We live in peculiar times. On the one hand, China is uninvestable. The Chinese government, with its crackdowns on technology companies, zero-Covid policy, and the recent enthronement of Xi Jinping have caused the prices of Chinese companies to plummet.
On the other hand, Western countries are debating whether to impose retrospective windfall taxes on a number of companies or announcing new taxes on share buybacks.
Why do similar policies make a country uninvestable while others make them social justice paradises?
Welcome to Edelweiss Capital Research! If you are new here, join us to receive investment analyses, economic pills, and investing frameworks by subscribing below:
Today's post is going to be a short one. The sole purpose is to make us reflect on the prevailing narrative, expressed ultimately in the news and in the markets. To think about the cognitive biases we have for the outside world, or how uncritical we are with the outrages to the rule of law in our own countries.
You see the mote in your brother's eye, but you do not see the beam in your own eye.
Crackdowns and common prosperity
During the last weeks investors have been dumping their Chinese assets, whatever remained at this point, reflecting the poor reception by the international community of the new Chinese leadership lineup last Sunday for the new Standing Committee of the Politburo. This is the final blow after two years of constant pressure on China's capital markets.
The China Project (2021) did an excellent job compiling all the Big Tech crackdown updates, creating a storyline where we can see the evolution of events. What started with an outburst by Jack Ma against banking regulators, led to the suspension of Ant's IPO at the end of October 2021, to continue months later with all the regulatory pressure over a wide bunch of sectors and common prosperity fines.
Whatever will happen with China in the future is unknown. Parpart and Woo (2022) provided us with some notes and background on the new leaders worth reading to try to escape from the main narrative.
China, to Western eyes, is a communist country. A dictatorship where property rights are not recognized and therefore, a country where our capital would be at risk. China is uninvestable. Uninvestable today, casually, when prices are the lowest in a lustrum. But the future land of opportunities just two years ago.
The reality is that, from a Western perspective, we do not understand China. Confucianism is deeply embedded everywhere in the culture. We can not grasp, at least not without removing all our prejudices, their way of understanding politics and the role of the State. It is a completely culturally anchored bias.
However, we believe there is something that works everywhere in the world. Something that drives the very core of each human being and determines all human action: incentives. Whenever we have doubts about how something will evolve, we should always try to understand the incentives behind the decision-makers. What can Xi or the CPP be looking for with this series of crackdowns on technology companies? Making clear who is in charge?
Which is the real motivation for Xi to strike hard at a conglomerate of companies that have brought China to the forefront of the world, especially when they are the ones that can move China out of the income trap into a more value-added economy?
We have no answer. We are not economists or fortune tellers, so we can not predict the future. But it seems pretty clear to sink them would be to shoot oneself in the foot. It would jeopardize the future legitimacy of the CPP if they fail to make China prosper. Could be China coming back to a Maoist Cultural Revolution? Again, no idea. But despite some periods of involution, the many flaws, and the emperor's whims Xi might have, we believe China understood some decades ago what is the only way to prosperity.
Western free markets
Contrary to China, in the western free world, we live under the rule of law.
Jokes aside, let's discuss some facts and forget the prevailing narratives. We live in tremendously interventionist societies. And make no mistake, this is so because the majority of our fellow citizens actively demand it. Politicians are but a reflection of society. (Note aside: have we ever considered that the same might be true in China?).
It is always surprising how we, from the West, want to impose our vision of liberal democracy on other regions with cultures and beliefs different from ours. Our mouths are constantly full of our democratic systems and the rule of law behind them. However, we constantly look the other way when the actual reality shows us otherwise.
We believe it is worthy to reflect and impose on us some self-criticism. Food for thought:
European State’s owned companies
Wait a minute. Was not capitalism's key principle to have the means of production in private hands? To give some examples, Germany owns 100% of the train company and some banks, while also having remarkable stakes in cargo companies, banks, telecoms, Airbus, or Volkswagen. The French list is even larger: Renault, Airbus, Thales, Safran, energy companies, transport companies, chemical companies, finance companies, real state companies, and a long etc. The Spanish State has 15 majority-owned companies, 9 minority-owned companies, and 100 companies in which it has indirect participation. We could continue, but the point is done.
Antimonopoly fines
The European Union has imposed Google three antitrust penalties totaling more than 8 billion euros between 2017 and 2019. They said Google’s practices restrict competition and reduce choices for consumers requiring smartphone makers to take a bundle of Google apps if they wanted any at all, preventing them from selling devices with altered versions of Android.
What is the difference here with the Chinese common prosperity tax? I mean, apart from the name…
Regulation impeding innovation
EU voted in favor of a new law to set a common charger for mobile devices that will force Apple to adopt USB-C on iPhones by 2024. Our bureaucrats, in their infinite wisdom, have decided that the USB 3 is the best system for charging cell phones. Goodbye to any incentives for anyone to innovate and find a more efficient system.
Windfall taxes
All around Europe governments are regulating to impose taxes on the so-called windfall profits for companies with activities in the oil, natural gas, coal and petroleum refining sectors. Some countries, such as the Netherlands, propose to put a retroactive tax in 2022 for windfall profits more than 20% above the average level of 2018-2021 (when prices were fair according to them). Other countries such as the UK plan to extend them until 2028, and others such as Spain, plan to apply special taxes to banks as a consequence of the potential extraordinary profits with the rise in interest rates.
Who was helping the companies when the oil prices were negative, or during all these years with negative interest rates where banks couldn’t make any money?
Steering capital allocation in Canada
The federal government wants Canadian companies to spend more of their own money to invest in their businesses and help grow the economy, so it's bringing in a new tax on corporations when they use their profits to do nothing more than pad their bottom lines. The government announced it plans to implement a new tax of 2% on stock buybacks.
Public vs private sector monetary policies
European monetary policy is raising interest rates for the private sector, but keeping them artificially low for governments through special bond buyback programs, which have made quantitative tightening virtually non-existent. What kind of rule of law is this in which public gigantic expenses and political class are protected against the common citizens?
To sum up
The Chinese are less communist than our western governments are pro-free market. It is not a question of where it is safer to invest. Nor are we saying that the rule of law is effectively the same in China as in Europe or America. It is obviously not.
Our intention here is no other than to think critically, hoping we remove the blindfold that criticizes everything coming from outside and forgets what happens to us. And let's not fool ourselves, public opinion is in full agreement with each of the free market abuses that we have presented here, always in pursuit of a society with greater social justice to finance the grandiose welfare State. Unfortunately, the true meaning of rule of law and property rights is facing a global battle that we are losing.
If you enjoyed this piece, please give it a like and share!
Thanks for reading Edelweiss Capital Research! Subscribe for free to receive new posts and support our work.
If you want to stay in touch with more frequent economic/investing-related content, give us a follow on Twitter @Edelweiss_Cap. We are happy to receive suggestions on how we can improve our work.
Disclosure: Opinions expressed are solely my own and do not express the views or opinions of my employer.
References
Parpart, U & Woo, D. (2022) Markets have China’s new leadership all wrong. Asia Times. Oct 28, 2022 Link
Reuters (2022) China stocks leap after State Council pledges support for economy, capital markets. Link
The China Project (2021) China’s Big Tech crackdown: A complete timeline. Link
Nice Post!
I believe it is the environment (mood of the market masters) rather than any underlying fundamental change which makes changes in investments in our modern world. From offshoring Energy to ESG. Similarly I believe in China's case that the environment would eventually change when some of these master's incentives would align with China.
u bring up some valid points! but i guess, the simple question to ask, where do you want to live? and where do people in general want to live/move?