A FOREST of red banners fluttered in the autumn breeze as though revolution
was still in the air, but the fighting talk in the Great Hall of the People
last week was all about inflation, asset bubbles and McKinsey’s advice on
social spending.
If proof was needed of the transformation of Marxist politics into the science
of authoritar-ian management, the 17th congress of the Chinese Communist
party which opened in Beijing last week made a virtue of it.
For the first time, the congress showed in speeches and policy statements the
outlines of a new Chinese capitalism envisaged by the party’s leaders.
The model combines intervention with market forces and has been refined
through several years of political bargaining by the president, Hu Jintao,
and the premier, Wen Jiabao, which came to fruition last week.
It deserves careful attention by investors because most of the ambiguities of
China’s rush to capitalism have been resolved by the party’s decision that
the state is to remain the supreme arbiter of policy.
For entrepreneurs, the vision is a step back from the promise of laissez-faire
free enterprise towards a system in which substantial assets are floated on
the capital markets, but ultimately remain controlled by the state.
To China’s leftists, it marks a victory for higher social expenditure, the
creation of a new healthcare programme, unionisation, a tough new labour law
from January 1, and an end to the unpopular rural tax on farmers.
The party officially welcomes capitalists to its ranks. But its class
credentials remain intact: only 3m of the 70m party members belong to the
private sector, according to the state news agency, Xinhua. That remains
political reality in Beijing.
The healthcare reform aims to restore medical cover to the whole population by
2020 and is reported to combine proposals on insurance, pharmaceuticals and
medical management drawn up by Chinese research institutes, the McKinsey
consultancy firm and the World Bank.
“We will encourage greater participation of private capital from both home and
abroad in the sector,” said vice minister of health Gao Qiang.
At present, millions of Chinese languish without health insurance after the
collapse of the “iron rice bowl” of the Maoist era.
The government is able to afford both to cut its deficit and raise spending
thanks to a 31% rise in tax revenues and a gigantic trade surplus which has
left China with the world’s largest foreign-exchange reserves.
It has also reaped the benefits of a bountiful grain harvest, an important
reminder that much of China is still an agrarian society. In addition, the
country has seen new record inflows of foreign direct investment.
“The economic temperature is somewhat hot, the consumer price index relatively
high and the speed of growth relatively fast,” admitted the central bank
governor, Zhou Xiaochuan.
The party is testing the boundaries of social stability and financial
experimentation in a determined strategy to keep its absolute political
authority intact.
In contrast to the time of the 16th congress in 2002 – or indeed the party’s
first in 1927 – China is aware of its decisive weight in the global economy.
Its rise has been compared in importance with the industrial revolution and
the expansion of Europe in the age of empires.
Between the first farming reforms in 1978, to China’s entry into the World
Trade Organisation in 2001 and its stellar performance as an exporter in
2006, its volume of foreign trade has expanded from $20.6 billion (£10
billion) to $1,760 billion, and now accounts for more than 70% of its gross
domestic product.
It has become the world’s fourth-largest economy, enjoying average growth of
9.7% over the past 28 years and lifting more than 220m people out of extreme
poverty during the same period.
China is now in the throes of the greatest urbanisation in history, a
potential bonanza for multi-national businesses and foreign banks and
insurers which have been allowed into the domestic financial sector since
last year.
So the moves of its central bank and economic planners are watched from Wall
Street to Tokyo with anxious attentive-ness.
Like their Western counterparts, the leaders in Beijing have to deal with
awkward daily headlines first.
The immediate concerns are inflation, which is running at more than double the
3% target, and a stock-market bubble on the Shanghai and Shenzhen exchanges
that could set off widespread anger if or when it bursts.
Inflation eased in September to 6.2% from 6.5% in August, the highest officially acknowledged rate in 11 years.
But Zhou, in what may be one of his last appearances as central bank governor,
told a meeting on the sidelines of the congress that inflation would stay
“relatively high” in October.
These pressures counterbalance the complaints from America and Europe that
China’s currency is undervalued and contributes to flooding foreign markets
with cheap exports.
Zhou has said that excess liquidity is a global issue, and he has blamed the
dollar’s decline for a surge in China’s trade surplus with Europe.
“Supply and demand will play a bigger role in setting the yuan’s rate,” he
said, repeating a consistent Chinese pledge that the currency will
eventually become fully convertible.
Nonetheless, at home Zhou and his experts face the fact that monetary tools
such as sustained interest-rate rises and eight increases in bank reserve
requirements have failed to deflate the stock markets.
The value of Chinese equities is now some 31% higher than last May, when
former US Federal Reserve chairman Alan Greenspan and other financial
luminaries declared the phenomenon dangerous.
Last week, a senior market regulator, Tu Guangzhou, reminded investors that
the government saw “a multitude of risks in the stock market”.
His warning fell on deaf ears. One internet blogger, calling himself “Jack
Sha” wrote on a widely followed market website that: “China’s stock-market
bubble will burst eventually but if you warn speculators of risk and tell
them not to invest, it’s like telling people that since they will eventually
die they should not eat.”
A Shanghai university graduate, Qi Guoqing, said he had quit his first job and
borrowed money from his father in order to trade stocks.
“I’m making 2,000 yuan (£133) a day,” he said. “I know the bubble will burst
but I think that day is still far off because the government needs to keep
things good up to the Olympic Games in 2008.”
However, a sample of 20 investors interviewed in Shanghai over the last week
revealed that many have not made any money as individual shares in small and
medium-sized companies have underperformed.
The rise in the index has been propelled by funds buying large-cap stocks,
said analyst Zhang Dejiang at Guotai Securities, noting that over the past
30 days on the “A” share index, 690 shares declined versus 280 shares that
rose.
Long term, the government’s plan is to sell off the non-trade-able shares in
state companies retained by their state stakeholders, potentially doubling
the capi-talisation of the stock market and creating a huge quantity of
equities to soak up excess liquidity.
Research by McKinsey suggests that, as a result, assets under management in
China could grow by as much as 24% annually over the next decade as
depositors are persuaded to take their savings out of low-interest bank
deposits, which at present account for 75% of personal-financial assets.
There has always existed a world of difference between Shanghai, China’s
commercial metropolis on the coast, and Beijing, its inland, fortified
political capital. But the psychological mood swings among Shanghai’s
speculators, hungry to profit from market volatility while keeping faith in
the state to guarantee that all will come right, speaks volumes for the
contradictions that China’s new capitalism has yet to resolve.
PRESSURE ON PAY
THE era of low inflation in industrialised nations due to the “China price”
of cheap manufactured goods may be drawing to a close.
Alan Greenspan, former chairman of the US Federal Reserve, was one of the
first economics gurus to observe earlier this year that what he called the
“disinflationary” effect of Chinese products on the world economy was ending.
The figures from China show that alongside the country’s dizzying growth has
come pressure for wage rises and improved working conditions – key issues at
the Communist party’s 17th congress this weekend.
Chinese urban workers have seen average annual incomes rise from the
equivalent of £513 to £906 over the past five years.
That hasn’t harmed exports. The country recorded a huge current-account
surplus and a record $1,400 billion (£684 billion) in foreign reserves this
year.
Chinese leaders are still addicted to the low-cost export model as a tried and
tested way to prosperity. Overall growth figures for the past decade of
about 10% mask the reality that, in major cities and enclaves on the
prosperous eastern seaboard, the rate is more like 18%.
Although the Chinese currency was technically decoupled from the US dollar on
July 21, 2005, the central bank keeps it tightly controlled in a narrow
range to the greenback. As a result, Chinese exports to Europe have surged
due to the euro’s rise against the dollar, creating new trade tensions.
The only theme that negotiators from China, the EU and the US can agree on is
that a return to protectionism would serve nobody’s interests.
