Changing China

from DealZone:

The great Chinese commodities play

China's dominant position in world commodity markets is as enduring as one of its emblematic Forever bicycles. As Communists, the People's Republic spent years perfecting the art of buying in bulk, dictating prices through sheer mass of demand. Now that the country has become the world's factory, it would make sense for China to take a more refined approach to trading raw materials. It's worth seeing the latest moves by China's $200 billion sovereign wealth fund in that light.

Having been rebuffed in its efforts to purchase offshore commodity assets in Australia, China's purse managers are taking stakes in commodities brokerage businesses. Most recently, China Investment Corp bought a 14.5 percent stake in trading firm Noble Group for $850 million. The purchase comes just days after CIC signed a cooperation pact with commodity trader Glencore.

Some are looking at this as a flexing of muscle -- an "attempt to increase its influence in the sector," the BBC calls it. Our reporter Neil Chatterjee also hits on this angle, talking about Beijing trying to gain "leverage in opaque global markets and access to the raw materials needed to feed its economy."

A 14.5 percent stake in a Hong Kong brokerage hardly seems enough to wield much influence in global markets. And the Glencore deal is seen as more focused on China developing market expertise.

More likely, CIC sees a good investment opportunity in Noble, and its political masters see an opportunity to improve China Inc's understanding of how global commodity markets work. There is lots of pent-up demand for such experience in China, and that's enough of a reason to invest in an Asia-based commodities broker. In some ways, CIC is just making a very logical bet.

In as much as it wants to be able to improve its knowledge, China is also trying to gain influence. But let's not kid ourselves about what kind of influence the world's fastest growing economy is already exercising in global commodity markets.

from Global Investing:

Another nail in the Malthusian coffin?

All the talk of addressing the global imbalances throws a spotlight on contrasting demographic trends in the world's two most populous nations -- China and India.

Prior to the financial crisis, India's annual growth rate of about 9 percent seemed positively moribund next to China's double-digit economic expansion. But purely on demographics, the dimming power of the US consumer could give India an edge over its neighbour in the longer run.

That's what India's trade minister Anand Sharma seemed to suggest last week when he reminded the audience at a London conference that the country had "20 percent of the world's children":

We know that when we talk about emerging countries the consumption patterns are different. Most of China's production is meant for (markets) abroad. India consumes two-thirds of what India produces.

Indeed, Goldman Sachs projects that India's middle class will outstrip China's by 2045. This is some 15 years after half of China's population becomes either too old or too young to be part of the workforce.

Beijing's mandarins are taking note of this monumental shift in dependency ratios. After decades of enforcing a 'one-child' policy in the face of an human rights outcry, China appears to be relaxing its stance on population control. Family-planning officials in Shanghai have begun to urge eligible couples to have two children.

“Leasing” bankers to CIC

Since late last year, China’s $200 billion sovereign wealth fund, China Investment Corp., has “borrowed” more than a dozen Morgan Stanley investment bankers, mostly from its Hong Kong office, to give advice in various areas ranging from real estate to debt trading.

Cost to CIC? Nearly Zero.

Benefit to Morgan Stanley? Priceless.

The banker exchange is an outgrowth of the investment bank’s relationship with CIC, in which CIC took a stake in Morgan Stanley. While CIC has taken a loss so far in that investment, it has paid off in other ways.  

While remaining on the Morgan Stanley payroll, the bankers were relocated to CIC’s Beijing head offices to work there for different kinds of temporary jobs, acting like consultants with no power to make decisions on deal-making.   During the bankers’ “lease period” at CIC, Morgan Stanley paid their salaries, although the fund might have offered some non-cash benefits, such as free public transportation cards or lunch coupons to such special expat staff.   In fact, it’s not just Morgan Stanley. Many other fund houses, asset managers and even law firms are happily lending talent to CIC for free in the hopes that they can build solid and long-term partnerships.

Even if China Investment Corp. paid these bankers and experts, it wouldn’t come near what they are already making. For a monthly salary, a vice-president level job at CIC can only match the monthly housing allowance for an entry-level investment banking analyst in Hong Kong, roughly between HK$20,000 and HK$25,000.   Some in the financial industry describe the value of such “lease” arrangements as offering unique opportunities to gain a clear picture of what CIC wants and how the fund works or even what the top executives’ personal preferences are — German beer or French wine, for example. That goes beyond market knowledge but is highly valued intelligence.

Who knows? It might pay off one day with a billion-dollar deal or two.

from Commentaries:

For Chinese exporters, the grass is greener abroad

   The U.S.-China tyre dispute threatens to spill into other sectors and further squeeze Chinese exporters’ already razor-thin margins. It might seem mind-boggling to many that Chinese manufacturers are still hanging on to weak overseas markets even though the domestic economy looks much healthier and surely offers more potential.

    But there are structural reasons why the grass is greener outside China. The risk of not getting paid, or getting paid late, is significantly lower when dealing with foreign buyers. The cost of international shipping has dropped so much that it can be cheaper to send goods over the Pacific Ocean than across the country.

    In addition, selling to large buyers such as Wal-Mart creates enough volumes to compensate for weak margins. Moreover, Chinese exporters get all sorts of export rebates and local government incentives which help to lower their costs.

    But as the tyre spat has illustrated, Washington can slap punitive duties on Chinese imports simply by pointing to a significant increase in imports from China.  By imposing penalties in this case, President Obama has opened the door for a slew of similar complaints against Chinese goods. It will only be a matter of time before other countries, worried about where those displaced Chinese exports might end up, start to follow suit.

Taiwan’s killer mudslides

After Taiwan’s worst storm in 50 years killed hundreds in massive mudslides last month, the government blamed the freak weather while survivors said the government’s slow response after the Aug. 7-9 storm made matters even worse.

Only recently, with reconstruction under way, have officials in the six-county disaster area begun asking what contributing factors may have caused the steep mountainsides to give way, hurling boulders and walls of mud onto riverside villages below. Nearly 770 people are presumed to have died, most of them buried alive.

In the absence of any official declaration of the underlying causes, residents have filled the void with speculation.

from Commentaries:

Identifying bubbles

One of the biggest debates about China today is whether it is at the stage of asset price inflation or has entered into a bubble. Here are some useful quotes from leading bubbleologists to help you decide:

Charles P. Kindleberger, author of Manias, Panics and Crashes: A history of financial crises, uses the term bubble to mean any deviation in the price of an asset or a security or a commodity that cannot be explained in terms of the “fundamentals”. Small price variations based on fundamentals are called “noise”.

Kindleberger and co-author Robert Aliber explain further: The bubble involves the purchase of an asset, usually real estate or a security, not because of the rate of return on the investment but in anticipation that the asset or security can be sold to someone else at an even higher price; the term “the greater fool” has been used to suggest the last buyer was always counting on finding someone else to whom the stock or condo apartment or the baseball cards could be sold.

In an effort to determine how bubbles form, Robert Shiller focuses on a psychological feedback loop among investors, who become ‘attracted to an investment irrationally because rising prices encourage them to expect, at some level of consciousness at least, more price increases. A feedback develops - as people become more and more attracted, there are more and more price increases. The bubble comes to an end when people no longer expect the price to increase, and so the demand falls and the market crashes.’

All this wisdom is helpful, but it is still very difficult to distinguish between a rise in asset prices caused by irrational exuberance and one which is driven primarily by improving fundamentals.

Take Chinese property as an example. Billions of dollars of infrastructure money has improved the value of the land so property prices deserve a revaluation. The demand for property seems to have drive up prices to the point that rental yield becomes very low, indicating that prices might have gone ahead of themselves.

That’s why I will save this for the last quote. ‘The first lesson about bubbles,’ according to Allan Meltzer, ‘is that all explosive movements are not bubbles.'

National Day magistry

First the Olympics and now National Day — China is once more tightening the screws on foreigners living in Beijing, with random identity checks and restrictions on movement, because of worries about security ahead of the 60th anniversary of the Communist Party coming to power, on Oct. 1.

Of course for Chinese, the burden is far heavier when it comes to these controls. Foreigners are generally given much more leeway in China, possibly because many police are uncomfortable dealing with the hassle of language and cultural barriers.

But those who live in the alleyways close to Beijing’s main thoroughfare, Changan Avenue, are in the heightened security zone on either side of the military parade that will be the centerpiece of the day’s celebrations.

Instead, foreigners are being given an order that offers a humourous but sharp reminder of how authoritarian China’s government can still sometimes be.

The messages being relayed by the police can be summed up this way: Stock up on food, take your passport everywhere and no guests are allowed. 

Here is a copy, in the original English, of a notice being given out in one part of central Beijing, issued for “the pleasure” of residents’ “happy life”:

ANNOUNCEMENT

from Commentaries:

U.S.-China trade spat more about cars than tyres

Why are the U.S. and China trading blows about something as mundane as car tyres at a time when the world is trying to avoid slipping back into trade protectionism? It's not purely about the $1 billion worth of tyres China sells to the U.S. every year. It has more to do with the $100 billion of automotive vehicles, parts and engines America buys from abroad. China is worried about the direction of U.S policy. Beijing fears that the administration may find ways to thwart China's future plans to ship vehicles to America. China may not yet export cars to America, but it already exports a growing number of parts. Cars are in the pipeline. A recent spate of bids from Chinese companies such as Geely for failing U.S. and European auto brands have shown that it has the ambition to be the next Japan or Korea. Auto sales are the only bright spot in U.S. consumer spending due to the Treasury-financed "cash for clunkers" program. Fears about stimulus dollars leaking abroad are one of the reasons the U.S. trade unions have been aggressively pushing for anti-dumping tariffs. The worry is that the U.S. has imposed the tariffs under a law designed to protect domestic U.S. producers from being damaged by a sudden surge in imports from China. Determining whether this has occurred is a bureaucratic exercise in which experts determine whether such damage is occurring and propose remedies. But there is a political circuit breaker -- the president has discretion in whether to implement remedies. At least four similar, so-called Section 421 petitions were filed during the presidency of George W. Bush, according to the international trade commentator, Scott Lincicome, but none were approved. In this case, Obama came down on the side of the union. This has raised fears in Beijing that there will be more cases in coming months. The Chinese side seems to fear that Obama is bending too much to domestic constituencies such as union and producer interests. Washington needs to be careful about this. Since it wants to export its way out of recession, it should not agitate China, which is potentially a major purchaser of U.S. exports. China does not want the Obama presidency to set a precedent by discriminating against Chinese goods at this time. Moreover, it is concerned that other countries might follow suit and start to target Chinese goods as well. Its reliance on exports is potentially the big weak link among China's recovery. That's why Beijing, which has limited its protest mostly to words in recent years for fear of more retaliation, quickly spun into action this time. China's counterpunch is equally forceful. It is launching an anti-dumping investigation into imports of U.S. chicken products and vehicles. The idea is presumably to raise the political cost for Obama of taking his pen out of his pocket every time a Section 421 case, which specifically targets China, is presented for his signature. During the first half of this year, 89 percent of China's chicken imports came from America, representing a fifth of all U.S. chicken exports. In comparison, tyres account for just 0.4 percent of the value of goods what China sells to America each year and 0.07 percent of China's total exports. While it is no secret that America subsidises its agriculture industry, China also spares no effort in helping exporters and putting up import barriers to protect domestic manufacturers. For example, China agreed in August to stop some discriminatory charges it imposed on imported U.S. auto parts after a World Trade Organization ruling from September 1. After chicken, U.S. soybeans might be the next target. As much as 40 percent of China's soybean imports came from America last year. And this year, China's soybean imports increased by 28 percent. The last time China took retaliatory measures was during the "garlic trade war" against Japan and South Korea in 2000-2001. Washington and Beijing have vowed to cooperate in seeking to revive global economic growth, but the dispute over tyres has laid bare the two countries' continued friction over trade. This could spill into the G20 summit later this month and Obama's scheduled visit to China in November. In previous meetings between the top leaders of the two countries, mostly the U.S. lectured and China listened. Now Beijing is more outspoken about expressing its own concerns and many at home are calling for more tit-for-tat policies. It remains to be seen how the U.S. will react to a more assertive China.

from Commentaries:

Ex-Google China chief’s dream factory

Google's former China head Kai-Fu Lee wants to create China's next internet giant in a factory. He believes that by combining the smartest entrepreneurs, the shrewdest business people and the brightest business ideas, he will be able to create five highly sellable companies a year. That sounds like an ideal model for venture capital, but is he being realistic?

Lee's plan, formulated while he spent time in hospital over the summer, follows a battle with Beijing regulators who wanted to censor Google  searches that lead to pornographic sites. It has drawn strong support from investors.   Lee has managed to raise $115 million in just one month, winning support from YouTube Inc. co-founder Steve Chen, as well as Foxconn Electronics, Legend Group, New Oriental Education and venture firm WI Harper Group.     They believe that as China embraces a start-up culture, Lee's business, which is a mix of venture capital and development lab, will be well positioned to capitalize. Lee's plan is to hire 100 to 150 young engineers, help nurture their ideas, then spin off 50 to 75 of them a year with funding from his venture, whiling hiring new people to make up for the loss.    However, it looks as if his company, called Innovation Works, has yet to line up ideas or engineers. This kind of "incubator" model became popular in the U.S. and Europe during the dot-com boom, but most of them just burned through a lot of money and then folded.   Lee and his backers believe that China's market is more favourable, as it is at a crucial point regarding "cloud computing" and mobile technology, and there is a strong need for early-stage funding.   The new fund is still starting off, but Lee plans to expand from its base in Beijing to places such as Taiwan, the Asian hardware manufacturing base and his hometown.

Investors are attracted by Lee's reputation as the single largest magnet for talent in China. Lee, who went to school in the United States, has won a loyal following from Chinese students through his numerous coaching books, public speeches and blogs, although critics say he has spent too much time promoting his personal brand.

An expert in speech recognition technology, he founded Microsoft's China research lab in the late 1990s. When he left to join Google, Microsoft sued him for violating a promise not to join a competitor.

Nimbler local rival Baidu now dominates China's search market with 75.7 percent in terms of total search queries, dwarfing Google's 19.8 percent share, according to iResearch. At Google, Lee was caught between the Beijing authorities who insist that foreign web companies censor the Internet and his U.S. bosses who demanded he drum up more business in China.   He has wanted to break away from his corporate role to start his own company for a decade, but it looks as if he is stuck in the corporate mindset. Lee is adopting an almost a planned economy approach to an industry that has always relied on markets to determine who is the fittest to survive. Indeed, he is even promising to tailor-make companies for interested foreign investors.   A factory model lowers the risk for investors as they will enjoy more control, but that also means less incentive and ownership for entrepreneurs, since their roles are reduced to that of employees. Why would young people take their ideas to Lee rather than make a go of it themselves?    Unlike Silicon Valley, China does not have an ecosystem where start-up companies can easily find angel investors. Even though China is a hotspot for venture capital, with $50 billion chasing mid- to late-stage projects, less than $1 billion in total is earmarked for early-stage projects.

Lee prides himself on his doggedness in chasing after talent. One year while at Google he made offers to graduates, only one of which was initially rejected. He called the student, found out that his girlfriend thought Google was a bit of a start-up, then asked for his girlfriend's number and called her up. That year he achieved a 100 percent offer acceptance rate.    Nevertheless, it remains to be seen whether Lee can retain his ability to attract and inspire the best young people now that he is no longer at Google. He needs a lot of them to make his dream come true.

www.V.cn

Heard any new theories about the likely shape of the global economic recovery?

At a financial forum in Hong Kong this week, Zhou Yuan, a senior executive from China Investment Corp (CIC), the $200 billion sovereign wealth fund, offered a mischievous twist on some previous formulations, as well as a nod to the importance of China in any global recovery.   In an effort to lighten the mood among a group of foreign economists, who had been arguing about whether the global recovery would be W-shaped or V-shaped, Zhou offered a perspective he said he’d heard from another source.   “Whether China’s consumers will lead the world into a more prosperous stage of economic development, I don’t know, but we certainly hear some comments to that effect,” said Zhou, CIC’s head of special investments.   “It’s clear that the economy (recovery) is something going into the V-shape,” said the English-speaking Zhou. “Someone also told me that the economic development worldwide will take the shape of www.v.cn.”    After a moment’s reflection, his audience understood and broke into laughter.    Zhou explained: Since shortly after the collapse of the Wall Street bank Lehman Brothers last September, global markets have experienced volatility that has often seemed to take a “www” shape.

Now, Zhou said, we are starting to hear more and more economists talking about a V-shaped recovery, although some remain cautious because they are worried there may be a so-called “double dip” in the financial crisis, the worst since the Great Depression.   Whether it’s a V or W shaped recovery, Zhou joked, the ultimate solution to the crisis is China, eg “CN”.    Zhou noted that China’s urbanization in the next few years — turning villages into mordern towns or farmers moving to nearby cities to become workers — will be a key attraction for foreign investments in China, which will in turn help China continue its contribution to global economic growth.   From urbanization comes consumption. And if China can produce enough consumption to help lift the global economy, www.V.cn may sum up the real path of this financial crisis. Or at least some Chinese bankers are banking on it.