Overcapacity further exacerbates the need for intervention in the automotive industry.
A troubling development has emerged from abroad. Recently, the U.S. investment bank Morgan Stanley released a report warning that an oversupply of production capacity and intense market competition could lead to falling car prices, shrinking profit margins, and reduced investment returns. The Chinese auto industry might not be profitable in 2006 or 2007, with an even more pessimistic outlook for the future.
This so-called "ice age" that began in 2004 seems to have only been the beginning. By 2005, the downward trend in automotive profits became more evident. In fact, the current performance of the industry is not entirely unexpected. In 2003, China's vehicle production utilization rate reached as high as 68%, the highest in recent years. This led many automakers to expand their production capacities. Earlier reports had already warned that due to the long production cycle—typically over 18 months—the utilization rate would drop significantly by 2005. However, despite these warnings, the expansion trend has remained unchecked.
Looking at the ambitious plans set by major domestic automakers under the "Eleventh Five-Year Plan," government officials are increasingly concerned about the severity of the situation. Companies like FAW, SAIC, Dongfeng, BAIC, GAC, and Chongqing Auto (including Changan and Qingling Heavy Duty Truck) have collectively planned output of up to 9.3 million units, far exceeding the estimated market demand of 8 to 9 million vehicles by 2010. Behind them are hundreds of smaller manufacturers, such as Hafei, Chery, and Geely, further intensifying the supply glut.
Some officials are now pushing for stricter control from the top. Industry tensions are rising, and there’s growing pressure on the government to act. While macro-control measures have always existed, their effectiveness has been limited. In 2004, the government tried a two-pronged approach using credit and land policies. But local protectionism and the dominance of state-owned enterprises have undermined these efforts, making administrative controls ineffective in practice.
As a result, some officials argue that China needs to focus on strengthening overall control and structural optimization in the auto industry through a combination of market mechanisms and macro-regulation. The author believes that both market-driven adjustments and regulatory oversight must work together, supported by a solid institutional framework.
On one hand, companies must demonstrate their ability to respond to market changes. For instance, when Volkswagen China’s president Van Andersen took office, he announced that the company would abandon its plan to increase production by 80% before 2008. Two years earlier, Volkswagen had also committed to investing 6 billion euros in China over five years. Facing market pressures, companies do have the autonomy to make strategic decisions.
On the other hand, the role of the "visible hand"—the government—is undeniable. Liu Peilin of the State Council Development Research Center has highlighted various forms of local protectionism, such as restricting the inflow of outside products, favoring local firms in legal cases, and allowing them to bypass national regulations. These practices include offering low-cost land, launching projects to catch up, and influencing the banking system to provide financing for local companies.
This may explain why new car projects continue to be launched despite strict national controls on auto loans, and why many shell companies remain active even after repeated increases in entry barriers.
Eliminating excess capacity is a complex challenge. Japan once used methods like purchasing equipment from the government and then discarding it to encourage companies to reduce redundant assets. In other cases, companies were shut down if they had outdated management systems, low technology, or failed to achieve economies of scale. These strategies helped promote industry consolidation.
However, administrative approaches like "Lalang matching" and one-size-fits-all controls have often failed. The key issue today is not whether the government can take action, but how to create a sustainable market-driven mechanism within the framework of macro-control.
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