Why Do We Put Up With China's Nonsense?

For decades, the relationship between China and the U.S. has been like a big brother and a little brother. You teach the little guy how to play basketball, how to talk to girls, and the ways of capitalism (I don't have a brother, but I assume this is one of the lessons). Eventually he starts beating you on the basketball court and making his own path in the world as you look on proudly.

But our relationship with China comes with a contentious back-story that hasn't improved as the country has gotten more powerful. Theft, fraud, and manipulation are rampant. You probably remember hearing about replica Nike (NYSE: NKE  ) products making their way out of Chinese factories that would be shut down in the U.S., and that's just scratching the surface of the problem. Consumer-goods like shoes were good enough for China in the '90s, but today its sights are set much higher.

Normal rules need not apply
As part of the World Trade Organization, or WTO, China is supposed to be an open trading partner. Free trade breaks down the barriers of protectionism that plagued the world for centuries. The WTO says it stands for non-discrimination, as well as open, predictable, transparent, competitive, and environmentally friendly trade.

What happened to that philosophy in the rare-earth market, where China supplies 95% of the material? China has put limitations on exports for a key raw material for hybrid cars, wind turbines, and other high-tech gadgets. This has been a boon for Molycorp (NYSE: MCP  ) , which will be one of the first miners outside China to begin production, but it flies in the face of free trade. Recently the country has begun being even more restrictive, consolidating power and working on a new pricing mechanism. That doesn't sound like free trade to me.

Companies such as Toyota (NYSE: TM  ) have been forced to look into alternatives to rare-earth magnets, increasing business risk that shouldn't be a problem in a world where free trade rules are followed. The U.S., E.U., and Japan are challenging China's practices with the WTO, but so far there's been little to no progress.

Protection of none
One of the foundational building blocks of developed countries is the protection of intellectual property. Whether it's an idea, a catch phrase, a piece of art, or this article I'm writing, intellectual property is protected. China has blatantly disregarded IP protection, to the detriment of U.S. companies, and I'm wondering why we put up with it so willingly.

If you haven't heard the story about American Superconductor (Nasdaq: AMSC  ) , it's a cautionary tale we should all know. The company sold equipment, designs, and software to Chinese wind turbine manufacturers, basically providing the technical expertise that made their businesses possible. The largest of these was Sinovel, one of the world's largest wind turbine manufacturers.

At the foundation of American Superconductor's business and licensing agreements was code that was the brains of the wind turbine. It was a tenuous competitive advantage, but this type of IP would be protected in the developed world. In China, the story is different.

According to American Superconductor, a disgruntled employee sold this valuable code to Sinovel, which then backed out on its licensing and supply agreements. Since selling these trade secrets is illegal, the ex-employee is sitting in an Austrian prison at this very moment.

But what about Sinovel? It's no worse for wear, legally speaking. American Superconductor has brought four lawsuits against the company for the theft of intellectual property, and one of the suits has already been thrown out of court. If the others are similarly tossed, you'll have your final answer as to what China thinks of IP.

Our currency is worth whatever we want
Free trade should involve another free-market mechanism, floating currencies. But China has decided to peg its currency to ours, making goods cheaper to produce in China. President Obama has complained about the action, and Candidate Romney has talked tough about the manipulation, but little has been done to stop this manipulation of China's currency.

Why do we put up with it? Because China buys our debt and is a major trading partner, a relationship we don't want to mess with.

Outright fraud
One of the biggest controversies last year was the fallout from reverse-merger IPOs and Chinese fraud. How are we supposed to invest in China when we can't believe its companies' financials?

A surprisingly large number of companies that were found to have misled investors, yet we simply gobbled these garbage stocks up -- for a while. We have such an appetite for exposure to China's growing economy that we're willing to overlook normal IPO due diligence and invest in complicated corporate structures that would take a law degree to understand. Why we still put up with this is beyond me.

Foolish bottom line
I've outlined just a few examples of how China greets U.S. companies and investors with a smile and then stabs them in the back. If you have others, feel free to share them in the comments section below.

These are major problems in China and with investing in China, but I don't see the situation changing any time soon. Companies thirst for the potential growth China provides and are willing to overlook the risks associated with investing there. A few weeks ago, I highlighted how even all-powerful Apple (Nasdaq: AAPL  ) may be teaching a new generation of companies how to make its products, just as we taught China how to make PCs and automobiles. That decision could have China taking over increasingly important markets in the future.

For stock ideas that have some protection from Chinese imitators, check out our report highlighting companies set to dominate the world. The report is free.

Fool contributor Travis Hoium owns call options in American Superconductor. You can follow Travis on Twitter at @FlushDrawFool, check out his personal stock holdings, or follow his CAPS picks at TMFFlushDraw.

The Motley Fool owns shares of Apple and Google. Motley Fool newsletter services have recommended buying shares of Apple, Nike, and Google, as well as creating a diagonal call position in Nike and a bull call spread position in Apple. The Motley Fool has a disclosure policy. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


Read/Post Comments (34) | Recommend This Article (50)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 15, 2012, at 1:01 AM, rcrocket wrote:

    Umm. Refusal to deal in strategic materials is not protectionism. You have it backwards. The US has a long list of things it won't permit for export. Protectionism is tariffs, and the last time I looked the US has a bunch.

    And don't you realize that pegging their currency is just another form of subsidizing production so their goods are cheaper? Last time I looked I was glad to pay less.

  • Report this Comment On April 15, 2012, at 3:28 AM, GETRICHSLOW2 wrote:

    As an investor I would not touch a Chinese company especially one that is state run. I have some exposure through multinational stocks but that is as close as I care to get.

  • Report this Comment On April 15, 2012, at 10:10 AM, seattle1115 wrote:

    How odd our priorities are! All this hand-wringing and pearl-clutching over economic espionage - something that American companies are also guilty of, by the way, and (according to former CIA director James Woolsey) sometimes with the complicity of the United States government, and yet nowhere in this column do the words "slave labor" even appear.

  • Report this Comment On April 15, 2012, at 10:56 AM, skypilot2005 wrote:

    "On April 15, 2012, at 3:28 AM, GETRICHSLOW2 wrote:

    As an investor I would not touch a Chinese company. "

    Period.

    I agree.

    I'd start slapping tariffs on their products, as well.

    It's Japan all over again for the U. S.

    Ironically, their citizens suffer a lower standard of living as a result.

    re.: They send us products, we send them I. O. Us.

    Sky

  • Report this Comment On April 15, 2012, at 12:42 PM, oriorda wrote:

    No wonder the Chinese refer to us as hypocrites.

    For America's contribution to open and honest fair trading the reader is referred to John Perkins' book

    "Confessions of an Economic Hit Man'

    Truly: let he who is without sin caste the first stone.

  • Report this Comment On April 16, 2012, at 11:02 AM, michaeldimeglio wrote:

    China is taking care of China first. That is what we should be doing. Taking care of our interests first. Don't expect others to be looking our for our best interest. Success is spelled "ACTION". Words don't cut it.

  • Report this Comment On April 16, 2012, at 6:37 PM, BayArea2000 wrote:

    Whenever China comes up, no matter what the issue is, invariably someone is bound to say, "But what about America? We're just a guilty. . . ."

    There is an ocean of difference between similarity in kind and similarity in degree.

    Ever since I lived in China 20+ years ago, I've wondered why foreign companies have such stars in their eyes that they willingly put up with Chinese lawlessness and abuse just for the hopes of future profits.

  • Report this Comment On April 16, 2012, at 7:11 PM, truth4u wrote:

    Travis Buddy,

    Did you ever stop and think it could be the other way around? That, maybe the Chinese are asking themselves, "Why are we putting up with the U.S.?"

    To wit:: While Uncle Ben has been printing $1.8 Trillion with QE1 & 2; the U.S., has very effectively FORCED China to devalue the Yuan because it has been pegged to the Dollar. The Chinese want to sell their products too; and ordinaryAmericans who have been finanically raped by Wall Street and the Multi-national Corporations appreciate the cheaper Chinese goods.

    Secondly, one can build a pretty good case for blaming the Fed for China's rising inflation. That's what happens when a Country devalues it's Currency. This Currency War was started by the United States; and, it is playing with fire!

    The BRICS are already meeting to consider an alternative currency, or basket of currencies, to replace the Dollar. When the opportunity presents itself, China will strike! and push the Yuan as the new Currency of international exchange.

    That's tough! if China is buying and hoarding rare earth elements and other minerials. We could have beein in the Market too, if the Rich, and the Government hadn't pissed it all away. We are Broke! and can't afford to purchase anything.

    Further, don't talk to your readers about a, "free market system." After TARP, Fannie, Freddie, AIG, GM, and other corporate welfare bailouts, the notion rings hollow.

    We are screwing the rest of the World, trying to save our own Butts. The Rich and Powerful created the Financial a Crisis; and, now they want the World again,to pay for their sins; and, there is a whole host of them.

    doktor

  • Report this Comment On April 16, 2012, at 7:32 PM, iamufo wrote:

    This is the first artical I read on fool.com that is full of nonsense.

  • Report this Comment On April 16, 2012, at 7:40 PM, maiday2000 wrote:

    truth4u,

    You make some good points. First, yes, we have pissed our lead in rare earths away through onerous environmental regulation. Second, we did get rid of our free market system long ago, and there is too much intervention from the government with private companies.

    But please, don't say we are screwing the rest of the world - they are doing plenty to screw themselves. Is America holding a proverbial gun to China's head forcing them to peg to the dollar? They could let it float and tighten their own monetary policy if they are worried about inflation. They are all too happy to weaken their currency in kind with us to continue their export happy economy.

    Second, with their entry into the WTO a dozen years or so ago, China was supposed to abide by certain rules with regard to trade and intellectual property. They have completely disregarded this have faced little in the way of penalties. With America's vast exports of stolen technology, we surely should be considered the most generous dupe in the world.

  • Report this Comment On April 16, 2012, at 8:20 PM, xetn wrote:

    "Free trade breaks down the barriers of protectionism" What free trade? Please show one example of free trade in the US. We have all kinds of trade agreements, but none are free trade, they are what the government calls "fair trade". That means we get what we want at the expense of our trade partner.

    And, since the US dollar is the official international settlement currency of the world, we have been exporting our currency inflation all over the world because we can.

    As for China, they have their rules and we have ours. Do not expect you can control what other countries consider "fair" because you don't approve. The US does put up high tariffs against many Chinese products. Think about a couple of years back when the US put up huge tariffs agains t Chinese made tires. Up till then, the US consumers were getting a great deal on tires, but thanks to the union protection racket, we are now paying much more for the same product.

  • Report this Comment On April 16, 2012, at 9:31 PM, anne1730 wrote:

    be nice to your Land LORD !!!!!

    YUAN is N O T pegged to US $. We could manipulate YUAN but we don't have

    MONEY !!!! WE are broke !!!!

  • Report this Comment On April 16, 2012, at 10:46 PM, nschuhrke wrote:

    "Theft, fraud, and manipulation are rampant."

    Yes, and here in the US, we're pure as the driven snow. One look at the cause of our current financial/economic situation puts the lie to that.

    It's just that in China, the theft, fraud, and manipulation are more blatant and committed at all levels of society. Here, we allow only the upper echelon of society to get away with such disreputable behavior; everyone else gets prosecuted.

  • Report this Comment On April 16, 2012, at 11:42 PM, ershler wrote:

    maiday2000,

    Enviromental issues were not the only reason we lost our lead in rare earth metals; US companies were bought by the Chinese and moved to China.

  • Report this Comment On April 17, 2012, at 2:28 AM, dismanirie wrote:

    The US acts like a kindergarten pupil. After throwing all the sand out of the sandpit, he's crying because the other kids have carted it away and he's left sitting on the stony ground.

    China didn't want the sandpit, it wanted the sand.

    I guess growing up takes some painful lessons, but far more constructive to learn from them than bitch about it.

  • Report this Comment On April 17, 2012, at 11:02 AM, sikiliza wrote:

    Welcome to the 21st Century my friend. The days when the US set rules for others and played by a whole different set of rules are long behind us. Like so many commenters mentioned, China is looking after its own.

    Further, you overarching assertion that Chinese trade policies ultimately hurt US companies doesn't stand close scrutiny. Dozens of US companies are really doing well in China including KFC, McD, Walmart, Apple, Microsoft, GM and Ford. All blue chip iconic brands. Then there are all the VC and PE shops out there buying local companies by the dozen.

    Take your head out of the sand and face the reality that China is a force to reckon with. True, they are rather flexible with the truth, with regulatory oversight and with their trade policies but the US is much more so in more ways than one.

  • Report this Comment On April 17, 2012, at 11:13 AM, DJDynamicNC wrote:

    "When the opportunity presents itself, China will strike! and push the Yuan as the new Currency of international exchange."

    That strikes me as unlikely to be successful. A country with zero transparency, a terrible financial regulatory environment, and GDP per capita that ranks below Jamaica, Azerbaijan, and Serbia is an unlikely host to an international reserve currency.

    I could see the Yuan being included in a "basket" currency unit, but not an out and out replacement itself. Not for years, anyway.

    I also think the United States is much stronger than people give it credit for, and likely to retain that position for quite some time.

  • Report this Comment On April 17, 2012, at 11:23 AM, whereaminow wrote:

    This has to be one of the most hilarious articles in Fool history. The USA would NEVER engage in such illicit behavior!

    Lolololololol

    Ok back to Jersey Shore watching everyone. USA! USA! USA!

    David in Liberty

  • Report this Comment On April 17, 2012, at 11:28 AM, hellbound1 wrote:

    1,000,000 Chinese manufactured toys from fisher price were recalled for lead contamination here in the US.

    Now dog treats in the US this year were found to have melamine (the same chemical use to artificially boost protein in contaminated Chinese milk products 2007) leading to Kidney failure.

    But you go to the mall an foolish Americans are lining up to purchase Nike and other Chinese made goods. Go on line and spend a few dollars more for a USA made alternative which will last a lot longer. And it will help our economy.

    I'm not saying to purchase an American car (may not be good quality especially GM), but kitchenware, clothes, baby clothes. Why expose your children/family to BPA, lead, phthalates and other hormone disruptors because you want to be cheap and save a few bucks.

    I have bought sandals from a US company that are cheaper than the ones sold in stores (Okabashi), I have bought baby clothes made in US. Carters is mostly made in China. And I have bought baby toys made in US (Green Toys). There are alternatives but unfortunately you usually have to go online.

  • Report this Comment On April 17, 2012, at 12:09 PM, DJDynamicNC wrote:

    I think American cars are back near the top of the heap, actually, but yes, buying local has a myriad of benefits, both economic and environmental. And as fuel prices continue to climb, the cost of shipping from China will escalate, just as worker pay continues to rise in the face of increased prosperity in China, also impacting costs.

    Consequently, sourcing closer to home is likely to become more economical for all involved.

  • Report this Comment On April 17, 2012, at 12:34 PM, mdk0611 wrote:

    Some of you and your moral relativism are hilarious. It's like giving a pass-fail exam and if the US gets less than 100% it fails and if China gets more than 1% it passes.

  • Report this Comment On April 17, 2012, at 1:32 PM, CaptainWidget wrote:

    Wow...I'm actually impressed to see a lot of people getting outside their own headspace and thinking about China from a fresh perspective.

    Are they doing everything right? Of course not. They're a billion large country who's essentially rediscovered free markets only for the last 15-ish years. There's going to be some growing pains there. If there was a way to jump from the bottom of the socio-economic ladder to the top, I'm sure China would do it. But just like US and every other country, they have to go one step at a time and make the same mistakes everyone else has.

    A) They may be limiting exports. So does every other nation on some crucial issue. Why does Cuba put up with the US unwillingness to export automobiles.....

    B) They may have no respect for intellectual property. But is government fiat protection over an idea really useful to progressing an economy? Just because I use your words doesn't mean you now cannot use them. Governments protecting non-rivalrous goods is a waste of resources. Ultimately it all leads to cheaper goods sold abroad, which is clearly what the market is asking for (not necessarily "real" goods)

    C) They may be manipulating their currency. But if they are doing it the way we think they are, then they're essentially taking money out of the Chinese workers bank accounts and depositing it in Americans. We're certainly not getting the short end of that stick.

    Yes they're making a lot of mistakes. But at least they're moving TOWARDS capitalism, not away from it.

  • Report this Comment On April 17, 2012, at 3:54 PM, pauldelang wrote:

    China today and tomorrow is just the US some time ago. Instead of being the Wild West it is now the Wild Wild East. China is here to stay and will not be ignored or sidelined. However watch out for future political turmoil when communism and the communist party come crashing down. If you think they are lawless now wait until it is a free for all under a sort of "democracy".

  • Report this Comment On April 17, 2012, at 4:05 PM, DJDynamicNC wrote:

    "B) They may have no respect for intellectual property. But is government fiat protection over an idea really useful to progressing an economy? Just because I use your words doesn't mean you now cannot use them. Governments protecting non-rivalrous goods is a waste of resources."

    I couldn't agree more.

  • Report this Comment On April 17, 2012, at 4:05 PM, iamufo wrote:

    I can't believe this article is at the headline of fool.com now.

    If you are not naive, you would know there are more than 10 currencies are TIGHTLY pegged to USD to the sub pennies. Why don't you call those "manipulation"? Actually, it's the US government that manipulating currency war around the globe to export inflations.

    I'm US citizen, but i'm shame of what the government does, and sick of them pretending to be "fair" and "pro-freedom".

  • Report this Comment On April 17, 2012, at 4:35 PM, lovesaves wrote:

    Wow, such a myopic and paranoid article. Look at today's headlines. We have Oracle, Google, Microsoft and Apple all suing each other for stealing technolgy. All are American.

  • Report this Comment On April 17, 2012, at 6:17 PM, cbwang888 wrote:

    You cannot apply high standard to developing country like China, which was quite poor one generation ago. There are gains and losses. They haven't learnt enough to be the superpower of the world yet, but surely they are setting up their goal high.

    Whatever China is now, look at ourselves at the mirror. What do see ourselves as? What made US a great nation? Did we lose our mojo? How do we let 99% down only to help the top 1%?

    Money talks but life is not all about money.

  • Report this Comment On April 18, 2012, at 11:15 PM, Ob7788 wrote:

    One of the most -overgeneralized-, narrow minded, -one sided- articles I've ever read. As an American chemical engineer in DC, I have personally seen great strides being formed in terms of working with the SIPO (Chinese patent office) and implementing greater intellectual protection for all individuals within both countries.

    This article, on the other hand, seems also comprised of rehashed political points designed to warn investors away from and generally bash China (as an entire country!).

    Shame on you, Travis.

  • Report this Comment On April 20, 2012, at 11:22 AM, mrbillCZ wrote:

    Kudos to CaptainWidget, MichaeldiMiglio and others....action is key, as well as learning from our mistakes, which lately have been too numerous to count. Why don't we penalize them on greenhouse gasses since they are becoming industrialized? oh wait...that was US some yrs back....

    yes, intellectual property remains a challenge. But companies not realizing that themselves should be the shamed ones. Welcome to globalization, and get on with the results, not the whining. When we ourselves laugh at our ridiculous Congress, what do you think they're doing? Did anyone even watch the documentary on the Wall St. Collapse, and the Chinese response??

    More facts, less posturing please.

  • Report this Comment On April 21, 2012, at 3:03 AM, thedeadmessenger wrote:

    i agree with the other commenters opinions that this article is short on Motley and long on Fool. About this American Superconductor nonsense - the secret to wind power is computer code?!?! It's a bleepin' windmill!! The wind turns a propellor and it turns a shaft that turns a generator and you think the secret to its success is a computer?? How many variables do you see here?!?! My freakin' lawn mower has a generator that is turned by a shaft and it has a VOLTAGE REGULATOR, as have all engines for oh, say, 100 YEARS OR SO. Less posturing, indeed.

  • Report this Comment On April 22, 2012, at 8:07 AM, xetn wrote:

    This just in:

    http://lewrockwell.com/roberts/roberts344.html

    Although, I doubt you will not read it.

  • Report this Comment On April 29, 2012, at 12:42 PM, Ragingmoose wrote:

    Everything might be toxic from China, toys, foods or stocks like Sino Forest, SINA, BAIDU, RENEN.

    But, ''NO RISK NO RETURN.''

  • Report this Comment On May 18, 2012, at 3:30 PM, wyominggirl wrote:

    Like this article. It is 100% the truth. I worked at American Superconductor for close to ten years and they were an incredible company with great potential and technology. Now thanks to China and Sinoval they are barely limping along and many good people are now unemployed. Sad to see the comments from folks who think this is all nonsense. If it were your life and your investments that went up in smoke thanks to China's immoral business practices and outright thievery you may very well see the truth of this article.

  • Report this Comment On May 27, 2012, at 11:37 PM, sunsetlover wrote:

    There are some valid points by the OP. And here are a few points from someone who lives in China:

    * China does, and will do, whatever it takes, to protect its system, and therefore, its economy (money is the "opium" of the people here). I mean WHATEVER it takes, be it play politics, try to control certain mkts, subsidize others, lie, steal, blackmail etc., as long as it doesn't get caught. This is a general rule of life here, anything is allowed as long as you don't "get caught". This is a general reminder of how China intended to deal with the WTO when it joined.

    * Some folks need to learn about forex. The Yuan has NOT been devalued, it has APPRECIATED (become more expensive) over 12% vs the USD and over 20% vs the Euro, over the last 2 years. The Yuan is not trully-pegged against the USD, as, say, the Hong Kong dollar is. It is still controlled by the Peoples Bank of China. Partial reason for the appreciation? Interest Rates. You can get a 4.5% rate for a 3-month CD here. When was the last time you got that in the US? Another reason? China appreciating it slowly to play appeasement politics.

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