Is China a supply chain friend or foe? It is actually a very interesting and complex question.

I will also note, given our growing international audience, that I am writing this from a largely US point of view, though much of it is relevant no matter what country you live in. Some is US specific, however.

I have been preparing to write this column for some time - clipping articles, saving web links – but am moving it up in the schedule due to the “Google event” of last week.

I suspect many of you heard that headline, but did not dig too deep into the details. It is actually quite a story. Last week, Google said it had discovered a cyber attack that happened in December, in which the “hackers” were trying to access the Google email accounts of hundreds of Chinese activists. That’s what most of us heard in the headline.

That’s bad enough, but it turns out, there was more. The attacks targeted at least 20 other companies and maybe as many as 34. That included companies like Dow Chemical and defense contractor Northrup Grumman – the hackers apparently hunting for trade secrets and software “source code.”

How nice. And this is just one of a series of such cyber spying incidents by China over the past few years.

I am generally a free trader, though I think the loss of US industrial capacity is reaching the point of long-term danger to the country’s interests, as I have discussed before. My focus today is not so much on global trade generally, but specifically on China itself.

Unfortunately, in a sense, “demography is destiny,” and the reality is that a country of $1.3+ billion people is at some point going to exceed economically and perhaps most other areas a country with some 330 million people, which is about where the US is. (The population of European Union countries in total is about 500 million).

The migration of sourcing by US companies from the US or other countries to China has been breathtaking. As we noted last week in our review of the Decade in Supply Chain, Chinese imports were $100 billion in 2000, and $338 billion by 2008 – that’s an astounding 238% gain in just eight years. Incredible, when you think about it.

And those flows were mostly one way: the US trade deficit with China in 2008 was $268 billion – meaning only some $70 billion of goods were exported from the US to China.

That fact alone obviously concerns many business, political, and labor leaders, on many levels. To cite one of the most prominent, China now owns more than $1 trillion (with a “T”) in US government bonds, on which the US is dependent to fund its huge budget deficits. That gives China quite a bit of clout regarding US economic policy – a direct result of soaring US trade deficits with the country.

But in the end, here is my point: some of this would be worrisome enough if it were occurring with a solid “friend” – let’s say Japan. But does it not often look like China, despite our clear economic integration – is also about as much a “foe” as friend? And does this change about how you think might think about these trade issues?

From pure economic and trade perspective, China is rising rapidly by every measure. In 2009, it surpassed Germany as the world’s largest exporter, and the US as the world’s largest automobile market. The researchers at Global Insight last year predicted that China might surpass the US as the world’s largest manufacturer in 2010, though the National Association of Manufacturers disputed those figures and made a strong case the US lead would be maintained for some time. But certainly not forever.

The Google incident, says the respected Financial Times, “is a harbinger of increasingly stormy relations between the US and China.” FT columnist Gideon Rachman adds: “Welcoming the rise of a giant Asian economy that is also turning into a liberal democracy is one thing. Sponsoring the rise of a Leninist one-party state, that is America’s only plausible geopolitical rival, is a different proposition.”

That, I guess, is my point. Regardless of how generally you feel about global trade, offshoring, etc., (I mostly favor it), wouldn’t the US overall be better off if much of that $338 billion imported from China was spread around to a mix of other countries?

One challenge, of course, is that while perhaps the dynamics with China overall are not good for the US, they may be just right any individual company, given China’s mix of labor costs, labor skill, logistics infrastructure, etc. But in total, those individual company decisions may not be in the country’s overall interests.

Then, of course, there is the attraction – and maybe necessity – of penetrating China’s already large and someday enormous market. The move to China for sourcing is often as much about tapping into the market there as it is about low cost country sourcing. I don’t have a good answer on that one.

But consider: 

• China is making massive investments in its military and weapons systems (15% growth last year) – much of which seems targeted at the US, the chairman of the U.S. Joint Chiefs of Staff said in 2009.
• In my research, I found a little reported story from 2008 in which the US discovered several military groups had acquired hundreds of counterfeit Cisco routers, which highlighted not only the overall issue of counterfeits from China, but concerns the goal was to use hidden software in the units for cyber espionage.
• China is using its huge trade surpluses and foreign reserves to buy or invest significantly in commodity resources in Africa and South America.
• Pair that fact with the news last fall that China was hoarding a number of critical “rare earth” metals used in manufacturing (e.g., lanthanum, cobalt) – little known by most, a lack of access to these metals would create havoc for Western manufacturers.
• We reported last year on the brutal treatment of the local employees of many of these mining and commodity foreign Chinese interests in those developing countries by Chinese managers. Scary, if accurate.
• Last year, while in negotiations with mining giant Rio Tinto over pricing over iron ore to feed its steel industry, China jailed four company executives in China over “industrial espionage,” a move that should send a chill down the backs of foreign managers there. They are awaiting trial.
• The country routinely executes government officials and business managers over charges of corruption and even incompetence.
• Several years ago, Westinghouse won a contact to build nuclear power plants in China – with the condition that the company turn over its nuclear technology to China a few years after that.

Does none of this matter? Should we continue to move sourcing to a country that repeatedly hacks the systems of our country and companies, that is making moves to get a scary advantage/lock in many commodity areas (mostly metals/minerals), that forces Western companies to turn over their technology know how, that jails a company’s executives in the middle of tense price negotiations, etc?

I know there are 1.3 billion potential customers there, but think we may be hastening our own demise. Let’s rethink the China game – or is it too late?.

What are your reactions to Gilmore's thoughts on China? On the mark - or are the concerns overblown? Is it too late to change course? What do you think companies or the country should do? Let us know your thoughts at the Feedback button below.