China shifts from imitation to innovation

Online payment system Alipay may be China's answer to Paypal, but like so many 'copies' it is starting to move well beyond the product it imitates.

Peter Thiel, the billionaire co-founder of PayPal and early investor in Facebook can be forgiven for thinking China doesn’t innovate.

After all, the Chinese e-commerce giant Alibaba Group doesn’t hide the fact that the idea for its own online payment service came from its Silicon Valley predecessor.

In Thiel’s view, which he outlines in his new book Zero to One, innovation comes in two forms: horizontal and vertical.

“Horizontal or extensive progress, means copying things that work -- going from 1 to n,” he writes.

“Horizontal progress is easy to imagine because we already know what it looks like.”

Vertical progress, on the other hand, is harder to imagine because it requires doing something nobody else has ever done. That’s when innovation goes from 0 to 1.

On a global scale, horizontal progress is otherwise known as globalisation, for which China is “the paradigmatic example.”

China’s modern history has been one of directly copying from more developed nations, Thiel argues -- from 19th-century railroads to 20th-century air conditioning, and even entire cities.

“They might skip a few steps along the way -- going straight to wireless without installing landlines, for instance -- but they’re copying all the same,” he writes.

But perhaps most anathema to the techno-libertarian venture capitalist is the meddling hand of the Chinese government in China’s commerce.

“I do think that the Chinese internet has been largely off limits to western investors, it’s been firewalled off,” Thiel told CNN’s Money last month.

“Alibaba is sort of this protected Chinese company – it will do well, but it is fundamentally a political entity that is somehow very deeply connected with the Chinese government,” he said.

Investors will do well if “it continues to stay in the good graces of the Chinese government,” Thiel said, “but it’s fundamentally a political investment.”

For the most part he is right. Alibaba would probably not exist were it not for the example of eBay and Paypal. It certainly doesn’t hurt that Alibaba and its local rivals have been protected from global competition.

However, like most of China’s major tech companies, although Alibaba may have started by cookie-cutting a Silicon Valley concept, it has since evolved into something entirely new.

Up until recently, foreign investors needed only to look to the western analogues of Chinese companies to get an idea of what they were dealing with.

Hence, the short-hand for the Chinese micro-blogging service Weibo has been “China’s Twitter”, search-engine Baidu is “China’s Google” and WeChat is “China’s Whatsapp”.

But following the blockbuster Alibaba IPO last month, a growing number of investors now realise that formula doesn’t work as easily anymore.

For anyone who has dipped into Alibaba’s prospectus and tried to comprehend its complex “ecosystem,” it becomes clear that describing the company as “China’s Amazon” is not only inadequate, it’s entirely inaccurate.

And it’s the next phase in the evolution of Alibaba’s ecosystem that could end up giving Paypal a run for its money.

Last week, Alibaba’s finance arm joined rival Tencent in getting a green-light from regulators to set up a private bank.

Alipay is already the world’s largest mobile payments platform with 100 million users and accounting for up to half of all e-commerce payments in China.

And while Peter Thiel and Carl Icahn have spent a long time lobbying for Paypal to spinoff from its e-commerce parent, Alipay already managed to do that in 2011 and has become a much more sophisticated product in the interim.   

Because China lacks a credit card culture, Alipay has evolved to do more than its American forerunner and has earned more market share in the process.

Alibaba has already made inroads into the country’s financial services sector on the back of Alipay through Yu’e Bao a financial product that offers better returns than traditional deposits (Alibaba and the Chinese banking thieves, February 26).

Paul Gillis, a professor at Peking University’s Guanghua School of Management, told China Spectator the establishment of an Alibaba bank is “a major step for building a separate financial empire that may ultimately list in China".

“It appears to me that the government is using Jack Ma to accomplish reforms that are too difficult to approach directly,” he said.

“Alibaba may help drag the big four banks, kicking and screaming, into the 21st century."

But it’s not just China’s state-owned banks who should be worried. The global mobile payment providers at Amazon, Apple and Paypal will need to look over their shoulders too.