Thoughts on Hong Kong

I don’t have time today to prepare a longer analysis but I wanted to put forth a number of thoughts on the Hong Kong protests.

1.  The protests will not be quelled soon.  Watching and reading a variety of international media outlets, I am surprised at the number of people that expect this to be a day or two of protests before returning to normal.  I would personally be quite surprised if this was a short lived protest movement.

2.  The protesters are dangerous because they feel as if they have nothing to lose.  Hong Kong has many grievances against China and they feel as though they have nothing to lose by taking this final step.

3.  This is Beijing’s worst nightmare.  The one thing Beijing has been trying to avoid for years in Hong Kong and the Mainland was a mass protest through all the color revolutions.  They were caught flat footed by the Umbrella Revolution.  They know this has already spiraled out of control for them and now they hope to defuse the situation.

4.  The official response has been astoundingly inept.  Whether arresting a sympathetic high school student, firing tear as on protesters with the hands in the air, or issuing press releases which say nothing will change now please go home, the official response would fail any crisis management section in public relations.

5.  Beijing and Hong Kong are between a rock and a bigger rock.  Official responses to issues like the White Paper and potential protests have been heavy handed and only served to bring out more protesters.  However, giving the protesters too much freedom risks having the protests spread to the Mainland or force Beijing to back down.  Right now the official strategy appears to be do nothing and hope that people go home.  I doubt that is going to happen.

6.  The issues at play are much deeper and more complicated than portrayed in the media.  The White Paper from Beijing is merely the last straw that provoked this and not the only issue.  I will write more about this in the coming days.

7. Beijing technically allowed Hong Kong universal sufferage but it gets to pick the candidates.  This harkens back to the Henry Ford saying about cars that “you can have it any color you want as long as its black.”  Hong Kongers may have a chance to vote, that doesn’t mean they have a choice.


Anti-Trust Policy in China Needs Some Economics

There has been a lot of interest recently in whether Chinese authorities are unfairly using anti-trust regulation against foreign companies favoring domestic firms.  This is an interesting question but the data is to sparse to really know whether the authorities are using it to favor domestic companies.  What has been almost entirely neglected is whether the Chinese authorities have good economic arguments that foreign firms are monopolists in the Chinese market and if they are, whether they are abusing their dominant market position to extract economic rents.   Let’s try to examine the economic argument closely.

The absolute pre-requisite for an anti-trust case is that a company have either a dominant position in a market or be a part of a group which dominates a market.  Anti-trust law was originally designed to target companies with a monopoly position in a specific industry but has also been expanded to examine industries with high concentrations of firms.  This means that anti-trust cases should be where individual companies or a small collection of firms have a dominant market position.

However, in no instance could any foreign firm that has been charged with anti-trust violations be found to have a dominant market position.  Let’s take two recent examples.  In the summer of 2013, China issued fines against six baby formula manufacturers for price fixing while three other firms were charged but not fined.  Now before even analyzing the meat of the charges, it is important to emphasize that there are at least nine major manufacturers of baby milk powder.  That would meet any definition of a competitive market place as no individual firm has a dominant position and there is no charge or evidence that the firms were colluding to set prices.

The Chinese government instead charged them with “disrupting market order” and fixing their own prices, at a price which the Chinese government unilaterally deemed too high.  It is important however to note why foreign firms charge “…more than double…” domestic brands.  Put bluntly, Chinese do not trust domestic brands of milk powder due to numerous scandals and are willing to pay significantly more for foreign milk powder.   Standing in a customs line returning from Hong Kong into China, the Chinese return with armfuls of two products: luxury goods and milk powder which in a way are the same thing.  Foreign producers saw the increased demand and raised their prices to maximize profit.  It is worth emphasizing that no foreign firm had a dominant position in the baby powder milk market or even among foreign manufacturers.  Returning to economics 101, foreign producers enjoyed a surge in demand and prices increased.  That is very different than an anti-trust violation.

More recently Mercedes was charged with antitrust violation due to what Chinese authorities said was high prices for car parts and services for existing vehicles.  In other words, Mercedes was charging too much to repair its own cars at its own dealerships.  This specific case is a bit more complicated than the milk case because this case does not involve Mercedes dominance in the overall car market but in Mercedes dominance in the pricing of its own car parts.  Let’s examine the this case closer.

Mercedes has a dominant market position in the sales of its own products.  Mercedes sets the prices for the products it sells.  The question should not however be whether the price of a Mercedes car part is too high but whether Mercedes is engaging in anticompetitive behavior in the secondary market of car parts to extract higher prices.  In every car market, China included, consumers have the choice of purchasing replacement parts and services from the manufacturer of the car or going to other mechanics and purchasing non-dealer replacement parts.  The primary argument cited by Chinese authorities is that if you were to build a Mercedes from spare parts it would cost 12 times the cost of the Mercedes rather than 3 times in other markets.  This indicates that Mercedes is charging significantly more than other markets but says nothing about anti-trust or anti-competitive abuses.

The question then becomes whether Mercedes was trying to keep other companies from selling replacement parts for Mercedes.  With the exception of a small number of parts, most car parts have off-brand manufacturers that will make replacement parts for Mercedes cars.  These are not branded as Mercedes but they are acceptable as replacement parts.  Similar to the milk case, Mercedes is not even charged with trying to prevent third party manufacturers from selling replacement parts to Mercedes owners.  In other words, consumers are perfectly free to buy cheaper replacement parts for their Mercedes in a competitive market, place given concerns over quality, they prefer to purchase branded Mercedes replacement parts.

The baby powder milk formula and the replacement Mercedes car parts have two interesting and common threads.  First, Chinese consumers are highly skeptical of the quality of Chinese products.  No amount of Beijing led witch hunts on foreign companies is going to change that.  Chinese consumers paid more for foreign baby formula because the chances it is laced with melamine is much lower than its domestically purchased equivalent.  Chinese consumers willing to pay more for a branded product they trust is not anticompetitive behavior by the foreign firm selling them the product but rather charging a premium price for a premium product.  That is simply good business sense.  Second, these “anti-trust” cases are not about market dominance or anti-competitive behavior  by firms but rather selling a product at a price that Beijing does not approve.  Just because a product prices are different either between competing companies or between countries is no surprise to any economist.  Firms have a variety of pricing strategies and sell their goods for different prices to different customers at different places.  There is no evidence that any of these firms either enjoy a dominant market position or engage in anticompetitive behavior.

There are two final notes worth mentioning.  First, Microsoft has recently come under anti-trust scrutiny in China for its supposed dominant position in operating systems and office software programs and how this impacts pricing.  What is so puzzling is given that approximately 90% of Microsoft labeled software in China is pirated, how can Microsoft be assumed to have a dominant position?  It seems more reasonable to charge the pirates with anti-trust violations.  Second, this focus on the price of the good now armed with anti-trust regulation continues Beijing’s obsession with   demanding foreign firms lower their prices.  Previously CCTV, just as much an arm of the government as the anti-trust regulators, had targeted firms like Starbucks for the price of a cup of coffee.  Even though evidence indicates that Chinese Starbucks are not outside the normal pricing range, Beijing tried to make the cost of a latte an anti-foreign firm political issue.

Whether or not Beijing is deliberately targeting foreign firms and not domestic firms, is difficult to say given that lack comparison data.  However, it is easy to tell that these so called anti-trust violations are not based upon economics.