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Soaring 565 meters over the Beipan River in Yunnan Province, China’s Beipanjiang Bridge is the world’s highest, and dizzying to cross. President Xi Jinping must have felt like a tightrope walker on its deck when he called the Chinese Communist Party’s Politbureau to order last Friday to set the country’s economic trajectory.
China will finish 2020 with strong economic growth while Western economies are still groping their way out of the Covid-19 crisis, but its leadership has no room for complacency.
China needs a surge in productivity. As Tianjin University economist Cong Yi told the official daily Global Times, “Innovation will be of upmost importance in 2021, with much effort to be focused on making up for the lack of domestically independent and original innovation.”
Xi Jinping can’t make this happen without China’s big tech companies – Alibaba, Huawei, Tencent, Baidu among others. The risk is that China’s long-protected Internet firms will morph into monopolies that draw revenue away from other businesses without contributing to productivity.
China has a big hurdle to overcome. It was the only country to dodge an economic downturn after the 2008-2009 world financial crash, but it did so by flooding the economy with credit. The firehose approach to economic stimulus was effective but inefficient. Before 2008, GDP rose in line with credit growth.
After the crisis, China’s GDP growth fell to roughly half the rate of credit growth. The data in the chart below compare China’s nominal GDP growth to aggregate growth in credit to the nonfinancial sector as reported by the Bank for International Settlements (the last two quarters of 2018 and the first to quarters of 2019, when nominal GDP growth was distorted by food price inflation, are omitted).
As I reported in a November 25 commentary, China’s total factor productivity (TFP) growth lagged that of its Western competitors. China’s TFP has stagnated in the past 15 years, but so has most of the rest of the world’s.
TFP is notoriously hard to measure, given the vagaries of calculating capital inputs. The ratio of GDP growth to credit growth is cruder but more transparent, and it tells the same story.
With the national 5G mobile broadband grid on track for completion by 2024, China has multiple opportunities for breakthroughs in productivity. These include smart-city traffic management through 5G sensors and artificial intelligence applications; telemedicine; AI-driven medical research using China’s enormous data pool of digitized medical histories and DNA analysis; self-programming industrial robots communicating via factory 5G networks; and farm 5G networks that measure fertilizer, pesticide and water requirements and direct delivery of inputs via drones and driverless vehicles.
The declining, obsolete state-owned industries are dominated by unimaginative bureaucrats who have turned their control over employment into political fiefdoms and, too frequently, miniature mafias that leach state funds. By protecting its Internet companies from then more advanced competitors like Google and Microsoft, China allowed its Internet giants to flourish behind the so-called Great Firewall of China.
The Politbureau deliberations probably anticipate trade negotiations with the incoming Biden Administration. As I reported Oct. 23, Joe Biden may offer a reduction in American restrictions on trade with China in return for Chinese concessions that benefit American companies in the Chinese market.
That may be a win-win discussion, in which the United States will secure better market access, particularly for high-tech companies, while China will introduce competitors into the home market that shake up inefficient Chinese companies.
As Frank Chen reported Dec. 15, the Chinese government has slapped symbolic but stinging fines on several high-tech companies, including Alibaba and Tencent, for minor regulatory infractions. Regulators are warning the tech giants that “monopolistic behavior” won’t be tolerated.
A widely-discussed People’s Daily article this week complained that the big Internet retailers abused bulk purchases of groceries to push smaller distributors out of the market, calling on Chinese Big Tech to concentrate on technological innovation rather than monopolistic control of markets.
The early October postponement of Ant Financial’s IPO signaled the shift in Beijing’s attitude towards its top tech entrepreneurs. The surprise decision by the Shanghai and Hong Kong stock exchanges to delay what would have been the world’s largest-ever initial public offering and a potent symbol of national prestige followed a speech by Ant Financial founder Jack Ma dismissing public banks as mere “pawn shops.” This reportedly got under the skin of China’s leaders.
Ant Financial’s tone has changed considerably in the meantime. The leading politicial website guancha.cn reported today (translation by Google): “On December 15, Ant Group Chairman Jing Xiandong stated at the 4th China Internet Finance Forum in 2020 that in the past month or so, Ant Group Under the supervision and guidance, we will do our best to deal with the aftermath of the suspension of listing.
He revealed that Ant’s managers are earnestly studying the 14th Five-Year Plan recommendations and the central government’s series of policies on financial security and financial stability. They will conduct a comprehensive self-examination in accordance with the requirements of the regulatory authorities, and actively cooperate with supervision to further implement them.”
It sounds a bit like Cultural Revolution-era criticism and self-criticism, but the regulators had a point. Ant Financial claimed that its big data algorithms could assess the credit quality of microloans in the company’s rapidly-built $300-billion portfolio. Other Chinese big data practitioners were less convinced of the company’s claims, and the Chinese authorities acted quite reasonably when they required Ant to review its systems and increase its capital reserve against possible loan losses.
Accounting standards among China’s exchanged-listed companies are sloppy, and have allowed a higher incidence of balance-sheet fraud than in the West – although the United States has had its share of accounting scandals, including Enron and WorldCom. The US Congress has just passed legislation that will de-list Chinese firms on US stock exchanges that do not meet American criteria, and China’s government appears to be pushing firms to comply.
Last week the Hong Kong Stock Exchange for the first time obtained the audit papers of seven listed Chinese state-owned companies. Previously, the companies claimed that their audit materials were a “state secret.” This could set a precedent for similar disclosure by mainland companies.
The Chinese government has announced several other measures to cull the herd of weak or ethically-challenged companies, including an accelerated procedure for de-listing companies from China’s stock exchanges. China’s weakest stocks faced another blow after exchange regulators issued tougher rules to weed them out of the market.
Several Chinese companies fell by the 5% limit in yesterday’s Shanghai Stock Exchange session after regulators announced draft guidelines for de-listing. Notably, some of China’s largest securities firms commented that the more stringent regulations weren’t stringent enough.
While the Politbureau met last Friday, a parallel meeting of regulators drafted tougher anti-monopoly legislation to prevent Internet platforms from demanding exclusivity from the merchants they support. This affects not only the treatment of small competitors, but conflicts among the tech giants themselves.
Both Alibaba and Tencent, for example, reportedly have demanded that customers of their cloud business stay clear of the other. Alibaba, which competes with Meituan Dianping in food delivery, complained that Meituan tried to force its restaurant clients off the Alibaba platform.
Western criticism of Chinese governance aren’t necessarily malicious. Demanding that Chinese companies meet global criteria for reporting, transparency and competitive practice is a long overdue reform that is in China’s own best interest.
Perhaps the most important reform of all came in the context of the 16-nation Regional Comprehensive Economic Partnership, under which China will remove about 90% of the tariffs currently in place on Japanese imports. Tariffs and other barriers to imports have supported state-owned manufacturers, but they also have encouraged inefficiency and misuse of capital resources.
Subjecting Chinese companies to competition from the world market is indispensable to China’s efforts to climb out of its multi-year productivity trough.