Email of the day on China and governance
Comment of the Day

May 16 2016

Commentary by Eoin Treacy

Email of the day on China and governance

In Friday’s audio, you speculated about possible reasons for China’s tightening of social conditions.  The following report from an Australian reporter in China, leaves me with little doubt. Xi has already shown his cards.  If the country is opaque today, the future will be more so.  If governance is everything, China will be a laggard.

My first assessment was that more centralization and tougher social conditions in China would delay economic growth but I now think the opposite is just as likely.  

The need for economic reform has been obvious but progress has been slow.  Debt has increased, excess capacity remains a serious problem  while attempts to influence stock markets were ham-fisted.  The failure of the bureaucracy is evident but implementing tough economic policies in the face of public resistance has been difficult. The existence of the country’s strongest unions in the infrastructure and heavy industry sectors, seems to have made change impossible.

In the West we are seeing how democratically elected governments are being taken over by populists whose promises are unrealistic and mostly damaging to their economies.  In Australia we are at day nine in an eight week election campaign where the economically conservative government, which is acutely aware of the nation’s unsustainable path, is struggling to sell a moderate budget which sees debt continuing to increase while depending also on continuing world economic growth and financial stability.  

Premier Xi has no intention of allowing China to go down that same path.  He can see the country’s problems as clearly as we can but the system has failed.

I can easily see Xi blaming bureaucrats and weak leadership in the provinces.  The scene is being set for a major purge.  A second cultural revolution.  Xi can see what the markets are saying and he could  use his power to implement tough economic policies.  There will be significant short term social pain and major economic risks but a strong turnaround in the economy is likely to emerge. China could regain its position as an economic powerhouse.

The period of turmoil will see China’s markets collapse. This will be a black swan event.  Knock-on effects around the world will be serious but, as is often the case, will be another good long term buying opportunity.

Eoin Treacy's view

Thank you for sharing your perspective and this article highlighting the increasingly leftist leanings of Communist Party rhetoric. Most forward looking societies prize bettering oneself through pursuing education and China is no different. Therefore regardless of how you dress it up in idealism, relegating the most educated people in society to its lowliest echelons can only be considered a retrograde step. 

Mrs. Treacy’s family sinned by being both capitalist and educated so it was split apart and her father spent years doing hard labour. The irony is that when the Cultural Revolution ended he was welcomed back to Beijing and given a senior lecturing position. That highlighted the fact the Cultural Revolution was more about maintaining a grip on power for a branch of the Party rather than an outright governance play. Introducing checks and balances in a single party state, without an independent judiciary and minority property rights has not been demonstrated to work anywhere. 

It is worth considering there is no such thing as independent unions in China. All worker groups are subservient to the Party. Senior officials benefit enormously from the system as it now stands. The aim to reform overcapacity is laudable but without governance also improving some of the country’s fundamental challenges will remain. How these challenges are addressed is going to be a major consideration for investors, especially since what happens in China has an increasingly large knock-on effect elsewhere; in everything from Apple stock to resources. 


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