Market Thinking

making sense of the narrative

Time and Momentum

The 100th anniversary of the Chinese Communist Party will be presented as a time of calm in a sea of international chaos as Xi looks to a third term and further progress to his view of socialism. Investors can expect a further retreat from engaging with the west, not least as China can now import most of its energy in Rmb, so has little need to subsidise exports to earn $. Under Xi, the west has consistently mis-interpreted China’s economy as a classic emerging market, which is a key reason why its constant predictions of collapse have been wrong. As it becomes the largest economy in the world, it would pay to revisist these mental models. As Xi’s new slogan puts it, Time and Momentum is on China’s side.

A very helpful and nuanced article from the Wall Street Journal about the CCP conference starting this weekend is a welcome change from the China-phobic rhetoric that had become increasingly dominant in the US, in particular the marking of US claims about China as exactly that, claims, rather than presenting them as ‘fact’. However, as usual, it has something of a laundry list of what is ‘going wrong’ in China, including on the one hand the fact that youth unemployment is high, as well as the fact that the population is set to shrink – when the latter is actually a ‘solution’ to the former. For us though, perhaps the most interesting statistic was that he has “appointed all but seven of the 281 members of the Communist Party‚Äôs provincial-level Standing Committees as of June”, confirming our earlier thoughts about his consolidation of power, and by extension his ability to obtain a third term.

For it has been the political shadow plays going on by his rivals that have muddied the waters considerably in recent times, with rumours and counter-rumours, aggressive local crackdowns on Covid risking widespread public dissent in areas like Shanghai and Chongqing and crackdowns on meetings and gatherings to suppress political dissent in others. Hopefully that will all be resolved one way or another this weekend.

picture alliance / ASSOCIATED PRESS | Koki Kataoka

The slogan for Xi’s first term was ‘The China Dream’, while his second has been about ‘Common Prosperity’. This time it is about how Time and Momentum are on our side as he contrasts Order in the East with Chaos in the West. As he put it in a recent speech mocking the hubris of Francis Fukuyama’s US-centric End of History

(Time has) “put an end to the end of history, collapsed the theory of China’s collapse, and led to the failure of the one about the failure of socialism.”

Xi Xingping

For international investors there out to be few policy surprises, after all the latest Five year plan, was released last year and Xi had a dominant role in constructing it. What may change though is emphasis, particularly in the light of the Geo-political events in Ukraine and the ‘freezing’ of Russia’s FX reserves and we would anticipate a much greater focus on domestic consumption.

In effect, the confiscation of FX reserves by the Biden administration sought to impose US Foreign Policy on the rest of the world – disagree and they take away your reserves. As such, the obvious reaction is to avoid having any in the first place. The equally obvious problem here though is that the very reason you need to export and accumulate $s in the first place is so that you can purchase imports with them, since around 80% of global trade is still conducted in $, even though most of it isn’t with the US itself. In the case of China, it needs $ in order to pay for imports of Oil and Gas. Or at least it used to. The self-harming sanctions by the west on Russia have not only not hurt Russia, they have also allowed China to benefit from discounted Russian oil, and increasingly to pay for their imports in their own currency, Rmb. And not just oil and gas, also coal and other commodities, as well as starting to do cross border trade with countries like India in local currencies. In effect, the FX confiscation event opened the door to China to buy increasing amounts of its imports in a currency it can print, Rmb, rather than having to sell goods in $ in the first place.

If China can now use its own currency to buy energy, it doesn’t need a huge export sector to earn $s.

This is all part of the end of dis-inflation; historically the need for $s meant that China suppressed interest rates, exchange rates and wages in order to power an export sector based economy (eighth five year plan onward), powering the latest wave of globalisation and ever lower prices (in the west at least) for consumer goods. Under Xi, the twelfth and thirteenth five year plans had more emphasis on efficiency and sustainability and a target for GDP per capita, there was still a need to earn $s, but not with dirty energy and subsidised labour. Meanwhile thanks to the Global Financial crisis, the west had financial repression of its own and lower interest rates than China.

As Xi put it, time has ‘put an end to the end of history’ in that (amongst other things) China is no longer acting as the factory of the world, providing cheap labour and degrading its environment to subsidise US consumers. It has ‘collapsed the theory(s) of China’s collapse’ in that the shift from exports to investment to consumer led growth has led to repeated declarations (usually by vested interests in hedge funds) of imminent collapse, based largely upon imposing a familiar, but inappropriate, template of Emerging Market collapse. The refusal to allow rent extraction by Wall Street via the Washington Consensus mix of foreign ownership of factories, with cheap migrant farm labour, plantation/export farming, floating exchange rate, $ borrowing and western investment in capital markets, has meant that the grim consequences of being an ’emerging market’ never happened to China. Thus, an unexpected crop failure didn’t destroy the agricultural sector, an appreciation of the exchange rate didn’t destroy exports, a rise in interest rates didn’t collapse the housing market, uncontrolled consumer lending didn’t lead to a huge balance of payments deficit and massive inflation. And so on. Time has proven that the Emerging Market boom and bust model doesn’t apply to China. It has problems, but never seemingly the ones that ‘the west’ identifies.

Meanwhile, control of migrant labour flows has prevented the favella/township problems, while state (rather than private sector/Wall St) ownership of public goods ensured affordable public transport, heating and education. Part of the crackdown on the ‘for profit’ education sector last year was based on this concept of ‘common prosperity’, the socialism Xi refers to that has not failed. Wealth should not enable access to superior education.

The mistake many in the west made about China was their a priori assumption that not only did the Chinese aspire to be more like the west, but that they would follow the recipe and trajectory of the Washington Consensus model, which had been wildly successful for the western financial sector, if rather less so for the actual country involved. The first wasn’t true, so the second never happened. Xi’s first term contrasted the China dream with the American dream (i.e we don’t want to be like you) and his second term has explicitly rejected the financialisation model of the west and in particular its predation model on other countries. It used to be referred to as Capitalism with Chinese characteristics, or perhaps Capitalism for the 99%, not the 1%. Or as Xi now seems to be saying, Socialism.

Sino-Phobia is, in a literal sense, fear of the Chinese. The reality is not that the US fears that China will compete economically so much as they fear that the rest of the world in the new model of West v Rest will also reject the Washington Consensus. Perhaps that is why we see Europe and the UK being turned into emerging market countries right now, the last place to plunder?

Print Friendly, PDF & Email

2 Replies to “Time and Momentum”

  • How much are Hong Kong and other Chinese markets (and even more respective shares’ prices) dependent on US/dollar liquidity and to which extent they depend on Chinese domestic liquidity and monetary and fiscal mesaures?

    • The biggest impact has actually been the ADR markets, which have been slowly collapsing since the hit to the education stocks last summer. The magical thinking required that a stock was simultaneously 100% owned by US$ investors and 100% owned by Chinese was a bubble that burst and a number of funds and ETFs started replacing the ADR line with the local listed line. As such, HK, which hosts most of the dual listings has struggled with a wave of redemptions (redemptions and deleveraging being the story of 2022 generally). The transition from international $ liquidity to domestic liquidity is ongoing, but as in any move from weak hands to strong hands, forced selling needs to be cleared out for prices to stabilise.

Comments are closed for this post.