meta-innovation, eastern style

Coming off last week's Haas trip to Shanghai, China, I have both renewed excitement and increased urgency about the topic of Creativity and Innovation. It was a totally amazing trip in a number of ways - not only was it my first time in China (and Asia), but it was for both academic "enrichment" purposes and for fun. So while we learned a good deal about the differences between Western and Chinese business, we also got to take in the culture and landscape of crazy Shanghai as tourists - I mean ethnographers - as well.

Probably the biggest thing about the trip from a Creativity standpoint, at least for me, was that it was total vu ja de - we always hear and read about the Chinese economy from a Western standpoint because we're students in America -- it was refreshing to get a chance to hear Chinese business professors tell us their views and, even more important, to provide us the history behind these views. One theme that came through loud and clear was that, for so long, Chinese had a China-centric view of the world. Though the country is famous for being the first to invent paper, the compass, and other cool stuff, none of its early innovations were directed at showing the outside world how smart China was, nor how it could be of potential value as a trade partner. This economic and intellectual isolation, I believe, helped sew the seeds for the fertility of socialism - after all, why appeal to anything except the "national ethos" if your nation is the same as your entire world? I'm not saying other countries aren't ethnocentric - in fact, quite the contrary. But China seems to have historically been even more radically of the view that no one out there matters all that much.

That seems amazing given the statistics today about China as a supplier of finished goods to the rest of the world. But that's why the vu ja de piece is applicable - most people think of China as the world's product manufacturer, but in fact, it took many wars, many cycles of poverty, and many terrible leaders for China to wake up and smell the economic potential of its relatively inexpensive labor, smart people, and strategic advantage as a port.

Another "rule reversal" in China is the economy itself. Ask Americans (or even most Westerners) what China's GDP depends on, and he or she will probably say cheap manufactured goods. While simple production may have been important in China's development during the past decade, it is actually creative, innovative processes and production that will allow China's economy to grow over the next decade. Yes, there are huge factories sewing Hanes t-shirts and making parts for GM car doors. But there are thousands of small companies in office parks

(think Silicon Valley) that are developing the next RFID technology and the next internet TV communication protocols. These aren't American patents outsourced to the Chinese for production - these are Chinese companies founded by Chinese entrepreneurs working on products that will revolutionize the economy of not just China, but all of the world. And because it's knowledge work and because they still work for a fraction of what people in the US (and even in India) do, you better believe that investors can't get in fast enough. Remember the trend that's been happening in our generation that's been visible here in the US - lots of Asian youth, particularly Chinese, dominating in SATs and transcripts in schools. Well, that generation - the one that grew mightily in the US because of China's one-child policy back home - is the one that's going to ensure that China is certainly the world's next superpower. And I knew this intellectually before I went, but now that I've seen it in action, I'm ready to be excited about it and figure out how to be part of it.

As a visitor in China, it's fundamentally important to be vulnerable. I know this probably applies to travel anyplace, but I had so many preconceptions of how busy and always-on Shanghai would seem. In my mind, New York was the most frentic place that could exist on Earth, so I set myself up to think that Shanghai would feel somewhere between NY and Miami on an energy scale. I could not have been more wrong - it's somewhere between NY and Infinity on that scale. The population of Shanghai is 21mm people, which not only sounds big, it looks big, feels big, and smells big. That's more than 3 times as many people live in the ENTIRE SF Bay Area, almost 3x as many people as in NY, and almost 4x as many as LA. And, Shanghai only covers just 2,240 square miles, while LA county covers over 4,400. Just think of the population density - small wonder that there is so much building "up" rather than just building "across."

So, I was first vulnerable to sheer size and how that felt. Next, I was vulnerable (but carefully so) to food - I didn't want to get sick from eating undercooked chicken brain or anything, but I didn't want to feel like I was ordering at Eric's in Noe Valley. So while I generally stayed clear of street food, I did eat mystery Korean BBQ, taste dumplings that had porks and seafood I'd never seen, took the word of locals telling me "that place" had the freshest catch of the day, and sampled appetizers that looked like they might still be alive. I just couldn't fly 6,200 miles from home and not jump straight into the culinary fare of the locals. Of course I went to Starbucks, and yes we did try a famous Western place there as well, but 90% of the time we were seeking out and trying the good stuff.

One thing I realized about China that's in stark contrast (at least in my view) to the US is the degree to which the government is responsible for innovation here. When a company says something like, "we took advantage of favorable tax treatment and decided to set up shop in China" or "the government is offsetting our R&D expense" - that literally means that the government is paying some expenses of, or reimbursing expenses of, that company. We were at an industrial park in Suzhou, located 130km west of Shanghai, where located companies get to deduct 150% of their R&D expenses from income. I couldn't believe it at first. So if I paid $1mm in R&D expense in my China lab, and my gross profit was $5mm, my adjusted net income would be (assuming all other items net out) $5.5mm, not $5mm. Not only do I not have to count R&D spending as an offset to my profits, but I actually get FREE income for doing R&D. Some people might say "right, but what about how the US FASB used to treat stock options?" NOT the same thing, in my view. Stock options encourage people who know how to use them to make more money and to maybe stick around a company that has long-term value potential. R&D is the lifeblood of future existence of a company. The fact that the Chinese government (or, more accurately, many local governments) is willing to shoulder (i.e., invest) this burden right now is so cool because it's indicative of the degree to which the government truly believes in the creative power of its people, its companies. That's a harmony we simply don't have with our government...at least as far as I can see. I know that US government incentives are starting to get US companies to clean up their act environmentally (which BTW certainly is NOT happening yet in China - man is the smog a problem), but this kind of thing is more indicative of the reactive value of our government vs. the proactive value of theirs.

By the same token, the Chinese government is also failing to do things that encourage...well, a different kind of innovation. What's the first thing you think of when I say "Chinese street market"? For some members of the older generations, this might conjure up an image of arts and crafts, and certainly of all types of foods. For the millenials in China, it's knock-off versions of Western brands. Apple, Prada, North Face, Nike. If it's a brand with some substance in the US, odds are it's being made in counterfeit in China. This isn't something that's done underground (though many "good" knockoff shops I saw were in clandestine alley locations rather than on the streets, where the lower-quality knockoffs are), because not only would it be invisible there, but it doesn't have to hide because it isn't really illegal. No, you're not supposed to make a living by selling fake branded products, but the local and national Chinese government generally turns a blind eye to these vendors and producers, because they are an essentially limitless form of cash that allows the lower classes to stay in the game. Why invest in social welfare programs when poor people can sustain themselves by sewing and selling fake Prada to rich Europeans and Americans? Seems to make sense for the government to do it, even though it doesn't meet Western standards of "fairness." And does Gucci or Apple take a hit to brand equity? I would argue it's actually the opposite. If your brand has so much value that imposters are tripping over themselves to profit from its power, imagine what a hold you have over the market - since most knockoffs are sold to locals, it's not like they are choosing between the actual and the fake anyway. It's a virtual "growing of the market" - maybe one day the 17 year old overachieving engineer that buys the fake Armani belt will be at a company whose IPO was hastened by the excellent R&D made possible by the 150% tax deduction, giving his stock options enough value to not only buy a new condo on the 89th floor of some mid-rise Shanghai tower, but to buy the real Armani version of that belt in a real department store.