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Is China Investable?

2021-09-21

As the Chinese government continues to carry out unprecedented regulatory tightening, what does the new environment mean for China’s growth and investment outlook? Goldman Sachs Research senior strategist and creator of the firm’s Top of Mind report, Allison Nathan, speaks with China watchers to better understand the motivations behind the government’s actions and whether they mark a meaningful shift in the relationship between the government and the private sector in China. 

This is an unofficial transcript meant for reference. Accuracy is not guaranteed.
This is exchanges at Goldman Sachs. And I'm Alison Nathan, senior strategist, strategists Goldman Sachs Research and create an editor of the firms top of my report in this episode were focusing on the recent regulatory tightening cycle in China and president. Jim Pings, new common prosperity agenda to promote more sustainable and equitable growth. We touched on this topic in a recent episode, but the situation has continued to evolve with regulation, is targeting specific sectors now wiping out more than a trillion and a half dollars of market cap from chinese equities since their recent peak in MID February. Here we ok and what these ongoing regulatory and policy ships, as well as potential future actions, might mean for the chinese economy, its markets and beyond
We first turn to a number of China watchers to better understand the motivations behind the government's actions and whether they mark a meaningful shift in the relationship between the government and the private sector in China, Fred who fell their chairman and seal Primavera Capital, and Lee, who is an economics professor etching, while university see the latest wave of regulations as largely consistent with the government's goal of achieving sustainable and socially responsible growth- and they are the government, is targeting certain behaviors and industry practices, especially in the tech sector that work against these goals. Rather, the private sector itself, and that this is Unlike actions that Europe, The- U S and the other major economies are taking to address the destructive effects of you don't innovation seriously. If you put the carbon regulatory changes into a larger context than just the previous five
three. Two years, then you will see a big picture. A clear picture about is present cheating ping says they're coming to power in won. T twelve has been saying that China will seek quantity growth rather than rapid growth by quantity, growth, immaculate men, three things number one he wants you to economic growth to be based on innovation rather than something of resources and all the intensifying investment second, and he wants growth to be inclusive for the society or acquitted for the whole society and a third. He was worth to be. Environmentally sustainable. So these are the three long term goes innovation based socially acceptable and, environmentally sustainable low carbon growth last he's consistent policy and he has been gradually pushing for these policies and the rest
it changes, including the changes in regulating internet platforms and investment in the education sector are actually reflections of this trend is not a surprise if you put into a larger context, and here's friend who, on the motivations behind the tech sector, tightening in particular, understand why China has stepped up efforts to regulate the pact, At the end, you shouldn't be hardly surprising to the monk either China, one of the world's largest and the most successful pack. Second, those- and indeed people- often compare China's tech industry too- that in the EU This incomes are the size and the scale and reach son Nobody, the tech sector, especially the rise of the so called reform company, saw the big pack has tremendous impact on the economy society,
the day I was so in Canada. Hundreds of millions of ordinary citizens, I would say of the impact. Is the past you in a strong boost, the true he presents efficiency security and offering consumers connectivity, coming years. Choice is bad. You and I'm system due to access. True, information as well as to part, as the suitcases anywhere name in high tech sector has aid? My sooty beneficial impact in this principal role throughout the pandemic and has proven to be crucial, maintaining a degree of normal z Nay, citizens they'd life span. You make an economy more using. It nevertheless be ubiquity and the growing role tech companies
The committee also cause that were right. There were concerns in China eyes elsewhere, these three most, my concern is big tax, possible abuse of market power data security, and consumer privacy. So the European Union has been by far the most attractive, in scrutinising the tax at the end Hagen on side, aggressivity, bigger tax market power and violation of privacy. China and the EU is by contrast, has been let it be hands off. That is, until recently in the case of China in a one beijing I started to impose sweeping, The tide regulations across the board ended by
that immigration as they could I've efforts as well? So, if viewed from global lenses, China's repatriate intentions and goes ah strikingly similar the only difference, but a glaring one, is that the chair has taken a far stronger and the son might argue a more heavy handed approach. regulation and enforcement George Magnus associate at the China Center at Oxford University and Jude lunch at who was a China scholar at the center for strategic and international studies, see these regulatory actions, as mostly motivated by the government's desire for power and control and as an extension of a pattern of the chinese state, reasserting its dominance over the private sector. Since president, she came to power in twenty twelve and they suspect on political motivations behind these shifts in the run up to the twentieth. National Party Congress of the Chinese Communist Party in the fall of next year were present.
He is widely expected to break with decades of tradition and stay in power for a third term. Here is Magnus better. This is business as usual is true that's the over the last twenty twenty five years. China's use of law and of regulation have increased very significantly and to the point where, in the semi before seeking thing came to power was quite clear. For people to say that in China already made a kind of significant break with its previous proclivity tube, have government by diktat in by decree, so that was more certainty for business and so on. As a consequence of these developments The problem is now under seizing pings era when his error, the use of law regulation, also has another purpose, which is basically to try to underscore the purchasing of the power of the Communist Party, which has been seeing things
low priority, along with an attempt to enlarge the borders of the state, even at the expense of China's private sector with a sigh. Did she basically to produce a new China Mark MRS Watch ticking pings, almost personal, a gender. It is to create a new model and was to put the socialist back into the phrase oh vetoes socialism, with chinese characteristics mean a lot of people are kind of taking matters. Rhetoric. You know, that's not really socialist emails, capitalist state, but actually we'll see. what happens in the next year or two, but it certainly feels and looks as though This is more statist and you know party, controlling initiatives that we are seeing here than we have seen in the last few years, but sadly, the discreet bright from China will you last twenty or thirty years, waiting particular makes you feel like this is
we're about power in expanding the state. I think it's a curse. You kind of joining the dots as they say. So if you took a snapshot, off at any time over the last few years, really what's after two thousand and thirty in two thousand Thirteen, the the other was the third plenum of the eighteenth com I said basically, but with a huge programme of economic reform in Europe,. change and people were falling over themselves, say my decision beings, apposite reformer and he's just Thank you for the opportunity in this is the opportunity to re energised reform. But in fact, as we know really since then. Nothing of that nature has really happened. In fact, reform as we could have expected a new, it has pretty much have ground to a halt. So if you took a snapshot of let's say you know the cancellation of beyond financial ipo wore off. the investigation into Didi after the archeo more recently in New York or the meeting
but the Central Committee for financial and economic fast, where the phrase common security was elevated precision, ping Look at all these things in isolation, Baker and all look very orderly. I'm gonna get you can understand this and it fits into a pattern and escape. But actually, I think you have said back a little bit and look at it in the big picture and see really a continue in which this drive simply being has tried to inject into China to revitalize, This kind of leninist idea of the purity of the party that the party leads You know, as he set himself no sound. east and west? Another was an all round, the economic and social and political life. The is in the van out of leadership and people need to get on. Trained so be introduced. of seeking bring forward into primary schools Ray schools and universities, the exploitation
That is now coming out since last year of private sector executives to be quote taught unquote, thee civic and self government policy and government priorities, and that they need to take steps to show that their following the party line. When there's a big picture here, which is wrong, about the supremacy and the controlling influence of the president within the party baby. Look around the world and Europe in particular Also the you ass. You know there has been this momentum towards scheme NEA over some sector technology in particular regulatory tightening in many ways on many levels. So how is this different from what we're really seeing and other places? Or is it not? How was it differed? I think that we're going through our own chuckled Turk, lash right wishes backlash against powerful trick. Pennies and you know we don't know what they're doing with their data dear. How do we exercise control that we go
through the sand got emotions in a way of trying to figure out how we had to do this. But what is different about China is that its height a legit site, and it all about what serves the interests of the ruling party We might argue that Democrats and Republicans in the United States or in a conservatives and labour party politicians in the UK also have vested interests. Of course, in pursuing regulatory initiatives are different. Time We do this really in the knowledge that, at the end of the day, it is subject to a legal system in which You do have supposedly We believe neutral contract enforcement and the government get its nose bloodied if it kind of stuff lie, you will see in China does not end here. You'd gone chat, why do you think chinese policy makers have chosen to implement these measures now and with so much urgency? I think there's a problem, reason and an open. It reason the proximate
reason which I think gets to the heart of the- why Now we have just afresh we entered what we could call Twentieth Party Congress season. Next year, at the Twentyth party for some time in the late fall, she in paying will take a third term as the general secretary and while that feels like it's a very long time away. planning and action around a party Congress usually starts about twelve to fourteen months before, which is pretty I see where we are now, and indeed the recently announced six plan which will take place this November it's worth, noting that a plenary session central committee, especially the sixth one, usually dedicated in part to actual formal planning of the Twentieth Party Congress. So what's happening right now, I think is she paying is pushing for beginning to come
some momentum behind policymaking. That'll sustain, really over the next year, the ultimate he then why? Even if you take out the political calendar, I think there's been agreement that if we pull the thread on any given regulatory action rather than on data security, whether that's on overseas listings, whether that's cracking down on some of these sectors, like education, where the party feels like there's too much profit and profit incentive. having industry growth? You all of you, have their own individual rationales to them, and I think all of these are intuitive all, but at its core what's going on is there has always been a lag between where a sector, air technology, how far table to get ahead of the regulatory apparatus and when Regulators finally realise there is a problem and start to crack down and that time lag had always been structural in nature. It is the case,
technological development in almost any country, get ahead of. Where the regulators understanding that technology is, but I think this was becoming almost existential for the Communist Party you had these areas around platform economy in these private companies hoovering up massive data that I think covert. Nineteen showed the Communist Party that these private companies just had far too much data, so they wanted to fully and finally break the back. that time lag. Didn't. I think what that means. Moving forward is you're going to see a much more pro it regulatory posture, rather than one that's always on its heels and is racing to catch up and just a final note, not always the case, really for a lot of these, especially the Tec platforms. There really was much regulation around them and I've had created this perspective that this was the wild last and as we think about the communist parties, new up,
acknowledging and governance. I think that was just an untenable situation, and they moved aggressively to crack down- and I suspect, that's gonna- beat the past your moving forward. They are here narratives about the Communist party. This is all about power. It's about targeting the private sector. We establishing the supremacy of the state over the private sector does any about resonate with you. We could have about conversation about them, Eddie reasserting control over the private sector six months ago, a year ago, eighteen months ago, twenty four months ago, that has been a secular trend, especially in the second term of sea, jumping starting in twenty seventeen that we in this prolonged, Yet at the party asserting dominance over the private sector- and this has happened- in the reiteration of the role of party cells in companies. This is Ben, following the Communist Party in corporate governance structures within private firms. This has been about ass again,
elegant law, which mandated that private sector companies must participate in any national security investigation, so in a sense, this is not a new trend that were seeing here by any stretch of the imagination, and I think it important that we don't see this as a sudden lurch for nationalization or party authority, because to do so would be to ignore the trend that's been occurring since two thousand and sixteen or two thousand and seventeen. You could argue that this is honey, occasion that trend, but anyone thinking that the party just suddenly discovered that the private sector levels of autonomy that it was uncomfortable. It hadn't been paying attention for much of the last several years. One thing I should know about there's been some speculation at the party has has become more robustly socialist and in his moving to fundamentally rectify capitalism in China. I think that emits reading of this, as we saw with
jumping announcement that they're going to create a new stock exchange in Beijing. The party is trying to strike a balance between ensuring that the part has sufficient levels of oversight and control over market mechanisms, while also ensuring that China is able to maintain a sufficiently robust I'll, be constrained capital technology and talent. They're not looking to move away from markets wholesale, which he dumping is trying to do, is ensure that markets are leverage to drive strategic outcome. that right down to the Communist Party in the national goals that China has, I think, in the construction of a party won the needs market. They just want to make sure that market serve national interests, but even if that is the case, the question is whether these ships will ultimately harm innovation and the long term growth trajectory of the country, Italy is not particularly concerned, but Magnus is usually are you concern that will see less innovation
as this regulation comes down on key industries. I am concerned in the short one because these dust send weaves of shocks among investors, because the way is very abrupt. He's very sudden Mary impolite to understate, so I am concerned in the short run that there will be a shortage of investment in many sectors, in the chinese economy. However, in those some idea among their future in one or two years. I am not concerned why because the chinese economy has three things working for innovation. Remember one steel channel has the huge market huge market for good alphabet who s policy on the present, from which to some extent, ongoing. Restricting export high tech export to China actually pushes
chinese demand for domestic high technology parts, high technology goods, philosophers thing, market settled the east. China still has a huge amount of capital. China's liquidity, measured by cash brass Bank deposit he's two times as large as chinese gdp. This is about after so many runs off to ease he's about one hundred percent punish two hundred percent the chinese economy is two thirds of the? U S economy, so overall Chinese, has much more liquidity. Ready for you mustn't the third thing which I think most important is this. China has median college graduates each ear off these eight million college graduates. How many percentage actually have me pretty sure engineer, not science is not physics, not the mathematics, pure engineering. Forty percent
forty percent of chinese college graduates of eight million have major dying each year after year. Ok, maybe engineering, so three point two million. How large is three point: two million college graduates- engineering, that's larger than the? U S: the branches of Engineering Press Europe, Brass, India, plus Japan as huge number, and also are coming from tee, my university, which traditionally was engineering school. I can vouch for the average quality of chinese training of engineers in college is very good, maybe too good, because never practical Chinese college education is right, brutal didn't teach them homer, they don't you Philosophy didn't teach them we creature from them one it most colleges. They just teach them. Engineering to technical for good of about these kids coming from college can jump in
to companies to start designing beings. Whereas, U S, engineering graduates are wonderful, they are very well trained, but early on, they have to get more training after graduate. So these are leavings making me still optimistic after a short period, don't tell me about the future of chinese investment in technology and hears Magnus. You ve got a number of different examples where the government or the state is intervening in the operational management of companies, whether its by french or binding, actual by punishing the chief executives or by training sessions. Party officials in party committees have to be hasn't in any company. That's got more than three party members, so all This adds up to a different sort of modus operandi, for private funds. From the one in which we ve come to grow, to expect and see in years gone by. So
should I pose really is what is due for their innovative capacity. We often kind of conflate invention, like science and tat stuff that we can use. We see with innovation, which is basically a bit. Decision about organization and management, marketing and branding commercialization profitability, and so on you Introduce more and more government regulation were more government restriction on what companies are allowed to do. What does that say about the potential for private firms to being pole position of China as they have been for the last two or three decades. My hunch, you know, really is that this is leading China because of the importance of the politics to the Communist Party of China. Down roaming path, they wouldn't normally or otherwise the chosen to go. So I think it's going to add to the structural funds like headwinds that we already know about in China, and it will,
reduce China's trend, growth and it'll complex it would delay the realisation of the Holy GRAIL everybody's, looking for which is more productivity because ass we grow in the future. The big problem, apart from you, know, Datsun Demographics, China is like many countries has reached a kind of a productivity age. It needs to basically do a reset which basically requires reform, but actually there reform, isn't really on the agenda and I think this a little intervention, regulatory and political intervention is gonna, set that back quite significant and, of course the key question is whether China is still in vestibule. Amid all of these regulatory and policy shifts again David Lee and Fred, who are discretion. Airily optimistic seriously and where he thinks opportunity for investment still lies. Areas which the government under she competing with guard tightly
We are soldiers and the political media, this culture of areas in which, government worries that is authority. Its control, its influence, will be compromised by external investors. I think, outside these areas. All you movement will be welcome in the past few years local Jacamar. He has the wench in too many many media companies, Many many media companies- these people may not know he's got about twenty nine. a regional level, media companies he's got the first China morning Post. These cannot be investment safe alert to the government. In other words, if I weren't thirty years younger filed by trying to do business in China, I will concentrate on technology. I will not the best. media. I would not bother the mathematics teaching for young kids trying to let them outcome the other schoolmates. I went to my own business I will try to be a hero in my own area. I will try to make comments.
areas make politics our international relations, so in a way, I think this is a new Iraq, China, for the lack of better words, professionalism, business is business politics, a politics makes them and is also true for many off should under investigation, they got involved in business. They got corrupt. These bodies consistent right. Ass the culture, not new era and hears fairly and why he's optimistic about investment in China, Tech, despite than Europe uncertainty and what he looks for in deciding whether a company is a good investment, the accrued from legitimate concerns in the short term, because, like our communication, maximum clarity, how far the common with a girl ways enough is enough, why said the hostile shot him? I certainly, sir. I do understand why some members may be frightened, but I bet you where's Johnny, the China Tag, whether the current rough storms most over the Chinese taken.
when is worthy of a true, a just and adapt. Therefore, it open- to achieve very strong growth bring there is the model and the practices in beta comprise worthy I'd, have the tree, you mine, and I think it would be a mistake, ignore the opportunities in China, Tech she's investors be more optimistic about the high tech sectors versus the soft tech sector This could even be current regulations, a fact that the consumer internet secondary most fun fun pack, you commerce, from social media to coming from food, didn't a true right heading and Last but not least, I tech so bind all these businesses, are consumer facing stone Wall a massive amount of data on their powerful, so do about companies.
the impact it most by the current regulatory actions. So I dont greed, a heart attack nobody's. making back. There is no industrial automation. Robotics dry have been completely. So bad from the recent crackdown altogether. I would So maybe tech, including in it, could devices pharmaceuticals is also left scared, the hell, I'm pouch William hadn t clean pack areas family, renewable energies, united actual korean cars to batteries continue to receive strong government support, so there was spaces in the broad tax it LAD Margie, be unaffected by bicycle. We are at last a few miles away. the continue to thrive in the larger, deep and mine refer you moment.
Daphne, if someone is and by the regular risk. Areas where almost excessive habits, but I would also say, even consumer internet. There is still a lot of opportunities. Agony regulations on high monopoly data protection, consumer privacy protection- you don't know, happened, regarded as in China and elsewhere. Does it mean the end, though Turkey misinterpreted induce you not far from it nobody, yours are the true lodge, is the consumer. NED or consumer pack, economies or visually enemies, you, commerce and tag. Is your house and determined its social media? We are, I think, those who continue yeah how'd. You make some adjustments, some purity How you learn your business, we intervene with you users, but I do think, could be companies in these sectors will continue through
see you don't you for their wares daughter for trying to really make some necessary changes to this Europe grows. Option is out there and so therefore you, MRS, should not ignore Castlemaine. Despite clearly some of the most significant regulatory Sudanese suddenly insured, so our investor. How do you discern which company is in that sector are still great in there. Men, growth opportunities and ones that aren't going to be able to prevent as easily and do as well Under the new regulations, neither is come over simplification. I would say two reasons we could it be. you pay close attention to, namely the undying technology debated. I give the more injured, the company I saw, you must amend the target and be It is the model. So, given knowledge year, they say I different companies. The different models? Truth had to be opportunities?
You said they can encourage more market share and said I was a student leadership and pilot, so that, including the code share and housing, thankfully, in himself combines couch so as to get bigger and more successful. You ve had a blood amended leadership. Do recognize the increase in screwed me, they're gonna get to be just proportional increase responsibilities on their shoulders to make sure pack remains a force for good. So technology is a model and the leadership quality most citizens. I would most folk star right now me don't George Magnuson Jude planchet. Advise investors to tread cautiously here is Magnus. If you look at company already sector were index that dropped forty to fifty percent in the space of six months. A bell goes on when his as value, but I do think this is being that people need to think about ass. She very carefully because
there is not your run of the mill investment universe. for reasons that we ve been talking about, which is intervention of politics in the extreme, but also because the transparency of company It is not the way that we normally expect. I think the balance between the risk the opportunity is shifting towards what risk and I take what don't China. Rather what do I know so my This is not to say that you can make money chinese market, you can't find companies that will be able to deliver good returns, but it's much risk here in a much more dangerous market than we thought it was six months ago Don't think this is a moment tree events where thing has happened that made the government reacted. Then, in six months time, it'll revert and it'll be forgotten. This is pretty serious stuff, and yet it's pretty serious stuff politically, which is a pointer. I think, to the way things: continue to evolve for the foreseeable future, and I think that
It put us on edge, really suppose you would be the right watchword ethic and he has been set. I think it's a brute reality that increasingly she's in paying is calling the shots in relative isolation, especially compared to the level of collective decision making we had ten or so years ago. There are still extraordinarily impressive individuals at the top of the region Tori bodies that undeniable, but increasingly these are political decisions that are being made, that the regulatory body we are having to respond to rather than council paid a regulatory decisions that are the come of more robust group decision making? And so I think we have to start recognising that this type of surge campaign uncoordinated sudden shock decision. Begging is going to be a regular feature now and especially after the Twentyth Party Congress for investors have been able to sideline politics up till now.
I think that an untenable position moving forward because louder these decisions are at root, political in nature, which means that the regulatory system in China, as much as investors, will be caught off guard or in a position of having to respond to political decisions who loved over the wall by shooting ping. and that's not gonna go away anytime soon. Indeed, it's gonna get worse, as is level of authority, and control over the political apparatus continues to strengthen, as it appears likely to do, especially after the Twentieth Party Congress next year, Party Congress is not like a normal party congress. One of two things is gonna happen. She didn't being is either going to take. A third term is general secretary and, if that's the case, that's momentous. That is a fundamental break with four decades of thinking the party about the need to move away from centralized powers that way, Artie avoid some of the catastrophes of the male era.
otherwise you didn't paying won't. Take a third term is general secretary, which will be equally important because one year out, we have no idea who a possible successor would be, and so we're all gonna be scratching. Our heads when we see who this is, but my point is It is not a normal party congress. She jumped He is no longer the type of ruler. He wasn't twenty, sixteen where he was still having to establish and solidify his own power base. He is now a dominant uncontested leader of an increasingly autocratic political system and expecting that political system is just gonna operate like it. did ten years ago. I think, is an outdated approach here, we're seeing the world's second largest economy with increasingly sophisticated complex at the same time, unpredictable sort of economic and regulatory apparatus moving forward under a political system which is becoming increasingly autocratic and need not seen anything like this.
We ever as a regulatory and policy environment and China continues to evolve. We'll be closely watching the implication for China's economy, its markets and beyond. All Therefore, now, if you in We shall we hope you describe an apple, podcast labour, waiting or comment. I am also Nathan, things for listening to exchange the Goldman Sachs and I'll see you next time all price references and market forecasts correspond to the date of this recording despots. Cash should not be copied distributed, published or reproduced in whole or in part. The information contained in this package does not constitute research or recommend from any Goldman Sachs Entity to the listener. Neither Goldman Sachs nor any of its affiliates makes any representation or warranty as to the accuracy or completeness of the statements or any information contained in this podcast and any law.
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Transcript generated on 2021-10-07.