The External Environment and Demand Conditions

The deregulation of financial and product markets and the liberalization of trade, investment, and capital movements are creating a more interdependent world. This has been accompanied by the rapid development and spread of knowledge, which has been facilitated and accelerated by technological progress. Globalization has increased the awareness concerning the value of specialized technology, and is at the same time putting tremendous pressure on all economic actors|individuals, firms, and organizations/institutions|to increase their levels of adaptability, innovation, and process speed. Nowhere is this more evident than in the PRC, which joined the WTO in 2001, and is today one of the largest recipients in the world of foreign direct investment (FDI).

Competition between firms internationally is fostered by the increasing size of the market that has been opened up by new information and communication technologies. Competitive pressures in the international economic environment are allowing more efficient firms to expand and causing the less efficient ones to shrink or disappear. Increased international competition in turn spurs firms to create new products and adopt more efficient production processes and, consequently, this changes the nature of the production function. New growth theory,¹⁶ therefore, has proposed modifications to neoclassical models of growth that allow innovation to be an intrinsic part of future growth rates (Romer 1986, 1990).

While, in principle, the process of globalization and increased international competition should, a priori, be expected to make it easier to narrow gaps across countries, the accelerating pace of change and difficulties of many developing countries in getting started may, in effect, bring about the opposite (unexpected) result. Indeed, these trends may have given rise to three overarching challenges.

The first challenge concerns the existing institutional regime. Technological change combined with increased economic interdependency will intensify and alter the nature of international competition and this in turn adds to pressures for adjustment and restructuring that can adversely affect late-industrializing economies such as the PRC. In addition, entirely new markets (for example, e-business, online trading, and other forms of electronic commerce) are being created through increased networking and the gains from network externalities.

The potential gains of these externalities to the private and public sector are enormous, with possible dramatic reductions in the cost of delivering goods and services, and major effects on governance through the reorganization of administrative institutions. Unlike advanced economies, it is also believed that the "rules of the game" for a competitive, transparent, equitable economy are not sufficiently developed or enforced in the PRC.

The second challenge involves the importance of a developed information infrastructure. The national information infrastructure includes more than just the physical facilities used to transmit, store, process, and display voice, data, and images. Non-physical infrastructure, such as the legal and regulatory regime, plays an important role as well. Non-physical infrastructure also includes the intellectual and innovational climate in the country. Without an attractive environment for innovation, skilled manpower will simply relocate to other regions that offer a superior alternative. Thorny issues such as intellectual property protection, privacy, security, data protection, electronic payments and currency, and wide-ranging consumer protection issues have to be addressed in national legislation and regional strategies; each of these issues has tremendous social and economic implications.

An inappropriate legal and regulatory environment can disempower local entrepreneurs and cause international investors to look to other countries. In East Asia, where effective and consistent public policies and institutional regimes are often weak or absent, these issues associated with the non-physical infrastructure pose major challenges. The PRC, in particular, has a clear handicap|its ability for and commitment to policing and enforcing the rule of law in intellectual property is either absent or questionable|and as a result, upgrading to the latest technologies may be more difficult to implement. Addressing these needs will require developing a dynamic information infrastructure that can facilitate the effective communication, dissemination, and processing of information. The PRC cannot afford to rest on its laurels but, at the same time, should not indiscriminately jump the gun.

The third challenge concerns human resources development. Access to information (local or global) is meaningless unless it can be converted into relevant application. Hence, many of the information technology applications presuppose a highly skilled labor force. These require researchers and technicians across a spectrum of information technologies, a workforce that can use the new production technologies, and a general population that can use these products and services effectively. At the same time, the educational requirements for the information economy are increasing in complexity. This rapid development of human resources is a critical challenge for the PRC. As such, the development of strategies to enhance and attract a core of knowledge workers is a serious task facing the PRC.

The views expressed in this paper are the views of the authors and do not necessarily reflect the views or policies of the Asian Development Bank Institute (ADBI), the Asian Development Bank (ADB), its Board of Directors, or the governments they represent. ADBI does not guarantee the accuracy of the data included in this paper and accepts no responsibility for any consequences of their use. Terminology used may not necessarily be consistent with ADB official terms..

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