The China Syndrome

June 15, 2007 — -- In the Wild West, rustlers and bank robbers met swift justice at the end of a rope. In the Wild East, namely China, the justice may not be quite as swift, but the punishment is just as brutal. China's press agency recently announced that its former top drug regulator, Zheng Xiaoyu, was sentenced to death for taking more than $832,000 in bribes to approve untested medicines. At the same time, the country's main quality control agency announced its first recall system, targeting unsafe food products.

Zheng Xiaoyu represents the tip of the proverbial iceberg. Because China is a country without the checks and balances found in the United States, it is inevitable that more tragedies like those resulting from tainted toothpaste and poisoned pet food will occur.

People in the United States may already have become sick -- or worse -- from bogus or bad products originating in China; our system just hasn't as yet detected these illnesses or deaths. The size of the drug industry and the margins on its most profitable products are too rich not to attract unscrupulous operators.

With government agencies, such as the Food and Drug Administration, accelerating the approval of low-cost generic drugs and several large retail businesses introducing low-cost co-pay plans, there is concern that low-cost generic imports will displace much of the low-margin U.S. pharmaceutical business.

What creates more immediate concern are bogus versions of higher-margin drugs and biologicals that may make it into our wholesale drug distribution system. With much higher price tags, these drugs become tempting targets for any unethical or sloppy Chinese manufacturers. Our faulty drug inventory systems, coupled with the proclivity of some Chinese manufacturers to bootleg and forge any product they can get hold of, can only be described as a systemic problem that must be confronted.

At the beginning of the 20th century, pure food and drug laws were created in the United States to deal with abuses in the evolving large-scale manufacturing system. The parallels with today's new Chinese enterprises are striking.

Steve Brozak is the president of WBB Securities LLC, an independent broker/dealer investment bank specializing in research in biotechnology, medical devices and health care.

China has a minimal infrastructure to enforce food and drug standards, and the lure of enormous wealth is sufficient to cause people to risk the occasional harsh penalty for flouting standards. Until recently what was also missing was the demand by consumers to clamp down on questionable drugs or food products.

China is a closed society that allows no criticism unless the criticism is sanctioned by top-level authorities. Here in the United States, we have started to ask questions about drug and food safety, but what should the next step be?

A June 2006 report by the Counterfeit Drug Task Force described a multitude of gaps in the U.S. drug distribution system. What the report intimated was that pharmaceuticals are a worldwide commodity. Drugs cross national boundaries more easily than people. Only a strong, well-enforced worldwide set of uniform requirements for international pharmaceutical labeling, inventory and disposal can minimize the risk of counterfeit drugs entering the distribution system and making their way to people. The logical conclusion is that only an international consortium of client nations can assure that will happen.

The United States is moving cautiously on these issues because our country is economically linked to China. China has become the second-largest financer of U.S. debt, holding close to 20 percent of the foreign-held U.S. debt, which totaled more than $420 billion as of March of this year. In the first four months of this year, the trade deficit with China grew by $12 billion. If this trend continues, the trade deficit with China will grow by $40 billion (17 percent) this year, reaching more than a quarter trillion dollars, which will be a new all-time high with that country. At the same time China is reputed to have more than $1 trillion available to invest in the capital markets.

So far, the United States has been in the driver's seat, both as China's biggest customer and as China's largest supplier. The situation already may have changed. The Cabinet-level strategic economic dialogue with China resumed just a couple of weeks ago. Though the United States resolved to get tough based on recent problems with tainted food and medicine, the United States won few, if any, concessions. It seems that the Chinese have gotten tough, too. Whether the United States by itself has the muscle to impose its will on China remains to be seen. Both our physical and financial health depends on it.

Steve Brozak is the president of WBB Securities LLC, an independent broker/dealer investment bank specializing in research in biotechnology, medical devices and health care.