S13: Rival Partners

Business History of Modern China

October 13, 2025

Teresa Teng: Tian Mi Mi (Sweet as Honey)

Place: Pearl River Delta

Place: Dongguan

A global manufacturing hub that grew to over 10 million in population and over 1 trillion RMB GDP in just over 40 years:

  • 1/4 of global smartphones
  • 3/4 of computer motherboards
  • 1/5 of sweaters
  • 1/10 of sneakers
  • 1/4 of toys

Dongguan’s Transformation

Key Questions

  • How did China become the factory of the world?
  • What role did overseas Chinese entrepreneurs play in China’s rapid economic growth? Rethinking government-business relationship
  • How did China grow out of the planned economy? The Guangdong model

Taiwan: A Thorny History

Is Taiwan part of China?

  • Mountainous island, roughly the size of MA and CT together
  • East of China and northwest of the Philippines
  • Population: 23 million (2019)
    • 84% “Taiwanese” (Hakka minority and descendants of emigrants from mainland China in recent centuries)
    • 14% mainland Chinese who fled the Communist Revolution in 1949
    • Small percentage of indigenous people

Taiwan: After the Chinese Civil War

Chiang Ching-kuo
  • 1947-02: February 28 incident, anti-government uprising in Taiwan that was violently suppressed, with 18,000 and 28,000 people dead
  • 1949-05: Martial law declared: the formation of political parties other than the KMT banned, wide censorship powers to the military, and military courts to try and convict thousands of civilians.
  • 1987-07: Taiwan lifts martial law – the longest in East Asia.

Accidental State

Map of Jinmen (Quemoy) and Mazu (Matsu)
  • 1950-01: Harry Truman affirming the return of Taiwan to China’s Communist government and denying the US had either “predatory designs” on the island or any desire to intervene in China
  • June 1950: Korean War changed everything. U.S. sends troops to Taiwan.
  • 1954: First Taiwan Strait Crisis over the offshore islands of Quemoy and Matsu; Mutual Defense Treaty signed
  • 1958-08: Second Taiwan Strait Crisis: US Seventh Fleet despatched in response to Chinese shelling of Quemoy and Matsu.

Shanghai Communiqué (1972)

In the 1972 US-China Joint Communiqué, signed four months after the PRC gained admission to the UN, China and the US pledged to work for “normalization” of relations, but Taiwan remained the key sticking point during negotiations.

Nixon and Mao
  • China: Taiwan a strictly internal issue; US troops on Taiwan a violation of Chinese sovereignty; full withdrawal pressed
  • Nixon: Troop withdrawal conditional on help to end the Vietnam War; insistence on resolution without use of force
  • In the end, Taiwan issue put off for the future.

Joint Communique between the United States and China

February 27, 1972

The two sides reviewed the long-standing serious disputes between China and the United States. The Chinese side reaffirmed its position: the Taiwan question is the crucial question obstructing the normalization of relations between China and the United States; the Government of the People’s Republic of China is the sole legal government of China; Taiwan is a province of China which has long been returned to the motherland; the liberation of Taiwan is China’s internal affair in which no other country has the right to interfere; and all US forces and military installations must be withdrawn from Taiwan. The Chinese Government firmly opposes any activities which aim at the creation of “one China, one Taiwan”, “one China, two governments”, “two Chinas”, an “independent Taiwan” or advocate that “the status of Taiwan remains to be determined”.

Joint Communique between the United States and China (continued)

The US side declared: The United States acknowledges that all Chinese on either side of the Taiwan Strait maintain there is but one China and that Taiwan is a part of China. The United States Government does not challenge that position. It reaffirms its interest in a peaceful settlement of the Taiwan question by the Chinese themselves. With this prospect in mind, it affirms the ultimate objective of the withdrawal of all US forces and military installations from Taiwan. In the meantime, it will progressively reduce its forces and military installations on Taiwan as the tension in the area diminishes. The two sides agreed that it is desirable to broaden the understanding between the two peoples.

Question: How are these two positions similar / different?

One China Principle

With regards to the PRC:

  • The recognition of the PRC as the sole legal government of China;
  • The “acknowledgment” but not acceptance of the Chinese position that Taiwan is a part of China (Beijing’s “One China” principle);
  • The expectation that any solution to cross-Strait differences would be resolved peacefully.

With regards to the ROC:

  • Termination of the 1954 Mutual Defense Treaty;
  • Status of the island of Taiwan defined as “undetermined,” with the ruling government not considered to be a sovereign state in the international system;
  • Taiwan Relations Act (1979): The United States reserved the right to provide Taiwan with arms of a defensive character to resist any resort to force or other forms of coercion that would jeopardize the security, or the social or economic system, of the people on Taiwan;
  • Provision for the president and Congress to consult on further action in the event of a threat to Taiwan.

1992 Consensus

Whose consensus?

  • Based on 1992 meeting between the semi-formal authorities of cross-Strait relations
  • ROC: Straits Exchange Foundation
  • PRC: Association for Relations Across the Taiwan Straits

Historical significance

  • Political baseline allowing for semi-official contacts across the Taiwan Strait
  • One China “with respective interpretations”
  • That is: Taiwan is a part of “China”, but with a deliberate lack of clarity on what exactly “China” entailed

Now rejected by Democratic Progressive Party

  • The consensus doesn’t represent the will of the Taiwan people: meeting took place prior to the island’s democratization
  • Tsai Ing-wen: “we have never accepted the ‘1992 Consensus’”

Wither ROC?

On October 25, 1971, the United Nations General Assembly adopted Resolution 2758, which “restored” the People’s Republic of China to the Chinese seat at the UN. This has triggered a re-interpretation of ROC identity.

  • 1949: “Republic of China retreats to Taiwan” (Chiang Kai-shek)
  • 1995: “Republic of China on Taiwan” (Lee Teng-hui); legal status of Taiwan undetermined
  • 2000: “Republic of China is Taiwan” (Chen Shui-bian)

Taiwan: Political identity

Changes in the unification-independence stances of Taiwanese

Changes in the Taiwanese/Chinese identity of Taiwanese

Taiwan: Asian Tiger

Mainland-Taiwan Trade

Discuss: Taiyang

  • What’s the history of Taiyang company? What’s its business model?
  • Why did it go to China?

Taiyang: A History

Year Event
1979 Parent company established in Taipei as an import–export trading company selling leather goods
circa 1985 Taiwan’s export‑oriented industrialization reached saturation; rising costs and the 1985 Plaza Accord pushed Taishang to seek manufacturing bases abroad
1988 Taiyang began sending orders via a Hong Kong intermediary (Hong Kong Star) and decided to extend production to Guangdong (Pearl River Delta)
1989 Taiyang registered a Hong Kong trading branch, rented a factory and staff quarters in Xishui Town (Dongguan), formed a joint‑venture arrangement with Guanqiang Import‑Export Company, and began production in Dongguan (Taiwanese managers transferred; sample dept. remained in Taipei)
1994 Major central government reforms (foreign‑exchange unification, tax reforms) marked a turning point; Taiyang moved to terminate its Guanqiang partnership in response to changing institutional incentives

Simulation

How will you negotiate contracts for next year’s leather bag production?

  • Taiyang
  • Local Sponsor — Guanqiang
  • Competing Local Sponsor — Nafu Village
  • Overseas Buyers (Retail Chain team + Brand Buyer team)

Hong Kong Connection: How it worked

  • Hong Kong branches handled imports/exports, documentary bills, and triangular trade flows (orders taken in Taiwan → production in China → paperwork/finance routed through Hong Kong)
  • Financial remittance channel: Firms remitted HK dollars via Hong Kong to Chinese sponsor accounts; banks in Dongguan converted HK$ to RMB at the official rate as part of the processing‑fee mechanism

Hong Kong Connection: Why do it?

Political & practical gateway

  • political constraints: Taiwanese investment into the mainland was restricted
  • Hong Kong intermediaries let Taiwanese firms scale up quickly (move from contracting to building factories) while navigating local government relations and export quotas via a trusted third party

Existing networks and trust

  • Many Hong Kong firms (Gangshang) already had OEM networks in the Pearl River Delta and closer familiarity with mainland conditions

Legal/administrative convenience

  • Using Hong Kong allowed Taishang to operate despite cross‑strait restrictions (triangular trade avoided direct legal exposure)
  • Even after restrictions eased many firms still used HK for offshore accounting and financial management.

Faux Joint Venture: What is it

  • A nominal or legal joint‑venture arrangement in which a local state unit or SOE is listed as the Chinese partner but in practice the foreign investor runs the business, bears the commercial risk, and takes most profits
  • The partnership is largely symbolic rather than substantive

Faux Joint Venture: How it works

Legal cover:

The foreign firm and a local work unit (sponsoring organ) sign a joint‑venture agreement so the enterprise appears to be a Chinese‑foreign JV on paper. This gives the foreign firm a legal/administrative wrapper to operate in China.

Division of formal roles:

Operational control stays with the foreign side: the sponsor rarely invests capital, does not run production, does not share business risk, and does not take actual profit from operations—its role is to provide affiliation and administrative cover

Fee and protection exchange:

The sponsoring unit collects regular payments (management/sponsorship fees, the “head tax” created by FX remittance spreads, or other charges) and in return provides protection and helping with local government relations

Faux Joint Venture: Why do it?

Why firms did it

  • Administrative convenience and speed: sponsorship gave faster approvals, easier access to land, quotas, and export arrangements than trying to navigate multiple local agencies alone
  • Political/legal constraints: for Taiwanese firms and others, routing through Hong Kong and using a local sponsor avoided cross‑strait or legal complications; sponsors shielded firms from arbitrary levies, inspections, fines, etc.
  • Tax and quota advantages: affiliation helped foreign firms obtain preferential tax treatment, export quotas, and foreign‑exchange retention benefits that made operations more profitable

Why local gov units did it

  • Rent and revenue: central policies (dual‑track FX, foreign‑exchange retention) created opportunities to capture remittance spreads and other extrabudgetary income; sponsoring FIEs generated sizeable foreign‑exchange quotas and fees for local units and SOEs
  • Political credit: meeting foreign‑exchange quotas and attracting FDI boosted officials’ performance metrics and career prospects. Sponsorship turned firms into a revenue and influence source for local cadres

“Head Tax”: What is it

  • Not really a head tax, but colloquial name for the processing‑fee remittance spread
  • It is an extra budgetary, per‑worker fee extracted by the Chinese sponsoring side (local government units or affiliated SOEs) from foreign‑invested processing firms.
  • It was not a formal tax but functioned like a predictable management/protection fee.

“Head Tax”: How it worked

  • Under the double‑track foreign‑exchange system, FIEs remitted foreign currency (often HKD) through a sponsoring Chinese unit;
  • Because official, adjusted, and market exchange rates differed, a spread was created when HK$ were converted into renminbi and allocated by quotas.
  • The sponsoring unit captured most of that differential as revenue.

Head Tax: Why do it?

What’s paid

Numeric example from Taiyang: in late‑1993 the HK$/RMB official vs. black‑market differential was about 0.39 RMB; for an agreed HK$450 wage per worker, 600 workers, and 12 months, the head‑tax amount = 0.39 × 450 × 600 × 12 ≈ 1,263,600 yuan per year

What sponsors provided:

  • Protection from arbitrary local levies, handled paperwork, helped secure quotas and tax concessions, smoothed relations with other agencies, and sometimes provided dormitories or security
  • Firms treated the fee as a cost of doing business and political insurance

Guangdong Model

Scale and efficiency:

  • Abundant migrant labor, dormitory systems, and low wages enabled large plants and extreme economies of scale (thousands to 100,000+ workers).

Rent‑sharing and collusion:

  • Central rules combined with local flexibility produced stable rent‑seeking bargains between officials and firms, often tolerated to attract investment.

Fragmented bureaucracy & particularistic bargaining:

  • Different departments used varied counting/methods and negotiated discounts case‑by‑case, producing uneven enforcement and bargaining outcomes.

Guangdong model, continued

Global trends

  • Heavy reliance on foreign‑invested processing of shipped materials for overseas buyers, with factories organized for mass, low‑cost assembly.

Mix of formal and informal institutions

  • The double‑track foreign‑exchange system and foreign‑exchange retention created incentives and mechanisms (remittance spreads) that local units could capture.

Vulnerability to central reforms and shocks:

  • Policy changes (notably 1994 exchange‑rate unification and later labor/tax reforms) altered incentives, disrupted informal extraction channels, and forced renegotiation of local bargains.

State-society relationship: Rival Partners?

Collusive

  • Sponsorship / faux joint ventures
  • Head tax / processing‑fee remittance spread
  • Rent‑sharing incentives: central policies (dual‑track exchange, foreign‑exchange retention)
  • Protection in exchange for payments
  • Particularistic bargaining and under‑reporting
  • Extrabudgetary finance and diversion of revenue
  • Worker abstraction: migrant workers were treated as head counts for fee calculations, with their rights and faces marginalized under the collusive bargain.

Competitive

  • Inter‑local competition for FDI: towns/districts (e.g., Nafu) competed by offering lower fees, land leases, and faster approvals to attract firms.
  • Firm exit and partner switching as leverage: firms could threaten to relocate or change sponsors (Taiyang moved from Guanqiang to Nafu) to reduce costs or improve terms.
  • Buyer power shaping firm strategy: overseas buyers (chains vs. brand buyers) pressured firms on price, quality, and delivery, affecting firms’ bargaining posture with local authorities.
  • Central policy shocks altering the game: reforms (e.g., 1994 exchange‑rate unification, administrative decoupling, tax changes) changed incentives and reduced some local rent opportunities, triggering renegotiation and competition.

Risks of informality

Fragile legitimacy:

  • The arrangement depended on the existing institutional framework;
  • When central policy changed (e.g., 1994 FX unification, administrative decoupling) sponsors lost revenue sources and the relationship could sour, forcing renegotiation or relocation

Hidden liabilities, including extortion and plunder:

  • As norms shifted, firms sometimes viewed sponsors as predatory (plunderers) rather than protectors, producing conflicts and threats from local managers;
  • Unexpected fees, or retrospective claims (e.g., tax‑break repayment conditions) if relationships broke down

Governance and worker costs:

  • The model tended to obscure worker rights (workers reduced to head counts) and concentrated extrabudgetary funds outside formal fiscal oversight