Civil War in China (Part I)
- May 27, 2011
- admin
- Investing
For the past decade China has been the wonder of the world. People have marveled at how a country with a closed political system could successfully practice free market capitalism. How could an economy planned by government bureaucrats experience such rapid growth?
The “miracle” of China’s economic might captivated the world. By 2005, predicting when they would overtake America as the worlds largest economy became a daily parlor game. Curiously though, every prediction I’ve ever read just debated when China would become the world’s largest economy, not if it would happen. Seemingly every analyst on earth thought it was a forgone conclusion.
During the depths of the “Great Recession” admiration for China seemed to hit an all-time high.
In America, unemployment was skyrocketing, credit was frozen and the markets were hitting new lows every day. Washington seemed to fiddle as America burned. Some politicians debated the size and objective of an economic stimulus package. Others debated whether we even needed one. The confusion reached a peak the first time the House voted against adopting the TARP program – the stock market dropped 700 points that day!
(The House finally approved it only after the Senate adopted it and leaders of both parties publicly and repeatedly endorsed it on television. That “limited” the votes impact as an election weapon by providing some political cover).
In contrast, China’s leaders pushed through a massive stimulus seemingly before their economic growth even slowed. There seemed to be absolutely no public debate on the issue. One day China’s leaders just announced a $1 trillion stimulus and then “boom” it was there!
Whereas our stimulus program was called too little and too ineffective almost from the moment it was adopted, China’s stimulus seemed to be the silver bullet. Growth in China surged while growth in the United States struggled to gain traction.
Soon after China’s stimulus package was passed, respected New York Times columnist and author Tom Friedman wondered aloud whether, during a crisis, China’s political and economic system was even superior to ours. He wasn’t alone. Dictators and closed governments the world over celebrated China’s “proof” that political freedom and economic freedom need not go hand in hand.
Suddenly, America wasn’t the only – or even the best – economic “model” available. China’s small ruling class had indeed found a “New Way” of achieving strong economic growth without the “instability” of a participatory government. America’s obituary was being written across the world.
But a funny thing is happening on the way to the “New World Order” – it’s inherent flaws are starting to become exposed.
This week the New York Times reported that there a power struggle is being waged between electric companies in China and the central government. At issue is the governments demand that the electric companies keep providing electricity at below-market rates to China’s citizens.
Yet as prices of energy such as coal have soared in China, the electric companies have said they can do no such thing. Indeed, to do so would be unprofitable and ultimately bankrupt them. They argue that as private companies they have an obligation to their shareholders to generate profits, not to underwrite social programs.
Of course, China’s government has reminded them that as their largest shareholders they have the ultimate right to dictate energy policy. Calling it a matter of “national security,” China’s government won’t budge on the issue.
In response, the electric companies have come up with a “creative” solution: every third day they shut off the power to their customers, resulting in the loss of energy (and economic output) for hundreds of millions of people. In the affected provinces restaurants, factories and other economic producing assets are closed on certain days. As amenities like running water are no longer available on these days, homeowners and small businesses are forced to go to the same wells their parents went to during China’s “Cultural Revolution.”
The flaw that’s being exposed is the fundamental flaw in the Chinese system itself: a private company can only serve one master: profitability. If China’s government insists on corporations serving the state over shareholders, investors will lose confidence in the system and will ultimately stop investing.
During their first phase of China’s growth this has been an easy problem to overlook because the interests of private companies and the state were aligned 95% of the time. Plus, having just been privatized, these companies felt a strong obligation to the central government for such a “generous gift” (as the privatizations went to friends and family).
But as we enter the second phase of China’s emergence there are serious problems that threaten the very government itself. And I am absolutely convinced that if these problems aren’t addressed now China will likely face Civil War.
Next week I’m going to outline whose on each side of the coming power struggle and the surprising role China’s military may play in the resolution of this crisis.