Three Short Observations and One Long Observation

Short thoughts today before I fly out to New Orleans tomorrow.

1.) Although not the whole picture, I largely agree with statements given in this FT article about the global savings glut. This imbalance, and particularly Americas forced absorption of the imbalance, is why I believe so strongly in the trade conflict I wrote about in the beginning of December.

FT imbalances

Cross-border lending helped facilitate the credit crisis a decade ago. After the Asian financial crisis of the 1990s, many countries in that region decided that maintaining big foreign currency reserves was a prerequisite for financial stability. They sold bonds to their citizens and invested the proceeds in foreign — primarily US — assets. Another stream of money came from Germany, where post-unification wage reforms and European monetary policies created an exporting powerhouse. Still another came from the oil exporters, awash in petrodollars. These flowed towards America, too. The money washed up in the US housing market, driving up investment and prices.

…Since the crisis, low oil prices have eliminated a big part of the glut. The German and Chinese contributions, which fell after the crisis, are approaching 2007 levels again.

Unless one believes the United States financial system is unable to domestically fund its financial needs, one must believe this foreign money artificially drives up asset prices. Its all about capital supply.

2.) When writing about the trade conflict in early December, I predicted America would be forced to act unilaterally. That belief only grows stronger.

Here are joint statements from America and Germany regarding the abhorrent sentencing of human rights lawyers in China. If Canada, Australia, and the EU can’t work on a joint statement regarding human rights, do you think the world, to include current account surplus producing East Asian allies, will agree to stop domestic distortions that cause current account surpluses?

It is true that there has been some success on addressing obvious flaws in the One Belt One Road initiative, but that project was doomed from the beginning.  The Asian Infrastructure and Investment Bank as well as the One Belt One Road initiative were always laden with symbolic value and nothing else.

I hope I’m wrong, but I remain pessimistic.

3.) I think this blog post from Christoper Balding in which he describes the Chinese economy as fragile is a must read.

4.) For all the talk of reform, have we seen any meaningful economic reform under the Xi administration?

The first large economic reform buzzword to placate Western expectations was supply side reform, but the economy seemed to continue with business as usual. The second large economic reform buzzword to placate Western expectations was strategic deleveraging , but the economy seemed to continue with business as usual. The official statement after the 2017 Central economic Work Conference did not mention deleveraging at all. Deleveraging seems to have been replaced by “risk control” in the official party language.

So what was the tangible economic reform of the Xi administration? There are two: urbanization and new technology investmentFor all the talk of debt in Western media, China has signaled every intent to try and grow out of its debt burden.

Regarding urbanization, the new leadership pins high hopes on the New Urbanisation Programme to transform China into a domestic consumption-driven economy, and to promote the country’s rural and urban integration for social equality.  This has resulted in the creation of more New Areas, the latest being Xiong An. The ambition to create new cities from nothing doesn’t get a lot of Western press, but this couldn’t be bigger news in China, a country whose entire wealth is denominated in real estate inflation.

Map of Xiong An

Here is Chairman Xi looking at a map of Xiong An.

xiong an money

Here are the words 雄安新区 (Xiong An New Area) on top of money.

xiong an triangle 1 Here the positions of Xiong An, Beijing, and Tianjin are cleverly marked with a triangle.

xiong an triangle 2

Increasingly clever triangle.

xiong an triangle 3


Chinese urbanization seems to include mass eviction of poor migrant workers- forcibly removed from their homes with little notice into the freezing northern winter at a time when the local governments have proven inept at providing heat – as well as the idea that new cities will allow these poorer Chinese to buy into the fixed asset price inflation dream that has made all of China rich.  The plan is to raise real estate prices in rural area so those asset holders become rich, eventually being able to cash out and increase household consumption. That is the plan being verbally and visually implemented: evictions and strategic housing price inflation.

The second policy, which is only just being seriously discussed in Western Media is China’s push to be the leading producer of 21st century new technology. Besides the serious AI race, China has openly admitted to targeting robot, smart car, rail, ship building, agriculture, medical devices, and new materials technology. Western media is only just realizing that China is a serious threat that foreign firms might not be able to compete with.

“Ah, but China, like all state planned economies, isn’t innovative. Western firms will be able to be more innovative and competitive!”

History disagrees. China was effective in destroying the American solar panel market and it took years for the United States government to begin a response. There is no way to compete with a system like China in which the state can operate at large losses, price commodities at will, and funnel huge sums of money. Take this quote from the linked NYT article:

American manufacturers say the cheap panels have been unfairly financed by the Chinese government. Chinese manufacturers have benefited from cheap loans from government-run banks. Even some Chinese companies that have struggled with losses and had trouble making loan payments have been able to stay afloat.

Such manufacturers in China “are technically insolvent, but they still get capital.”

As I previously wrote, governments are currently unable to create policy to counteract the extreme depth of subsidies Chinese companies give and receive. This is in a sector the American government supports and encourages. These are jobs and companies America wanted.

The battle for new technology is already underway. Take CRRC for example, a rolling stock manufacturer. This report by SCI is illuminating.


CRRC market share

CRRC market share 2

CRRC is able to dominate the global rolling stock market, currently providing transportation solutions to Boston ($576 million), Chicago ($1.3 billion), and LA ($647 million). Herein lies the rub, large SOEs like CRRC no longer just compete in rolling stock. They now have an acquisitions subsidiary in Beijing focusing on buying new technologies (English starts on page 3).

CRRC is now actively trying to buy out Western environmental systems, new energy, new materials, agriculture, robotics, medical equipment, and recreational engineering companies, companies and technology completely foreign to rolling stock. The desired result is to increase the value of Chinese companies, increasing wages and Chinese household consumption.

China has noted for more than a decade that its economy was unbalanced. They have acknowledged Western concerns, created thrilling, often obfuscating narratives, and begun addressing these problems in a unique take on outgrowing a classic investment driven, debt creating model.

There is reform in China, but its not the news you wanted to hear.


A Trans Pacific Trade Conflict is on the Horizon

When Xi Jinping lauds, “markets as playing a decisive role in resource allocation,” do you think he intends to A.) Implement structural reform to decentralize resource allocation, generally weakening state control, B.) Create a narrative to shield China from global governance, OR C.) Other?

I’m going with option B.

When Xi Jinping signs “cyber espionage agreements ,” do you think he intends to A.)  Implement structural reform to stop cyber theft, generally weakening state control, B.) Create a narrative to shield China from global governance and retaliation, OR C.) Other?

I’m going with option B. This blog post will describe unique state control mechanisms within China, and I will show how recent laws are not structural reforms in nature, but buzzwords to create a narrative. This narrative is important because global governance structures such as the WTO are unable to effectively govern. Countries wanting to limit China’s foreign influence, I argue, will now have to do so unilaterally, as part of larger trade agreements, or accept Chinese influence all together.

The Nature of the Problem

Call me crazy, but I have never considered mixed ownership reform in China, where targeted SOEs sell roughly 30-40% equity to private investors, actual reform.

Per Caixin, my emphasis added:

Most big state-owned companies that have been listed to date remain firmly in control of the central government, which typically maintains 50% or more of the company’s shares. Under that arrangement, the central government sees anyone who buys shares on the open market as purely financial investors, and typically gives them little or no say in the company’s management or strategic planning. The new plan treats investors as strategic partners who can profit through their equity stake if the partnership succeeds. Those partners have a specific mandate to work with the state-owned company to create new products and services that can be jointly developed and marketed by both sides

To think that China or the Chinese Communist Party wants private strategic partners is laughable, however what is genuinely absurd and intellectually insulting is the idea that the central government retains control of these companies by retaining a majority of given shares.

The Chinese economy is unique when considering its combination of irregularities which involve state control.  Let me introduce three irregularities before circling back to, global governance obfuscation.


First, SOEs have all assets held by the State-owned Assets Supervision and Administration Commission of the State Council (SASAC). Per Wikipedia, my emphasis added.

The State-owned Assets Supervision and Administration Commission of the State Council (SASAC) is a special commission of the People’s Republic of China, directly under the State Council. It was founded in 2003 through the consolidation of various other industry-specific ministries.[1] As part of economic reform, nearly half of state-owned enterprises were sold off in the form of stocks. SASAC is responsible for managing the remaining SOEs, including appointing top executives and approving any mergers or sales of stock or assets, as well as drafting laws related to state-owned enterprises. As of 2017, its companies had a combined revenue of more than 23.4 trillion yuan (US$3.6 trillion) and an estimated stock value of 50 trillion yuan (US$7.6 trillion),[2][3] making it the largest economic entity in the world

Every SOE is actively managed as a portfolio company in the same way that a private equity company might treat its holdings. Each level of government replicates this structure. Provinces and municipalities have their own SASAC, reporting up to the central government’s SASAC, and these local agencies serve as the controlling shareholders of the critical SOEs in their regions. For example, Jiangsu Province’s SASAC controls the province’s key enterprises in sectors such as agriculture, hospitality,
minerals, and so on. Imagine if one U.S. government agency controlled General Electric, General Motors, Ford, Boeing, U.S. Steel, DuPont, AT&T, Verizon, Honeywell, and United Technologies.

Second is the National Development and Reform Commission (“NDRC”). The NDRC is the present-day incarnation of the State Planning Commission (“SPC”). During Mao’s reign. The SPC was the central planning authority that oversaw the Soviet-style planned economy. The NDRC oversees the creation of China’s Five-Year Plan, a role that the SPC once played. But unlike other countries, such as India, where the Five-Year Plan serves merely as an aspirational guide, the NDRC has several tools available to implement its plan. The NDRC is in charge of pricing commodities that are not yet completely set by the market. Examples include electricity, oil, natural gas, and water. This allows the Chinese state to set input prices, thereby affecting costs. In addition, whenever a large infrastructure project or investment requires government approval, the NDRC is the final authority, regardless of whether the entity seeking approval is an SOE, private company, foreign company, or joint venture. Examples include new bridges, factories, and even a Disneyland theme park. This oversight provides the NDRC with broad power to affect market supply and capacity.

This structure is replicated at the provincial and local levels (similar to the structure of SASAC). Each province and municipality has its own Development and Reform Commission (“DRC”), which coordinates economic policy for that region. The provincial/local DRC reports vertically to the NDRC as well as horizontally to the corresponding level of government. This structure ensures that the state has the full ability to coordinate economic policies both within and across sectors and regions.

Third, the Party is everywhere. Although China is a one-party state, the Party functions as its own organ independent of the state. For example, although the Party oversees the
state’s public security and judiciary, it also operates its own separate investigation, detention, and disciplinary processes.  The Party appoints the leadership of SASAC, the NDRC, and Central Huijin, as well as the various ministries charged with overseeing the economy. It also controls appointments of CEOs and top management of SOEs, as well as  banks.

Each and every organization with more than three Communist Party members must form a Party committee within the organization. This requirement extends not only to SOEs, but also to private companies and foreign firms. The inner workings of the party committees are not made public. Nevertheless, this structure provides the Party with a high degree of potential oversight over Chinese corporations or any group in China.

Western Misreadings

President George H.W. Bush visited China  in 1998. When meeting with Premier Zhu Rongji, President Bush asked how China’s privatization plan was proceeding. Premier Zhu, obviously surprised, responded that China was not undergoing privatization but simply corporatizing its state assets. President Bush reportedly responded, with a nudge and a wink, and when Premier Zhu Rongji described the process, Bush responded by saying “we know what’s going on.” (McGregor, supra note 26, at 43.)

George HW

It turns out, he didn’t know what was going on.  Coming off a victory in the Cold War Western expectations for China centered on the inevitability of democracy, capitalism, and universal values codified in Western states.

This is not to suggest that the Chinese concealed their true intentions. Throughout the 1990s, Chinese leaders openly and repeatedly stated that they sought to forge their own unique economic and political system. China’s reformers are often painted as adopting an incremental, gradualist approach, however at no point has China and the Chinese Communist Party sought, vocalized, or signaled towards what the West dreamed of, a China that reformed away communism for democracy and capitalism.

Foreign observers never stopped looking for the next sign of reform, never stopped believing that Chinese reform would fit their vision. Articles like this, written four years ago, read as comedy today, my emphasis added:

The Chinese government’s central economic planning ministry (NDRC) dominated economic policy-making in the Hu-Wen era, and came to epitomize the model of state capitalism associated with their decade in office. The organization’s approach to economic management, however, is in direct conflict with the vision laid out by Xi Jinping’s administration which has promised to give a “decisive” role to market forces. Much uncertainty remains over NDRC’s future although the organization shows signs of positioning itself for a new role as a macro-economic coordinator that is relevant to a more market-driven Chinese economy.

Yes, only now is Chinese state control in conflict with promises and talking points. These promises, just like promises on cyber security, are empty. I contend that no one should take merit in Chinese government promises.

Although this blog post will focus on economics, obfuscation is not limited to one sector. China recently held a forum on human rights.  Details are worth reading (full text and propaganda ). My favorite quote from the Xinhua propaganda piece, my emphasis added:

Although the topics of the events varied from economic globalization to cooperation among political parties, the messages in Xi’s speech and letters radiated a China vision of global governance


When China joined the WTO, there was a fifteen year period in which countries were able to designate China as a NME (non-market economy). That designation would allow countries to raise tariffs or limit Chinese imports. That period has ended, and now, just over 15 years later, China has done well to obfuscate governance able to address China’s exporting of domestic imbalances. My key contention is that some of China’s structural changes are designed to obfuscate global governance, specifically the WTO. The most often mislabeled reforms are SOE ownership reform and capital allocation mechanisms. These are buzzwords designed to placate developed economies.

I believe, purely as personal conjecture, that China has been preparing for a trade war for some time, and China correctly identified the WTO as where the first shots would be fired. China has gone to great lengths to obfuscate how its markets function, rendering the WTO unable to effectively mediate the effects of their domestic imbalances. Perhaps most importantly, America is at least a decade behind the ball.

Testifying before Congress in 2000, U.S. Trade Representative Charlene Barshefsky declared that the “agreement deals appropriately with the special and unusual characteristics of the Chinese economy. She then boasted that “no agreement on WTO accession has ever contained stronger measures to strengthen guarantees of fair trade and to address practices that distort trade and investment.”

She was wrong largely due to fundamental changes that enhanced state control starting in 2003 (SASAC, NDRC, and the Party). While China has undergone large structural changes, the WTO hasn’t had a large structural change since the Uruguay round of negotiations concluded in 1994.


WTO Headquarters in Geneva

To be sure, China’s status in the WTO has been up for debate, a debate that in recent months has escalated. This article by Xinhua is illuminating. Besides describing American objection to Chinese trade practice as “reckless,” the problem at hand is easily summarized: “In fact, the case has nothing to do with whether China has been granted market economy status or not, as there are no standards in the WTO rules for the status.”

The roughly $600 billion in bilateral trade is obviously at stake, but the Chinese economic system, designed to export Chinese savings, is also at stake. China can hardly afford to forcefully adjust from its debt creating model. To safeguard their system and the ability to export domestic distortions, China has been all too happy to proclaim itself as the defender of globalization. It has everything to gain from preserving the status quo.

The problem the WTO has failed to address is, “what entities should be considered part of the state?” This is critical because the WTO prohibits certain forms of subsidies while allowing recourse against subsidies with adverse trade effects. However, these rules only apply to subsidies provided by governments and their associated entities. The WTO tried to preempt loopholes by referring to entities separate from government, but controlled by the government as public bodies, which are subject to government like restrictions. The greatest issue regarding Chinese public bodies are groups providing subsidies as opposed to receiving them.

If GE capital provides a preferential loan to GE aviation, there is no foul play, because it was not state directed. However, in China the entire banking system is under state control. Remember, every SOE adheres to state planning provided by the NDRC and is under control of SASAC.

In this 2010 case the United States argued public bodies were organizations with a majority stake held by the government. That was rejected. In this 2014 case the United States argued an organization is a public body if a government can control a companies asset as its own. That was rejected. The WTO, in the appellate court’s decision in 2010, further gave guidance to what constitutes a public body. A public body, the appellate body declared, “must be an entity that possesses, exercises or is vested with government authority.” Where an express statutory delegation of authority exists, the inquiry is straightforward. However, even without express delegation, an entity may nevertheless
constitute a public body. What is important is “evidence [of] a sustained and systemic practice” of the entity “exercising governmental functions.” Ownership, by itself, does not suffice. Evidence must show that “the formal indicia of government are manifold” and “such control has been exercised in a meaningful way.”

The Chinese government’s reforms over the past few years have strengthened the party and state control, while loosening the formal indicia of government. The Bank of  China may have quasi government intent written into its being, but China has effectively deleveraged the state control language of its economy and largest domestic distorters.

America’s New Response

America after 2010 has decided to bring cases to the WTO to halt unfair trade practice. Here is Obama stating how his administration has brought more cases to the WTO. Note, those cases failed to create a victory for the United States, hence not bragging about winning cases at the WTO, merely sighting the number of brought cases. China has cleverly adopted reform and buzzwords to combat American discontent.

Recent ‘reforms’ don’t seem to be reforms at all, and the only effect I can see from reforms in the past 7 years is to strengthen China’s ability to obfuscate WTO global governance. China has privatized state assets before, and real reform for SOEs would be getting rid of NDRC and SASAC involvement as opposed to privatizing minority stakes. It seems more likely that those reforms are aimed to get ahead of American public bodies arguments. I’d say the same thing for resource allocation statements.

And herein lies the rub. China is succeeding in the WTO. The WTO as it stands today is unable to mediate issues relating to China. The laws are 20 years old. Perhaps more importantly, can the WTO make rules for one country? Could you imagine a negotiation where the world agrees on Chinese trade practices, trade practices that are largely emulated in East Asia. China presents a unique rule set due to its sum of rare state controls, but many countries in Asia, not to mention Germany, export savings.

So it is now that, faced with years of stinging failure under the Obama administration to fix the issue, Democrats and Republicans, in the midst of a partisan bloodbath, come together. Only now, following New Zealand and Australia, is America realizing its losses and vocalizing its discontent. Chinese tech companies are on the brink of developing world changing technology on American soil, while American companies struggle for basic market share across China. A new technology Chinese panopticon is no longer page 7 news with the realization that human rights are indeed not improving. As the left rails against Donald Trump, there is quiet but firm agreement across the aisle that reciprocity is needed. Allies of China bring new threat of nuclear holocaust against a people who were fat, happy, and oblivious to the machinations of the East Asia. No longer.

It is under these conditions that the United States now has abandoned the WTO. The Section 301 investigation against China is serious. I expect the United States to move unilaterally before the 301s stated deadline (1 year). I expect the United States to try to fix its balance of payments issue through trade disagreements with China. I expect the United States to fail in addressing economic imbalances. I expect the wider world to support China right until the very moment it falls under the weight of its debt burden.

Obama got a peace prize upon being elected. I don’t expect any aid from the developed world with Trump in office. The pieces seem set. China under Xi has failed to reform. America under Trump has abandoned global governance.

The sky is grey today.




The State of the Chinese Economy

First, some house cleaning.

My current schedule doesn’t allow the long-winded, big picture style that I seem so fond of. I like blogging, and I plan to continue blogging. That said, for this blog to work, I need to shorten the scope to something that fits my schedule and feels somewhat unique. Pursuant to that idea, I plan to post more pictures that I take in Beijing with a somewhat regular frequency- at least once per week.

Knowing myself, I will certainly try to fit small, localized anecdotes into a bigger picture of understanding China, however the economic talk is anticipated to dull to a mummer. Since I am anticipating economics to dull to a mummer, I am deciding now to go out with a bang and give my general economic thoughts regarding China as of Sunday, July 23rd.


Since 1978, when China began its process of reform, China’s share of world GDP has increased more than 600%. Powered by huge amounts of investment, China surged to ‘catch-up’ to the world that seemingly left it behind. With fervent nationalism that extols the arduous  journey of a lovable underdog, the Chinese economy is often seen as a well oiled machine, destined to set the rules of the developed world. Rule sets be damned- there is a new ideology and way to do business.

China’s Share of Population and GDP


Chinese Real National Income Per Person


McKinsey has reported for more than a year that Chinese consumer confidence is at an all time high. As speculative asset prices soar, Chinese purchasers feel on top of the world.

But as I sit in my small apartment in Beijing, my view of the Chinese economy couldn’t be more bleak. I don’t believe China is the next super-power. I doubt if the country can survive the next decade in its current form.  Forget any foreign powers. Forget trouble in the South China Sea. Forget China’s aide to North Korea. Look at one graph: China’s growth in debt.

Chinese Debt

Now, this is the part where a lot of people will list my implicit assumptions about the nature of Chinese growth- which I have no mention of here- or compare Chinese debt to other regions of the world. Ignore that for just a moment.  I personally don’t believe, based on anything I’ve seen in China, that debt growth can stop. I think it must rise, and I don’t think debt can rise forever.

I don’t believe that economics is a cannon taught to students and the outside world. Instead, economics is a set of theories that try to explain the world as we see in evidence and mechanisms. So, for example, some people believe in the capital asset pricing model (CAPM)- which, in non statistical language, states that an asset with a high co-variance with the other assets in the portfolio adds to the risk of the portfolio. The asset’s returns move in the same direction as the returns of the other assets, and these movements are large or volatile. The problem is that this financial economic cannon is not observed or perhaps true. For further reading go here or here. You could also read this pdf.

In fact, I believe accurately valuing capital and risk will be the death of China with the dagger itself being a continuous rise in debt.  As countless others have stated, Chinese households share an incredibly low share of China’s GDP. This means that China’s wealth is increasingly tied to speculative assets and promises of future wealth creation.


But it get’s worse and more difficult to explain. Even if China fixes the nationally directed causes of it’s lack of household wealth, it hasn’t built modern institutions at a local level to price correctly or lessen its debt burden.

It is true that interest rates, state owned enterprises, pollution, lack of credible investments, a large population (this deserves more mention), and law have led to China’s lack of household consumption at the national level. Although many of these factors have already changed and many could be changed quickly (if Beijing was able to control its vested interests, and as I look at coal use and increased business with North Korea, you’ll have to excuse me for having doubts) the culture these factors have created and the lack of local institutions will ensure that the factors for debt creation and price distortions continue.

Let me give you examples.


1.) Beijing can’t enforce an indoor smoking ban.

2.) Do you remember that woman that was mauled by a tiger last year in Beijing, the one that exited her car in a carnivorous animal enclosure (video). That same enclosure makes headlines with relative frequency.  Examples include this family that exited their vehicle in March and this black SUV feeding a bear yesterday.

lets get killed.jpg

lets feed a bear

3.) There isn’t developed code enforcement. Companies that break rules or operate inefficiently aren’t proportionally dealt with. On Thursday, July 20th this year an estimated 50 policeman raided a street with popular nightlife destinations. The Beijinger reported that all stores on the street were ordered to hand-over POS systems. The Beijinger also reported that three divisions of police were present for the shake down. The police descended on the street for code enforcement. The code in question: outdoor seating. It took 50 police from 3 divisions to tell restaurants and bars to remove patio furniture from the sidewalk.


4.) This Caixin article that describes perhaps the most valuable real estate in China.

From the article:

Beijing) – An unsettled land deal between a subsidiary of Anbang Insurance Group and the Beijing city government has left several real-estate developers in limbo and the land they paid billions of yuan to sit idle for more than six years. Across the street of the busy construction site of the 118-story China Zun tower, which will be the tallest building in downtown Beijing, several land plots enclosed by brick walls have remained barren and empty, surrounded by mushrooming skyscrapers in the city’s central business district, where land available for construction has always been scarce and pricey. “It has been idle like this since I came [to work] here about five or six years ago,” a gate guard said. The four plots, labeled by city land authorities as plots Z3, Z4, Z5 and Z6, are adjacent to one another in the same block, within sight of the landmark World Trade Center towers in the eastern part of Beijing. They were known as the last untouched land in the central business district. In a highly-watched auction in December 2010, the four plots, with combined construction space of 580,000 square meters, were sold to different companies for a total of more than 11.8 billion yuan ($1.72 billion). But construction on the plots never began. Sources close to the matter told Caixin that development has been hindered due to “government reasons,” as the Beijing Municipal Bureau of Land and Resources hasn’t been able to transfer the land to the bidders.

According to a document from the Beijing land and resources bureau seen by Caixin, CBD Development said it won’t transfer the land because needed work hasn’t been finished for preliminary development and it wants a larger fee for its job. The dispute has blocked further development on the land. A fixed rate – usually 8% of the total costs of initial development – is paid to preliminary developers as profit. But “Anbang is not willing to take the fixed-rate payment,” an industry source said. “We have repeatedly negotiated with the government, and officials have talked with the preliminary developer many times – but nothing works,” said Xu Li, chairman of Shanghai-listed Beijing Vantone Real Estate Co., which bought the Z3 plot with partners. Beijing Vantone and partners made a full payment of 2.5 billion yuan for the plot as early as January 2011 and planned to start construction of a commercial and office complex on the site in 2012. The Z3 winners estimated that the complex would generate about 700 million yuan in rent every year for investors. But not a single brick has been laid on the ground for the project, leaving the investors holding losses and unpredictable risks.

The most valuable land in Beijing was sold years ago and remains undeveloped. The CEO of Anbang is currently under arrest. There is no new information about this land deal. 1495884731555028

My purpose of this blog post is to show the difficulty of rebalancing, and I believe the course is already set. China won’t rebalance. The inefficiencies and institutional constraints are simply too great.  The problem is that the scope is seen as a national problem: national income accounting, national policy, the centrality of a Marxist state.

This is wrong. I highly recommend reading this article from the Economist. Some key points from the article:

1.) There are still more than 150,000 SOEs in China.

2.) Two-thirds are owned by local governments.

3.) These state owned enterprises eat about half of all bank loans though they represent less than one-fifth of the economy.

4.) State owned enterprises are largely holding China’s increase in debt.

From The Economist: Chinese SOE fixed asset investment


Chinese private companies can’t find valuable investments within China, but China is leaning on them to keep investment going. State owned firms aren’t efficient, and they’re largely distorting at a local level that didn’t develop institutions necessary to help private firms.

The Chinese government has done nothing but obfuscate for 4 years, although there have been countless buzzwords and reassuring speeches.

Also from The Economist:

Back in 2013 Mr Xi seemed to grasp that change was needed. He vowed that market forces would play a “decisive role” in allocating resources and declared that reform of SOEs was a priority.

Decisive role indeed. I believe the course is set.




Pierce Norton is a corporate trainer living in Beijing, China. Before moving to China he served 5 years with the United States Army.











位于“锈带”上遭遇国际不平衡的州似乎从未在经济未来中获得同等机遇的描述也足以使得该自以为是的全球主义者获选。但是,扭转对结构政策的不满也颇具难度。中美每年的贸易额达650,000,000,000美元,无论中美关系当前的问题如何,美国出口到中国的大豆和飞机,企业管理中复杂的全国供应链以及消费者购买的服装和iPhones 手机都将因此转变而受到严重影响而趋向更严峻的方向。当选总特朗普的主张存在着非常明显的缺陷。



















由Business Insider 提供的图表全面的展示了整体走向:


中国国内的经济弱点造成了资本的大量流失。中国的增长模式并非全新而独树一帜的,也非难理解的,它通过人为低利率将资金从储蓄者和消费者转移到投资和生产者;缓慢的收入增长;隐藏的税收;环境退化,以及货币低估。其结果就是阻碍家庭收入的增长,导致一个国家具有更高的储蓄率(这是一种经济重复性)。 我们可以非常清楚地看到这种经济模式对家庭消费占GDP的影响。

Consumption  - China.PNG








Of US-China Trade Wars

Before today’s post, I would like to list the websites that I find critical to staying recent on the Chinese economy. I have taken graphs and data from them at various points in my blog:

Tariffs, Trade Wars, and Confusion

Donald Trump is now the President Elect of the United States of America. Although he lost the American popular vote, Trump, a Republican, was able to win the presidency through securing traditionally Democratic states, the Rust Belt, of Wisconsin, Michigan, Pennsylvania, and Ohio. Trade was the deciding issue.


Trade imbalance from Asian economies are forced on America, resulting in asset inflation

Indeed, international trade is now dominating headlines, and Trump, who is still days away from assuming his position in the White House, is already being touted as ‘tough on China.’ The economic discourse regarding Trump’s promise to label China a currency manipulator and impose a unilateral 45% import tariff on Chinese goods is muddled at best. At its worst, laymen and pundits alike are seeing great opportunity for US-China conflict regarding trade.

The problem with current analysis is that it directly addresses the populist rhetoric that won Trump the White House, but Trump’s rhetoric is just that- rhetoric. One of the many reasons main stream media fundamentally misunderstands President elect Trump is those  on the left take him literally and not seriously. Trump supporters took him seriously but not literally.

So how can we better understand coming conflict and possibility of a trade war? How can businesses hedge for the future? How can we understand trade between America and China in 2017?

On America

Donald Trump sees the chronic U.S. trade deficit as a problem that puts limits on growth. Most noteworthy, he has missed the deep-seated structural imbalances of the world only to abrasively confront the symptoms of those structural imbalances .  Identifying and attacking symptoms of globalization’s deals is what he has done : stopping the 12-nation Trans Pacific Partnership (TPP) signed last year and on similar talks with Europe, insisting he will renegotiate NAFTA, talking tough on China, and threatening to impose tariffs on U.S. companies that relocate jobs abroad. Changing the structure of the world’s largest economy is going to be a long, contentious affair, so if there is a US- China trade war I expect to see the first policy signs from China. There may be noise from the Trump administration, but that should not be confused with effective, enforceable action.

Identifying international imbalances to those left behind in the Rust Belt who were never given a fair chance at the economic future described by smug intellectual globalist may be enough to get elected. However, turning that anger to structural policy is going to be difficult. There is $650 billion in trade between the U.S. and China each year. Whatever the shortcomings of the current relationship, American exporters selling soybeans or airplanes to China, companies managing complex global supply chains, and consumers buying the clothing and iPhones they make could all be severely affected if it took a turn for the worse. There are very simple gaps in President Elect Trump’s propositions.

The most dramatic move being considered is the so-called “border adjustment tax”: exempting exports from the corporate income tax, while imposing it on the value of all imports. Exporters would obviously see a big tax cut, while companies that need to buy inputs or merchandise from abroad could end up paying more taxes, even at a lower rate. Even if exchange rates eventually shifted to cancel out the impact, as many anticipate, the price adjustments could be highly disruptive, with some better able to cope than others, both at home and abroad. This border tax seems to be the first large trade weapon, and it will take, at best, months to materialize. I firmly expect meaningful trade action regarding the value of RMB to be implemented before any Trump tax policy. Trump’s tax policy is looming large, but numerous questions have yet to be answered.

How does President Elect Trump choose to address the fact that 37% of China’s exports to the United States in 2015 consisted of value-added imports from other countries? Trump’s top advisers put great emphasis on closing the U.S. trade gap as a way to boost growth. Which growth do they intend maximize, employment or GDP?

Trade imbalances reflect patterns of consumption, savings, and investment embedded in the broader economy, at home and abroad. Ironically, Trump’s other policies—debt-funded fiscal stimulus and encouraging U.S. companies to bring home overseas profits, for another—affects these factors in ways that are actually likely to widen the trade deficit.

Deutsche Bank has given a list of industries that President Elect Trump may target.


Deutsche Bank has also given a list of industries that China may retaliate against.


Will these companies, representing the lives, fortunes, and hopes of many, go quietly into the night? Whatever the talk of trade war, the democratic process of changing the way these billions of dollars move is going to be long and contentious. Because the United States political process will take a long time, I fully expect important trade policy to first come from China. These first Chinese policies, which RMB seems the most immediate, will shape American response. 

Americans should be more concerned about market access (shown below), and how to create value in China’s inevitable economic rebalancing.


As he enters office, Donald Trump faces a difficult set of choices. The key to growth—not just in America, but in China, Europe, Japan, and elsewhere—lies in tackling challenges, and laying foundations, that often come at a short term cost, in exchange for a longer term payoff.

No country has such an immediate decision to make regarding short term cost in exchange for a longer term payoff as China.

Change is coming to China

Donald Trump has appointed Peter Navarro, author of Death by China and The Coming China Wars, as the head of a new United States national trade body. Navarro has written that China practices economic warfare on the United States through mercantilism. In his book Death by China, Peter Navarro estimates that the RMB is overvalued by 40%. Don’t panic.

It foolish to panic and speculate about Chinese international policy from America for three reasons. First, China has a more urgent timeline to address domestic economic imbalances (large capital outflows, low consumption,and soaring debt). Second, China has more meaningful policy firepower at its disposal. Third, American policy will take longer to draft, ratify, and implement due to obvious political realities. No one has more need to address economic distortions resulting in large trade surpluses than China, and domestic changes from the Xi administration have a measurable deadline.

No economic issue looks to be more contentious than Trade between America and China in 2017, because it will change how we frame the Chinese currency debate in which President Elect Trump has often referred.

Due to a wide range of poor economic conditions, money is leaving China. In December $82 Billion left China. Roughly $800 Billion left China in total in 2016.  Instead of allowing large changes in the exchange rate, China is selling foreign exchange reserves and pursuing harsher penalties against capital outflows. There are at least two immediate problems with this strategy: foreign exchange reserves can’t last forever, and the largest trading country in the world, which is equipped with a $33 trillion banking sector, cannot  implement complete capital outflow control. Chinese reserves will deplete before the United States could make a justifiable case of currency manipulation that entails corrective action.

This image from Business Insider illustrates the overall trend well.


Capital is leaving China due to economic weakness at home. The Chinese growth model, which is not new; unique; nor difficult to understand, transfers money from savers and consumers to investments and producers through artificially low interest rates; slow rising wages; hidden taxes; environmental degradation; and an undervalued currency. The effect of this has been to retard the growth of household income, which results in a country having a higher savings rate (this is an economic tautology).   We can see the effects of this economic model very clearly in the household consumption share of GDP.


Personally, this chart is surreal to me. It is the most important chart that describes China today, and few people understand its depth and think it is normal. I digress.

This chart from the world bank shows that Chinese household consumption is about half of the global average. If Chinese household capture a global historically low percentage of wealth  created in their country, where does the money go? It goes to investment. Here is the rub; the investments aren’t returning money; the investments haven’t been returning money for years. For the year 2016, debt rose by 40-45% of GDP while nominal GDP grew by less than 8%. Chinese debt cannot rise at this pace for much longer. Decreasing the national savings rate (not to be confused with household savings) is in America’s interest, but China’s interest is immediate. Crippling debt would hinder Chinese growth, as it did in Japan and much of Latin America in the 70’s-80’s, for at least a decade.

So, what’s the point? America is unhappy with absorbing Chinese economic imbalances, however China has the largest and most urgent stake in solving its own economic imbalance in capital outflows and debt growth.  These two problems must be solved in the immediate future to avoid flat economic growth and rising unemployment. The domestic policy firepower that Chairman Xi Jinping wields is greater than America’s ability to influence Chinese distortion symptoms. The point for those interested in China is to track changing domestic policy and the winners/losers it will create. For example, raising interest rates will have a greater effect on companies that are leveraged or  unleveraged. Raising the value of the RMB will hurt exporters, but raise the purchasing power of Chinese consumers. I don’t want to speculate of domestic policy in China. Only a select few people in the entire country have a voice in the process, and economic analysis here increasingly turns to political speculation. It is worth repeating due to its importance: yes, the value of the RMB will be contentious, however domestic Chinese policies will be more important than words or actions from a Donald Trump administration. Chinese businesses should focus on the many ways that the Chinese economy must rebalance in the immediate future.

Encouraging the use of “comrade” in China

During the past month many Western news sources have carried stories about increasing the use of the word “comrade” in China.  However much mainstream media attention has been abstruse and often times virulent in painting current caricatures of Chinese life.

For example, here is China daily on the subject:

…in March this year, the Shanghai government published a notice to all officials encouraging them to set an example to the people and start calling each other “comrade” (tongzhi,) once more. According to the brief, comrade was deemed preferable to the more hierarchical term “boss” that has been adopted in China’s halls of power. Comrade, the notice stated, should be adopted both for spoken and written forms of address.

If you compare the China Daily piece to this New York Times piece, you will find similarities. Perhaps most strikingly is their differences, most notably time. The China Daily piece was published in 2003. The New York Times piece was published on November 16th, 2016.

This ‘comrade’ article has been circulating in some form for more than a decade by various news sources, and it shows an absence of basic world knowledge.  The annual publication of appall at the encouragement of comrade besmirches Western media and provides evidence of an inability for media to think outside its borders. Let me explain further.

Using the term comrade has been law for party members since 1965, when the party declared hierarchical titles “a decadent practice of the old society.” Using ‘comrade’ is not a fashion statement.  It is law. It has been law for years. It’s a communist country, and this is the law.

Where does the confusion come from?

So why is some variation of this news story reported so often? There are two reasons. First, comrade (tongzhi 同志) is a common word to describe a homosexual in China. Here, in 2012, is CNN describing how official dictionaries only list the “traditional” meaning of tongzhi and not its homosexual slang:

“It’s unacceptable that the ‘gay’ meaning of ‘tongzhi’ was excluded from the dictionary, a reference book written for all, simply because of the compilers’ own preferences and values,” Nan Feng, a gay rights activist told the state-run news agency Xinhua.
“Tongzhi” serves as a substitute for “tongxinglian,” which is the formal Chinese term for homosexuality. The 2005 edition of the Contemporary Chinese Dictionary defines “tongxinglian” both as same-sex love and as a psychosexual disorder, according to Xinhua.
Homosexuality’s classification as a mental disorder was removed in China in 2001, despite the dictionary’s definition.
Tongzhi gains interest in a news story because it can easily extend into a gay rights issue. It, to Western media, is an antiquated sign of homosexual repression. How can laws made in 1965 trump the identity of homosexuals in 2012?  I’ll tell you. The idea of self-righteous party members devoid of material lust is an important national identity and source for legitimacy in China.  A source of legitimacy for the party is more important than homosexual identity in China. It’s a single party state.
Here is a link describing encouragement of comrade to civil servants that aptly describes party attitude (my emphasis added):
A local government in Central China’s Henan Province has asked all of its civil servants to address each other only as “comrade,” in a bid to strengthen political life within the Communist Party of China (CPC), the Henan Business Daily reported on Tuesday.
…A subdistrict of Jiujiang district, under the city of Wuhu, Central China’s Anhui Province launched a series of activities to promote the use of comrade among CPC members, with the aim to “purify the Party.”
This is a recent publication explaining Chairman Xi Jinping’s meaning (my emphasis added):

General Secretary of CPC Central Committee Xi Jinping advocated simple and clean interpersonal relationships within the Party at a group study session of the Political Bureau of the CPC Central Committee in June, reports

The report added that addressing each other as comrade will help promote equality and mutual trust among CPC members; and it will also help strengthen political life within the Party and set an example for purifying social conduct.

Notice how the onus here is directed to conduct within the party and maintaining ethical standards, and notice how the party’s needs supersede that of homosexual identity.

The second source of confusion is speculation regarding future usage. Let’s return to the first China Daily article posted above. The end is purely speculative and somewhat frightening:

Does this mean people will soon be stopping for a Starbucks latte served by Comrade Barista, before hopping into a cab driven by Comrade Driver and apologizing to Comrade Boss for being late for their meeting?

Whether this is a trend that will catch on anywhere other than the halls of power, however, remains to be seen, and given the current trend for opening “communes” for the ultra chic in urban centers around China, you never know – it may well just catch on once more.

Many articles make this same muddled speculation. We have the luxury of hindsight to see that, indeed no, people didn’t start calling their barista ‘comrade,’ because the political system and economic system have natural conflicts. The state must encourage self-righteousness as a source of legitimacy, but everyone else is to compete for material wealth. As previously stated, the use of comrade is intended for party members, not the general public.  To clarify this point, it is useful to examine two pictures from my second home – the Beijing subway.


I’m on the subway for a minimum of two hours every weekday. This has been the most striking advertisement I have seen due to its incredible simplicity and complete nonsense.

花更少, 飞更远,选的多      。 买个机票,8元钱,高高兴兴做公主。

Spend less, fly further, enjoy many choices. Buy one ticket for RMB8, happily become a princess. 

Changing a young woman’s ideal image from princess to comrade must be the hardest task in the world, and most importantly, it is not something the CPC is trying to accomplish.  Drop any notion you may have of descriptive titles and their effects, and solely consider the effort it would take to transplant wealth ideas in a capitalist country. Baristas don’t want to be comrades. They want more money.


Lastly, consider this young woman on the subway. In her lap is her sleeping young son. They are taking two seats. Notice how the elderly woman, a complete stranger, moves to the edge of her seat to provide the most possible room for the sleeping child. Everyone in the subway car did what was necessary to ensure the child’s comfort. Do you think the mother dreams of a time when her son can grow up to   “curb paternalism and sectarianism that have spread within the Party during the last three decades since the reform and opening-up,”as Su Wei, a professor at the CPC Chongqing Municipal Committee Party School, recently told the Global Times?

The party may encourage its members to use the word comrade. Average people are encouraged to be princesses.

The politics of China and economics of China have natural conflicts, however it does not excuse Western ignorance. Balking at priority between homosexual identity and state legitimacy in a country with China’s history is embarrassingly small minded. Mistaking actions meant for party members which follows a law from 1965 for rules of the general public is inexcusable.

Thus ends my polemic. Let’s hope to see a more insightful media next year.

The sky isn’t grey today.

The Value of the RMB: I Told You So

What a time to be alive. Donald Trump is POTUS, and although policy specifics aren’t set in stone, the world is abuzz considering his first 100 days in office. Commentary regarding his initial policy push centers around Mr. Trump’s “Contract with the American Voter.” This contract has rightfully drawn much attention, however some simple foreign policy objectives have been overlooked.  Here is the contract (emphasis mine):

To “protect American workers,” Trump would renegotiate or withdraw from NAFTA, pull out of the Trans-Pacific Partnership, label China as a “currency manipulator,” direct the executive branch to “identify all foreign trading abuses,” lift restrictions on fossil fuels, allow the Keystone Pipeline, and remove the U.S. from climate change agreements.

There is real possibility for Chinese and American conflict over trade and currency values in the near future.

The history of the conflict

The situation that we currently find ourselves is not new. Due to financial repression and hidden taxes on savers and consumers in the Chinese economy, China has an extremely low consumption share of GDP. To offset this historic low share of consumption, Chinese households must save an ever increasing share of their inadequate income. Consumption and demand in China is weak, so China is forced to export it’s goods. So although China had extremely high investment rates, they have an even higher savings rate.

The following graph shows the growth of the Asian savings glut. Note the trend grew in 2002 following a peg to the United States dollar. Note how it increased year on year as the Chinese economy became more and more imbalanced. Note that it briefly declined during 2008 financial crisis. Note that is now rising again to previous highs.


How does this effect the United States?

There are two ways. First, China would use United States Government bonds to help sterilize Chinese banks. Second, the increased capital flows from China inflated American banks.  It is no coincidence that the American real estate bubble coincided with increased capital movement from China to America. Chinese money fueled speculative asset inflation.


The following graph shows a rise in the Asian current account surplus matching an american deficit.


What benefit does America receive?

China uses the open American system in order to transfer money from savers to producers.  The Chinese economic system needs someone to absorb their surplus. The Chinese economic system needs someone to sterilize their banks. So what does America receive?  American corporations are allowed to operate in China. That’s it. Market access.

If something can’t go on forever, it must end.

There are two constraints to the Chinese growth model: debt growth from high investment rates and unwillingness to absorb trade surpluses.

Both of these things are happening now.

Even if we ignore Trump’s calls, an increasing number of influential economist are calling for an end to this model. It is a mathematic fact that it is bad for America. Here is Brad Setser (emphasis mine):

The combined savings of China, Japan, Korea, Taiwan, and the two city-states of Hong Kong and Singapore is about 40 percent of their collective GDP, a thirty-five-year high. No other region of the world currently contributes more to the global glut in savings that has brought interest rates around the world down to record lows…Without a policy push to bring down savings, East Asia’s excess savings will continue to give rise to new economic and financial risks, both inside the region and globally…The traditional U.S. economic agenda in East Asia—aimed at liberalizing trade, investment, and exchange rates—needs to be complemented with a push for the policies needed to bring East Asia’s savings down to a level that the region can more easily absorb internally. The adjustment should be centered on China, where exceptionally high levels of savings no longer serve the same purpose as during the country’s catch-up phase of economic development.

I told you so. On July 28th I wrote in opposition to George Magnus. I wrote the following:

George Magnus gave a prediction of the RMB devaluing to 7:1 by the end of the year. My prediction is a little different. I believe that Chinese investment levels will drop by the end of the year, and Chinese savings rates will not change. Thusly, China’s current account surplus will rise.

I believe that this time next year, China will run an increasingly large trade surplus with the world. I believe this trade surplus will grab international attention and be received poorly. The current account surplus will put upward pressure on the RMB.

Step one of my prediction is a rise in China’s current account surplus. Look for it to rise over 3%. Step two involves international backlash. The main party would be the United States. Look for the United States to start mentioning key phrases such as “currency manipulator” during and after the election.

The RMB has been devaluing since 2014 ,and this devaluation is due to capital flight. Because there is more supply of RMB than demand, the markets are pressuring the RMB to a lower value. This pressure is huge. Although a bit outdated, this article from Zero Hedge  accurately shows Beijing’s dilemma. On one hand, Beijing is facing the impossible trinity. On the other hand,  the United States is showing an unwillingness, as they should, to absorb China’s domestic imbalances.  This cannot happen forever. In fact, it could, at best, only last another year before China runs the risk of losing all foreign exchange reserves. The value of the RMB is going to be a political struggle, and I am keeping with my initial bet.


Future Implications

The Chinese growth model is ending. Domestic imbalances are causing an unstable increase in debt, and foreign nations are increasingly unwilling to absorb these imbalances.  What are the odds that the United States refusal to accept Chinese domestic imbalances are used to explain to the domestic Chinese population why the growth model has failed. With the current administration completely failing to reform by any serious metric, what are the odds that “foreign black hands” are used as a tool redirect domestic discontent?

The value of the RMB and geopolitics of an East Asian economic rebalancing looks to be the defining foreign policy test of the Trump administration.