Lu Ming on the lesson for local govts from DeepSeek's emergence
SJTU econ professor says governments should just “let go” to minimize interference in the development direction of enterprises.
The emergence of DeepSeek has ignited extensive discussions regarding its implications for artificial intelligence (AI), China’s strategic positioning relative to the United States in the AI landscape and beyond, and potential escalations in U.S. export controls targeting China.
Domestically, Hangzhou—the capital of Zhejiang province and DeepSeek’s headquarters—has garnered significant acclaim. This recognition is partly attributed to the city’s progressive digital infrastructure and its nurturing environment for innovation. Notably, the current President of China previously served in Hangzhou, and numerous officials from Zhejiang now occupy senior leadership roles, further elevating the city’s prominence.
In this context, Lu Ming, a distinguished economics professor at the prestigious Shanghai Jiao Tong University, offers insightful perspectives. As a public intellectual who, together with a few other economists, met with China’s premier in 2023, Lu is renowned for his pro-market analyses of China’s urbanization trajectory.
In the following commentary, Lu emphasizes the virtues of market dynamics. While acknowledging Hangzhou’s robust digital technology foundation, he highlights the serendipitous and unplanned nature of innovation, the city’s non-interventionist governance approach, and its relatively low barriers for new residents compared to other major urban centers.
Domestically, Lu advocates for the expansion of China’s major cities, a stance that challenges prevailing concerns about urban issues and the often superficial call for balanced regional development. He has long contended that larger, more populous cities are essential for economic vitality and innovation, just as he did again here.
The following article was first published on Feb. 18 in the 21st Century Business Herald.
DeepSeek的启示：地方如何培育创新？
Inspiration from DeepSeek: How Can Local Governments Cultivate Innovation?
Lu Ming (Member of the 14th National Committee of the Chinese People's Political Consultative Conference, Distinguished Professor at Antai College of Economics and Management, Shanghai Jiao Tong University)
Recently, DeepSeek’s explosive success has sparked widespread discussion. Some local governments have published reflections on why such a groundbreaking innovation company did not emerge in their own regions. The public has also been actively discussing the “Hangzhou experience,” hoping to cultivate their own version of DeepSeek.
In my view, innovation does not follow a fixed template. The more cutting-edge the field, the greater the element of randomness and uncertainty in innovation. Only through continuous trial and error can entrepreneurs discover opportunities for innovation. From this perspective, what other cities truly need to learn is not how to replicate Hangzhou’s experience in a specific industry but rather how to adopt Hangzhou’s approach of “letting go”—minimizing interference in the development direction of enterprises and leaving space for innovation. At the same time, cities must retain talent by enhancing the quality of urban life and improving consumer experiences, as these factors contribute to fostering innovation and attracting top talent.
The “Right Time, Right Place, Right People” Behind DeepSeek’s Emergence in Hangzhou
Why did DeepSeek emerge in Hangzhou? I believe there are several key reasons. First and foremost is Hangzhou’s strong industrial foundation and innovation-friendly atmosphere. Since the early 21st century, Hangzhou has strategically positioned itself as a hub for the digital economy. Over the past 20 years, this vision has gradually materialized, beginning with the growth of Alibaba in Hangzhou, which in turn attracted many other digital economy enterprises to the city. After years of development, the results are now evident.
Beyond its focus on the digital economy, DeepSeek’s emergence in Hangzhou can be attributed to a combination of factors: timing, geographical advantages, and human capital.
From a timing perspective, over the past two decades, China has achieved a competitive edge in the digital economy, using it as a means to leapfrog in global competition. In this emerging field, the gap between China and developed countries—especially the United States—is much smaller than in other industries. China has successfully seized this wave of digital economic growth.
From a geographical perspective, Hangzhou is located in the Yangtze River Delta, benefiting not only from its own universities and research institutions but also from nearby Shanghai, which has a strong talent pool in digital economics. This geographical advantage has helped Hangzhou build an innovation-friendly ecosystem. Additionally, as a large city, Hangzhou offers a sizable market, abundant talent, and strong infrastructure, making it an attractive location for startups.
The most crucial factor is human capital. Zhejiang has a deeply rooted entrepreneurial culture. From the labor-intensive industries of the 1980s to the current digital economy boom, Zhejiang has consistently fostered a strong entrepreneurial spirit. Zhejiang’s entrepreneurs are known for their willingness to innovate and, more importantly, for their bold investment in innovation, particularly in capital-intensive sectors. This willingness is closely linked to the development of Zhejiang’s private economy.
A defining feature of Zhejiang’s economy is the significant role played by the private sector. Private enterprises contribute a large share of the economy, with financially robust entrepreneurs who are highly independent, innovative, and risk-taking. This innovative culture among entrepreneurs is also reinforced by Hangzhou’s pragmatic government policies. Available data indicates that Hangzhou’s government has taken a proactive approach to supporting innovation. On the one hand, it actively invests in early-stage, small-scale growth companies. On the other hand, once it selects an investment target, the government refrains from interfering in the company’s day-to-day operations, allowing entrepreneurs to focus entirely on innovation. This non-interventionist approach creates a highly conducive environment for business growth.
Another human capital advantage is Hangzhou’s relatively lower housing prices and labor costs. Typically, innovation tends to cluster in large cities, but these cities often have the drawback of high living and operational costs. Compared to first-tier cities, Hangzhou offers relatively lower labor and housing costs, striking a balance between the benefits of a major innovation hub and manageable expenses.
This aspect should prompt reflection in other first-tier cities. The high real estate and labor costs in Beijing, Shanghai, and Shenzhen have significantly increased the cost of innovation and production for companies. These high costs are largely due to strict residency policies limiting population inflows, which drive wages, and restrictive land supply policies, which elevate housing prices. As a result, the declining competitiveness of these cities in innovation is closely tied to these constraints.
How Can Other Cities Learn from the “Hangzhou Experience”?
Can other cities replicate Hangzhou’s success? The answer is not straightforward. Some aspects can be learned, while others cannot.
From a non-replicable standpoint, industrial development typically exhibits strong clustering effects. Frontier innovation industries demand high levels of capital concentration, talent aggregation, and an entrepreneurial environment with robust market mechanisms. Given these requirements, innovation in China remains concentrated in a few major cities. Only large cities with comparable conditions can truly adopt Hangzhou’s experience.
For these major cities, a key takeaway from Hangzhou is the importance of market-driven talent attraction policies. This includes lowering residency barriers and increasing housing supply to make living costs more reasonable, which facilitates talent accumulation.
However, Hangzhou is not the only Chinese city with strong universities and supportive policies. So why haven’t similar DeepSeek-like enterprises emerged elsewhere? The main reason is the degree of integration between government and market forces. Some local governments aim to promote innovation but fail to grant enterprises sufficient autonomy.
It is essential to recognize that innovation is highly uncertain and unpredictable. Consider DeepSeek’s success: previously, it was widely believed that the bottleneck in AI innovation lay in computing power. On a national level, energy constraints were also seen as a limiting factor. However, few anticipated that the real bottleneck was in algorithms. DeepSeek pursued an unexpected path to success—an example of how most innovations emerge in unforeseen ways. Entrepreneurs must engage in continuous trial and error to uncover new opportunities, and governments cannot predefine or plan innovation.
From this perspective, what other cities truly need to learn is Hangzhou’s philosophy of “letting go” and minimizing interference in enterprise development. Today, China’s economy has moved beyond the industrialization phase, where simply learning from developed countries was sufficient. As China approaches the global innovation frontier in certain fields, the direction of innovation becomes increasingly uncertain and unpredictable.
For small and medium-sized cities that lack both capital and talent, the “Hangzhou experience” still offers valuable lessons. They do not need to develop big data or AI industries like Hangzhou but should instead focus on fostering a pragmatic business environment that encourages industry development. They must trust market forces and entrepreneurs while broadening their definition of innovation beyond high-tech fields. Innovation can also take the form of new business models, novel resource allocation methods, and innovative consumer goods distribution channels. Each city has the potential to drive industrial upgrades and innovation by leveraging its unique advantages.
For example:
• In Xinjiang, using salt lake water to raise sea fish is an innovation.
• In Jiangxi’s Wugong Mountain, developing an ice and snow park to provide skiing opportunities in southern China is an innovation.
• In Dalian, establishing China’s largest cherry production base is an agricultural innovation.
• In Changsha, Hunan, the rise of new consumer brands like Cha Yan Yue Se and Wen He You is also a form of innovation.
Building an Innovation-Friendly City
The role of cities in fostering innovation is critical, as modern innovation relies on the accumulation and creation of knowledge. This gives rise to four key characteristics of urban innovation.
1. The Randomness of Innovation in Urban Areas
Innovation often arises unpredictably, emerging suddenly from interactions between people. A unique combination of knowledge can be created during such exchanges. These interactions are more likely to occur in cities, particularly in densely populated urban areas where people frequently engage with one another.
2. The Accumulative Nature of Innovation in Urban Areas
Many historical innovations did not emerge out of nowhere; rather, they evolved from existing industries or accumulated knowledge. For example, the drone industry in Shenzhen developed based on earlier advancements in industries related to lightweight materials, such as the production of badminton rackets and fishing rods. This exemplifies the cumulative nature of innovation.
3. The Unpredictability of Innovation in Urban Areas
The direction and pathways of innovation are often difficult to foresee. Many innovations that seem obvious in hindsight were not planned in advance but rather emerged as the result of sudden knowledge mutations. Such mutations are more likely to occur in cities that have long been centers of knowledge accumulation and population concentration.
4. The Concentration of Innovation in Urban Areas
Since innovation thrives on human interaction, it tends to be highly concentrated in cities, particularly in large metropolitan areas, and even more so in the central districts of those cities. This is especially true for cities driven by the service sector, where innovation is densely clustered in downtown areas.
According to statistics, in most countries worldwide, the concentration of innovation significantly exceeds that of the population. This suggests that cities—especially major cities, and within them, a select few leading cities—are the primary sources of innovation. In China, the most vibrant innovation hubs are Beijing, Shanghai, Shenzhen, and Guangzhou. Other cities with strong innovation performance, such as Hangzhou, Wuhan, Chengdu, and Hefei, are all major urban centers as well.
Where Does Innovation Happen in Cities?
One might instinctively think that innovation happens in laboratories or professors’ offices. While this is certainly true, the importance of interpersonal communication in innovation suggests that cities also need a wealth of “third spaces”—such as cafés and social venues—where people can engage in discussions and spark new ideas. These spaces serve as the breeding ground for innovation.
Thus, if a city aims to promote innovation, providing ample third spaces is crucial. However, this is often overlooked by urban planners. Supporting innovation is not just about providing laboratories for scientists or subsidized housing; it also requires the development of vibrant lifestyle spaces where people can eat, drink, and have fun, as these activities facilitate social interaction, which in turn fosters innovation.
In this sense, consumption itself has a productive aspect. Cities should retain talent by enhancing their quality of life and optimizing consumption environments. By making urban life more enjoyable and engaging, cities can better stimulate innovation and attract top talent.
