In a new book, G.E. Anderson sheds light on the nature of ownership, business-government relations, central-local relations, innovative capacity and the perceived role of foreign players in China. Along the way, he offers an insightful analysis of the Chinese automotive industry and, in the process, reveals the overall political principles that drive economic decision-making at the top of the Chinese system. Here he talks cars with EURObiz’s Steven Schwankert.

What’s wrong with the auto industry in China at the moment?

I think that depends on who you are. If you’re a local government official, it’s clogging your streets and polluting your air (but also adding to local GDP). If you run an auto manufacturer, growth is being slowed by restrictions on sales, licence plates and when/where people are allowed to drive. If you run a private Chinese automaker, you’re forced to compete on a non-level playing field with big State-Owned Enterprises (SOEs) that are favoured with cheap funding and other government support. If you run a foreign automaker, you’re constantly having your arm twisted to hand over technology every time you need government approval for anything (and you need it for pretty much everything). If you’re just somebody who owns a car, you can’t find a place to park.

Other than sales, what’s going right? What are foreign, especially European car makers, doing well?

Actually, sales aren’t going that well, especially for the Chinese brands. Sales took off in 2009 due to government stimulus that was intended to offset the global financial crisis. It was of tremendous benefit to the Chinese brands that dominated the small car segment on which tax breaks and consumer subsidies were focused. Unit sales grew 48 per cent and 32 per cent in 2009 and 2010 respectively. Once the stimulus ended in early 2011, sales growth fell back to earth at only five per cent. Through the first half of 2012, sales have only grown three per cent on an annual basis.

Chinese passenger vehicles, which benefited most from the stimulus, were really hurt once the stimulus was withdrawn. The Chinese brands lost nearly two per cent of market share to the foreign brands in 2011, and have lost another three per cent so far in 2012.

As for what is going right, the European and other foreign automakers are simply doing what they’ve always done, which is to build quality cars and protect their brands in the China market. China’s economic growth over the past several decades has created a large upper income segment that is willing to pay higher prices for foreign-branded cars, and these people are going through cars the way many ordinary Chinese go through mobile phones: they need to have the latest. It’s a matter of status and of setting oneself apart from the crowd.

Also, China’s government is investing heavily in infrastructure—roads, expressways, parking facilities—which is essential to serving an increasing number of vehicles. China also has a rapidly-growing used car market. I noticed a stand-alone pavilion at this year’s Beijing Auto Show where Audi was promoting second-hand cars. There will be a tremendous market for certified, used luxury vehicles in China’s second and third-tier cities in coming years.

The car market here is somewhat unique, especially in terms of some of the restrictions, such as limits on new purchases in major cities, limits on foreign brands in government procurement. Is there any sign this is going to normalise in the near future?

If by “normalise” you mean ‘‘return to the way things were”, I don’t see it happening soon, if at all. The two restrictions you mention are driven by different phenomena. First, restrictions in major cities are driven by congestion and pollution. While pollution can eventually be dealt with (Los Angeles is a good example of that) congestion really cannot—at least not without a considerable downsizing of the average automobile footprint.

Chinese cities are among some of the most densely populated in the world, and they are surrounded by farmland that is forbidden by the State Council from being converted into either residential or industrial use. In other words, because of China’s extreme shortage of arable land, Chinese cities will not be able to develop suburbs the way most North American cities have. And a city does not have to be a ‘major’ city to enact vehicle restrictions. Guiyang, capital city of China’s poorest province, is one of the cities that that now restricts auto purchases.

The second issue, limits on foreign brands in government procurement, is an attempt to recapture market share lost to foreign brands. This has been a major goal of China’s auto industry for at least a couple of decades, and it is one that they continue having difficulty achieving. I think we can expect to see even more measures that will encourage Chinese consumers to choose Chinese over foreign brands. Also, from a purely nationalistic point of view, it makes sense that Chinese officials should be driving Chinese-branded cars. I can’t imagine the US President being driven around in a Mercedes limousine, much less a Red Flag limousine from China.

How is the automobile changing China? What about the environmental impact and the cultural impact of China being a driving nation?

The automobile is most definitely changing China. If nothing else, it provides a new aspirational consumer product that many Chinese now believe they need although most Chinese cities have well-developed public transportation systems. The idea of having one’s own private space, even if that space is jammed among thousands of others, even if using that space lengthens one’s commute time, has thus far proven to be irresistible to Chinese consumers. Also, in recent years, the auto industry has accounted for, depending on whose statistics you believe, as much as two percentage points of China’s GDP growth. Despite the problems that the auto industry has brought to China, local governments find auto factories to be irresistible sources of local GDP growth, tax generation and employment.

Furthermore, even though China’s major cities cannot physically expand much further without decreasing China’s ability to feed itself, consumers are changing their behaviour by considering living further from city centres.

The environmental impact is not as drastic as many might think. Yes, Beijing’s air is practically toxic on some days, but only about 25 per cent of pollution is driven by vehicles. (If China really wants to make a significant reduction in pollution, it will have to stop burning so much coal.) Vehicle pollution will gradually come down as China increases its emission standards, but it will not happen quickly. China’s economic planner, the National Development and Reform Commission (NDRC) maintains control over fuel prices at the pump. China’s major state-owned oil companies, which are so powerful that they function almost as their own separate ministry, are resistant to refining the higher-quality gasoline necessary for lower emissions engines because it requires a more expensive process. Because the NDRC controls fuel prices, it will not allow the oil companies pass higher refining costs on to consumers.

It is difficult to say how, or whether, the automobile is changing China culturally. China will, out of necessity, have to go through a difficult adjustment period as people learn just how dangerous a speeding, two-ton chunk of metal can be. For now, China is like a nation full of teenage drivers, which also gives it some of the world’s most deadly roads. In 2011 China had nearly 30 deaths per 100,000 vehicles compared to less than half that rate in the United States.

The subtitle of your book is ‘‘how China plans to dominate the global auto industry”. So, how do they plan to do that, and how’s it going? It sounds slightly strange considering if you wanted to buy a Chinese car in the EU or US right now, it would be very difficult.

The emphasis of my title is on the word “plans.” When I began the research for this book, my larger questions were around how China plans its overall economy. Why, I wondered, did China continue to enjoy such apparently tremendous economic success despite the fact that its most important industrial firms remain state-owned? I chose the auto industry because I wanted to find one industry that I could study from top to bottom so I could understand how business-government relationships work and, at the same time, I wanted to be able to identify general principles of state economic planning that would apply equally to other industries.

Without going too far in-depth, the result of my research was to sketch out a system including all of the players—central government, local governments, SOEs, private firms and foreign firms—and then set it in motion based on what I learned about each of the players’ objectives and the tools at their disposal for getting what they want. The upshot is that, if China’s current model of heavy state ownership, while having generated tremendous growth over the past three decades, is not reformed, then China’s plans are destined to fail. Not only will China not dominate the global auto industry, but it will not even dominate its domestic auto industry.