The dramatic rise in the price of land, labor and raw materials, and a 30 percent appreciation of the renminbi since 2005, have seen China fast losing the historic cost advantages that helped fuel arguably the most dramatic economic rise in history.

But after several visits to China, Anders Aeroe - a senior director of the World Trade Organization-linked International Trade Centre - says that he thinks the country remains firmly on track to successfully transform its manufacturing-led growth model of the past 20 to 30 years, into a more sophisticated economy, led by innovation and services.

In an interview with China Daily, Aeroe - whose organization is tasked with helping small business in developing and transition-economy countries - said the Chinese government's very visible hand on the economy, is working better than the international market's often invisible, more natural influences in helping companies here build their competitiveness around the world, and change their image.

"In my opinion, there is no invisible hand (in an economy).

"It doesn't exist. For a well-functioning market, it is amazing how many intelligent policies are needed," Aeroe said.

He said that the government's tackling of issues "simultaneously from industrial development to education to infrastructure to urbanization" has been well planned and delivered, and in contrast to many Western economies, China's evolution is being handled with "long-term vision" in mind, not short-term gain.

He said the "interplay between politics and economics" in China has played a hugely beneficial part in changing that business and economic model, and also reported that during his tour of the country he was enormously impressed by the number and standard of business graduates from universities.

"The interplay ... has certain advantages and allows China to do certain things and help it move faster on its development path, which I don't think has been seen in any places elsewhere in history," he said.

Aeroe, who heads the ITC's key market development division, said China is correct in following the same trajectory of many of its predecessors, by gradually moving away from low-value added, labor-intensive manufacturing to a more sophisticated manufacturing power.

"When it comes to cheap labor, it only lasts so long because there are always other countries that are cheaper than you.

"It is important for a country to move up the value chain, to be more competitive in more sophisticated, more knowledge-intensive areas of production.

"So innovation, R&D and so on, become very important," he said.

Aeroe was in Beijing after traveling across the country, from Nanjing to Chongqing, and said he was hugely impressed by how much progress China had made in producing future business leaders, armed with master's degrees and PhDs.

He singled out one science park he visited in Chongqing, which housed various universities. It had more than 400,000 students, and one company in the park had half its workforce made up of PhDs.

"This is extraordinary because it showed that the country recognizes so well that the future lies in innovation, in added value.

"So in trade terms, it might be that you might export less, but the value you add will be higher," Aeroe said.

One of the most fundamental changes China is going through is its determination to reduce its reliance on exports and fixed-asset investment, and to grow the economy with increased focus on domestic consumption. Aeroe agreed that must remain one of the key elements of the future Chinese economy.

Official figures show that domestic consumption accounted for 51.6 percent of China's growth last year, up from 37.3 percent in 2010.

Aeroe said that as trade grows, a country's consumption pattern evolves, particularly in a big country like China, and domestic demand can play a tremendous role in supporting new industries and new growth spots.

"Anything from computers, clothing, consumer electronics, to services. You name it," Aeroe said.

"As people get more wealthy, they want a decent product, a decent service, so that also helps sustain a new knowledge-intensive environment."

Aeroe has many years of experience working with governments, enterprises of all sizes, and trade support groups to offer trade-related technical assistance, and he explained that this has made him rethink how markets operate, often away from the models extolled by traditional schools of economics.

As China moves toward a more "sophisticated" manufacturing sector, it should also rely more and more on the growing service sector, Aeroe said.

He argues that during the recent slowdown, it was the service industry that proved to be more resilient and robust than trade in manufacturing.

"A lot of what has been manufactured today comes with a strong service component - for instance, if you buy a new car the dealer might not make a huge profit on that but he relies on what he can make from after-sales services. Today, the really sophisticated products come with service," he said.

Many companies, he adds, are now being forced to change their business models from being a seller of what they produce, to a seller of what they offer in terms of service.

One example provided by Aeroe is Rolls-Royce PLC. Historically, the company produced engines for airplanes, but now it leases engines and look after the engines for clients, which has proved to be more lucrative.

Referring to how China's manufacturing industries could become more sophisticated, more jobs will be created as products demand higher levels of R&D, he said.

He noted that while global exports of services grew by 166.3 percent between 2001 and 2011, China's exports of services grew by 448.1 percent during the period, increasing its market share in service exports from 2.2 percent in 2001 to 4.5 percent in 2011.

And even if China's manufacturers move to cheaper locations, the service part will remain.

"It might be that low cost work will move to other Asian countries, where it's cheaper now compared to China, but you will still keep the service component.

"So the design and marketing, the promotion and branding, all of them will probably stay behind, creating jobs in a more sophisticated Chinese manufacturing sector," he said.

Aeroe rejected the belief that to protect its service sector, a country should put up walls between it and the outside world.

On the contrary, he believes in competition, and he thinks competition is vital for China to improve its competitiveness in service.

"Competition is a good thing; without it, companies get stale, and can't provide good services," he said.

But he also proposed a sound regulatory framework to ensure that "you don't have one foreign service provider coming and wiping out the market (with poor service)".

"Good regulation sets up the rules of the game, on how foreign competitors and existing local companies can play together," he said.

"A mix of intelligent policies, supporting and regulating a market - that mean a well-functioned market."

(China Daily 07/27/2012 page17)