LITTLE DRAGONS IN FLIGHT-nov2011

INFOCUS | INDIA-CHINA | SME | FUTURE | REPORT

Status and future of SMEs in China

Little dragons in flight China’s contribution to SMEs has proved that this eastern dragon is now well and truly awake to the sound of pattering feet of its many little dragons.

|16| India-China Chronicle  November 2011

Steven Hsu and Aurora Chen

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n 2009, China overtook Germany as the leading exporting country in the world in terms of export volume. Figures in 2011 showed that China had overtaken Japan to become the world’s second largest economy. With years of economic growth around the 10 per cent range, China has been rapidly climbing the ranks of top economies, surpassing France, Britain and Germany before toppling Japan. The remarkable growth of GDP and exports achieved by China largely depends on the strategy of market economy, which led to the rapid development of small and medium sized enterprises (SMEs) in China.

The rising importance of SMEs in China’s economy The development of SMEs in China begun with the process of economy reforms since early 1980s, when the private sector firms did not officially exist, most SMEs then were usually collectively owned, with the state still having some role. With the opening of the private economy in the reform during Deng’s era, the restructuring of state-owned enterprises (SOEs) has meant that there were many entrepreneurial opportunities available to SMEs. As SOEs closed down, the vacuum allowed entrepreneurial SMEs to flourish.

Only 30 years later, the statistics issued by the State of Administration for Industry and Commerce (SAIC) showed that China had 10.42 million of officially registered SMEs in 2009 (not including the 31.97 million registered self-employed), accounting for 99 per cent of the country’s total enterprise. Of these 10.42 million SMEs, or 65.3 per cent of them were located in eastern China. This percentage declined after 2009 due to the rapid growth of SMEs from other regions, especially western China. The flourish of SMEs in China is an explosion of entrepreneurial businesses that has never happened in human history. China has created more SMEs in the last 20 years than the total number of SMEs in Europe and the United

States combined.

The SMEs have made an impressive contribution in the Chinese socialist market economy. In 2009, the GDP of China had achieved 33.53 billion Yuan, of which 18.07 per cent was contributed by private business.

WTO statistics show that the export volume of China in 2009 was around 1200 billion USD. According to the figures in 2005 issued by Ministry of Commerce, SMEs contributed 68 per cent of China’s export. This is a much higher proportion than in any other economy in the OPEC or APEC. Moreover, about 60 per cent of national industrial output value and 40 per cent of the national revenue came from SMEs. SMEs had already become such a major force in the economic growth of China.

Besides its significant contribution to the economy, SMEs played a key role in job creation and social stability.

These days the Chinese are sparing no effort to build a harmonious society, a society without warfare, conflict, starvation and terror. The SMEs provided 75 per cent of urban job opportunities, absorbing a large amount of the unemployed and laid-off people, alleviating employment pressures of China, especially during the period of the global economic crisis in 2008.

The Chinese government has also promulgated a series of laws, regulations and preferential policies to protect and promote the development of SMEs. On June 29, 2002, the Law of the People’s Republic of China on Promotion of Small and Medium-sized Enterprises was adopted and promulgated as a policy framework for SMEs. This Law was enacted for the purpose of improving the business environment for SMEs across five aspects. a) Funding support; b) Support for establishment of enterprises; c) Encouragement for technological innovation; d) Help for market development; e) Improvement of public service system.

Since then, more than 250 relevant supporting documents were issued by the competent departments and municipal governments and 21 local decrees promulgated with it. Further, the State Council respectively issued 36 and 29 specific opinions in 2005 and

2009 to strengthen the support for the development of the country’s SMEs. In terms of taxation, along with a series of preferential tax policy for SMEs, the government further increased tax breaks to small firms with an annual taxable income below 30,000 Yuan from Jan 1 to Dec 31, 2010. Regarding the technological innovation of SMEs, China has set up 152 technological innovation service centres for SMEs, 1500 productivity promotion centres, 87 national university scientific and technological parks and 130 business foundation parks for returned students, which have jointly offered strong support for SMEs’ technological innovation. The government has also given preferential tax policy to innovative SMEs, encourage them to improve their technological innovation capacities, enhance product quality, promote development in energy conservation and clean production.

In terms of financing, special funds for SMEs were established in the central budget at around 10.89

(SETC) has established cooperative ties with the departments in charge of SME affairs in Japan, Canada, Belgium and other countries. A total of 12 cooperation agreements have been signed. The vast supply of work force has kept many Chinese SMEs extremely cost competitive. The International Labor Organization (ILO) database gives the monthly rate for manufacturing wages in China in 2008 at about 2,016 Yuan per month; compare this with the German wage in manufacturing at about EUR 19.51 per hour, with 38.4 hours per week.

The Chinese wage is about 6 per cent

billons Yuan in 2009. Loans for SMEs reached 14.4 trillion Yuan; about 30.1 per cent increase over the previous year. A large amount of loan projects, trust projects and over 4000 financing guarantee institutions have been set up. At the top end of the market, the establishment of Small and Mediumsized Panels and Growth Enterprise Market had raised more than 2,000 billion Yuan for over 350 SMEs before 2010.

The Chinese government has made great efforts to enhance the cooperation with APEC members and help domestic SMEs exploit more international markets. China’s State Economic and Trade Commission

that of the German. In addition, the ILO had calculated the average wages by combining state-owned units, urban collective-owned units and other ownership units. According to the figures published by the Chinese Bureau’s of Statistics (CBS), the wages for private enterprises in 2008 was only about 1,422 Yuan per month.

Chinese SMEs make a remarkable contribution to the Chinese and international markets, even though almost all SMEs were started only in the last two decades. Behind the great achievements made by Chinese SMEs, this explosion of entrepreneurial businesses is an unprecedented challenge both to China and the world.

November 2011  India-China Chronicle |17|

INFOCUS | INDIA-CHINA | SME | FUTURE | REPORT

Problems and challenges of Chinese SMEs

face some major structural and demographic changes in the coming years and decades.

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China has relatively little professional management experience or legal infrastructure available for new SMEs. Although the figures of regulations or budgets for SMEs are all consideraby large, it will take a long time to see the effect. China is too young to handle these complex situations in a short period. The legal and social infrastructure has not developed as quickly as the entrepreneurs have. In terms of corporate governance, many of the managers in China have never had any training in management; few have ever experienced a serious downturn in the economy. If and when a major downturn does take place, the SMEs and their managers may simply not be able to deal with it. In 2008, although the statistics reflect that only 13.6 per cent SMEs were severely impacted by the economic crises, with 50.5 per cent impacted to a small extent, the profit of industrial SMEs above the designated size declined 19.3 per cent and the rate of growth of profits declined 52.3 per cent from 2007. A large amount of SMEs went bankrupt, especially the small-size enterprises.

Vast and cheap supply of labour and resources are its comparative edge of, not economic and technical efficiency.

SMEs are still focusing on those labor-intensive industries over which China historically has had a comparative advantage. Such as mining and garments industry, arts and crafts products and in other manufacturing industries like leather, furniture, foodstuff, textile, metal products and plastic products, SMEs hold over 85 per cent share of industry revenue. In capital and technology intensive industries, like ordinary machinery, metallurgy, chemicals, transportation facilities, paper making, instrument and apparatus, there are also many SMEs engaged in providing secondary services to large enterprises.

The lacks of SMEs’ independent innovation reduces its market shares in high-tech fields. But even in the sphere of labour resources which we are proud of, China also faces some major structural and demographic changes in the coming years and decades. By 2045 about 30 per cent of China’s population will be over the age of 60. Especially due to the “one child policy,” the percentage of working population will decline. In the international labour market, China’s SMEs will also face fierce competition from other developing countries with lower labour costs.

SMEs should play a key role in indus-

direct financing, improve preferential policies, and reduce the social burden of SMEs. The government also plans to increase the new Strategic Emerging Industries (SEIs)’ share of the GDP. In term of foreign investment, the government encourages foreign investors’ participation in SME development.

With the recovery from the global economic crisis in the financial services sector, many businesses, including Chinese SMEs are facing and searching for new opportunities. Following the 12th FYP, foreign businesses can expect the government to continue opening up China’s services sector, therefore seek more cooperation with national SMEs. In short, Chinese SMEs have risen from almost nothing to become a

significant international economic force over the last two decades. Although there are many challenges facing China, it should believe that the Chinese can develop faster than their predecessors’ economies. It took Europe about 800 years to go from a feudal agricultural economy to a post-industrial economy; it took North America a bit over 300 years; it took Japan about 50 years to do the same. But China is attempting to take the same journey in around 35 years, because, like geese or bicycle racers, the Chinese can ride on the bow of its leaders. China’s contribution has proved that this eastern dragon is now well and truly awake to the sound of pattering feet of its many little dragons.

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In terms of theoretical research on SMEs, for instance demographic method, under China’s statistical collection methods it is not usually possible to get the breakdown by size of firms.

The definition of SMEs is quite complex and out of order. On June 18 2011, four departments of the State Council of People’s Republic of China jointly issued a new regulation about the standards for division of medium and small size enterprises; this was the eighth revision regarding the definitions of SMEs. The definitions for micro-scale enterprise were set up for the first time according to this new regulation. All these show that China will

Financial resources are still the primary difficulty.

At present, the formal financial resources are not completely available to SMEs. The reason for this situation is closely related with the country’s current financial management system.

Domestic financial management system give more consideration to large and medium-sized enterprises, like banks evaluation of risk and standards for the treatment of loans are not attractive enough to encourage banks to lend to SMEs, especially when banks have had high non-performing loans (NPL). Even the amount of loans is quite high for supporting enterprises; the loans are concentrated to large-scale and medium-sized enterprises. The current figures reflected in the bank’s corporate loans show that 49% account for large, 30% for medium-sized while only 20% for small enterprises.

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It took Europe about 800 years to go from a feudal agricultural economy to a post-industrial economy; it took North America a bit over 300 years; it took Japan about 50 years to do the same. But China is attempting to take the same journey in around 35 years

choose to conduct their business in the Asia-Pacific region, compared to 6 per cent in the United States and 10 per cent in Europe. This trend is highly related to the development of technology in China. As China generally lacks competitiveness in fund and technology, the products of these important sectors do not have comparative advantages in the world market. New technology has allowed many Chinese SMEs to enter international business directly, so they are less dependent on being part of large firm supply chains.

Besides these internal factors, China faces significant international diplomatic and economic pressures. Global

trial structure adjustment and upgrade of China, besides its contribution to the economy. In the background of lack of resources worldwide, labourintensive and resource consumption industries are not what Chinese SMEs should be encouraged to pursue.

competition and accelerating technological development now are forcing firms to internationalize, while the problem of exchange rates and trade surpluses forces SMEs to adjust rapidly in a short period. As the global market comes later, Chinese enterprises play a catch-up role to compete with its western counterpart. 

The future of Chinese SMEs In November 2010, the Communist Party of China’s Central Committee approved the guiding principles of China’s 12th five-year plan for National Economic and Social Development (FYP 2011-2015). The National People’s Congress (NPC) ratified the plan in March 2011. The 12th fiveyear plan for SMEs will be issued in March 2012 by the Ministry of Industry and Information Technology. The 12th FYP’s guiding principles promote the idea of “inclusive growth,” which means ensuring the benefits of economic growth are spread to a greater proportion of the Chinese polpulation. The plan’s key themes are rebalancing the economy, ameliorating social inequality and protecting the environment. Three sec-

tors that will receive a major boost from the 12th FYP are health care, energy and technology.

For the development of SMEs in China, the 12th FYP expounds: China will develop SMEs vigorously, improve the legal system, promote SMEs to accelerate the mode of economic development, strengthen construction of a trustworthiness system, and enhance the quality of products and competitiveness. In term of structural adjustment, China encourages the development of industrial clusters and independent innovation. Regarding financing strategy, the government will establish effective systems in financial service and credit guarantee system. The government will also take measures to broaden the channels of

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Chinese SMEs need to pursue foreign markets.

On one hand, of the 10.42 million SMEs, 95.9 per cent which are domestic enterprises, the number of funded enterprises is only 0.43 million. The influential international activity outside China are still mainly performed by large-scale Chinese firms. On the other hand, 78 per cent Chinese SMEs

Steven Hsu is the Managing Director and Senior Consultant at Zhong Yin Law Firm in Beijing Aurora Chen is an Associate at the Zhong Yin Law Firm

November 2011  India-China Chronicle |19|