The AIQ Podcast: The battle for innovation

Welcome to the AIQ podcast. A new audio series from Aviva Investors that explores the long term themes influencing investment, markets and economies. In this episode, we'll explore the battle for innovation between China and the West, once dismissed as the home of copycats and knockoffs. China is now a hotbed of technological innovation. The country is fast catching up with the advanced economies in new tech, and that has big implications for investors. We'll be speaking to academic and bestselling author Erik Brynjolfsson. He tells us about China's rise and the economic impact of technological breakthroughs in both east and West.

A lot of reasons for why China has been so successful in our online online innovation. One is that in many ways, the Web in terms of using smartphone and the smartphone platform for things like payment system.

We'll also hear from Aviva investors experts about China's progress in areas such as artificial intelligence and fintech. But first, let's take a trip to Las Vegas.

The year 2018 was one for the record, catalysts of innovation, bringing industries together at the largest and most influential technology event on the planet.

Everything connected? Yes, from five smart cities and smart home to vehicle artificial intelligence.

The Consumer Electronics Show 2018 featured the latest shiny gadgets and gizmos from global technology firms. The event is usually dominated by US tech giants. But this year, the show was notable for the increased presence of Chinese companies, more than one third of the 4000 exhibitors hailed from China. And they unveiled cutting edge virtual reality devices and smart cars. Among the keynote speakers was Richard Yu, an executive at Whiteway, a company that has filed more international patents than any other in recent years. On stage, you flourish the company's latest product, not a smartphone. Those are old hat. This was an intelligent phone powered by artificial intelligence.

Our investment to power the A.I. revolution the last 10 years. We spend a war 40 fire beating your style. We are here to invest for future, for the future technologies. And then these families are forced fracks. Your phone.

What would you have without a IPOs FDI?

China's ambitions aren't limited to consumer gadgets. Chinese manufacturers are developing industrial robots and high speed trains. Internet companies such as Alibaba and by DO are increasingly blazing a trail in areas where the Silicon Valley giants were once pre-eminent. Such as speech recognition technology, while ecosystems of go getting tech startups are flourishing in Chinese cities. To understand what sparked all this activity, you need to look to the orders coming from the very top of the Chinese government. In his speech at the 19th Communist Party Congress in autumn 2017, Chinese President Xi Jingping stressed that innovation is the key to sustaining the country's economic growth. He left his audience in no doubt that the development of new technology is a government priority. Despite its astonishing rise over the past three decades, China still lags behind the US, Western Europe and Japan in high end manufacturing. That's why it launched the so-called Made in China plan in 2015, an initiative targeting investment in sectors such as semiconductors and aerospace. The government is also encouraging domestic firms to cooperate with foreign competitors to build expertise, according to some critics. China's eagerness to engage in knowledge transfer with Western companies amounts to a program of state sponsored industrial theft. The Trump administration has ordered a review of China's intellectual property practices, which could result in punitive unilateral sanctions.

We support free trade, but it needs to be fair and it needs to be reciprocal because in the end, unfair trade undermines saw. The United States will no longer turn a blind eye to unfair economic practices, including massive intellectual property theft, industrial subsidies and pervasive state led economic planning.

Donald Trump there speaking at the World Economic Forum at Davos in January. He didn't name China, but it doesn't take a peep HD in advanced manufacturing to figure out which country he was referring to, whether or not the charge of theft is warranted. There is some evidence that the Chinese government's technological investment program is not simply about improving growth and productivity. The state is backing companies such as Heck Vision, which develops facial recognition software that can be used in surveillance cameras to help the authorities maintain social control. Here's Max Burns, senior research analyst at Aviva Investors.

I've talked to many of my peers that explicitly investors in automation and also Chinese companies. And they say they have some presentations that are really spooky and how they can monitor their citizens. While that would not be palatable in the U.S. or Europe, it's acceptable. I don't think you have that type of privacy constraint that you would have developed. Markets embrace all types of privacy flags that you just don't have China. So that is something that's truly different and driving something that's China centric.

But the story of innovation in China is about more than an authoritarian government seeking greater control over its people. China has invested heavily in high quality education for its citizens and now produces five times as many science and engineering graduates as the US. Although the US still leads on a per capita basis to compare how the US and China measure up on broad innovation metrics is difficult. But we can draw a few conclusions. The US spends more on so-called basic and applied research and development, the process of making early discoveries and refining them. This means it still has a clear lead in industries that rely on original breakthroughs, such as pharmaceuticals, where Chinese firms are struggling to build global market share. Chinese companies, on the other hand, are proving adept at late stage development, building on existing discoveries and bringing innovative new products to market. These firms benefit from having access to a vast population of tech savvy consumers who are comparatively more willing to try out products and services compared with their peers in the West. The so-called Bhatt's by Do Alibaba and Tencent are leading the way, developing products and services that appeal to China's growing population of affluent young people? Here's Shao, Yulo emerging market fund manager, Aviva Investors in London.

In China itself is more than 400 million. It's bigger than the total U.S. population. And in the next 10 years, the consumption power can easily double and you're creating probably even more additional demand for company.

Think really about in this category, e-commerce is one area. It's already happened only Barwise, one of the largest companies in the world.

And a lot of gaming is paid by the new generation, 10 cents seamless integration of financial elements into its comprehensive WeChat platform for smartphones, along with similar innovations from Alibaba and Baidu, has made China a global leader in fintech. The bats are also outperforming in some A.I. disciplines by DO is now the acknowledged leader in speech recognition technology. For example, Baidu president jogging. Shang trumpeted the company's achievements at Davos in January.

He's really becoming a mainstream come to center stage. Ten years ago, 20 years ago, was pretty much in the lab for Baidu. In fact, it's essentially embedded in every product or service. We offer it in the voice recognition text to speech machine translation, search engine advertising passement.

We have a in fact, the platform which were open to all the teams within Baidu to make that available to all the researchers in the world.

The US still has a clear lead in many A.I. specialisms. Google's development of the Alpha Go program, which is devise strategies to beat human grandmasters at the Chinese originated board game. Go is a symbolic reminder that the Silicon Valley heavyweights are still dominant in many areas of A.I. But there's no doubt that China is catching up. One advantage its companies have is the relatively loose regulation around the commercialization of new products in China. The cutthroat Chinese bike sharing industry provides a case study of how this deregulated free for all in new tech can turn out. Chinese firms were among the first to develop G.P.S. power with technology to enable Uber style bike sharing without the need for docking stations. A number of competing companies emerged over the last few years, flooding the market with bicycle's. But many of them quickly went out of business, leaving streets clogged with piles of mangled bikes. Rapid innovation can be a double edged sword, it seems. Here's Professor Erik Brynjolfsson. Down the line from his office at the world renowned Massachusetts Institute of Technology, where he's director of the M.I.T. Initiative on the Digital Economy. He says China is benefiting from a distinctive entrepreneurial culture.

There is a culture of innovation and entrepreneurship. There's prefectures with very few barriers are better or worse. Regulatory barriers from the government empower organizations and entrepreneurship, setting off all sorts of businesses. The idea commissionership innovation, I think, is a very powerful one. Companies try new things without a lot of respect for privacy or environmental regulations, and that allows them to innovate faster. The flipside of that, of course, is that some of the water in China isn't all that clear in so many areas and that clean and private key protections are in place. Are a lot of Westerners were uncomfortable with. So it's a mixed bag and it's something that every Saudi culture is trying not to find the right balance.

Over the longer term, the outcome of the battle for innovation may depend on how China and Western economies grapple with the unpredictable consequences of new technology. Brynjolfsson latest book machine platform crowd examines a triple revolution comprising three shifts, a shift from human decision making to machine based learning, a shift from products to platforms such as Uber and Airbnb, and a shift from companies core or internal expertise to crowd sourced learning and problem solving. He believes that over time, these innovations could bring benefits in both east and west.

There is a lot of pent up innovation in areas like machine learning that have been quite remarkable. What you see in the laboratories, but most of it hasn't really made its way out into the marketplace yet. I think self-driving car is one of the most ubiquitous and common examples people are given. And no question, there has been billions of dollars invested in different technologies relating to self-driving cars. But there are very few self-driving cars rolling up the window right now. So there's a disconnect between the investment in the technology and what we're seeing in terms of GDP or actual consumer goods. But that doesn't mean they're not coming. I think they're in the pipeline. And this is very common with these fundamental technologies going back to electricity and the steam engine. There are big investments made in a core technologies, and it takes literally, sometimes years or decades before the impact happens on the economy. I think artificial intelligence machine learning are similar kind of general purpose. Technology takes us time to play out.

But while technological changes could spur economic growth, they may also bring new challenges. Jonathan Haskell is professor of economics at Imperial College Business School in London and co-author of the book Capitalism Without Capital, a study of how economies are increasingly dominated by intangible assets such as design, branding, software and R&D rather than physical things. He says the Chinese system will give it some advantages and disadvantages when it comes to adjusting to the intangible economy.

What economists are saying, as you know, there are forces on one side. There are forces on the other side. Example. Investment, the science space might become increasingly important because as firms get more intangible intensive, the work begins to look to the public sector to provide the kind of basic scientific knowledge around which firms can then build and commercialize new products. So to the extent that the Chinese are centralized and can help with the push, the science budget ahead of that is to their advantage. On the other hand, if centralized, then there may be less experimentation in China. That will be the case in the West. And so that would be to their disadvantage. What might happen is geographic areas of China where there's more and more foreign investment. We would expect there to be a little bit more experimentation, that things have been more permissive. They may end up doing rather better than the other areas which don't have that blend of experimentation and public investment.

Haskell's research also shows intangible assets generate spillovers, and that is relatively straightforward for another company to copy a new concept or design. This makes it more important for companies to be able to protect their intellectual property. IP protections remain quite weak in China.

Although Beijing has recently introduced new enforcement mechanisms, including specialized IP courts, there is certainly no room for complacency among Western firms, which will need to keep innovating to compete with their increasingly powerful Chinese rivals. The evidence was there in the air conditioned conference halls of the Electronics Show in Las Vegas, where China demonstrated it is becoming a technological force in its own right. Consumer gadgets are just the beginning.