Sunday, February 12, 2012

The Second of Two Blogs from Shanghai

Note: The first of my two blogs from Shanghai notes my experience and lessons from watching the Super Bowl via a Chinese telecast.

My assumptions about China

  1. We cannot escape China. In a world of dynamic marketplaces, China or rumors about China produce incremental supply and demand for most key products and services, including raw materials, scrap, agricultural products, US Treasuries, currencies, intellectual property and military activities. The perceived size of the Chinese increments is enough to move markets. In brief, as China goes so does most of the rest of the world.

  2. There will be growth in Chinese due to its rising standards of living, the continuation of these advances is a political necessity.

  3. There are likely to be crises along the way due to accidents, mistakes, and poorly executed policies. Lives and fortunes will be lost, but most will recover.

  4. China will survive its centrally induced growing pains and will grow stronger.

  5. Guaranteed, we will get some things wrong, but we hope to get most of the big decisions right, perhaps later than some, but ahead of most.

I started the trip to Hong Kong, Singapore, and Shanghai with specific objectives. I visited with various managers we have used in the past and in the present. I found two other managers that bear future consideration. One of them had a good record before retiring and has come back into the game founding a smaller fund; and the other had a great record in the UK and Europe, then shifted to Asia, where he currently has a terrible record. More importantly, I have met a number of people that have very intelligent views of what is happening in parts of Asia and particularly in China. There were also opportunities to invest privately in new start-ups.

The Chinese puzzle

China's imports hold the key to prosperity for many countries. Currently most of the news media focus is on the raw materials imports, ignoring machinery imports and soon to be followed by imports of intellectual property and high value services. Incremental supply and demand for most of the world’s products and services are fueled by domestic Chinese demand.

China is a command society, unlike many dictatorships where the prime motive is enriching its leader. In its own way, China is somewhat mimicking Singapore, with its planned rapid development from a third world country to a powerful first world leader. What I did not fully understand is that the Communist Party is critically aware that its dynasty is only safe from the social disruption that has terminated other dynasties if it can deliver a materially higher standard of living to its people. This is particularly true in the interior cities, which are large and growing. So-called villages have twenty thousand inhabitants. The party is a believer in long training programs for its leaders. The up and coming leaders are well aware of what can go wrong, and are prepared to deal with these problems. They will come up with new tactics to find solutions. For example, as noted in previous blogs, I have been concerned with the desire of the central government to have the major hinterland cities be no more than five travel hours away from a coastal port. I learned on this trip that a railroad is being built through Russian territory that will allow the delivery of goods to Europe in eleven days rather than the twenty-one to twenty-nine days it takes to ship from coastal ports. Further, in the past the low wages in the interior reflected the low presumed productivity. For the last several years this has not been the case. Women returning from coastal jobs bring their better productivity with them.

I have been concerned about the dependency ratio; the number of workers relative to the seniors was declining, as the labor force has peaked out due to the one child per family program. I have been told that it is government policy not to provide good healthcare for the elderly. Further, the authorities are liberalizing the one-child family rules. These changes, plus the willingness to hold a local election in an area of unrest, are examples of the government’s adaptive behavior. In effect, the party is permitting reform followed by readjustment to be followed by further alternating reforms and readjustments. The Twelfth Five-Year Plan, put together by the incoming leadership, focuses on increased productivity, greater energy efficiency through deregulation, and increased transport. The party is well aware that something will go wrong, but they hope to be able to manage it. To me, this is like controlling the conversion of uranium-235 to uranium-238. When there is enough U-238, there can be an atomic explosion. That happens when the quantity reaches critical mass, which is a reasonable fear as China continues its rapid development. The world will watch as its future partially unfolds in Chinese hands.


To protect our investments everywhere and in every form, we have a need to research what is going on in China and to better understand the implications as our assumptions and observations may be wrong.

While we need to regularly read circulated reports and the press (including the central-government controlled China Daily), we also need to include independent sources; e.g., Hugh Peyman and his Research-Works and other experts like Yang Pang.

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