Saturday, May 20, 2017

Thoughts From China

I recently returned from my third trip to Shanghai, so I wrote up a post with a bunch of idle thoughts from the trips - with photos!

Shanghai Startup Scene - The Tank Problem

This picture isn’t mine, but during my previous trip to Shanghai (September 2016), these orange bikes were everywhere. They’re owned by Mobike, a bike rental startup. You walk down the sidewalk until you find one of their bikes sitting around, scan the QR code on the bike to pay, the bike unlocks, and you ride off. When you get where you’re going, just re-lock the wheel and leave the bike.

Anyway, note the prominent serial number by the back wheel - the bike pictured is number 10748. So naturally, my idle thoughts drifted to the tank problem.

As the story goes, the tank problem arose in WWII. The allies wanted to estimate how many tanks the Germans had available, so they looked at serial numbers on captured tanks. So, for instance, if they saw a serial number of 10748, then they knew that there were at least 10748 tanks out there. With a little Bayesian stats magic, they were able to get much more precise estimates - so precise that, after the war, it turned out the statistical estimates based on serial numbers were more accurate than the estimates from spies!

Back to Shanghai. I kept an eye on serial numbers of the orange bikes, and came up with a rough estimate of 42,000 bikes.

Shanghai Startup Scene - Defensible Differentiation
When something works, people copy it. Sure enough, in the roughly 8 months between my 2016 trip to Shanghai and my most recent trip, Mobike had sprouted a competitor - at least four competitors, in fact, each with a different bike color. Judging by number of bikes, the competition was mostly between first mover Mobike (orange) and newcomer Ofo (yellow).

My guess is that both companies are burning cash like crazy. With competition this stiff, they can’t both expect to stay in business. Assuming most customers have both apps and grab whichever bike is closest, this is a battle of who can put the most bikes on the street without going bankrupt. Heck, if these two companies can raise enough capital, Shanghai may soon have more bikes than people - it’s in both their best interest to keep putting bikes on the road until the other folds, even past the point where each bike is profitable.

But the real game here is product differentiation - if one company can present an easier lock or a better bike, then people will choose their bike rather than grabbing whatever’s closest, and that company will not need to compete for most bikes on the road. Indeed, at least one company has taken this route: another company offers green bikes, not pictured here, with a small electric motor on them. Of course, their product differentiation isn’t defensible either - someone else could come along and offer electric bikes too.

Real Interest Rates
Among the interesting sights in China were stores like this - less than a hundred square meters of floor space, with backpacks covering all the wall surface and piled ten deep on the floor. That’s right, those stacks you see on the floor? More backpacks. We were in a whole building like this. The floorplan was like a four-story self-storage place, but rather than storage units, there were tiny stores. Every single store was piled from floor to ceiling with some very specific good - this one had backpacks, others had umbrellas, pantyhose, stickers, stationary… one was even filled with tubs of plushies.

But what makes this place strange is the foot traffic - or lack thereof. Even at peak hours, the building had more store owners than customers. For units with that much inventory crammed in, they weren’t moving much volume. What gives?

My guess is that this was caused by negative real interest rates. Here’s how that works. Normally, store owners pay for their inventory with credit, so the cost of holding inventory comes from the interest rate paid on it. Looking at these little units, crammed with inventory but lacking customers, it seems like they’d have trouble selling enough to make up for the interest cost. But there’s a catch - inflation. With positive inflation, prices go up - including prices of all those goods. If the rate of inflation is greater than interest rates - a situation called “negative real interest” - then gains from rising prices on the inventory outpace the expense of interest. In other words, when real rates are negative, you can make money by taking out a loan, filling a warehouse with inventory, and then just sitting there.

During the past decade, negative real rates have been quite common worldwide, especially for short-term borrowing. Given that China goes to extra lengths to devalue its currency, their real rates should be even lower than most countries. I suspect that’s what drives these little “shops” - at the moment, they’re not really shops so much as warehouses with a little side business selling direct to consumers. Most of the inventory will eventually be sold in bulk, hopefully at a profit.

Trade Theory of Tasty Food
This dish is fried spiced naan bread, with some lamb skewers behind it. The restaurant advertises itself as “silk road” style cuisine, a cross between Chinese, Indian and Persian foods.

This gave rise to my trade theory of tasty food: the better access an area had to historic trade routes, the better their ethnic food. Thus the best ethnic food comes from places like India and the Middle East, where trade routes granted access to lots of spices and allowed ideas from many corners of the world to pass through. On the other hand, remote places like Britain or Japan are characterized by bland food with relatively little variety.

Chinese Food
One pattern in real Chinese dishes is a big pile of vegetables with little pieces of meat hiding in it. Older Chinese people, who grew up in the early communist era, are extremely talented at racing to find the little bits of meat hiding under the vegetables.

Based on the stories, this sort of dish was probably a by-product of the communist famines. I suspect that the “Chinese food” we see in the U.S. today is probably more similar to historic Chinese food than the dishes of modern-day China, since pre-Mao Chinese immigrants never had to adopt their dishes to the constraints of famine the same way people in China did.

Today, though, meat is back with a vengeance. Having grown up with relatively limited meat, older Chinese people today think meat=value when it comes to food.

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