Xi Jinping has good reason to declare victory over the Wuhan virus and order citizens back to work. If he doesn’t rev up the economy he will run out of money – or at least the right kind of money.
Xi can of course print any amount of Chinese yuan – but nobody much wants it outside of China since it’s not freely convertible.
The dire financial straits of the People’s Republic ought to force the Chinese Communist Party to modify its behavior for the better, but Beijing is getting help from unlikely sources.
First, Western financial firms are rushing to pour money – other people’s money, at least – into China. In early 2019, even before the Wuhan virus struck, Morgan Stanley Capital International increased its weighting of Chinese stocks. Tens of billions of dollars’ worth of overseas money – convertible currency – flowed into PRC coffers.
The Bloomberg Barclays Global Aggregate Index did something similar for the Chinese bond market, and the PRC got another $100+ billion in convertible currency. This is a lot of money and also “real” money. There is more on the way.
Second, the government sector in the US has piled on. At the national level the Thrift Savings Program has moved savings of retirees (many of them ex-military) into the China market. At the state level, in California, so has CalPERS, the country’s largest public employees’ retirement system.
When US senators and representatives challenge the wisdom (and the morality) of funding the CCP – an aggressive, capricious dictatorship that seeks to displace if not dominate the United States – the financial industry responds with the rhetorical equivalent of an extended middle finger.
It’s as if Wall Street and American commercial firms had done business with Hitler’s regime – helping it develop into a powerful military that planned to attack our allies (and us). Not to mention the immorality of dealing with a regime whose barbarities included sending its citizens to concentration camps.
Unfortunately, Wall Street and US industry did exactly that.
Is it any less wrong this time when the investment destination is the PRC dictatorship with its rapidly improving military, concentration camps, and a well-documented organ harvesting scheme that matches Josef Mengle’s deeds or even Japan’s Unit 731 in terms of depravity? It isn’t.
Like funding Confederacy
To take another historical analogy, a what-might-have-been-but-wasn’t, it’s also as if in early 1861 Wall Street and Yankee businessmen went all-in funding the Confederate States of America. Arming for a fight with the United States? No problem. Slavery? No problem.
CSA President Jefferson Davis should have been so lucky. If Davis wanted to buy Enfield rifles and medicines from the British he had to pay in Yankee greenbacks or gold.
Xi Jinping has the same problem Davis had. The shopping lists may be different, but the idea is the same.
In Xi’s case, almost anything China needs from overseas – food, oil, iron ore and technology – requires dollars, although convertible euros, yen, and sterling will do.
And that’s only for the necessities. China’s global ambitions also require convertible currency. So to fund Belt and Road projects or buy foreign technology and companies – or even buy foreign countries (or their leaders) Beijing must pay in currency somebody will accept.
The same goes for operating PRC embassies, paying off dollar bonds or covering the debts of overextended tycoons. And Harvard professors with under-the-table contracts with China’s Thousand Talents Program demand payment in dollars – and certainly not the supposedly convertible “offshore yuan.”
Also costing money is a disinformation campaign to blame the virus on the United States. (Readers will have noted I repeatedly use the term Wuhan virus, a term that Beijing intensely dislikes. I do that in the spirit of tit for tat.)
The Wuhan virus hit Beijing with a double-whammy when it seized up the economy.
The Chinese domestic economy faces the same problems as any economy – even if some Westerners think China is exempt since the CCP plays the long game and possesses the wisdom of the Orient.
When people aren’t working and shops and factories are shuttered, that spells trouble just as much in China as in the USA.
Chinese authorities can print yuan, reduce bank reserve requirements, offer subsidies, lower interest rates or order repayment moratoriums and the like. But even if Beijing gives money away it still must worry about unemployment, inflation (too much money chasing too few goods) and too much debt at all levels – from individuals to the central government.
If this gets out of control people lose confidence in the economy – which translates into loss of confidence in CCP leadership. Lose enough confidence and public unrest becomes likely – stoked by the brutality, dishonesty, and incompetence of the CCP response to the Wuhan virus outbreak.
That’s all bad enough. But without a convertible currency it is even worse. Beijing can’t just print dollars or euros. It has to earn them. So how does China earn foreign exchange?
The main ways: It exports products and gets paid in convertible currency. Or it attracts foreign direct investment as foreigners pour money (convertible currency) into the country to invest or to set up businesses. Beijing also pretends that it’s still a developing country and thus eligible for preferential treatment and the equivalent of financial aid from other countries and international organizations.
Other methods include buying foreign companies or setting up businesses overseas – and getting paid in convertible currency. These seem like win-wins but many Chinese businessmen earning dollars overseas are keen to keep their money out of China and out of the hands of the CCP.
So one sees Xi’s problem:
If China isn’t exporting, it’s not earning dollars (or other real money). And if the PRC looks chaotic, vindictive or prone to future biological disasters foreign businesses will move out – fully or partially. Or they will avoid future investment in China. All this adds up – and Beijing is left without enough foreign exchange to buy what it needs – or to do what it wants.
Too little FX
But doesn’t the PRC have plenty of foreign exchange?
No it doesn’t. Beijing’s $3 trillion in foreign exchange holdings isn’t much. It used to have $4 trillion. But it blew through a trillion overnight in 2015 when the Chinese stock markets – using the term markets loosely – crashed. Recovering from the Wuhan virus will cost much more.
There have always been telltale signs of Beijing having too little FX.
For example, Chinese citizens can only export the equivalent of US$50,000 a year. Exchange limits aren’t surprising given that moving one’s wealth out of the country – by hook or by crook – has been a national sport for the last 30 years. Remove exchange controls and China’s foreign exchange vault will soon empty out.
Even the ruling elite is in on it. Indeed, it might help if the top 100 Party leaders sold their overseas real estate and emptied their bank accounts and brought it all home.
And a notable feature of the PRC’s Belt and Road Initiative and the Asian Infrastructure Investment Bank is Beijing’s efforts to have other countries fund them – not exactly what a country flush with foreign exchange does.
Even more, foreign companies in the PRC cannot exchange their earnings into dollars without permission from the Chinese government: a point routinely overlooked by people who should know better.
As an American businessman with four decades in the China market noted, “China does not have nearly the pool of FX available to make good if 50% of the foreign investment community wanted to cash in their investments in 2020. As long as China’s currency is a controlled currency and not freely convertible, investing in China is contributing to a Ponzi scheme.”
In theory, Beijing should have to make some tough choices: The CCP can have the world’s largest navy and rocket force or a string of bases around the world, or it can have Belt and Road projects, or it can have a world-class health care system – and flush toilets for the 500 million citizens currently lacking them.
“Beijing pretends to be richer than it is,” a long-time China analyst commented. “They’ve been taking the fake-it-‘til-you-make-it path. China’s GDP simply doesn’t support the totality of the enormous projects they’ve committed themselves to.
“They can’t afford it all at once,” the analyst explained, “and that’s what they tried to do on the theory that it would all work itself out once they commanded the world. They are on a thin string, and Wuhan virus is wickedly expensive.”
Indeed, give 1.4 billion Chinese multiple shots of expensive medicine bought overseas and the Party’s $3 trillion reserve won’t last long. So best to just announce the Wuhan virus has kowtowed to the might of the Party – and let a chunk of the older (and unproductive) population die off.
In view of Xi’s designs against the United States and its East and Southeast Asian allies, not to mention the Europeans, US authorities will have to force the issue with America’s financial elite. It only takes a few laws and executive orders.
The financial class will howl, but the carnage caused to the United States and the free world by the Wuhan virus just might be motivation enough for Congress and the White House. And most American citizens will be fine with that.