, piracy and counterfeiting still flourish. In fact the rate stands very high at 90% (ExportGov 2012). It is estimated that the 20% of all consumer products in China are counterfeit. This high rate of piracy and counterfeiting is fueled by corruption, limited resources, local provincial protectionist policies and staff training and poor public awareness (World Savvy 2012). China is a signatory of the Patent Cooperation Treaty hence recognizes patents. A patent in China is served on a first filer basis and lasts 20 years from the time of filing the application with the China’s State Intellectual Property Office (SIPO) which has provincial offices. Any foreign firm without an office in China can file for a patent through an authorized patent agent. The country’s trade mark laws also operate on first-to-register basis with no evidence of previous use or ownership required. The Trademark law covers collective marks, certification marks and three-dimensional symbols in line with TRIPs (ExportGov 2012). Socio-cultural Factors Key values and traditions Much of the Chinese culture is based on the Confucian philosophy. This philosophy stresses the importance of the family and friendship, the hierarchical structuring of society, high moral and ethical standards and hard work and achievement (Clearly Cultural 2008). How is business done in China? Business in China is highly conducted along family relations and friendship ties. Contracts by government officials and senior business leaders are offered to friends and their families as way of rewarding their friendship. Favors and returning of favors is a norm and corruption and nepotism are common (Clearly Cultural 2008). Hofstede’s cultural dimensions for China in comparison to Australia The two countries score in the Hofstedes cultural dimensions from Clearly Cultural (2008) is as shown in the table below. Table 1 Aust-China cultural comparisons Dimension Australia China Distance Power Index (DPI). 36 90 Individualism (IDV). 90 20 Masculinity (MAS), 61 66 Uncertainty Avoidance Index (UAI) 51 40 Long-Term Orientation (LTO) 31 118 The high Distance Power Index for China (90) means that individual employees or managers that Wiggles will hire in China will not be granted advancement based on merit but rather what society has dictated for them (Mungenast 2007). The low Individualism (IDV) score for China (20) implies that the society appreciates collectivism more and supports people to take responsibility for other peoples actions. Furthermore, family ties and relations are valued and may influence business decisions (Mungenast 2007). This means that Australian expatriates in China will find it hard to adapt to the Chinese society in terms of relating with people as they will be treated as outsiders. The Masculinity score in China (66) is close to that of Australia (61). This means that that the levels of materialism, strength, power, material success, and self-centeredness experienced by The Wiggles in China will be close to that of Australia (Mungenast 2007). The UAI for China is lower at 40 compared to Australia’s 51. This means that the Australian society is more used to a higher need and respect for planning and structure than China (Mungenast 2007). This implies that The Wiggles will be dealing with a people who have a lower regard for rules and regulations and even organization planning and structure. This also explains the high chances of piracy and counterfeiting which are in total disregard of the law. There is a huge difference in the LTO score with China at 118 and Australia at 31. This means that the Chinese culture is more persistent and thrifty and the people have a shared sense of shame and that relationships are perceived by social status (Mungenast 2007). Australians on the other hand are more concerned about personal stability hence The Wiggles employees may not fit very well with the Chinese people. Language(s) and communication styles There are reportedly 292 languages in China classified into eight families. Standard Mandarin (also known as Putonghua) is the official language in China. Other regions such as Mongolia have additional official languages. However, Mandarin has very many dialects which can create problems in communication (Mungenast 2007). For The Wiggles to relate well with the Chinese people, a new language must be adopted in their brands and new Chinese heroes incorporated in their brands in line with the Chinese culture. Religion and social stratification/structure of society Buddhism and Taoism are the two major religions. However, they are often called cultural ways instead of religions. Taoists revere a number of local heroes, ethnic deities and ancestors. Where practiced, religion does not play a central role in the Chinese way of life. In fact, some religions are organized by along family lines. Conclusion and recommendation From a financial, economic and FDI point of view, China is a very good market for The Wiggles. However, the greatest challenge is the social environment. Given that the Wiggles products are tied around the western culture and the English language, penetrating the Chinese market will require meticulous planning. The Wiggles must first orient itself fully with the Chinese culture to understand the people, their way of thinking, their values and even communication styles to launch into the market. To do this, the firm will have to rely heavily on the local people. As pertaining to the legal situation in China, The Wiggles will be exposed to counterfeiting of their brands. The introduction of CDs and DVDs in the market should be stopped. Alternatively, The Wiggles should rely on live concerts and performance, TV programs and establishment of The Wiggles section in a number of existing amusement parks. This will first ensure that the brand is strongly established in the market that the brand is not diluted counterfeiters in the early stages. References Bloomerg. (2012). FDI in China in 201o rises to 107.7 billion. Accessed online on 5th August 2012 from, China Briefing. (2012). China. China Org. (2012). Law of the People's Republic of China on Chinese-Foreign Joint Ventures. Accessed online on 5th August 2012 from, Clearly Cultural. (2008). Cultural Dimensions. Accessed online on 5th August 2012 from, CIA. (2012). The world factbook: China. Accessed online on 5th August 2012 from, Dickie, M. (2012). Investors chronicle. Accessed online on 5th August 2012 from, Dowlings et al. 2009. The Wiggles: Company and industry overview. Enomy watch (2012). 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