"Hong Kong on the Mainland”: Shenzhen is a Case Study to Understand China’s Approach to Innovation

November 12, 2021 | China

Executive Summary

Many of the world’s tech innovations hail from one Chinese city

  1. As one of China’s first special economic zones, Shenzhen pilots new policies, regulations, and developmental models for the rest of the country to embrace once they have proven to work.
     

  2. The megacity’s open ecosystem boosts the country’s digital economies, making new technologies widely available and affordable, often at the expense of intellectual property protection.
     

  3. After exports to the US from Shenzhen had reached an all-time high in 2021, the ongoing Sino-American dispute makes Chinese firms turn to domestic suppliers and to explore emerging markets.

Watch out for

  • China pursuing stronger economic integration with the Belt & Road and trade agreements such as RCEP, CAI, CPTPP
     

  • Shenzhen serving as experimental ground for regulations, including business-friendly regulations to attract FDI
     

  • Shenzhen becoming an economic hub for developing countries
     

  • The Guangdong-Hong Kong-Macao Area becoming a FinTech pole in China

Key Figures

  • 90% of the electronic products from China are produced in Shenzhen
     

  • Shenzhen’s GDP constituted $433 billion in 2020, 3% of China’s $14 trillion GDP and more than Israel’s or Portugal’s.
     

  • Around 8,000 tech companies have settled in the city, including Internet giant Tencent and Huawei Technologies
     

  • $3.7 billion FDI flows towards Shenzen, only for Software and IT

State of Play

Shenzhen - A stepping stone for China's economic growth

The Shenzhen story is exemplary for China’s economic success. This Special Economic Zone (SEZ) grew out of a few fishing villages in the 1980s under Deng Xiaoping’s reform and opening policies. Shenzhen shapes China’s economic development in two particular ways. First, it pilots and experiments with new policies, regulations, and developmental models. Once successfully established, these methods are transferred to other industrial clusters all over China, profoundly impacting entrepreneurial culture and government frameworks. Second, Shenzhen focuses on information and communication technologies (ICT) as the lead industry and makes products affordable to the majority of the population. With most Chinese owning mobile phones, the country leapfrogged directly into the digital economy, giving rise to its Internet giants. Finally, Shenzhen gives a glimpse of Chinese regulations for (European) businesses. Protection of intellectual property is set aside in favor of collective innovation. However, Shenzhen upholds business-friendly regulations, in particular with regards to attracting FDI. These will most likely be limited to economic special zones.

Key Issues 1

A glimpse into the future: Shenzhen today is China tomorrow

Thanks to its special innovation environment and its location nearby Hong Kong, Shenzhen quickly attracted international businesses. By the late 90s, Shenzhen had become a major global production hub for everything from textile to electronics. In 2002 Walmart moved its global procurement center to Shenzhen. In the early 2000s ICT dominated the city. Illustrative for the rise of ICT in Shenzhen is the transformation of the “Shanzhai” model, from forgery of cheap copycat products to an innovation hub. Initially copying inexpensive mobile phones to meet local demand, Shenzhen-based companies were quick to sell to an underserved global clientele. Over the years, businesses, factories, engineers, and industrial design studios formed a collaborative network for open and rapid innovation, incubating thousands of mobile phone companies, including Huawei. This changed the perception of Shenzhen from a sweatshop into a global tech hub. Given that the Shanzhai model is seen as crucial for economic success, China is expected to pursue its own approach regarding intellectual property (IP). This includes shaping global norms. For example, the Ministry of Science and Technology (MOST) and the Ministry of Industry and Information Technology (MIIT) are both promoting open-source approaches as part of their development strategy. Today, Shenzhen's ecosystem focuses on improving manufacturing and provides opportunities for deep tech companies. The city may even benefit from the financial difficulties of real estate giant Evergrande. The ongoing affair is the intended result of Beijing's three-year efforts to curb the overheated real estate markets. An issue with critical implications for Shenzhen, where real-estate prices have reached an all-time high.

 

Shenzhen continues to be at the forefront of China’s development, including innovation in environmental tech. The city is experimenting with climate technologies in the new QianHai district, such as city-scale centralized air condition and superconducting power transmission lines. However, Shenzhen’s model of business-friendly regulations will not become the norm in China. The city announced in June 2021 new rules for foreign capital investments in the special development district QianHai. QianHai has served as a pilot for China's strategy to further open up to overseas capital. This includes a recent removal of foreign ownership restrictions in many sectors such as finance and automobile. Blackstone and Goldman Sachs have already established new wholly-owned entities. The pending CAI (Comprehensive Agreement on Investment) with the EU will deliver more opportunities for European companies.

Going strong, and going Africa

The large numbers of businesses operating at multiple channels have created resilience and flexibility vis-à-vis outside shocks. Shenzhen has mainly focused on ICT products. Most of them are not subjected to the tariffs of the current US-China spat under the WTO Information Technology Agreement. While exports have continued to grow over the past three years, the trade war still had an impact on this hub, with short and long-term implications for the global market. Factories have been increasing their inventories in response to changing US export restrictions on semiconductors and to severe shortages of raw materials. Also, the trade dispute makes companies in Shenzhen more open to domestic alternatives, thus boosting the production of domestic chips, while they also become more interested in emerging markets.

 

Thanks to the Shanzhai model developed in the late 1990s, Shenzhen companies found business opportunities in the global south. With e-commerce becoming mainstream, companies from Shenzhen have come to dominate third-party sellers in international platforms like Amazon, eBay, and Walmart, in addition to domestic Alibaba and Aliexpress. Because IP litigations are discouraged in this ecosystem, entrepreneurs gain leverage in these emerging markets. In Kenya, for example, inexpensive mobile phones created M-Pesa in 2005 to provide money transfer and banking to many users without access to financial services. On top of mobile money services, the Internet of Things is flourishing in Africa. Thus, Shenzhen is not only an innovation driver for the domestic Chinese economy but also an “economic diplomacy tool” for the Chinese government to strengthen ties with developing countries.