In the chapter on China’s Two Markets in my book, Managing the Dragon, I describe how every product in China has two markets: a highly visible market that resembles those in the most developed economies in the world, and a second, much less visible one that is purely local and unique to China. While the world focuses on the first, much of China’s population deals on a daily basis with the latter.

This is true even in the case of capital. On the one hand, China’s commercial banks are now among the largest in the world and have become highly active, and visible, players in global financial markets. In the stock market, the ups and downs of the Shanghai Stock Exchange are reported on in the same breath as those of the exchanges in New York or London. At its peak last year, the valuation of China’s A share listed companies was a lofty 43.7 times earnings, more than double valuations on most stock markets around the world. Even with the 55 percent decline from last October’s peak prices, A share companies trade at 18.5 times earnings, slightly more than the price/earnings multiple for the S&P 500.

While China’s largest companies enjoy rich stock market valuations and can readily borrow money from banks at interest rates less than 8 percent, most private companies in China are forced to resort to a large and growing network of illegitimate, unregistered and unregulated private lenders that charge interest rates of 20 percent or more. This underground network constitutes China’s less visible, purely local market for capital. Though it has always existed in one form or another, China’s recent credit tightening measures are drying up bank financing that most private companies find it difficult to obtain even in the best of times.

Rampant entrepreneurialism in China and the 85 million private enterprises that Ted Fishman, author of China, Inc., estimates exist in the country, belie the fact that being an entrepreneur in China is no easy matter. Despite the enormous amount of capital that has flowed into the country over the past thirty years, and the vast amount of wealth that has been created during that period, obtaining capital to start or build a business in China is one of the biggest hurdles faced by budding entrepreneurs.

Bank loans, a traditional source of financing for new companies in other countries, have been largely reserved for state-owned enterprises in China, where the implicit guarantee of the state makes it unnecessary for loan officers to learn how to analyze a business plan. A survey by the Guangdong provincial government showed that small and medium sized enterprises in that province only got 2 billion yuan in bank loans in 2007, 2 percent of the total loans extended in the province.

Leasing and other institutionalized forms of secured lending are still in an embryonic stage of development in China. Even selling shares in the stock market, an option available to companies of all sizes in most other stock markets around the world, is not an option for private companies in China, no matter how promising their growth prospects. Which companies go public in China is determined by state regulators, not the investment bankers.

With traditional channels for obtaining capital closed to them, a purely local market for capital has developed as many private companies have been forced to go “underground” to obtain start-up or working capital. A recent story in China Daily Business described some of the aspects of this purely local market and the dilemma faced by entrepreneurs in the country.

When Yuan Xing needed 800,000 yuan to start his organic farm, he turned to private lenders in his hometown for financing at a 20 percent annual interest rate.

“I knew I could get a better rate from a bank,” said the 29-year-old fruit and vegetable producer. “I tried Bank of China and Industrial and Commercial Bank of China, but they didn’t even want to look at my business plan.”

“A lot of small firms come to us. Only the bigger enterprises go to the banks,” said an underground lender, who declined to be named. He has lent out 10 million yuan - he declined to say how he made that kind of money - at 30 percent annual interest rate.

“Interest is not an issue. They will go bankrupt if they don’t get our short-term loans,” he said. “Our money is available at short notice. We can deliver the cash within 24 hours, while a bank loan might take at least six months.”

Despite usurious interest rates, underground lending is becoming a big business in China. In a survey conducted by Beijing’s Central University of Finance & Economics, it was estimated that underground lending totaled 1.98 trillion yuan in 2007, equal to 28 percent of the amount lent by banks.

China is a study in contrasts and nowhere is this more apparent than in its capital markets. Countries like the United States have found that the biggest sources of new jobs are the small and medium sized enterprises, not the large Fortune 500 companies. One of China’s biggest problems is its lack of effective capital markets to distribute capital to those individuals and companies that can use it most effectively. One of China’s biggest opportunities is to develop capital markets that do.

Ted Fishman, the author of China, Inc. and a good friend, shocked me and the audience in Florida in late 2005 when he stated, matter of factly, that there are 85 million private companies in China, more than three times as many as the 25 million in the United States. Ted and I were serving on a China panel together, and I learned something that day that I still cannot get out of my mind. I always knew that China is an entrepreneurial country, but I had no idea as to the sheer magnitude of the numbers– until then, that is.

Entrepreneurism in China is infectious, and there is no known antidote or cure as far as I can see. It seems like everyone in China—young, old, Chinese, non Chinese— is starting some type of business. If you aren’t an entrepreneur before you get here, I guarantee you; you will become one before you know it.

Despite the difficulties of doing business in China and the fact that the country is already the third-largest economy in the world, China remains one of the best places in the world to start and build a business. Why? First, the economy is growing at double-digit rates, so whatever business you pick, it is likely to have a strong wind at its back.

Second, China is a large economy, but it is also one that is in an embryonic stage of development. That means there are many “gaps” that need to be filled. How many times have you met someone who has just returned from his or her first trip to China and is literally brimming with ideas for new opportunities in China? That’s because there are a lot of opportunities and gaps to be filled. Services and products that are readily available and familiar in a well-developed economy may not be so available or familiar here. Finally, despite China’s rapid development, it’s surprising how many otherwise well-informed business people around the world are not even aware that there may be opportunities for their products or services in China. If you happen to spot one of these “opportunity gaps,” don’t assume that it will soon be filled. The people or companies most likely to fill it may not even be aware it exists.

Having gone down the entrepreneurial road myself, I am always happy to help those that are beginning their own journey in whatever way that I can. That is why I was more than happy to accept an invitation by Jim James and Matt Lewis to speak to the Beijing chapter of the Entrepreneurs’ Organization (EO). EO is an organization that represents a global network of more than 6,600 business owners in 38 countries. Founded in 1987 by a group of young entrepreneurs, EO provides a platform that enables entrepreneurs to learn from each other.

The event in Beijing was well-attended, and I was delighted to meet many people whom I have known by name over the years, but whom I had not yet had the opportunity to meet in person. Most in attendance have been in Beijing and China for several years, so it was a very experienced group. I was particularly happy to meet Paul Denlinger, who not only wrote a review of my book, but also wrote about the event on his blog, The China Vortex.

I congratulate Jim and Matt for their hard work in building the Beijing Chapter of EO. In Jim’s words, “EO is a forum for entrepreneurs to share, learn and support one another here in Beijing. We welcome people who are taking risks, making decisions and building a business here in China.”

 If you would like more information about EO Beijing, you may contact Jim directly by e-mail:jim@eastwestpr.com

As a result of rising crude oil prices, and taking advantage of a drop in the country’s inflation rate in May, China raised gasoline and diesel prices for the first time in eight months this Friday. As of midnight, gasoline prices were raised by 0.8 yuan (12 cents), and diesel 0.92 yuan (13 cents), per liter. This brings gasoline prices to 6.2 yuan per liter in China, or approximately $3.47 per gallon. In most parts of the United States, gasoline now sells for $4.00 or more per gallon. However, taxes account for 11 percent of the retail price, so the net price per gallon in the U.S. is approximately $3.56 per gallon.

It appears that the Chinese government took advantage of the drop in inflation from 8.3 percent in March to 7.7 percent in May to bring energy prices in the country more in line with global prices. At the same time, China announced that it will raise electricity charges for commercial units as of July 1.

With prices in China’s A share market falling precipitously from their October 2007 peak, and many in China calling for the government to do something, anything, to stop the stock market’s slide. I wrote a post on April 29, Sometimes, the Market Just Wants to go Down, where I argued that further intervention by the Chinese government would be the worst thing it could do. The duty of any government is to implement sound economic policies, and to ensure transparency and fairness in its capital markets — not  to guarantee that its citizens and investors earn positive returns through the stock market.

Sometimes, despite any government’s best efforts, stock markets react to global events or trends that are outside the government’s control. In these cases, the market just wants to go down, and the government should let it. This is how vibrant, well-functioning capital markets that efficiently allocate capital in any country’s economy are built.

Anxious to ease the pain of investors, the government nonetheless continued to intervene. Despite these efforts, China’s stock markets have continued to slide, with the Shanghai Composite Index dropping below 3,000 last week. On Tuesday, June 17, the Index plunged another 2.76 percent to close at 2794.75, a 15-month low. The Shenzhen Component Index tumbled 4 percent on the same day.

Commenting on the market, a recent Wall Street Journal editorial summed up the futility of government intervention in the country’s stock markets, and the distortions it causes in capital allocation:

There are good economic explanations for this week’s bear run. As the U.S. and European economies slow, there are worries about China’s export growth. Domestic consumer price inflation hit 7.7% last month. Beijing is trying to slow the economy in response – most recently by increasing banks’ capital reserve requirements Saturday. In any normal market, investors would be worried about corporate earnings right about now.

But China’s stock market isn’t normal; underlying economic growth is less important than government meddling. In the past few months, regulators have reduced the stamp tax on stock transactions, imposed new regulations to limit large block sales, and even told mutual fund managers not to sell their holdings too quickly.

As a result, investors are punting on what the next new regulation will be, rather than on the economic fundamentals of listed companies. This leads to inefficient capital allocation, herd behavior and boom-and-bust cycles. It may also prove self-defeating. Now that Beijing has shown it can’t hold the market above 3,000, the danger is that investors lose faith completely and a sharper plunge might ensue.

In “Managing the Dragon,” I argue that one of China’s biggest problems is the current state of the country’s capital markets. There is plenty of capital in China — it’s just not distributed efficiently. In the book’s final chapter, where I review the bumps ahead for China’s economy, I wrote:

Inefficient use of capital, as I’ve discussed on a couple of occasions, is another big problem. The amount of capital required to generate an additional 1 percent growth in the country’s GDP’s increases each year. Unless China develops a better way to channel capital to the individuals and companies that can use it best, the country won’t be able to achieve its full economic potential.

Despite their current shortcomings, the development of efficient capital markets represents one of China’s biggest opportunities going forward. If you think that the country’s growth over the past 30 years has been something, wait until China develops deep, diverse and independent thinking pools of capital — “cold-nosed capital” that seeks only the highest returns as Charlie Williams, one of my Harvard Business School professors, used to say. The economic growth caused by the eruption of entrepreneurial activity that will occur as a result will be nothing short of spectacular.

As a first step towards that goal, the editors at The Wall Street Journal said it best:

If Beijing wants to create conditions for a healthier market in coming months, it will let this slide run its course.

As anyone who lives and works in China knows, obtaining visas is becoming a bigger and bigger problem here. So much so that some, like the Australian foreign minister, are warning that this could harm future trade and business. In a recent interview, Stephen Smith told reporters in Hong Kong: “It is important that the Chinese authorities understand the potential practical, on-the-ground difficulties that this is causing.” Whether this is part of the overall pre-Olympic tightening that may begin to dissipate when the last athlete leaves Beijing, we won’t know until later. In the meantime, individuals and businesses alike need to understand the new restrictions and how to best deal with them.

To this end, Jason Inch, a Shanghai-based consultant and co-author of the soon to be released “Supertrends of Future China,” did us all a favor by putting together in one place some of the most current thoughts on the visa issue. Last week, Jason commented on his blog, China Supertrends, about a recent panel discussion and networking event in Shanghai which was sponsored by Beijing-based China Entrepreneurs and whose theme was “The State of Entrepreneurship in China.” I had the pleasure of serving on the panel along with Taiwan entrepreneur Raymond Chang, who is bringing a new take to home television shopping in Shandong; and Rocky Lee, an American lawyer with DLA Piper who heads its Asia Venture Capital and Private Equity practice.

We did not have time or the occasion that evening to discuss the visa issue and how it impacts entrepreneurs in China, so Jason provided a nice summary in his post. He referenced the changes you should know about and how this might affect your personal and business travel plans; a timely post on the subject from Dan Harris of China Law Blog; as well as several posts from China Herald.

I won’t repeat all of the advice, wisdom and observations contained in these sources, but merely refer you to them.

In my recent post, “Industry Week: China’s Different Cost Perspective” and in the related article I wrote for the magazine, I discuss the fact that Chinese managers have a different, and much lower, cost perspective than managers from more developed countries. Briefly stated, when Americans look at a 100 yuan bill, their immediate reaction is to divide by eight, the approximate exchange rate that has been in effect for most of my time in China, and to see the equivalent of $12.50. When Chinese look at that same 100 yuan bill, however, they see the equivalent of $100. In other words, a $100 bill and a 100 yuan bill are looked at and treated exactly the same way in their respective countries, with very important implications for relative economics.

This explains why the Chinese can make things so cheaply, and also begins to explain why there are two markets for any product in China. See “China’s Two Markets.” It also is the single most important reason why companies need to localize their management in China. Quite simply, to have long term success in China, a company’s managers should have the same cost perspective as its customers and its competitors.

This is one of the themes I stress when speaking to various student and business groups in China and the United States in connection with the launch of my book, Managing the Dragon. As I explain to audiences how I came upon this insight and the many ways in which it impacts the daily operations of our business, I can literally see the heads nodding. The Chinese immediately recognize that this is in fact the way that they look at money, and non-Chinese begin to relate what I am saying to their own experiences.

I noticed that The Hindu, a news update service in India, devoted an entire article to this idea, quoting extensively from my book and finding the concept “immensely instructive” in their words. I suspect that a similar phenomenon exists in India and helps account for that country’s cost competitiveness.

Chris Devonshire-Ellis, a longtime friend from Beijing, also found this idea useful and saw fit to write it up in his China Briefing News. Chris had heard me explain my views on China’s lower cost perspective in a presentation I gave at a conference held recently by the Young Presidents Organization recently in Beijing.

One question naturally arises when I discuss this topic, though. Many are curious to know how long the Chinese will have this lower cost perspective, and wonder whether it will quickly go away with all of the wealth now being created in the country. My answer is that it is here for at least one or two generations, and perhaps longer. Once ingrained in an individual’s psyche, something this fundamental tends to remain for a long time. That is why even wealthy people in China still look at money differently than their foreign counterparts.

Also, 900 million people even today live in China’s countryside and subsist on substantially lower levels of annual income than the rest of the country. By definition, this group of people has a much lower cost perspective than individuals from wealthier economies. As China’s economic development continues in the years ahead, many more from this group will be drawn into the country’s economic mainstream. As they do, China’s lower-cost perspective will be constantly reinforced by a new group of participants who will keep it very much alive.

On matters economic, I generally give the Chinese government high marks. Starting in 1978 with an economy that could barely feed its people, the government has guided China through 30 incredible years of economic reform and development.

I have been here for half that period, and have personally witnessed how China has built out its infrastructure, deregulated one industry after another, privatized many of its state-owned companies and embraced globalization by joining the World Trade Organization. As a result of these reforms and more, China is now the third-largest economy in the world, and everyone is waiting to see what the next 30 years will bring.

Despite the impressive growth of China’s economy, though, the country’s capital markets remain stuck in an earlier time and have not played the role they should have in supporting economic development. That’s a shame because it represents an enormous lost opportunity for China. Well-developed capital markets ensure that capital is used most efficiently and that companies and people with the right ideas get proper funding, and companies and people with bad business propositions do not. There is plenty of capital in China. The country has created enormous wealth over these past 30 years, and the Chinese are savers. Problem is, there is no way to efficiently distribute those savings and provide investors with a range of investment opportunities from which to choose, and companies with the financing needed to grow their businesses.

Unlike developed markets such as the United States, it is very difficult to finance a business in China. Ask any entrepreneur. Other than bank loans based on working capital or secured by real estate, there is no debt market for small and midsized companies. The large state-owned companies seem to get all the financing they need or can possibly use, but smaller private companies and foreign invested enterprises must rely primarily on their own sources of equity capital to finance growth. The Shanghai and Shenzhen markets are merely extensions of policy lending with government regulators, not underwriters, deciding which companies can list their shares.

Rather than focus on ensuring a fair and transparent stock market, China’s stock market regulators seem to believe that their job is to ensure that share prices always go up. The Chinese government is understandably concerned about the 40 percent drop in share prices this year and the pictures of forlorn investors that accompany each story about the stock market, but that’s just the way the markets work. Share prices are a reflection of the sum total of investor sentiment on a wide range of issues: the health of the economy; inflation; prospects for corporate earnings; political factors and others. In some cases, a country’s stock markets may even be impacted by global events that are only indirectly related to its economy. If investor sentiment is positive, share prices will rise. If the opposite is the case, they will fall. There is nothing that regulators could or should do.

Chinese investors today are worried about a number of factors. Inflation is at its highest level in over 10 years. The government is trying to reign in the economy, calling into question prospects for corporate earnings. The economy of the United States, China’s largest customer, is slowing, and the yuan is appreciating against the dollar, both factors raising concerns about exports. Apart from economic fundamentals, the A share market soared last year to nose-bleed levels of valuation and no market anywhere only goes up. China’s A share market was overdue for a correction, and even at current levels is overpriced compared to global markets.

In this environment, stock market intervention by government regulators is counterproductive. Slowing IPOs and limiting big share sales, as the government is currently doing, works against the integrity of the stock market as a true market and only serves to weaken investor confidence. Moreover, intervention by the regulators raises false expectations that the government will somehow be able to reverse the market slide. Analysts last week called on Beijing to reduce the stamp tax, launch stock-index futures and allow margin trading.

Cutting taxes on stock market transactions is positive because it reduces the friction costs of investing. However, reducing friction costs will only increase the volume of share trading, not necessarily cause share prices to rise. Likewise, allowing investors to buy stocks on margin and creating a futures market may be healthy developments for the market, but they will only serve to increase market volatility. When investors are positive, shares may go up faster, but when they are negative, share prices may decline even faster than they are now.

As stock market regulators in the United States and other countries with well-developed capital markets have found, sometimes markets just want to go down. In all but the most extreme cases, it’s best to let them do just that.

My recent interview with Laura Ramsey of Canada’s Financial Post focused on China’s two markets, one of my favorite topics. I devote an entire chapter to this subject in my book, Managing the Dragon, and believe that the way in which these two markets evolve in China in the coming years will have a profound impact on nearly every global industry.

Before China began its economic reform program in 1978, every market in the country was by definition purely local. Little, if any, foreign goods were imported into the country, and there were no foreign invested companies in China to produce the higher priced, higher technology products commonly found in developed economies. The trucks, industrial equipment, household fixtures and other products used in the Chinese economy were produced by local, Chinese companies that did not have access to more advanced technologies and had to keep prices low because income levels for the vast majority of China’s population were very low. Because both the consumers and the suppliers in this market were local, China had one market, an entirely local market, at the onset of its economic reform program.

As China’s economy developed and expanded under Deng’s reforms, it became “glorious to be rich” and more and more Chinese reached levels of affluence that enabled them to afford better, higher priced products. This dynamic created a new market, characterized by higher priced, higher technology products, which was layered on top of China’s purely local market and which I refer to as the “foreign/local market in China. In this higher end market, imports and products made by foreign invested enterprises in China compete head to head with the products from other foreign companies and the best of the local, Chinese companies.

One only has to look at the streets of any major city in China and see the vast number of modern, foreign made vehicles, or stroll through any one of the many new department stores in China, to understand that China’s foreign/local market alone has become one of the largest in the world. China’s annual demand for over 10 million trucks, buses and passenger cars, for example, is only second in the world to that of the United States. In product after product, China has already become one of the largest, if not the largest, market in the world.

But that’s not the end to the story. As the China economy, and its foreign/local market, has grown, so has its purely local market. That is because China’s economic growth has been distributed disproportionately across its 1.3 billion people. Although as many as 400 million people in China have average incomes of $7,000 per year, there are 900 million or so who have not benefited to nearly the same degree from China’s economic development and have annual incomes that average less than 10 percent of that amount. This vast number of people at the bottom of China’s income ladder keeps China’s local market alive—and growing. In this segment of the market, a company can sell any product, no matter how bad its quality or how low its technology, as long as it’s cheap enough. In this rough and tumble, purely local, price driven market, few foreign companies dare to tread.

China’s vast local market makes it a fertile breeding ground for future global competition. Companies that could not survive in a more uniformly developed, uniformly priced marketplace live to fight another day in China. While many of these companies will ultimately fall by the wayside, others will manage to survive, pull themselves up by the bootstraps, improve their quality and become battle hardened, low priced competitors to the foreign invested companies in China. With the glint of global domination in their eyes, the next step for China’s local companies as they successfully compete with the best of the foreign companies in China is the global market.

My advice: Pay attention to China’s purely local market. That’s where your next, and perhaps toughest, competitors will come from.

Industry Week, a leading print and online magazine which targets manufacturing, operations, and purchasing executives in all manufacturing industry sectors, asked me to write a book-related article for their publication. With trade, currency and the economy being hot topics in this election year, the IW editors provided an ideal forum for me to discuss one of my own favorite topics: China’s different, and lower, cost perspective.

The fact that Chinese look at money differently, in my opinion, has more to do with China’s cost competitiveness than any simple explanation relating to exchange rates. When Americans look at an RMB 100 bill, they automatically divide by 8 (the amount of Chinese yuan to the dollar that has been in effect for most of my time in China ) and see $12.50. When Chinese, on the other hand, look at that same 100 RMB bill, they see more like what Americans see when they look at a $100 bill. I devote an entire chapter in my book to this phenomenon and how it impacts manufacturing and purchasing decisions at both Chinese and foreign invested factories in China. Apart from its impact on cost structures, it also begins to explain why there are two markets for any product in China, a subject which I also discuss at some length in a follow on chapter.

Large economies like those of the U.S. and China are complicated with many interdependent variables. When one variable changes, everything else changes, sometimes in ways that aren’t so predictable. When the Japanese yen appreciated by 50 percent against the U.S. dollar from 1985 to 1988, exports to the United States did not decline as one might have expected. Instead, they increased from $69 billion in 1985 to $90 billion in 1988. Similarily, China’s exports to the United States have increased by 40 percent, from $163 billion in 2005 to $233 billion in 2007, despite a 15 percent increase in the yuan against the dollar over that period.

I’m not saying that exchange rates don’t have some impact, but merely moving exchange rates in one direction or another is not the silver bullet that most politicians believe it to be. Something more fundamental is at work. The entire Industry Week article can be read here.

Over the past several weeks, I have spoken to literally thousands of students, university professors and corporate executives about China and doing business here. Not surprisingly, interest in the country has never been higher.

China’s continued economic growth and the upcoming Olympics are two obvious reasons, but my sense is that China watchers have begun to realize that China is in transition, and they have a myriad of questions about how the country is evolving. China, the land of low labor costs and the world’s manufacturer of cheap, low technology products is giving way to a new China:  that is rapidly moving up the value added chain and becoming a large producer of more sophisticated, higher margin products.

This upward movement in manufacturing is being driven by four factors: higher wages, higher raw material prices, an appreciating yuan, and government policies which have reduced tax rebates for exports. The effect has been to drive China’s manufacturers out of low-technology, highly labor intensive products where profits are already low and are being squeezed, and into higher technology, more sophisticated products with higher profit margins.

After five years of double-digit growth in China’s Gross Domestic Product (GDP), per capita incomes are up across the board. At the beginning of this century, China was a $1 trilllion economy with per capita incomes of under $1,000. By 2007, the country’s GDP had grown to over $3 trillion, and average per capita incomes had increased to approximately $2,500. The government estimates that there are about 900 million people in China’s rural population. If we assume that this segment of the population earns $500 per year on average, then the remaining 400 million people in China are earning over $7,000 per year. Per capita incomes in major cities are even higher. Shenzhen is now $10,628; Guangzhou, $9,302; Shanghai, $8,594; and Beijing $7,370. Clearly, products that were profitable for Chinese factories to produce at the turn of the century when the country’s average per capita income was considerably lower can no longer be produced profitably today.

On top of rising income levels and expectations, raw material prices have increased dramatically since 2005, and the yuan has appreciated by over 15 percent against the dollar. Manufacturers of higher technology, higher value-added products at least have some chance of passing higher raw material costs on to customers. Producers of low technology products typically do not. Likewise, a more valuable yuan makes low technology, highly labor-intensive products that much more expensive on global markets.

The result of rising wages, higher raw material prices and an appreciating yuan has been a giant margin squeeze for Chinese manufacturers, particularly those that have been overly dependent on exports to the United States. (The yuan has actually declined in value against the Euro since July 2005 when China allowed its currency to float within a narrow band.) We are now seeing the economic reaction to the significant changes in manufacturing input prices that have occurred over the past several years.

China changes so quickly that there are advantages to seeing the country through a fresh set of eyes. Often, the best insights into how China works are provided by those who are the newest to it. This view was re-enforced by a recent column in The New York Times, Seeing the Sights of Industrial China: 2 Factories, 2 Futures, written by business columnist Joe Nocera.

Joe is now visiting China for the first time. He had received a copy of my book, and wanted to have a general conversation before he got on the plane for Shanghai, his first stop. By Joe’s own admission, he knew little about China, but was looking forward to the trip and seeing the country first-hand. What I found most interesting about the article is that the two factories he discussed he visited on his first two days on the ground. It didn’t take him long to get into the swing of things! By juxtaposing the two factories in the way that he did, he provides an unusually fresh, clear and insightful picture of China in transition.

Shanghai Jinjue Fashion Company, a manufacturer of inexpensive clothing, fit Joe’s image of a typical Chinese factory to a “T.” As he describes it, Mr. Jin, the board chairman, is the “classic low-cost, tight-margin, squeeze-every-penny manufacturer, the kind of entrepreneur who has been the backbone of China’s astounding economic rise—and who has been the primary beneficiary of the low yuan, which has spurred the market for China’s cheap goods.” Problem is, Jinjue is now in trouble. Hurt by rising labor costs and an appreciating yuan, it is no longer competitive and orders are now going to factories in Vietnam and Mexico. With higher costs and an underutilized factory, Jinjue is losing money.

Li Xianshou, founder of ReneSola, a manufacturer of silicon wafers used in solar panels that recently listed on the New York Stock Exchange, is another story. When ReneSola was established in 2001, it assembled solar panels, which it then sold to companies in Germany and Japan that made the wafers. As Joe’s article relates, Li soon discovered that:

assembling the panels was the lowest cost, lowest value part of the solar industry.” “It is a commodity business,” he said. “And it can attract a lot of competition.” So in 2005, he decided to take the big leap. He got out of the solar panel business and into the more profitable solar wafer business.

Now instead of competing with other Chinese companies, he is competing with German and Japanese companies—where his cost advantage is huge. His company has created a technology for using recycled wafers and other materials ,which is helping him avert the shortage of polysilicon, the material from which the wafers are made. He employs 3,300 people, up from 20 in 2005, and pays his line operators upward of $500 a month. From a standing start three years ago, ReneSola is among the world’s top five suppliers of solar wafers.

Two different companies; two different Chinas; two different futures.