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The consequences:

A new type of big data-enabled market regulation

If implemented as proposed, the Social Credit System has the potential to help solve many pressing issues in the Chinese economy. It will, however, also facilitate an IT-backed authoritarianism: the Chinese government’s capacity to enforce and fine-tune its market regulations and industrial policies will be enhanced through new incentive mechanisms – the credit scores generated by the Social Credit System – thereby establishing a subtle, self-enforcing, and invisible type of state control. Intervention by government bodies can be reduced to setting the rules, standards, and algorithms for the system, while minimizing constant supervision and interference in the implementation process.

In economic terms, the Social Credit System helps China to internalize political, social, and environmental externalities deep into daily business decisions. While many of the relevant regulations are not new to the Chinese market, the Social Credit System brings their enforcement to a new level, by linking them directly to a company’s cost-benefit calculation and future business opportunities.

Eventually, the Social Credit System could become a powerful, big data-enabled toolkit for monitoring, rating, and steering the behavior of market participants into a politically desired direction: If companies not fulfilling industrial investment targets for a new technology are punished with bad social credit records (as is currently underway for the e-car quota18), they will feel pressured to comply with political targets and pour money into technologies that they would – from a purely business-oriented perspective – not consider a profitable investment.

China’s leadership is convinced of its ability to guide China’s economy on a long-term path towards becoming an industrial superpower. If China’s comprehensive industrial policies and state-guided investment pattern prove to have the desired effects, the Social Credit System will be a powerful instrument in realizing China’s ambitions. However, as is the case for any industrial or technological policy, politically-induced investments may also lead to a massive misallocation of resources, narrowing the space for autonomous business decisions or non-standard (disruptive) business models. Severe economic damage could be the result. These risks are not deterring the Chinese government, however, from determinedly building a highly sophisticated enforcement mechanism for its industrial policies.

 

5.1 Potential positive impact: responsible behavior of companies

Apart from these fundamental questions, China’s Social Credit System may well have very concrete positive effects on the Chinese economy, if fully implemented as planned:

  • The Social Credit System could prevent illegal behavior, help strengthen companies’ economic trustworthiness, and contribute to building up a new culture of socially and environmentally responsible behavior.
  • Making comprehensive information on companies and their social credit records accessible for everyone on centralized online platforms can increase transparency on companies’ activities. The social credit records and scores could, for example, help businesses to better judge a potential partner or acquisition target.
  • Concurrently to the implementation of the system, China will try to significantly enhance the quality of collected data. This can have a positive impact on the reliability of existing economic statistics, if used accordingly.
  • The Social Credit System and its vast database create a big, new playing field for companies specializing in big data. Real-time monitoring systems create new markets for advanced IT-technologies, ranging from traffic monitoring and image recognition to satellite navigation systems. Positive effects on China’s technological development and abilities are likely, and could turn China into the leading, global market for these technologies.

 

5.2 Potential negative impact: risking economic damage

The Social Credit System will also yield substantial negative impacts. Possible examples are:

  • A considerable number of companies might not be able to carry the costs of compliance with the government’s regulations. For example, in the case of adhering to environmental standards during production. Since non-compliance will not be an option with the Social Credit System at work, some might be forced to close their business or restrict investments.
  • Particularly during the implementation process, China’s Social Credit System will very likely be prone to error, due to immature technologies. Compliant companies might get bad ratings and vice-versa, which will inevitably cause economic damage.
  • The Social Credit System may pose a constant risk to the protection of proprietary company data. A major data leak or theft could easily result in severe economic damage through the sharing or selling of sensitive company data to competitors or other states.
  • Compared to other countries, the Chinese government has much more leeway in collecting and using data. A fundamental problem of the system could be the misuse of proprietary data by Chinese government entities, which could be highly damaging to companies’ business.
  • While public access to information creates transparency, the algorithms of the various credit rating services in calculating credit scores remain opaque. Their increasing importance can make business activities in China highly unpredictable.

 

5.3 Potential international impact: new challenges for international companies

To international stakeholders, the Social Credit System poses significant challenges: It is highly likely that international companies will be fully integrated into the Social Credit System’s mechanisms. If they comprehensively comply with government regulations, they can avoid painful punishments, but their freedom of business decision-making in China will be significantly constrained. International companies might, like their Chinese competitors, for example, be forced to make economically unreasonable investments, stipulated by China’s industrial policy guidance.

At the same time, the integration of international companies could actually create a more level playing field between international companies and their Chinese competitors, since both are subject to the same social credit rating mechanisms influencing their business opportunities. However, it remains questionable as to whether this will lead to significantly less discrimination of international companies in practice, for example, during public bidding processes. In fact, social credit ratings might just as well turn out to become an additional, and very subtle, tool for discrimination. Ratings for international companies could easily be subject to systematic and intentional bias in favor of Chinese enterprises.

On top of that, data security concerns will increasingly impact international companies’ business in China. This relates not only to the risk of data theft, but also to the potential misuse of sensitive data by government agencies. The sensitive technical data of high-tech companies could be particularly at risk if China introduces real-time monitoring systems collecting technical data. An example is on-board units in cars, monitoring not only the behavior of the driver but also the technical performance of the car itself.

Ultimately, China’s Social Credit System could fast become a global phenomenon: Related IT-systems and big data solutions have high export potential to countries where the goal of strengthening state control of the economy is prominent. While implementation will always require a certain level of bureaucratic and technological capability, China’s approach to the regulation of the economy could become a role model for other economies worldwide, if the Social Credit System proves to be successful.

Companies active in the Chinese market should take the speedy implementation of the system very seriously, as the development will impact their business in and with China. They urgently need to develop a deeper understanding of the Social Credit System’s conception and mechanisms, if they do not want to be caught on the back foot when the system takes effect. Regulatory specifications and rating platforms are currently taking shape. Companies need to proactively examine the specific plans and foreseeable impact in their respective business sectors. Economic diplomacy and business associations, also in coordination with Chinese enterprises, will have to consider how they can try to co-shape the implementation of the new rating system and contain the potential risks.