China's Milk Scandal Shakes Investors

China's dairy scandal could damage investor confidence in the country's food industry for years, analysts say.
By Michael Lelyveld
2008-10-07
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BOSTON--Investor confidence in China has suffered serious damage as a result of its toxic milk scandal, experts say.

Countries around the world have recalled Chinese food products since the first reports in September that the industrial chemical melamine was added to infant formula sold by the Sanlu Group to pass protein tests.

Toxic milk powder has been blamed for kidney problems in over 53,000 children and four deaths, according to Chinese health officials. Investigators of the State Council have found melamine in the products of at least 22 companies, but the problem has continued to spread.

Melamine-tainted candy has been exported to countries throughout Asia and Europe. China's popular White Rabbit Cream Candy has been pulled from U.S. shelves in at least four states after tests detected melamine, the Associated Press said. Over a dozen countries have banned dairy imports from China, while international food brands have withdrawn products with Chinese ingredients.

The effect on foreign companies that invest in Chinese food production is likely to be serious, said Gary Hufbauer, senior fellow at the Peterson Institute for International Economics in Washington.

"This is very distressing for Chinese sales of food products of any kind," Hufbauer said in a Radio Free Asia interview. "It may be milk here, but who knows what it could be later?"

'Costly' reactions

Consumer reactions to food threats are usually longer-lasting and more costly for business than other product safety violations that have been traced to China, including lead paint in toys, Hufbauer said. The effect may be aggravated by the government's lapse in failing to test for melamine after the same compound for making plastic was found in wheat gluten exported for pet food last year.

"I would certainly expect that China, on the basis of this latest news on the milk, will suffer severely in terms of selling foodstuffs to countries around the world," Hufbauer said.

The investment impact may also be heightened by reports that Sanlu's foreign partner, the Fonterra Cooperative Group of New Zealand, tried and failed to get the Chinese company to order a recall after months of complaints that children had fallen ill.

International companies that source food products in China will worry about lawsuits and damage to their reputations that could last for years, said Hufbauer.

"All that really sends a message to corporate headquarters and will have a chilling effect on sales in a way that the earlier product quality scares did not," he said.

In the wake of the scandal, Chinese officials have tried to accentuate the positive and renew assurances that the public will be protected.

Testing done

On Oct. 1, the General Administration of Quality Supervision, Inspection and Quarantine (GAQSIQ) issued a statement saying that no melamine had been found in 303 tests of 58 dairy brands of baby formula.

In other tests, GAQSIQ said it found no melamine in 87 percent of products tested, the official Xinhua news agency reported, suggesting that the chemical remained in 13 percent of the samples a full three weeks after the first press reports on Sept. 10.

"China did not intend to cover the truth when the incident happened. Instead, it faced frankly and bravely tried to solve the problem," Premier Wen Jiabao told an international economic conference on Sept. 27, Xinhua said.

"Chinese companies should learn from the lessons of the Sanlu tainted milk powder incident," President Hu Jintao said on Sept. 30, without referring to the other companies that used melamine.

In a bid to restore confidence, GAQSIQ has taken the unusual step of sending over 5,000 inspectors to conduct round-the-clock monitoring at dairies across the country, Xinhua reported on Oct. 5.

Eric Johnson, a management professor at Dartmouth University's Tuck School of Business, told RFA that the melamine case has further shaken investor confidence in China's food safety regulation after previous scandals involving faulty products from drugs to truck tires.

"Certainly, it makes one question what kind of regulatory enforcement exists when we see multiple cases of this type that are not driven by inadvertent mistakes but really are driven by financial gain," he said.

Johnson believes the negative publicity may fade in the minds of foreign consumers if China succeeds this time in solving its food safety problems.

"If nine to 12 months from now we are not hearing more stories, there will be less scrutiny, but every one of these drives up the awareness among consumers of the dangers of Chinese products," Johnson said.

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