Most investors have noticed that China’s stock market has been falling this year, especially Chinese offshore companies. Given that the US and many other developed countries are largely capitalist, it is difficult for many to understand why China’s government is intervening so heavily in its industries and financial markets. For example, Beijing essentially eliminated the country’s $100+ billion private tutoring business, and tech firms Tencent and Alibaba were hit with significant fines. More recently, China’s central bank declared all crypto-related transactions illegal. Huobi Global, one of the world’s largest cryptocurrency exchanges, said it would close all user accounts in mainland China by the end of the year, due to government intervention.
Chinese business executives and some billionaire Chinese tycoons have been asked to justify their capitalistic behavior to Beijing. Essentially, the message to them is that wealth redistribution is now a priority. This approach to industry has caused a loss of over $1 trillion in market value, primarily in the aforementioned offshore companies. The question, of course, is “Why is Beijing taking this course of action?” President Xi has forcefully conveyed that the Chinese Communist Party must still have an overarching ideology and he is moving socialist ideas forward. But not everyone in China agrees. There is a “contradiction” in China, a tug of war between socialism and capitalistic activity as the administration struggles with how to protect the general population while maintaining growth.
President Xi is pushing socialism in part due to demographics. In May 2021, it was revealed that China’s total fertility rate declined from 1.6 live births per woman in 2017 to 1.3 in 2020. Because of this change, China’s annual population growth rate dropped to a new low of less than 0.3 per cent in 2020. The implication of this aging population is that China may not be able to reach its goal of being a “great power” by 2049. China has therefore decided to disconnect its economy from others’ and, by default, become a rival economy instead. The driving force of China’s economy is now what Mr. Xi calls the “New Development Concept”, which has a greater emphasis on common prosperity (read here: socialism) and more reliance on its internal economy. He wants his government to exert more control over technology and influence its internal supply chains. Like most politicians, Xi’s goal is re-election in the fall of 2022 and he hopes to improve his domestic political standing with these moves. Time will tell if Mr. Xi’s approach will ultimately prove successful for China. From an investment standpoint, what this means is that China’s economy will continue to prosper – but the companies that will be the likely “winners” will be those that are internally focused; these are the “China A” share companies (as opposed to US listed ADRs or Hong Kong listed H-shares). This concept will have broader implication for emerging markets allocations including, potentially, the need for active investment management.
Please let us know if you have questions on this topic or about your emerging markets allocation.
