Beijing 'Tightening' Talk Based On Questionable Assumptions

Includes: FXI, PGJ
by: Enzio von Pfeil
Structural governance impediments
The last days' papers in Hong Kong have been littered with "overheating" and "tightening" talk. Subscribers know how skeptical we are of both word: how can the place be "overheating" if only agricultural prices are rising (even the Central Bank cannot control God!), and if the government is concerned about over-investment? Not anywhere have I read about consumption going through the roof, consumption which normally would lead to an excess demand for goods and thus demand-pull inflation, according to The Economic Clock™. What we have in China is classic cost-push inflation - witness my piece on higher pork prices - and NO demand-pull inflation. Broadly speaking, Central Banks only can control demand-pull inflation by raising rates to stem an excess demand for goods, per The Economic Clock™.

But, even if the place were overheating: can Beijing really clamp down? Is it equipped to do so? Does China have the necessary legal and regulatory "hardware", and indeed the crucial mental "software" to implement its decisions? One of my former professors, Friedrich von Hayek and thus Sir Karl Popper taught me that it often is more important to look at the assumptions of an argument - as opposed to the face value of the argument itself. Indeed, this is what my forthcoming book, Trade Myths, is all about!

When people talk of "tightening," they are making two questionable assumptions:

1. That Beijing can tighten, and that
2. The"tightening" would work.

Step in China.

Lacking hardware. How can they "tighten" in a country whose per capita GDP of US$1,470 is similar to that of Morocco's, the Ukraine's, Indonesia's or Egypt's? Put differently, China's land mass is two percent larger than that of the United States - but its per capita GDP ($1,470) is 96% smaller than America's! (Source: The Economist, Pocket World in Figures, 2007). So, China remains poor and thus does not have the money for requisite technology and communications infrastructure in order to disseminate orders from "on high", from Beijing. Besides, it cannot have the functioning banking and legal systems that are so necessary in order to convey the signal effects of higher interest rates.

Lacking software. Regarding Beijing's ability to tighten: forget it. "The sky is high and the emperor lives far away." Indeed, most of Beijing's decrees never get beyond Zhongnonhai, the government complex in Beijing (according to Wang Xiangwei in the South China's China Briefing of 16th July 2007).. They cannot transcend the whole nation because of what Prof. Kenneth Lieberthal calls "matrix muddle". Thus, nobody knows who is in charge - in office talk: "whom do I have to take orders from?". What local people and thus local officials have bought into is Deng Xiao Peng's famous edit, "To get rich is glorious". Try getting a local official who is making money (finally!) to follow a Beijing edict to "cool things down". No way, comrade.

This is why, according to Ting Shi in the South China Morning Post of 17th July, there is a huge ideological fight building ahead of the 17th Party Congress this autumn:

• In the open letter of leading Chinese officials to Pres. Hu and the Party's Central Committee, was published on the conservative website "Mao Zedong" on 16th July, Ting notes that:

o "The lengthy letter questioning the fundamental direction of the mainland's reforms over the past two decades jars with the country's present economic ethos and represents the party's most conservative voices.
o It accused the country's top leadership of eroding socialist doctrines and leading the country towards a potential political criisis by selling off state assets, relentlessly seeking foreign investment and opening the party to capitalists and entrepreneurs. 'Party secretaries have become capitalists and capitalists join the party, while workers and farmers have lost their status of state masters... Foreign corporations are plundering domestic markets and crushing our national economy' the article said. The embrace of capitalism had spawned a dangerous mix of rampant corruption, unemployment, a yawning wealth gap and potential social unrest, it argued.
o Liberals, in contrast, blame most of social problems on the lack of a democratic political system."

How to Make Money Off This Idea
Arbitrage market ignorance and buy into "tightening-induced" market weakness: Beijing has, above all else, a growth mandate: the population wants to keep getting rich. Especially ahead of this Fall's Party Congress as well as next year's Olympics!