economics

Why Chinese firms have a succession problem

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Chinese society has long produced family business empires. A quick glance at any list of Asian tycoon families show them to be omnipresent, whether in Hong Kong and Taiwan or the further flung diaspora in SE Asia – including in Thailand and Indonesia where Chinese surnames have become so mutated as to be almost unrecognizable. It is not just Kwoks, Kweks and Lees, but the Hartonos and the Chearavanonts who are furthering traditional Chinese family values.

Everywhere that is, except China. It is fascinating to consider what is likely to happen on the Mainland over the next two decades, when the first generation of post-Deng businessmen finally start to retire. Many have noted the succession crisis facing these companies for some time; empirically, I have yet to meet a single 富二代 who has any intention at all of managing their parents’ business after their retirement. It is not just personal experience, either: a recent PwC survey showed some startling numbers contrasting modern China with its overseas counterparts.

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Source: PwC Family Business Survey (2016)

Fewer than one in five Chinese entrepreneurs surveyed indicated that they intended to pass down the business. This compares with somewhat higher numbers in Singapore, higher again in Malaysia and Hong Kong (c. 40%) and far less than in the most directly comparable jurisdiction, Taiwan. Here, almost three fifths of families want their children to take over – and indeed, they have already gone through one or more generational handover.

Why is this? The obvious point to make is that, as with so many other aspects, China will not be following any known development paths. But there are probably a few more specific reasons too.

First, there is the entire structure of the economy and the perceived pathway towards exit. Speaking to SMEs, many will tell you that their end game is to list the company, which is true as far as it goes. But the more important point is that they see the government as the likely ultimate inheritors of any important business, either officially or unofficially. In this sense, the incentive for dynasticism is limited and becomes less relevant the more successful a venture becomes. Instead, monetization remains the key aspiration.

Secondly, there is the creeping issue of inheritance laws. Again, we have yet to see the first real fortunes and large scale asset inheritances being tested in the Chinese legal system and anecdotally, it is notable that increasingly numbers of the Chinese middle classes have ceased to give birth abroad, fearing what the implications might be when largely domestic legacies come to be divided up under Chinese law. For companies which have now been successfully “domesticated” through policies such as a stringent foreign exchange regime, this becomes the same question writ large.

Most intriguingly of all though is the prospect of meaningful cultural change. Overseas Chinese families have an unbending sense of filial piety even today, with many younger generations taking over family businesses despite not wanting to. Modern China, post the Cultural Revolution and factoring in the One Child Policy, much less so. Furthermore, children educated in western business schools clash with their parents over management style. And for many, the rapid change in the Chinese economy means that their parents’ businesses are just too damned unsexy, as one observer notes:

The transition is particularly evident in the manufacturing industry; many children who are educated abroad shun the manufacturing sector and prefer to seek opportunities in finance and other ‘cool’ areas. Fortune Generation estimates more than 65 per cent of children whose parents own manufacturing businesses don’t want to be involved in the industry.

Why put the hours in, when you could use your parents money for funding the latest absurd tech startup?

However whilst this is all bad news for champions of Chinese traditions and parents who want to see more of their children, this does mean an impending surge of opportunities for  investors. It seems those PE funds really ought to be speaking first and foremost to the sprawling private wealth arms of the investment banks, rather than their corporate finance people.

The Handover Hangover – Britain and Hong Kong in the age of the New Normal

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HK handover

The British media, between the endless coverage of the debacle that is Brexit, the May government and the spectre of Jeremy Corbyn, recently managed to find a little time for soul-searching over Hong Kong, on the twentieth anniversary of the 1997 handover. The hand-wringing tone over whether Britain had let the people of Hong Kong led the Guardian for instance to note that:

“Theresa May’s government faces a choice between upholding legal principle and democratic values, and its chronic post-Brexit need for Chinese trade and business at any price. No prizes, or yellow umbrellas, for predicting which way May and Johnson will jump.”

The torturous link to contemporary politics aside, these op-eds convey a tone of unfulfilled potential. Chris Patten weighed in with his own personal laments over what has slowly occurred since , self-flagellating over Chinese encroachment of the former colony.

Yet much of this seems rooted in misconceptions that still seem to pervade the British establishment. For a start, the very act of suggesting that Britain should “do something” about still hints, however much denied, that she is in a position to do so. This is unrealistic not only because of the relative imbalance but also the distance and relevance of the two countries, notwithstanding the occasional bravura peeks through, wishfully claiming that “China needs Britain more than Britain needs China“. This mismatch is true politically, culturally, socially and above all, economically.

In cold economic terms, it is not only the the imbalance that demonstrates relative strength – China incurred a US$37.6bn trade surplus in 2016 for instance – but also mutual insignificance. According to data, Britain is only China’s 9th largest trading partner, accounting for just 2.7% of Chinese exports, far from enough to move the psychological needle. Compare this with Germany, for whom the UK constitutes 7.1% of exports, or even the US at 3.8%. Britain and China are simply not that relevant to each other. China matters slightly more to the UK than vice versa, accounting for 4.4% of her exports (and arguably Chinese consumption of British goods such as high end cars is less easily replicable than in the other direction), but it is still not much of a basis for negotiations or threats.

Moreover, there appears to be a parochial misunderstanding about Hong Kong’s destiny as “just another Chinese city”. Critics will say that social and political life are not the same as economic life; to that I would say one necessarily follows the other. Consider a recent piece in the Financial Times about how the Hong Kong has changed since 1997. Two visuals stand out:

Hong Kong is increasingly no longer a regional hub but more of a China port. Yet this is not just a function of being on China’s doorstep, or even of China’s desire to integrate Hong Kong as some might imagine; it is rather a consequence of the fact that the old colonial entrepot model of corporate imperialism in Asia is gone. China is a self-sustaining economy of critical mass. The days of being able to “do” China from offshore, are as absurd as believing one can cover the US from London or Toronto. This is beginning to apply to other countries too, particularly Indonesia but also Thailand and increasingly, Malaysia. The concept of largely expat financiers and traders sitting in the comfort of the Victoria harbourfront whilst servicing these jurisdictions is faintly ridiculous; and this is a global emerging markets trend.

Asia has changed. The era when its leadership still had links with their former colonial rulers, such as the Cambridge-educated Lee Kwan Yew to Britain, is over. A telling moment was the closing in 2009 of the much-loved Far Eastern Economic Review, a deeply socio-political publication inhabiting a world where Asian leaders and western discourse still understood each other. Today, nothing could be further from the truth – as countries like China pass the “peak export” phase of their development cycle, their economies and leadership are inevitably more introspective. Each country must be engaged from a truly domestic perspective and cities like Hong Kong, and to an extent Singapore, are less relevant. There is nothing Britain can or should do about this.

At least Hong Kong, despite its comparative decline, still has a future bound up with a single large power. Singapore will soon come to find that its position as a safe haven for Indonesian and Malaysian investment and private wealth is under a more serious threat – which has led to their driving ambition behind ASEAN. London, in the end, will probably feel these winds of change too.

 

Labour’s unique “peacetime deficits” and why they really do always run out of other people’s money

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Lots gets said on the campaign trail of course, much of which never surfaces again. Amongst the most pernicious claims by Labour recently are the implication that the police would be safer under Jeremy Corbyn – a man who almost certainly spent his youth referring to them as “pigs” and for all we know, throwing bricks at them – than a Tory administration. That one doesn’t really pass the smell test, though the Tories seem to have had a tough time batting it away.

However another meme has featured of late, attempting to reverse the traditional narrative of Labour being poor managers of the country’s finances  – or as Thatcher famously put it, that “they always run out of other people’s money“. Corbyn himself took aim at the the Tories’ admittedly poor record during this last Parliament on fiscal hawkishness; and meanwhile social media has been awash with this pair of pieces, claiming that “the Conservatives have been the biggest borrowers over the last 70 years“, a feisty assertion indeed.

But let us examine what is actually being said here. In his post, Richard Murphy concludes his analysis with these two lessons:

“First, Labour invariably borrows less than the Conservatives. The data always shows that. And second, Labour has always repaid debt more often than the Conservatives, and has always repaid more debt, on average. The trend does not vary however you do the data.

Or, to put it another way, the Conservatives are the party of high UK borrowing and low debt repayment contrary to all popular belief, including that of most radio presenters. Which means that the next time I am presented with that nonsense I will be very firmly rebutting it.“

This is technically true, looking at his figures. What it does not tell us however, is the real narrative, which is that once we strip aside natural deficits which were ramped up to obviously combat recession, the story is one of clear Labour profligacy. Below, I have charted GDP growth vs the budget deficit as a % of GDP at the time to demonstrate what the real macro-economic picture is.

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Far from Tom Kibasi’s recent claim that “the Conservatives remain stubbornly allergic to – or ignorant of – Keynesian macroeconomics“, the Tories have in fact been very mainstream in their use of the a cyclical deficit to offset the worst excesses of a downturn. These we might call “war deficits”. The most obvious case of this has been the deficits and increased debt incurred in the wake of the global financial crisis.

On the hand, Labour have had no problem with running up a deficit even when the economy is doing fine – in other words, refusing to make hay when the sun is shining. In particular, Gordon Brown’s second term as Chancellor saw a unique explosion of what we might call a “peacetime deficits”. This electoral extravagance was unprecedented in scale and duration, compared with previous dalliances with the same. And sure enough, when the crash came, the deficit left us with less room to manouvre than we might otherwise have had.

As an aside, Brown’s deficits also went on to limit the ability of the first Cameron administration to reduce the deficit as rapidly as they would have liked. Austerity is, after all, not merely a petty ideological point but a practical one – since the dry powder had been used up, the Coalition government could not borrow the amounts needed whilst preserving a reasonable credit rating. The whole sorry mess has been drawn out for much longer than anyone wanted or envisaged.

To be sure, the Conservative’s track record since 2010 has been nothing to write home about; but as with police funding, however bad you might think they are, it is difficult to imagine Corbyn’s to be anything other than significantly worse.

Not all imbalances are created equal

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Trump Merkel

Finally, an opportunity to get my teeth into something classically “asymmetric”: trade.

A piece recently crossed my path, dripping with the complacency of either ivory-towered elites not thinking through the real world; or worse, a Koch-sponsored lobbyist who knows perfectly well the costs of globalisation but wants to hide it in the sophistry of undergrad economics in order to shift the conversation amongst those who do not know better.

It turned out, of course, to be by Dan Hannan, friend of a friend but also the kind of writer who has something of the over-enthusiastic undergrad about him, and is a paid up neo-con – hence the telltale signs above. It was misleading on a number of accounts, and I would go as far as to say, was quite mischievous.

First, the article starts by making fun of Trump’s complaint over German trade policy. Of course, broadly speaking the Germans are exporting a lot because they make great stuff. That’s fine. But the problem is that a good chunk of their competitiveness has nothing to do with their quality of manufacturing and everything to do with a form of currency manipulation, in the shape of the Eurozone. In this regard Trump is perfectly correct to say that they are “selling too much stuff” – just as many would accuse China of the same in recent years. I hope the author was not attempting to criticise the use of simple language for simple people.

Secondly, Hannan goes on to make this statement:

“Incidentally, there is nothing wrong with having a trade deficit with Germany, or with anyone else. Germans can do only two things with the American dollars that they get for their goods. Either they can import American products, or they can invest those dollars back in the United States. At the moment, they are doing a lot of the latter – to everyone’s benefit. The trade deficit is matched, down to the last dime, by the investment surplus. That is why we talk of a trade “balance.”“

This is not entirely correct. The fact is that because it is dollars and not any other currency, the Germans (or anyone else) can directly take those dollars and invest them elsewhere without the US being involved. This is the burden one bears for owning the currency of international trade, the “exorbitant privilege” of being the world’s only real currency. Of course this brings benefits to the US too, principally the ability to print as many dollars as they want and continue to borrow in it, without causing inflation or lowering their credit rating. Nonetheless, America does suffer uniquely.

Last is the issue that has been exercising Trump, Sanders, Corbyn et al (though sadly not Theresa May), namely that not all imbalances are created equal. It is all very well having a capital surplus to match your trade deficit; but the beneficiaries of a capital surplus – financial and real estate investors for instance – are not the same people losing out from the trade deficit. Capital inflows hugely benefit landowners and bankers, but don’t do so much for others.

For most large countries, it would be a pretty sad and politically unsustainable situation to rely only on capital inflows (though small entrepôts like Hong Kong or Singapore might fare better). It would almost certainly lead to unemployment and inflated asset prices – just as it has done in the US. And it won’t be the homes of unemployed steelworker in Bethlehem whose prices go through the roof either; it’s going to be the flats of white collar urbanites in Manhattan.

Herein lies the limitations of much classic economic theory. This is even before we get onto the issues of Europeans freeloading off American defense spending and so on. Really, the question is how on earth do we expect most electorates to digest enough of these nuances to make rational voting choices? With the likes of Hannan doing the talking, in all likelihood they never will.

The short term memory loss of the Keynesians

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To kick on with this electoral theme, a first quick point on economics. In light of Corbyn’s now overtly socialist manifesto, and the accusations that “the Conservatives remain stubbornly allergic to – or ignorant of – Keynesian macroeconomics“, it is perhaps opportune for people to remember what the basis of Keynesianism – often in recent years confused with socialism – actually involves:

  1. Repayment of debt – after borrowing in the low interest rate part of the cycle, it is imperative to rebalance this by repaying this when interest rates rise in the upcycle;
  2. Crowding in, not crowding out – the purpose of government spending is only to pay for things that would not otherwise be paid for by the market; not to provide the same things at a subsidised rate;
  3. Tax cuts – Keynes made it very clear that the best and most efficient way to stimulate demand was not through public spending, but by returning money to consumers.

I wonder if elements of this can now be reclaimed by a responsible government, Tory or otherwise …