Published daily by the Lowy Institute

Beijing’s online gaming clampdown

Chinese government regulations may be irreversibly damaging some of its most innovative and profitable industries.

Pony Ma speaks at the Fortune Global Forum 2017 (Photo: Fortune Global Forum/Flickr)
Pony Ma speaks at the Fortune Global Forum 2017 (Photo: Fortune Global Forum/Flickr)

Last month, Tencent Chairman and Chief Executive Pony Ma (马化腾) sent out an open letter, announcing a major strategic shift in direction for one of Asia’s most valuable technology firms.

“We believe that the first stage of the mobile internet, the consumer internet, is drawing to a close and the second stage, the industrial internet, is kicking off,” Ma wrote. “It became clear to us that if objects and services are not fully digitalised, the connection between them and people cannot be improved.”

What pleased Tencent’s shareholders had a remarkably different effect on China’s regulators, who have grown concerned over gaming’s addictive qualities and its impact on health.

The first-ever Asian company to eclipse $500 billion in market capitalisation, Tencent made its name in the lucrative fields of social networking and gaming. However, some of its shine has recently worn off. After its stock ascended to its all-time high earlier this year, shareholders have since seen it shed over a third of its value.

Although rising US interest rates and trade war headwinds are partly to blame, the Shenzhen-based firm’s most acute pain may not come from abroad, but rather from regulators at home.

Although perhaps best-known to consumers for their popular social and messaging app WeChat, it is Tencent’s gaming business that has most impressed investors. In a stellar first quarter earnings report, the company blew away expectations in large part due to its 68% year-on-year revenue growth in mobile gaming, led by blockbuster titles such as Honour of Kings.

However, what pleased Tencent’s shareholders had a remarkably different effect on China’s regulators, who have grown concerned over gaming’s addictive qualities and its impact on the health of the nation’s young people. Amid a regulatory agency shakeup, new game approvals were halted, and have remained stalled since March of this year. This pause is expected to continue into next year. Considering the work slowdown that accompanies Chinese New Year in February, it is conceivable that for a full year, no games will be approved in the world’s largest gaming market.

As the Chinese Communist Party has expressed a desire to reign in gaming’s influence on the country’s youth, even after approvals resume, it is highly likely that the best days for China’s gaming industry are already behind it. Party mouthpiece The People’s Daily referred to Honour of Kings as a “poison” and a “drug,” a term that carries considerable significance in China. In the popular Chinese historical narrative, the epidemic of opium addiction bears much of the blame for the fall of the Qing Empire, and the “century of humiliation” so prominent in the Party’s nationalist rhetoric.

In an attempt to stay in the good graces of regulators, Tencent and other companies have imposed time limits for gaming sessions and requirements for players to register under their real names. But the boom times for gaming in China appear to be over.

Is China’s government killing its tech sector’s golden goose?

For China, whose leaders have set their sights on turning the country into a tech and entrepreneurship superpower, gaming was an area that truly seemed to be taking off. Despite a slowdown in economic growth and much-discussed “consumption downgrade,” the sector had continued to be robust. China’s gaming industry enjoyed a tenfold increase in revenue between 2008 and 2017, rising from $2.7 billion to $29.6 billion, bolstered by the world’s largest gaming market, consisting of 583 million active gamers.

But those trendlines are changing.

Tencent is not the only Chinese tech company feeling the boom and bust of the country’s gaming craze and subsequent regulatory crackdown. Netease, China’s second-largest gaming company, has seen their share price fall by nearly a third since the beginning of the year. Although the big companies have the resources and capital to diversify their business interests into other areas, it is the smaller names who will likely hurt the most. By shifting to emphasise the “industrial internet,” Tencent is simply accelerating a process which has been underway for the past few years, and Netease also has other areas of business which they can prioritise. Not all gaming companies are so fortunate.

As the economic development of inland, second and third-tier cities has become an ever-greater priority, gaming was proving to be a key area of growth. Chengdu, the famously slow-paced city in southwest China’s Sichuan province, has seen the rise of a vibrant tech and entrepreneurship scene, with gaming as its central pillar. But with gaming in trouble, the future of the city’s tech community is uncertain.

Beijing’s heavy-handed approach

This is not the first time that sudden changes in bureaucratic and regulatory directives have caused major disruption, or complete derailment, of booming sectors in the Chinese economy. Nor is it the only instance this year.

After seeing a wave of blockchain and cryptocurrency startups in China, some of which ranked among the most valuable such companies in the world, a series of regulations were introduced on initial coin offerings, cryptocurrency trading, and most recently censorship and centralisation requirements for blockchain-based platforms. In response, many of China’s top blockchain entrepreneurs are choosing to set up shop overseas.

For both gaming and blockchain, there are certainly reasons behind the strict regulations that China’s authorities choose to put in place. Yet, as has often been the case, the inconsistent, opaque, and heavy-handed nature of their implementation means that even China’s most promising industries, investors, and entrepreneurs must always bear in mind that the environment can change dramatically at any moment without warning, and price that reality into their financial risk assessment and decision-making.

For a country that aspires to be a global technological and economic leader, China may be shooting themselves in the foot with their handling of regulatory processes.

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