In a panel on “The Impact of the Global Financial Crisis on China” at the recent Wharton Global Alumni Forum in Beijing, participants — including executives from JP Morgan Chase, UBS China and Orient Securities Company — were unanimous on one conclusion: The economic and financial crisis offers an opportunity for China to reconsider its growth model.
At the outset the panel analyzed the causes of the financial crisis. “To look at it in historical context, the crisis is a cyclical phenomenon,” noted David Li, chairman and country head of UBS China. “But it also reflects something structural in our society. Our social structure, including the structure of social values — which has also resulted in an industrial structure — the relentless pursuit of wealth, human greed, incompetent regulation, and financial products solely designed for profits which are divorced from the real economy, are all among the root causes of this financial crisis.”
Li, who has travelled extensively in China, said that the impact of the downturn has varied by region. “Obviously,” Li commented, “the crisis has had a huge impact on the Eastern coastal regions, including Guangdong, Jiangsu, Zhejiang and Shanghai, while the impact in Southwest China is relatively limited.” He noted, for example, that in Chongqing (a major city in Sichuan Province), the rate of GDP growth for the first five months of this year was about the same as last year. He expects annual GDP growth for the province to reach “more than 12% this year.”
This analysis was echoed by Wang Yimin, chairman of Shanghai-based Orient Securities. “The impact on China is bigger in the real economy than in the financial sector,” he said, in part because financial markets have not been opened extensively to the global market, thus limiting the negative impact. But export-driven businesses have been severely hit by the crisis, dragging down China’s overall growth rate. Yet, for companies focused on domestic markets, “the absolute sales number is still going up, especially given that China has invested heavily to stimulate consumption,” Wang pointed out.
Local governments have been affected by the downturn in differing ways, depending on their location. “Fiscal revenue in coastal regions has dropped dramatically, while in cities in the midwestern part of the country, revenue growth remains robust,” said Wang.
A Timely Crisis
Despite the fact that the economic downturn has had a negative effect on China in the short term, Wang nevertheless sees some long-term positive results for the country. “It’s an uncommon opportunity for China to reform its growth model,” he argued.
Frank Gong, managing director and chief economist of JPMorgan Chase, agreed: “I definitely believe this crisis is an opportunity for China to make some meaningful underlying restructuring of the economy.” Those structural changes should involve changing the growth model, which depends in part on exports, Gong said.
In contrast with the conventional wisdom, Gong believes China’s recent steps towards recovery have been mainly consumer-driven. Noting that MSCI has gone up 50% since October, Gong said the reasons for the increase go beyond the government’s investment program. “Consumers in China are still spending even in the most difficult of times. So you see the property sales are really hot … auto sales in some cities went up 34%. Consumption in China is hotter than in other markets.”
Gong stressed that the global financial crisis is forcing China to seek a more sustainable growth model. Consumption in China last year accounted for only 38% of the GDP, while in developed countries, like the United States, it accounts for 67% of GDP, and in some Asian countries can be as high as 60%, he said. “Some real changes are taking place facilitated by the crisis. Maybe there will be some reforms in the social security system, some measures to reduce the high savings rate. Now is the opportunity for China to build up the necessary social infrastructure.”
Policymakers have become more concerned with driving domestic consumption, Li said. “We have heard lots of talk about industry upgrading, but not enough has happened in practice. They have long neglected the domestic market because the export-driven economy was booming.” Consumption makes key contributions to GDP growth, but it’s not sufficient at present, he added. But the strategy to drive the consumption has to be viewed as a long-term development strategy, he cautioned.
Wang, of Orient Securities, agreed with the thrust of Gong’s remarks. Over the last 30 years, China’s impressive economic growth story was driven mainly by internal economic reform, which stimulated the labor productivity the use of other resources. China also profited from the boom in the world economy. “So China’s export-led-economy was able to grow in double digits every year, which is not sustainable,” Wang noted. “I think the crisis is actually driving China to go in a more healthy direction,” which otherwise might not have been achievable.
While is issue of the sustainability of the economic model got some attention as early as the party’s 15th National Assembly in 1997, it went mostly unaddressed because of ongoing robust growth numbers, noted Wang. “Even at the 17th National Assembly in 2007, not everyone fully agreed or recognized it.” But in the wake of the global financial crisis, all levels of federal and local government, and those in the business world began to understand that China needs a robust domestic market in order to grow further, he said.
At the same time, “We have always been looking for growth according to quantity instead of quality,” Wang continued. The crisis has become a checkpoint for China to consider shifting focus. One result is that provincial officials’ performances are measured not only by GDP growth, but also by energy-saving measures and pollution-reduction numbers.
A similar shift applies in finance, Wang added. “Before the crisis, people were not clear about how to build up the financial markets in China. We mainly followed the path of the developing countries.” But with the financial crisis, China’s government and markets now have a more sober view of the future development path. “The virtual economy has to serve the real economy. For example, the Growth Enterprise Market (GEM) stock market will be launched soon, which will provide one more channel to finance small SMEs (small and midsize companies) in China.”
Changes in Mindset and Practice
Panelists attested to a shift in the mindset of Chinese officials following the crisis. Noted Li of UBS, regarding some high-level meetings with officials that he attended: “The real positive impact of the crisis has been that it has changed policy makers’ and business leaders’ ways of thinking and doing strategic planning, which is a really good thing.”
Another positive result to flow from the crisis, Li believes, is that financial institutions such as insurance companies, security firms and fund management companies have improved their risk management. “Before the crisis, everyone was talking about growth and expansion. They only paid lip service to risk management. Now, all that has changed.”
Zhou Yanli, vice chairman of the China Insurance Regulatory Commission (CIRC), the top regulatory body on China’s insurance industry, pointed out that the industry has not been impacted much by the global crisis, growing at 10% year-on-year in the first quarter. Historically, risk management has been a weak point for Chinese companies, particularly if they wish to expand oversees. “But many insurance companies have improved their governance structure and management levels because of the crisis” he noted.
“They have reformed their management strategy and mindset to avoid some of the crisis’ effects,” Zhou added. “And we now see companies have struck a balance between the market and the governance structure, and the latter has been improved.”
The crisis has also led the Chinese government to pay greater attention to the financial markets, UBS’s Li says. “Now China is planning to build Shanghai into an international financial center. My suggestion is that you have to take note of the global context, what strategies to adopt, what measures to take, and which talents to draw in.”
Li has learned from meetings with officials is that there is discussion about how to move to a more balanced growth model geared to the both the short and long terms, and which also balances growth across regions.
Overall, Li concluded, “The financial crisis has brought a huge impact to China, but a huge opportunity as well, which has refreshed our awareness and understanding of risk, financial markets, and the development of the world economy.” The pause brought by the crisis “offers a time for us to review the 30 years of opening in China and to learn how to proceed forward in the next 10, 20 or 30 years, and what role should China play in the world.”
An Interconnected World
On the world stage, China’s role as the number-one buyer of U.S. Treasury bonds has been much in the headlines in the wake of the crisis. The panel examined the relationship of the two countries.
“Whether China will buy or not buying U.S. bonds is a decision driven by China’s own interests,” stressed Wang Yimin. “If not the dollar, should we buy Euros?” But after the crisis, Europe is likely to recover more slowly than the U.S. — and it’s a multinational organization, noted Wang. So in a global context, although some argue that the international monetary system must be reformed, “so far there is no practically executable scenario.” At present, “no currency can replace the position of the dollar, although we could move to that direction in the future. If China bought other bonds in the past, it would have been more severely hit by the crisis this time.”
Wang said that the relationship between China and the U.S. is extremely close now. He cited the newly appointed U.S. Ambassador to China, Jon Huntsman, who has called publicly on television for “China and the U.S. to help each other” — in Chinese. Clearly, Wang noted, not only from an investment angle, but also from a political perspective, China and U.S. are closely bound together.
Ravi Sinha, Goldman Sachs’ managing director and co-head of investment banking in Asia noted that he does not agree with those who suggest some countries are decoupling economically. “I think … everything is related. The world now is really coupled together. The other thing I don’t like at all is [the idea that] that one part of the world is developing faster, and the other part of the world is going to die.” For the world economy to improve, “every part of the world has to get better,” he said. “For China to do better, exports have to be stronger. For exports to get stronger, you need the U.S. and European economies to come back.”
China’s Ambition
In response to a question regarding the possibility of the creation of a global currency, Sinha noted that it took “a long time” for the concept of the Euro to develop, and that was within a group of countries that had much in common with each other plus incentives to cooperate. The creation of global currency would face more obstacles than the Euro did, and he estimated that it would take five to 10 years for the concept to develop. “It won’t happen tomorrow.”
Sinha is also bullish on China’s future. “I think China has been responding to this crisis extremely well,” he said. “Its position in the world has been improved. I have to say the other thing very impressive about China is the government policy and the measures it has been taken. If you look at the spending on infrastructure, looking at people come to Beijing to sell their projects, if you look at the money in the consumer sector through the banks … it’s extremely impressive. So money is getting into the system. Our expectation is China is going to get stronger and stronger and the currency is getting stronger as well.”
In his concluding comments, Wang of Orient Securities said one recent message from the central government was notable. “In the recent red paper issued by the National Council to establish Shanghai as an international financial center and shipping center, it says that China has decided to build Shanghai into an international financial center by 2020.” The panelists were bullish about China’s ability to reach that goal.
