Circle of Competence Issue #46
Quote of the week: "As the post-World War II international order continued to erode, the markets ignored the longer-term implications of a more isolated America, a world increasingly adrift and global leadership up for grabs." Seth Klarman, 2018 Investor Letter
FOOD FOR THOUGHT
This week, I wanted to put together a small taste of what is happening in the world's second largest economy - China. If an industry leading CEO is cognizant of what his industry peers are doing, then it makes sense to take note of what is happening in one of the fastest growing (and second largest) economic states in the world. China is on the fast track to becoming the world's largest economy and a world power on the same order of magnitude as the United States.
What is at stake here? Given the recent flexing of US economic muscle against China in the trade war based on intellectual property law abuses and trade imbalances, I see highlighted the clash of two drastically different set of governance principles. Western civilizations are to one degree or another predicated on individual liberties that coalesce into a market for talent, tastes, and treasure. Chinese ideology is predicated on individuals submitting to what appears to be an ever growing, ever intrusive state.
Now, before I hear from anyone that I am coming from a nationalistic stance against another sovereign state, I want to clarify that I harbor no animosity against Chinese governance principles, the Chinese people, or the Chinese economic machine. Rather, I embrace the principles of free trade, free enterprise, and free speech. What is occurring in China does not exactly fit these principles that most westerners largely take for granted. Will the second largest economy come to replace these principles with Maoist-Stalinist ideologies? Or will they embrace the tenets of basic freedom as more and more of their citizens come into new middle class wealth? There are some that believe that China will eventually liberalize their economy (and their state?) because they will have no choice with the rise of the nouveau riche, and there are others that believe that China will continue to increase its control over the citizen. The answer seems to be somewhere in the middle, but it is important to observe the trends.
So, I'd like to bring a few articles to light about the Chinese state and economy that paint a somewhat dark and dystopian picture with regards to the above questions. I deeply desire that one day, Chinese citizens will have as great of freedoms as I do - the freedoms of life, liberty (which I would argue they do, but only to a very limited degree), and the pursuit of happiness.
Censorship, Social Engineering, and Economic Influence
Censorship has long been a part of the People's Party platform to ensure that information was curated that serves the party's interests and no one else's. Just as recently as 2014, Xi Jinping noted in a speech that
“Art and literature is the engineering that moulds the human soul; art and literary workers are the engineers of the human soul.”
And who controls the art and literature workers? Back in 2006, Google participated in light censoring of search results in a hopeful mission that China's citizens would one day be opened to the world wide web. They pulled out after the censored terms grew to number several thousand. Only recently in early 2018 were they rumored to be developing a censored version of their search for the Chinese in order to participate in the market. One must ask - who was always in charge here? The free market or the government?
Next we have the Chinese social credit system - refer to this NY Times article on China's dystopian future for a taste. There were always many proponents who held the opinion that technology was a revolutionizing force for democracy, that the internet couldn't be stopped, and the freedom of speech and expression would win the day. With the rise of AI powered facial recognition and big data, China has turned this thesis on its head by attaching a social credit 'score' to each citizen that is linked to 'positive behavior', thereby marrying individual responsibility with social management at scale. What is more disturbing is that these social credit scores will go far beyond typical Western style credit scores and be linked to many more types of goods and services, effectively scoring the citizen holistically as pro-state or anti-state (Black Mirror, anyone?). Take for example this quote from the Atlantic in early 2018:
"But the system provides abundantly for sticks as well as carrots. Attend a “subversive” political meeting or religious service, for example, or frequent known haunts of vice, or do under-the-table business with an unregistered, informal enterprise, and the idea is that the network will know about it and respond by curtailing one’s privileges. The state wants its citizens to believe that there’s little point in trying to evade detection of such acts, especially when they are strongly correlated with suspicious sites, either by mobile-phone location data or by China’s extensive national network of facial-recognition-equipped surveillance cameras. Once detected, the system promises to pass judgment on the things a citizen is and is not permitted to do, buy, or access. And with no recourse in real time, no ability to appeal, and nowhere to turn for help."
Not only do you have the two trends of a censored press and socially engineered citizen behavior - China's economic sphere of influence is growing one business deal at a time despite its over leveraged economy, where it has been forced to pump money into the markets to shore up liquidity problems and keep credit flowing. Their growing economic appetite goes hand in hand with their expansionist foreign policy, demonstrated by how the 1MDB sovereign debt fund scandal involved China when they offered to bail the fund out... in exchange for deals for its One Belt One Road initiative. According to a recent Bloomberg piece, a fifth of Chinese homes are vacant, harkening back to late 2007 where homes had become the investment du jour of the masses. There is significant leverage and excess capacity in the Chinese economy and in a culture where only selective data makes its way into the press, the Party Leadership is doing everything it can to present a united, healthy economy. But the cracks are beginning to show.
I will wrap up with my own 30,000 foot view. I like to follow the Sinocism newsletter on China, and they published an interesting, but dark speech given by John Garnaut, an Australian government official that served under Malcolm Turnbull as an advisor on China foreign policy. What I gathered from this long read was the degree to which Xi Jinping adheres to the Maoist principles of yore. And the technologically driven 'big brother' social credit system fits right into the principle of driving the People and Party forward in one direction, and 'purging' those who will not join hands with the Party in its mission of progress. Mix this social management with the Party's economic and expansionist foreign policies, and what results? The trends taken in aggregate suggest that the highest echelons the Party are aiming not merely to stifle the import of Western values and systems, but to export its brand of one-ness in economy, citizenship, and state. As a nation of 1.4 billion people comes to terms with their national identity, it would be well worth our time to understand the differences between Western values of freedom and Eastern values of one-ness and submission.