Chinese intellectual piracy is driving out foreign business.
Last week Steve Ballmer said his company saw less potential in China than either in Indonesia or India. Why? The piracy of software. "There are two things that make a country interesting," said the Microsoft chief executive. "One is it buys a lot of PCs, the other is they pay for the software that gets used on those PCs." Said Ballmer about China: "There is no software market to speak of."
Of course there isn't. According to one estimate, about 80% of the copies of Microsoft's ( MSFT - news - people ) Windows in China are pirated versions. And what is the figure for the company's Office software? That would be 95%.
The Chinese government, however, thinks it is doing a good job protecting the rights of owners of intellectual property. It has put in place more than a thousand measures to protect it, said Chen Rongkai of the Ministry of Commerce. And the country will continue to combat bootlegging. "China's effort at strengthening protection of intellectual property is universally recognized."
What is universally recognized is that the theft problem in China is getting worse. The value of pirated software was $7.58 billion in 2009, according to a report issued last month by the Business Software Alliance and market researcher IDC. That number was up $906 million from 2008 and almost double the 2005 figure of $3.88 billion.
We should not be surprised. Ian Bremmer, the head of risk consultants Eurasia Group, reports that these days foreign companies contend that "Beijing is no longer even pretending to observe international intellectual property rules." They point to the Chinese government's blatant grab of foreign technology by instituting the "indigenous innovation product accreditation" program, which, to obtain accreditation to sell to governments in China, requires the ownership of foreign technology and trademarks by local enterprises.
The initiative triggered protests from Asian, European and American business groups in China at the end of last year and has been the subject of intense discussions between Beijing and Washington, especially during last week's unproductive Strategic and Economic Dialogue in the Chinese capital.
Discussions with China over the protection of foreign business will remain unproductive. Simply stated, Beijing has a longstanding policy of using virtually any means to extract foreign technology. The government's latest tactic has been to vigorously enforce the country's antimonopoly law, which became effective in August 2008. Pfizer ( PFE - news - people ) was just ordered to divest its swine vaccine business as a condition to the approval of its merger with Wyeth ( WYE - news - people ).
The Ministry of Commerce did not specify that Pfizer had to sell to a local enterprise, but that is what is in fact happening. Harbin Pharmaceutical Group, controlled by the Harbin city government and state investment entities, will be buying the business, in part because the ministry's conditions strongly favored a local buyer. So once again, the Chinese central government is using its clout to cause the transfer of foreign technology to a domestic enterprise.
Unfortunately, Washington, which has done little to stop the rampant theft, now looks like it will actually aid it. Beijing officials have long maintained that the U.S. suffers a trade deficit with China because of Washington's export controls on sales of technology products to Chinese customers. The Obama administration, unfortunately, is taking the bait by announcing that it will loosen those restrictions. That, of course, will be a mistake. As Ballmer, now chastened by his experience, might say, you can always sell one of anything to China. The Chinese will then reverse engineer your device and manufacture it in great quantities, taking over your market. Or copy your software endlessly.
China, of course, reaps short-term gains by committing the biggest theft in history. But long-term, this is horrible strategy for the Chinese nation. First, the lack of protection for intellectual property obviously undermines the ability of the country to innovate. Even though the number of Chinese patents soared 41% last year to a record 580,000, a disproportionate amount of the work is being done in the research labs of foreign companies, like Microsoft and Pfizer.
There are many reasons for the failure to develop an innovative culture, but one of them is that the Communist Party is now creating a "hostile work environment" for free-thinking. And how is it doing that? By reinvigorating Marxist indoctrination in the nation's colleges and other educational institutions.
Second, Beijing, by trying to milk foreign companies of their technology, is encouraging them to think more about expanding in countries such as backwater Indonesia and archrival India. And in some cases, China's actions have already forced businesses out of the country. Google ( GOOG - news - people ), for instance, removed its search engine from China due largely to Beijing's successful attempt to obtain its source code.
Hu Jintao, China's supremo, is changing his country's economic paradigm by closing the country up, and even Steve Ballmer is starting to notice.
See you in Jakarta.
Gordon G. Chang is the author of The Coming Collapse of China. He writes a weekly column for Forbes.