It is my opinion that the three greatest forces facing business are (a) the decomposition of the services industry with out sourcing; (b) the revolution of supply chain management and (c) the commoditization of manufacturing. This section focuses on the evidence of the later through application of labor and automation.

The following is part 5 in the series of extracts from China Shakes the World.

Whatever the interplay of right and wrong, the commercial result of piracy is always the same: rapid value destruction across a wide range of manufactured products. This is true not only for established goods, but also for new technologies; and evidence of an unremitting downward pull can be found both in individual examples and in aggregate prices of manufactured items since 1998. Regardless of the breakneck growth in the wider economy or the prevailing inflation as measured by broad indices such as the Consumer Price Index, the average prices of manufactured products have fallen each year. In some cases, the declines have been significant. A 29-inch flat-panel television that cost 6,000 renminbi in 1998 was going for just under rmb 2,000 in late 2004. Color-screen cell phones were a new, trendy product in 2001 and were priced accordingly at around rmb 6,500; by late 2004 they too were trading at under rmb 2,000. Domestic brands of DVD players, all configured to play counterfeit DVDs, hit the market in 1998 at rmb 3,000 but cost around rmb 500 by late 2004. Set-top boxes, which allow viewers to access satellite television, started selling for around rmb 2,300 in 2000 but were going for around rmb 700 in late 2004. Each of these products represented a new foreign technology which, once introduced to China, suffered a swift destruction of value that was due in part to piracy.

The problem, though, as Yin in the late 1990s was starting to discover, was that piracy had a way of returning to haunt those who had once thrived on it. With the technological barriers to entry non-existent and capital freely available, more and more motorbike manufacturers were springing up, each of them following the trail that Yin had blazed to prominence. By 1998 there were over a thousand motorbike factories in China producing some 15 million units a year – 5 million more than were sold. As unsold bikes filled warehouses, vicious price wars erupted until profit margins were completely obliterated. But the big players, still transfixed by a vast potential market, refused to alter their strategy. Liang Xueben, the genera manager at Jianshe-Yamaha, told me in that year that he was committed to maintaining market share. Only 3 percent of the Chinese owned moterbikes, he said. One day the market would take off and amazing profits would be had. Yamaha could not afford to cede ground to upstart domestic competitors now.

Eight years later, the hoped-for boom in sales had not materialized and the problem of was more acute than ever. Yin was disillusioned. Almost all of the value had been stripped out of the industry and he began telling people – only half in jest – that he would begin selling motorbikes by the kilogram, like pigs. “the ex-factory price of our cheapest model is rmb 25 per kilo. That is a bit more than a kilo of live pig.’ Said one of his deputies, Yang Zhou, during another of my visits to the plant. A more pertinent comparison, however, might be with the cost of the metal and other components that go into building a motorcycle. At a sales price of around rmb 2,500, a motorbike costs only a shade more than its scrap value; the other inputs such as engineering, labor, development costs, brand, distribution and the experience and vision of the company’s executives are rates as valueless. ‘Clearly this is not healthy. It is malignant competition.,’ Yang says.

In a normal market economy companies cannot go on selling at below cost for years. Banks start to worry about their ability to repay the debts and eventually call in their loans. But China is not a normal market economy. If does not have a functioning bankruptcy law, so the liquidation of insolvent companies is difficult. In addition, banks are awash with liquidity; Chinese people save an average of around 40 per cent of their income and the supply of money in the economy is well over double the annual gross domestic product. This means that banks often have more deposits than they can find borrowers to lend to, and therefore are less than vigilant about calling in suspect loans. Aside from this there are other concerns. A senior provincial banker with the Industrial and Commercial Bank of China, the country’s largest bank, told me that precipitating a bankruptcy by recalling loans from an insolvent company was inimical to the interests fo the bank. The knock-on effect would be palpable as that company’s suppliers were also pushed under he said. Unemployment would rise, potentially causing a slump on consumer spending and endangering social stability. ‘It is much better to wait for the next upturn in the market rather than cause a slump across the board,’ the banker said. The ubiquity of this attitude is revealed by an extremely low level of Chinese corporate bankruptcies by international standards.

This peculiarity leads to another, one that is shaped partly by the ever-present lure of selling to the mythical ‘billion’. Under market economy conditions, when a company encounters oversupply of the product it makes, it generally pulls in its horns. But in China this happens only rarely. A more common response is to continue producing at the same rate while looking around for another industry sector to diversify into.

Japanese companies are known for financing their forays into export markets by charging more for their products at home (and protecting against foreign companies) than they do abroad. Chinese corporation are the exact opposite. Many of them, Lifan included, export as a means of staying afloat at home. Yang Zhou, Yin’s deputy, says the profit margins on bikes sold in Africa, Iran and Latin America can be as high as 10 percent in some cases, whereas margins in China are wafer-thin or negative.

My journey from Chongqing ended at a terminus of China’s industrial revolution, a place where hundreds of thousands of products made in factories like Yin’s ended up. The scale of the place is dizzying. Some 34,000 stallholders sit in one vast exhibition hall after another selling around 320,000 different types of products in hangars covering an area of 1,500 hectares (3,700 acres for you Americans). They told me that if you took the price of the cheapest market in Beijing and then halved it, you would be getting close to the cost of buying the same things in Yiwu.

I passed the Hiyat Hotel, the Hiyat, of course, had nothing to do with the Hyatt. The first shop was advertising leather bags made in Italy by the famous brand, Gussi. They cost $11 each but, the shopkeeper said, you could always bargin a bit.

In another corner there were Lacoste rip-offs, again all close to each other. One was called New Crocodile, another Crocodile of the Yangtze, a third Crocokids and, the last, Croc Croc. I walked into one of the shops and asked the assistant whether the real Lacoste branded products were being sold in her shop or in France. ‘The Frence crocodile and the Chinese crocodile are the same brand. They have merged,’ she said. Then she waved dismissively at the rival shops nearby. ‘They are all fakes, those ones, you can easily tell.’

Inside the exhibition hall, it was just as my friends had foretold. The prices were unbelievable. A graphite titanium tennis racquet that appeared to be of medium to good quality was going for roughly what a tube of tennis balls would cost in the UK $7.80. A Chinese-made DVD player that had caused a minor sensation in America when it was put on sale at $29 was effortlessly undercut. An unbranded motorized drill, the spitting image of a Black & Decker product, cost $12, with a full set of drill bits thrown in.

Yiwu offered a glimpse at the source of the discount store phenomenon sweeping the developed world. Half an hour of walking around its cavernous exhibition halls was enough to destroy any mystery as to how Wal-Mart, Target, Home Depot, Tesco, Metro, Carrefour, Lowe’s, Best Buy, Royal Ahold and several other discount retailers are able to offer goods so cheaply. In fact, I began to be impressed not at their capacity to discount but at their ability to get away with charging hefty mark-ups without incurring a consumer backlash.

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Not only does Chongquing’s transformation resemble that of a youthful Chicago and the construction of China’s infrastructure replicate America’s in both its concept and even in aspects of detail; but also the movement of the sons and daughters of farmers to factories along the coast echoes the mass migration of young people from Europe to the New World some 150 years ago. New communications technologies – in the US a century and a half ago it was railways, in today’s China it is the internet and digitization – are creating quantum leaps in productivity. International flows of capital and expertise from Great Britain to the US in the nineteenth century and in modern times from the industrialized nations to China are lubricating the process of change.

In those days – as today – price shifts were a harbinger of the economic, political and social changes to come. The period from 1873 to 1900 is known as the era of ‘deflationary boom’ because prices of agricultural and manufactured items fell almost across the board in the US. The opening of the prairies to agriculture sent the price of grain plummeting across the developed world, causing rural unrest throughout Europe, the depopulation of the countryside and a crisis among the British landowning classes which was to reverberate through the increasingly egalitarian twentieth century. Similar changes hit industry. Andrew Carnegies, the Scottish-born US industrial baron, took a new steel technology, called the Bessemer converter, from Britain to the US in mucht he same way as Shen Wenrong transported the Phoenix plant to China from Germany. From 1872 to 1898, Bessemer steel prices fell 80 percent in the US, and Carnegies commented prophetically: ‘The nation that makes the cheapest steal has other nations at its feet.’ Indeed, British industry found it hard to adjust to the relentless cycles of deflation in the manufactured products, and many companies went bust. From 1875 to 1896, British prices fell by an average of 0.8 per cent every year. Nevertheless, living standards improved for most British people because of the sharp increase in the number of inexpensive imported goods.

A century later, it is China that is exporting deflation in manufactured products and it is Americans and Europeans who are increasingly living out their lives assisted by a cornucopia of products made in China. As an early signal of a shift in the distribution of geopolitical power, it seems unmistakable.