Notes from my conversations and observations in Beijing this week:
There is a considerable degree of desperateness at more levels of government to do something about the impact of the slowing economy than ever before. Even banks traditional incomes are falling, so that they need to restructure the core of their business, not just deal with a slowdown.
The deal that the State Council is proposing for banks to swap the bad loans from state-owned enterprises (SOEs) into equity is a seriously bad idea, ab initio. It harkens back to the very error that the Glass Steagall Act was designed to cure in the US after the Great Depression, and it reminds me of the curse that the Japanese banks will never ever be able to rid themselves off in the governance-sapping relationships that they have with their core corporate customers even to this day. I keep telling my Chinese friends, sorry, but this is the worst thing that the Chinese government can do. It demonstrates a certain desperateness that is being promulgated by some who are choosing to ignore the writing on the wall, despite all the official rhetoric that on paper at least, the Chinese banks have enough capital and provisioning and generate enough profit to deal with this SOE crisis.
The second worst thing is in allowing the stricken SOEs to buy private sector and foreign companies at whatever price in the hope that these will generate income in the future. A case of throwing good money after bad, it will only result in a much bigger crisis in the future. China had already put in place very reasonable policies to resolve the growing SOE debt issue, by stating clearly the enterprises that can be put on sale for JVs with foreigners, those that will be listed on the local market and those that are off-bounds. So this latest move appears desperate indeed.
China missed the chance to create an international secondary market for its distressed assets. The smart guys at the asset management companies wanted to keep it to themselves all these years and now they are faced with a growing distressed book for which they can’t find enough investors. The play book of the international IPOs of the 2000s does not work anymore today. They have missed the chance to create a yield curve that could price the assets based on their risk profile.
Into this mess, appointing Guo Shu Qing as the next governor of the PBOC is not a good idea. My personal opinion is that Guo Shu Qing might rise to the occasion – but he really didn’t when he was at the CSRC, a wasted chance to put the securities pillar of the country on a sound framework. But to ask for a leader of considerable courage and skill in these difficult times is a very tall order indeed. China will be very lucky to have a great central banker of the quality that Zhou Xiaochuan who tried his best to balance between politics and doing the right thing. Even in the US, we have seen really screwed up duds like Alan Greenspan, who was partisan to his investment banking friends rather than to the industry in open view of everyone.
When we read of all the new regulation coming in place in China today, it is driven more by a lack of strong leadership in the various agencies (no one dares to be a strong leader these days), and as a result territory building – every department head formulating regulations and policies to keep themselves in a job, and muddying the real issues along the way. It is just as prosaic as that.
All the talk about reconfiguring the PBOC and CBRC/CSRC/CIRC construct comes from this lack of leadership in formulating a simple framework that works. The massive dysfunctionalities we have seen in the markets arise directly out of these issues inside the CSRC, and has nothing to do with any inherent problems in the markets themselves. So, now I understand better how the messy regulatory infrastructure in the US came about – it was ordinary managers acting in their self-interest and before you know it, you see a mesh of protocols that everyone leverages but nobody understands why they need to work that way. Pity, China does not need to end up the same way.
I am not criticising China or expecting that the process should be any more intelligent than it is. It just is. If I had a front seat view of the events in the US in the early part of the 20th century, I think I would have a more nuanced view of the Federal Reserve Bank, the way it constantly defaults to using debt to resolve its problems and that all of these were driven by very ordinary men and women shaping the future of a country in their own limited ways.
Maybe I have a higher expectation of China because it has been able to construct policies that have generated gigantic achievements within the construct of its one party state until now. China is in its second inflexion point since first opening up its economy in the 1970s. Its current managers have limited themselves to copying what Western and developed countries have tried – QE and more QE – instead of promulgating their own responses by being brave about the inherent features of their own economy, and the strengths and limitations of where their people are. They allow consulting firms like McKinsey to patronise them with unsolicited advice on value creation. The danger is in discussing its problems with the discredited language of the West in a world where nobody knows better. If Deng Xiaoping had that complex in his thinking, China would not be where it is today.
There is already considerable self-criticism and open discussion on the issues within the country. In a forum I chaired this week, three very prominent economists – Xiang Songzuo, former Chief Economist, Agricultural Bank of China, Cheng HwaErh, Chief Economist, Baoshang Bank and Luo Ping, a former CBRC official and currently chairman of a bank (see photo above) – outlined the issues eloquently, although they did not say anything that contributed to these observations.
Maybe the uncertainties of these times is causing potential leaders from stepping up. Everybody is a leader in good times and few will step up in bad times. Watching how committees of ordinary managers are making monumental decisions that will forever shape the character of this country in its next phase makes me concerned that some irreversible negative policies might be being put in place even now.