Smartphones: China’s next great economic indicator

January 14, 2013, 4:31 PM UTC

By Jack D. Hidary, contributor

FORTUNE — China has broken a new global record in smartphone penetration and this will have dramatic effects on content and commerce in 2013 in the world’s most populous internet market. Mobile subscribers in China are now using 330 million smartphones—which is a 150% increase over last year. iiMedia, a Chinese research firm, recently released this smartphone data, which has not been widely distributed in English.

China’s active smartphone now exceeds the total number of all 321 million mobile phones active in the US. Kai-fu Lee, the former lead China researcher at Microsoft (MSFT) and then Google (GOOG), predicts that China will have 500 million smartphones in use by the end of 2013. The implications of such a dramatic flip from dumb-to-smart phones are far-reaching and will ultimately affect the closely watched GDP growth rate in China. Those 500 million smartphone users are going to drive new patterns of online and offline commerce that will have global consequences. This is particularly relevant as China attempts to increase the role of domestic consumption as a driver of its GDP.

Smartphones are key to the future of internet usage, electronic payments and product branding since relatively few people in China access the web via traditional PCs. As the number of mobile internet users grows, online services will undergo a significant transformation with many new online services to be conceived of as mobile only. (See, for instance, Fortune‘s Facebook’s China problem.) This will be more pronounced in China where the penetration rate of laptops and desktops per capita is far lower than the US.  Smartphones will drive brand awareness, pre-purchase research, price comparison, payments for both online and in-person transactions, and social media distribution of popular content.

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Take China’s auto market, which sells more cars than any other country. New models can quickly take off in sales if their manufacturers target such mobile consumers. Pre-purchase research is critical in car-buying and more of it will increasingly occur on smartphones. Well-orchestrated social media, viral video and incentive campaigns can bring customers into dealerships and translate into hundreds of thousands of units in sales.

Smartphones are already helping brick-and-mortar stores in large internet markets. In the US, $159 billion worth of goods bought in-store were influenced by use of a smartphone during the purchase. By 2016, consultancy Deloitte estimates that number will reach an eye-popping $689 billion.  Smart retailers are taking advantage of this phenomenon by giving consumers additional coupons for scanning a bar code in-store for one-time incentives. Big-box chains are still growing aggressively across the China and those who targeting this growing mass of mobile internet users will have a critical advantage over retailers who rely only upon traditional marketing.

Not surprisingly, the app market in China is rapidly growing with the rise of smartphone users. Tencent’s Wechat has now hit almost 300 million users, the majority of them in China. And Baidu (BIDU), the leading Chinese search engine, has just released a new version of its Siri-like voice app making it easier to search for both information and locations while on the go. Taobao, one of the most popular ecommerce sites in China, has an app for both iOS and Android allowing users to preview and shop on their mobile devices. Taobao is a division of Alibaba. Alibaba also offers Alipay which is similar to eBay’s (EBAY) Paypal and will benefit greatly by this influx of smartphones.

Figure 1: Smartphone growth in China as of Q3 2012 (scale on left is in hundreds of millions of smartphone units; scale on the right is sequential quarterly growth rate).

The smartphone sector in China is also upending traditional technology hierarchies. While Google is not a significant player in search in China, it dominates the smartphone OS market. Android maintains some 67% of market share to date in China. In contrast, Apple’s (AAPL) iOS only holds 10% of the market. Google’s success with Android in China may be somewhat of a Pyrrhic victory, however, since most of the phones do not feature Google services that have been banned in China. Instead these smartphones highlight services from Google’s competitors.

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Apple’s  Tim Cook, meanwhile, was in China recently and predicted that it will be the company’s largest market within a few years.  This may be true, but Apple has a tough challenge unseating Android or even coming close to its adoption levels in China. Apple may be able to strengthen its position through cross-platform apps running on their tablets and other devices. A killer Apple TV wouldn’t hurt either in a country where internet bandwidth is growing quickly, and there is a thirst for domestic and foreign TV content.

Figure 2: Smartphone operating systems market share in China.

In China, Samsung is set to edge out Nokia (NOK) within the next quarter or two for the largest market share of smartphones. This will put further pressure on the struggling company which is already under attack in many of its global markets. Nokia is enjoying some success with its Lumia smartphones in other markets which led to better-than-expected earnings results, but it is losing ground in China.

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Then there are the locals. Huawei, ZTE and Lenovo each command between 6% and 8% of the Chinese smartphone market. A less well-known entrant controlling 10% of the market is CoolPad which is a subsidiary of Yulong/China Wireless and sold by China Unicom. The Coolpad smartphones mimic many of the features of big brand phones at a lower price point. Interestingly, Huawei, ZTE and Coolpad are all now vying for a share of the US smartphone market. So far, Coolpad has been the only one of the three to successfully launch its products in the US. All four companies had significant presences at CES which wrapped up last week.

Figure 3: Brand market share of smartphones as of Q3 2012.

So what does it all mean? The world is about to witness a unique phenomenon this year. The largest single mobile consumer market is now emerging. New online and offline consumption patterns will rapidly take shape and brands that jump on this wave can change their market share in a dramatic way.

By 2015, the number of smartphone users in China will exceed all mobile users in the US and Europe combined. There are no precedents for this kind of shift. As China turns its focus to domestic consumption, the largest mobile consumer base will no doubt play a large role as an economic driver. And that will have ripple effects around the world.

Jack Hidary is a startup investor and co-founder and former CEO of (DHX). Send Jack comments: @jackhidary. I will cover the growing Chinese app market in greater depth in an upcoming column. Send us links to apps you are impressed with and hold on for the ride.