The truth about China

China is looking to be more than just a strategic solution for low-cost labor arbitrage

Way back in the day, the term "old China hand" referred to a diplomat or journalist who had spent years stationed in China and, as a result, understood Chinese culture, politics, and ways of doing business.

This week I spoke with two of what I would call "new China hands," Matthew Growney and James Popkin. Growney is executive vice president and chief strategy officer of DarwinSuzsoft, a staffing company that merged U.S.-based Darwin Partners with China-based Suzsoft and has headquarters in both countries. Popkin is group vice president and research fellow emeritus at Gartner. He co-authored IT and the East with Partha Iyengar, also a Gartner vice president.

Growney and Popkin offer different but complementary views of China. Growney has a feet-on-the-street perspective, while Popkin takes a high-level view of Chinese business. Together they help give a more complete picture of what is happening in China and how it will affect IT in the States.

DarwinSuzsoft has six offices in China, each with its own domain expertise and access to a different labor pool. The office in Suzhou province, for example, employs about 800 people and has access to 150,000 computer science graduates annually in Suzhou province alone. To get a feel for the scope of how big China is, the government recently completed a two-year project that built a million housing units. These units are located in what Growney calls an office park where DarwinSuzsoft is also located. The government pays the mortgage for workers, giving them a 70- or 99-year lease, and pays for their commute to and from work as well.

Now, if the wage rate for a standard software developer in India is a fourth of what it is in the States, a Chinese developer gets about an eighth. So, if the U.S. rate is $100 per hour, it is $25 per hour in India and $11 per hour in China. For a Java developer in China, the hourly rate is $7 to $9. For BPO (business process outsourcing), where a minimal level of education is required and the job is basically data capture and data entry, the rate is $2 to $3 per hour.

While China's outsourcing capabilities are increasing, the Indian market is decelerating, Growney says. The turnover rate is as high as 30 percent to 50 percent at some Indian outsourcing companies, and wages are spiraling upward.

"You have so much wage creep and turnover it is killing them," says Growney. In fact, Indian companies have started to call DarwinSuzsoft asking if they can outsource to it.

With that kind of marketplace available to enterprise companies, I asked Popkin, should current U.S. IT professionals throw in the towel? Should U.S. college students avoid becoming computer science majors?

In answer, Popkin notes that the U.S. economy has survived at least three waves of globalization so far. First we saw semiconductors go to Taiwan, then automotive and electronics to Japan, and then manufacturing to China. We're now experiencing a fourth wave, with IT services and app development moving to India and China.

Despite this Popkin is optimistic, as there are a number of factors that have helped the U.S. economy survive these economic tsunamis.

"We go toward the higher value-added," Popkin said. Take steel, for example. China, Korea, and Japan are now major steel producers, but we own the specialty steel market that uses exotic mixtures of metals and chemicals. The U.S. has also pioneered new industries such as biotech and nanotech.

Not only that, but our population keeps growing, creating domestic demand, and we maintain an entrepreneurial spirit, which is in turn financed by venture capitalists.

According to Popkin, the U.S. has the capital markets and infrastructure to remain competitive in IT -- with the infrastructure being the Silicon Valleys that dot the map and become hotbeds for new ideas.

But make no mistake, China and India will be tough competitors, Popkin says, citing another example from the steel industry.

Tyson Krupp, one of the largest steel forgers, looked at China and India as areas for future growth. But instead of finding customers in those markets, it found India and China creating Bharat FAW, which would become Tyson Krupp's largest competitor.

IT will be no different. Indian companies are localizing products and learning to develop into multinationals that offer competing services at lower prices. In China, the story is similar. For example, Huawei, a manufacturer of routers and telecom equipment, owns 1,000 patents, has 8,000 patents pending, and employs 17,000 engineers. In 2005, a state-owned Chinese bank extended a $10 billion line of credit to Huawei. Huawei is on the verge of supplanting Cisco as the lead supplier to China of networking equipment.

In IT software and services, where patent infringement remains an issue, Chinese companies are hoping to allay enterprise fears about IP (intellectual property) protection by bidding on complete IT solutions and services that include the software, the service, and customization and maintenance. This way they can not only provide themselves with a larger revenue stream but they can ensure that parts of their business will remain viable in the event that other parts are found to be using unauthorized technology.

China will not be satisfied at being the strategic solution for low-cost labor arbitrage, Popkin says.

However, it is not all smooth sailing for China.

Government involvement in the economy can be a plus, as in the case of Huawei, but it also creates a critical uncertainty for customers and China's own future growth.

"I'm not simply talking about Communist control, but what we really have to look at is the level of government ownership of private assets. This will have a dampening effect on innovation," Popkin says.

For example, the government of Shanghai owns 700 businesses worth $16 billion. The joint venture between GM and Shanghai Automotive Industry Corp., actually the government of Shanghai, is an example of problematic government involvement. Imagine, says Popkin, a GM competitor wanting to compete in Shanghai and having to go to the city for all of its permits.

But does the rise of China mean the decline of America? I asked. "No," says Popkin.

"Wealth generation is not a zero-sum game," he says. "It is something that can occur across multiple countries. Their gain is not our loss."