The Inexorable Descent Of China

Here's what Xi Jinping's third term in power means for investors You are receiving this message because you have visited Daily Picks 365 and requested to receive daily market updates, If you no longer wish to be contacted, please click the removal link [here](. Editor's Note: Today we take a slightly different tact and take a look at China's Xi Jingping. His unprecedented third term means he is the most powerful modern day ruler China has ever seen. Xi's priorities and China's priorities seem to be one in the same. So what does that mean for the average investor? Is China on the decline? Have a read and decide for yourself. [Here's What Xi Kingping's Third Term in Power Means for Investors]( [Click here to read full article.]( There is a well-known Chinese aphorism: “Once people walk away, the tea becomes cold.” (人走茶凉.) It can take on many meanings, but its primary one is this: When someone loses their position of power, they are quickly forgotten. Following the Chinese Communist Party’s 20th Party Congress, Xi Jinping — breaking from decades of precedent — will remain as the head of the CCP for a third five-year term. In fact, there has not been any one person to have as much power in modern China since Mao Zedong. This is a pretty stunning consolidation of power, and longtime China watchers like Professor Victor Shih of University of California, San Diego note that Xi not only stacked the centers of power within the party with allies, he also insured that anyone who may have seemed a likely successor was sidelined. Xi gave priority to loyalty in making appointments to the seven-member supreme Standing Committee, which is a decided break from the collective leadership even powerful leaders have depended upon in the past. This means that China has essentially acceded to one-man rule. And this also means, in the words of Craig Singleton at the Foundation for Defense of Democracies, “What you see is what you get.” Singleton called this a gift in disguise. That may be true if you are a foreign policy official. For investors, it means something very different. The priorities of the state of China and the priorities of Xi Jinping are now one and the same. And unlike 40 years ago, when Deng Xiaoping launched the era of reform, spurring the Chinese economic miracle, Xi is an ideological fundamentalist who has returned the economy to its Marxist origins. No longer is the Chinese economy based upon unrestrained state-sponsored capitalism with a fig leaf of communist rule laid on top for cosmetic purposes. Xi’s government has already destroyed the private education companies, has substantially harmed the Chinese tech industry, and has enforced a zero-COVID policy that routinely shuts down cities with 10 million-plus residents. When we say the tea has grown cold, we are referring to China itself. In 2017’s 19th Party Congress, Xi declared the central contradiction of the Communist Party to be “between unbalanced and inadequate development,” which was a way of signaling that the government’s priorities were going to shift. We’ve seen the manifestations of this shift: The cancellation of the Ant Financial IPO, the disappearance of Alibaba (BABA 0.79%) founder Jack Ma from the public eye, and the defenestration of DiDi Global (DIDI -0.51%) following its U.S. IPO against the wishes of the government were all deeply unlikely events in the prior 35 years of economic openness. Recommended Video: [The real reason why 263 million Americans could face a "permanent recession" [Video]]( My own interpretation is that while the growth of Chinese companies was of benefit to previous administrations, Xi came to view their very size and influence as a threat. And from a Chinese perspective, he is not wrong. The income disparity between different parts of China is extreme, as is the contrast between growth in its world-class Tier 1 cities and rural areas. Demographic realities are also pushing the reassertion of the Chinese state into the economy: China’s long-term “one child” policy means that the country is in a position where it may grow old before its average citizen becomes wealthy. We have seen this shift accelerate in the last 18 months. The government’s determination not to bail out the country’s real estate sector (a major source of wealth for the population, as well as the primary revenue source for state and local governments) means that Xi’s sticking to his guns on his belief that an economy based upon finance and property is “fictitious.” All of this means that China’s growth rate in the future is likely to be much lower than it has been over the past four decades. Xi Jinping has cemented his position for the long term, and he believes that the private sector is a threat to the power of the Communist Party in China, as well as to the stability of the state. He has also stocked his Standing Committee with allies, so there is a distinct disincentive at the highest level of power in the country to contradict his wishes. The end result is that China is likely to have a lower rate of growth because the government’s priorities of fighting inequality and environmental degradation (China currently emits more CO2 than the entire Western Hemisphere) are necessarily a drag on the economy. Moreover, China’s local government “land finance” system is at great risk of financial catastrophe, which will require further response from the central government, likely in the form of debt issuance. The arguments for investing in China have always been based on some form of “It’s 1.4 billion people and the economy is growing like wildfire!” I know, I’ve made these arguments before — and even in the face of a government and a system where the interests of international minority shareholders received the bare minimum of protection, the argument was one worth having. People who invested in China might have thought those who didn’t were wrong (and vice versa), but the arguments on both sides were reasonable. But now? In the face of a Chinese government openly hostile to private industry and willing to kneecap companies it views as a threat, what argument is there now to invest in China? There is one, of course, and that is that Chinese companies like Alibaba and Tencent (TCEHY 1.34%) are so dirt cheap that investors are being compensated for the risks being taken. My advice 16 months ago for people wanting to invest in China was to “Play the Hits,” and this remains crucial. Any investments you have in China absolutely, positively must be in alignment with the interests and goals of the CCP. These are value investor arguments, and they are extreme. The very philosophy of value investing is that whatever negative factors that the market perceives as facing a company are overblown — that either the severity or the duration of the risk is overblown, or both. But is that the case here? A leader with nearly unprecedented power and no end to his reign who is openly hostile to your generating returns because he views many of the great challenges facing his country to be the fault of capitalism? That’s a pretty tough argument to get onto the other side. At a minimum, there is absolutely nothing to be gained from rushing into the breach. For 40 years we’ve known China to be a rising economic marvel that was becoming deeply embedded into the global economy. That China is gone. The tea quickly grows cold. 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