The American Chamber of Commerce in China (AmCham-China) and AmCham Shanghai published the sixth American Business in China White Paper last month, which has compiled the observations, concerns and recommendations of their membership of more than 1,800 companies.

The paper offers a broad and in-depth view of the business climate, the impact and implementation of China's commitments to the WTO and the US companies' expectations for the future.

Followings are excerpts:

Main trends

It has been a good year for American companies in China. Our survey of member firms shows that three out of four are profitable. Some are highly profitable. This data reveals another significant finding this year twice the number of companies plan to expand their business in China compared to last year. Many report they will increase operations in secondary cities and beyond.

The survey shows the most profitable American companies are manufacturers that have been in China for several years. New US investors and exporters continue to set up business operations in large numbers. In 2003, China became the world's principal destination for foreign investment.

This positive picture is in large measure a result of China's ongoing opening of its market to foreign investors. We believe China is now substantially in compliance with its World Trade Organization (WTO) obligations a marked improvement over last year. Some sectors are increasingly shaped by competitive forces rather than government fiat. Nonetheless, vague government regulations, bureaucratic caprice, a lack of transparency, and blatant infringement of intellectual property rights (IPRs) remain major challenges across a number of sectors.

For many of our member firms, one of the largest obstacles in doing business in China continues to be the lack of intellectual property rights protection. Ninety percent of our companies believe that the government's enforcement effort is ineffective and more than three-quarters are negatively affected by IPR infringement.

China's leadership has proven to be adept at managing the economy. While a "hard landing" remains a possibility, there are signs that a debilitating economic slowdown will be avoided. Energy shortages, likely to worsen in the coming year, pose another challenge. The stakes are high for our member companies whose expansion plans depend on China avoiding a major economic turndown.

China's relationship with the United States has grown more stable over the past year and this has been good for business. One of the most encouraging changes we have seen is the Chinese Government's willingness to enter into a good faith dialogue with business and the US Government when commercial differences arise.

Bilateral consultations successfully defused a potential slowdown over semiconductors and wireless LANs. We believe the trade deficit is more likely to be ameliorated by better market access rather than through currency adjustments or various trade remedied.

Economic overview

The first year of the Chinese Government has been marked by a major test of its leadership abilities. Overheated economic growth, sectoral imbalances, SARS (severe acute respiratory syndrome), avian flu, and energy shortages have been emerged to threaten China's steady economic record of recent years.

It is still too early to judge definitely whether the new leadership will meet the challenge, but there can be little doubt that the outcome will have a major impact on AmCham member companies. The growth of our members' companies is increasingly dependent on the health of the Chinese economy. Some 80 percent of our surveyed companies identified China as being their top three investment destinations.

Our members were concerned about the possibility that China will overheat. Some 62 percent of respondents to the AmCham survey indicated that the economy is growing "somewhat too fast and could overheat," while another 10 percent believe that the economy "looks like a bubble that could burst." As explained below, the government also shared these concerns and took action that appears to be slowing the economy.

Since early 2004, the central government has sought to use administrative measures to restrain new investment. In the second quarter of 2004, growth in total fixed asset investment declined by 14 percent, quarter on quarter. Growth of the money supply softened in the first quarter of 2004 as controls in the banking sector took hold. In June, M2 rose 16 percent year-on-year, which is almost 5 percent less than a year earlier and down somewhat from the previous month. Government measures also seem to be taking hold in key industries. New construction declined sharply in the second quarter, while growth in passenger car sales eased under the pressure of more stringent consumer loan standards. Growth in real estate investment slowed to 29 percent versus 41 percent in the first quarter. On the other hand, exports in the first half of 2004 grew by 35 percent, while imports rose by a faster 41 percent. In short, it is too early to say definitely whether or not the government has delivered a "soft landing" for the Chinese economy, but these signs are promising.

Trends in trade

China remains the world's most important emerging market. It has rapidly ascended as a world trading power on a tide of globalization. Since 1998, its GDP has risen by 50 percent as it has successfully enmeshed itself in complex global supply chains. Last year, China became the world's fourth largest exporter by value and the third largest importer.

China's trade remains roughly in balance. In 2003, foreign trade continued to grow briskly and in the first half of 2004, reached approximately US$400 billion both in imports and exports. First half imports in 2004 went up 41 percent over the same period in 2003, while first half exports grew 35 percent. Also in the first half of 2004, the cost of energy and the raw materials imports surged, creating a first-half trade deficit of US$6.8 billion. As a regional assembly and manufacturing platform, China has large deficits with other Asian countries matched by a surplus from exporting finished goods to the United States and Europe.

This trade growth carries important implications to our member companies doing business in China. Foreign companies now produce 55 percent of China's exports. The percentage rises to almost 80 percent of industrial machinery. In short, China's export boom is being fuelled by foreign capital, much of which benefits US firms. They save hundreds of millions annually in costs, which keep prices down for American consumers.

On the other side of the equation, exports to China from the United States increased 76 percent over the past three year, while globally the growth was flat. The United States enjoys a US$3.7 billion surplus in agriculture and a US$1.9 billion surplus in services, but overall it has a bilateral trade deficit of over US$100 billion.

Given its size, structural nature and rapid rate of increase, China's surplus with the United States remains politically problematic. China's imports in 2003 rose by nearly 40 percent, but the growth in the US exports to China was only 28 percent.

Some observers attribute the US-China trade deficit to Beijing's currency and foreign exchange control policies. Many prominent economists dispute this and believe that a moderate appreciation will make little difference to US firms or workers. We believe such scepticism is justified, but support China's intention to move towards a freely convertible currency. This is necessary in order to have an independent monetary policy. As business people, we are also mindful of the transition cost imposed by complex, burdensome foreign exchange regulation. We applaud China's willingness to move towards a more flexible currency regime in stages.

Foreign investment

China was the global number one destination for foreign direct investment (FDI) in 2003. While actual foreign direct investment remained steady at US$53 billion in 2003, there appears to be an upward trend in utilized investment for 2004.

It is clear from response to the AmCham membership survey that American companies place very high priority on their investment programs in China, and that American investment is primarily targeted at the Chinese domestic market. Some 31 percent of responding companies indicated that China is their number one priority for global investment. Another 49 percent reported that China is among the top three global investment priorities.

Only one in six member companies invests primarily to produce goods or services in China for the US market. Only one in 10 reports that they are investing in China primarily to shift US manufacturing to lower cost location. These figures challenge the assumption that US companies are rushing to move capacity to China primarily to lower costs and to compete more effectively in their home market. In fact, American companies gear their investment programs in China primarily to the domestic China market.

In this respect, American investment in the Chinese mainland may be somewhat different from investment from Taiwan or Hong Kong, which is more oriented towards using the Chinese mainland as a manufacturing and assembly base for products exported to the North America and Europe. Many US manufacturers are positioned to take advantage of China's increasing economic integration into the Asia region and the resulting robust expansion of commercial activity.

Reflecting the continuing confidence in the China market, our survey also indicates that almost twice as many companies, compared to last year, plan to expand their business. More products will be exported and imported by these firms. Plans also call for companies to expand more operations into the interior provinces and beyond secondary cities. Only a third will be increasing their equity in joint ventures, underscoring the trend in recent years towards wholly-owned enterprises. We expect that as foreign companies grow more confident of their business models and as infrastructure improves, merger and acquisition activities will become an increasingly important part of the foreign investment picture in China in years ahead.

US firms' performance

For the second year in a row, three-quarters of respondents to our survey report their China business to be profitable. Indeed, profitability may have improved somewhat as the number of firms characterizing themselves as "very profitable" increased significantly over last year.

For 42 percent of firms surveyed, China margins are higher than worldwide margins while another 31 percent said they are comparable.

The data probably reflects the trend of more manufacturing operations being wholly-owned. Respondents from the service sector report more local competition, which may have driven down margins.

China's WTO implementation

December 11, 2004 will mark the third anniversary of China's accession to the WTO. AmCham believes the country has made substantial progress since our last formal report issued in September of 2003. With the exception of IPR protection, we believe China is substantially in compliance with its WTO deadlines and specific obligations.

The American business community recognizes the important steps China has taken in 2004, including legal changes at the national level to comply with the basic commitments. The Ministry of Commerce (MOFCOM), for instance, promulgated the Regulations on Foreign-Invested Companies of an Investment Nature in February of 2004. To use another example, under the revised Foreign Trade Law that took effect on July 1, companies and individuals need only register with authorities for import and export rights, rather than apply for approval. The steady stream of new laws and regulations across various sectors for trade and investment is improving, despite a striking lag behind in enforcement and administrative confusion in some areas.

In previous reports, we specifically noted non-bank auto finance as an area where China had missed deadlines. In January of 2004, the China Banking Regulatory Commission (CBRC) approved three automotive companies to set up China's first three foreign-invested, non-bank auto finance companies.

In insurance services, the China Insurance Regulatory Commission (CIRC) on December 12, 2003, opened five cities to foreign non-life insurance companies. Following its WTO commitment schedule, China has issued insurance licenses for foreign non-life insurance companies in Fuzhou, Xiamen, Ningbo, Shenyang and Wuhan. The insurance industry is still concerned with the thorny issue of capitalization requirements, especially as related to branch and sub-branch offices.

A range of actions not required by the WTO agreements recapitalizing two major banks, accelerating disposition of non-performing loans, encouraging foreign investment in banking and insurance, developing the yield curve by issuing a 10-year bond, reviving the dormant derivatives market, and launching a qualified foreign institutional investor program demonstrates that the WTO program of opening the economy to greater international participation is in fact stimulating financial services reform.

Of great importance to the American business community and our request to the Chinese Government is the opportunity to review and comment on all laws, regulations and other measures pertaining or affecting trade in goods and services.

Over the past six months, China has taken some highly positive steps towards wider consultation with industry regarding draft legislation. In December 2003, the National People's Congress requested comment from AmCham on the revised Foreign Trade Law. More recently, China's Supreme People's Court solicited our views on draft provisions regarding foreign-related arbitration.

In this same spirit of consultation, Chinese ministries have from time to time asked our individual member companies to comment on draft regulations that affect their respective industries. Nonetheless, such consultation between the Chinese Government and foreign business community remains carefully managed and selective, with widely varying practices among different ministries. MOFCOM's WTO Enquiry and Notification Center has been a helpful conduit through which to voice concerns about WTO-related issues, but this does not address the broader investment and business environment or the multiplicity of regulations across the broad range of government entities.

AmCham-China and AmCham Shanghai seek a means to engage in this process. We also recommended that the practice of consultation with interested parties be extended to laws and regulations other than those related to trade.

(China Daily October 9, 2004)