Commentary on Political Economy

Monday 31 August 2020


Evergrande Debt Continues to Pile Up Amid Cash-Flow Concerns

Bloomberg News
Updated on 
  • China developer reiterates pledge to lower debt this year
  • Company has been selling more assets to reduce debt load

China Evergrande Group’s debt load increased from the end of last year even after the country’s most indebted property developer pledged to remake itself as a leaner company.

The company’s total debt edged up 4% to 835 billion yuan ($122 billion) at the end of June, compared with 800 billion yuan at the end of 2019, according to an earnings report released Monday by the Shenzhen-based company. Net debt swelled to a record 631 billion yuan on a weaker cash buffer, Bloomberg calculations show.

Evergrande in March unveiled an aggressive target to reduce borrowings by half in three years. It has since launched a nationwide sales blitz to recoup cash, raised $3 billion by selling a stake in its service arm and reduced spending on land purchases. Last week, it expected total investment on electric vehicles to be 29 billion yuan, lower than 45 billion yuan planned earlier.

“We’re confident that total debt, net debt and net gearing will all substantially decline by year end,” Chief Executive Officer Xia Haijun said in an online briefing after the earnings release. He added that borrowing picked up in the first quarter during the pandemic, yet has dropped by 40 billion yuan in the second quarter.

The developer plans to cut borrowing by at least 150 billion yuan each year from 2020 to 2022, Chief Financial Officer Pan Darong said in the briefing.

Debt Goals

To achieve that goal, the developer has collected 354 billion yuan in cash, equivalent to 89% of contract sales in the first seven months, Pan said. It expects to collect 380 billion yuan in the second half of the year. The developer will also cut its land bank and add more partners through spin-offs.

The deleveraging push has been met with some skepticism amid a looming debt maturity wall. In June, Moody’s Investors Service changed its credit outlook to negative from stable, citing its “weak” liquidity.

Net gearing, which measures debt to equity including minority shareholders, was about 199%, from 159% at the end of last year, calculations show. Excluding minority shareholders, the measure was 484%.

Evergrande has been boosting sales to meet debt coverage, which may hasten the need to sacrifice margins, Bloomberg Intelligence said.

The company said earlier this month that first-half net income including minority interests fell 46% to about 14.7 billion yuan. Increased marketing expenses, foreign exchange losses and the firm’s venture into electric cars contributed to the decline in earnings, the developer said. Profit attributable to shareholders plunged 56% to 6.5 billion yuan.

Gross margins sank to 25%, higher than a 24% forecast by Bloomberg Intelligence.

China Evergrande fell 3.8% in Hong Kong Monday, increasing its decline to 16% this year.



China’s Chip Executives Worry They’re Next on U.S. Hit List

Bloomberg News
  • Further U.S. sanctions may derail China’s chip industry
  • Homegrown firms step up efforts to increase self-sufficiency

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Dozens of senior Chinese government officials and business leaders gathered at the 2020 World Semiconductor Conference last week, but their usual agenda of trumpeting the nation’s chip innovation was colored by fears their industry might be next to suffer trade sanctions from the Trump administration.

The White House’s campaign to contain China’s tech ascendancy has already shaken up the world’s technology supply chain and further restrictions would seriously set back China’s still-developing chip industry, executives including Legend Capital Co.’s Arthur Ge and Wang Xuguang, chief executive officer of AINSTEC, said at the conference last week. That’s despite the resiliency in China’s chip demand, which has been supported by a recovery in manufacturing following disruptions during the coronavirus pandemic.

“If the U.S. further hit key areas of Chinese tech industry, for example the advanced chip manufacturing, the impact would be devastating,” said Ge, managing director of Legend Capital, an investment arm of the parent of Lenovo Group Ltd.

The White House this month slapped new restrictions on exports to Huawei Technologies Co. amid an escalating standoff between the two largest economies that has already ensnared other Chinese tech giants like Tencent Holdings Ltd. and ByteDance Ltd. The latest rules required any chip companies using U.S. technologies to seek licenses before working for Huawei, effectively closing off the loopholes that the Chinese corporation had explored after earlier curbs that threatened the survival of its chipmaking unit HiSilicon.

The U.S. is considering new restrictions on exports of semiconductor manufacturing equipment and associated software tools, lasers, sensors and other technology, Reuters reported last week. Already, Synopsys Inc., the Mountain View, California-based provider of electronic design automation (EDA) tools, has suspended cooperation with Huawei following the U.S. curbs, China Chairman Ge Qun said at the conference.

“The entire chip industry is too fragile to defend itself. We are at least 20 years behind comparing to Silicon Valley from scale and quality of talent to size of the ecosystem,” said Wang of AINSTEC, a Suzhou-based company that develops 3D visual chips. “If we can prosper (with the U.S.), that’s the best, but if the situation doesn’t allow this to happen, we need to think what we have on our hands.”

For its part, the Chinese government has stepped up efforts to defend domestic tech companies and increase the industry’s self-sufficiency. This month, it rolled out a series of measures that include tax breaks, tariff exemptions and investment incentives to bolster chipmakers and software producers.

Local corporations are also boosting investments in research and development, with state-backed Tsinghua Unigroup building a $22 billion memory chip plant in the city of Wuhan. Semiconductor Manufacturing International Corp. recently completed a secondary listing in Shanghai, raising more than $7.6 billion that would be used to develop next-generation chipmaking technologies to compete with rivals like Taiwan Semiconductor Manufacturing Co. Tsinghua Unigroup and SMIC, along with HiSilicon and Cambricon Technologies Corp., are among a handful of homegrown firms that are engaged in advanced chip manufacturing.

“Although no one wants to say this, the world is approaching a new cold war era. I’m afraid this trend will get stronger in the future,” said Li Xing, co-founder of Beijing-based private equity company V Fund and a former Goldman Sachs Group Inc. executive. “However, the challenge could become an opportunity for the industry” as China seeks local replacements.



China Vows to Make Czech Politician ‘Pay’ for Taiwan Trip

Bloomberg News
Updated on 
  • Senate President Milos Vystrcil leads delegation to Taipei
  • Visit comes amid Chinese diplomatic offensive in Europe
Milos Vystrcil waves upon his arrival in Taipei on Aug. 30.
Milos Vystrcil waves upon his arrival in Taipei on Aug. 30. Photographer: Sam Yeh/AFP via Getty Images

China’s foreign minister warned that a top Czech lawmaker would “pay a heavy price” for visiting Taiwan, exposing continued tensions with Europe even as Beijing sought to push back against U.S. overtures on the continent.

Foreign Minister Wang Yi told reporters in Germany that Czech Senate President Milos Vystrcil’s trip was a “betrayal” that made him “an enemy of 1.4 billion Chinese people.” Vystrcil is leading a 90-member delegation to democratically run Taiwan, including Prague Mayor Zdenek Hrib, a Beijing critic who in January made Taipei a sister city to the Czech capital.

“China will not sit idle and tolerate the Czech Senate leader’s provocation and the anti-China forces behind him,” Wang said. “We will make them pay a heavy price for such short-sighted behavior and political speculation.”

Czech Foreign Minister Tomas Petricek told reporters Monday that his ministry planned to summon the Chinese ambassador. While Petricek said the government anticipated that Vystrcil’s trip would draw criticism and was carried out without its support, he said Wang’s remarks had crossed the line.

The Czech delegation represents Taipei’s second high-profile foreign visit in recent weeks, bolstering President Tsai Ing-wen’s effort to fight an isolation campaign by Beijing. Earlier this month, U.S. Health Secretary Alex Azar became the most senior American official to visit Taiwan since Washington switched diplomatic ties to Beijing from Taipei in 1979.

Both Taiwan and the Czech Republic -- a former Soviet satellite state -- “had to struggle to find a path to democracy,” Vystrcil said in a speech at National Chengchi University in Taipei. “I believe that other representatives of Europe will soon realize their delays, too -- for example, representatives of other European democratic countries or the European Union -- and that they will also visit Taiwan,” he said.

Vystrcil told an investment forum Monday that he aimed to deepen trade ties between the two sides, and that Czech entrepreneurs wanted to make connections with Taiwanese businesses. He didn’t comment on Wang’s remarks.

“Taiwan and the Czech Republic are democratic countries with common values,” Taiwanese Economic Minister Wang Mei-hua said ahead of a meeting with Vystrcil’s group. “The Czech delegation is here for trade. We hope to deepen trade ties.”

For more on China-Europe tensions:

Wang’s comments underscored the challenge Beijing faces fighting American calls for its allies in Europe to eschew cooperation with China. On Sunday, he urged European countries to embrace “strategic independence” and “play a constructive role” in easing the confrontation between China and the U.S.

The difference between the world’s two largest economies lies in “whether to advocate cooperation or a zero-sum game,” Wang said during a talk at a Paris think tank, according to a Chinese Foreign Ministry statement. The U.S. was “standing on the wrong side of history,” he said.

Wang is advocating for China and the European Union to reach a deal on investments by the end of the year on his week-long visit to the continent, which began Tuesday and included stops in Italy, the Netherlands, Norway, France and Germany. The trip follows a European swing by U.S. Secretary of State Michael Pompeo, who told the continent that China posed a greater threat than Russia.

Warship Transit

The destroyer USS Halsey also sailed through the waters between Taiwan and mainland China, U.S. Seventh Fleet spokesperson Cmdr. Reann Mommsen said in an e-mail on Monday, an operation long used to signal American military support for Taipei. The transit was at least the ninth such trip this year, equaling the total for all of last year.

China’s attempts to separate economic and trade discussions from differences in ideological values could face difficulties. Meeting with Wang, French President Emmanuel Macron raised concerns about China’s human rights record in dealing with pro-democracy demonstrators in Hong Kong and ethnic Uighurs in China’s far west region of Xinjiang.

EU foreign policy chief Josep Borrell echoed Pompeo in calling China a “new empire” on par with Russia and Turkey in an opinion article published by French newspaper Le Journal du Dimanche over the weekend. All three countries are “sovereigntists on the outside and authoritarian on the inside,” Borrell wrote.

In a piece published to Spain’s Politica Exterior he urged EU members to “correct” economic imbalances with China before it was “too late.”

The Chinese Foreign Ministry repeated Wang’s warning Monday, telling a regular news briefing that the Czech delegation was “blatantly” interfering in China’s internal affairs. “We express strong condemnation and grave concern over such negative act,” Foreign Ministry spokesman Zhao Lijian said.



India and Chinese Troops Clash on Disputed Himalayan Border

Updated on 
  • Urgent, high-level military talks ongoing to ease tensions
  • Clash follows months-long stand off between the two nations

India said its troops clashed with Chinese solders along their contested Himalayan border, the latest skirmish in a conflict that has simmered since May.

The Chinese troops carried out “provocative military movements” late on Saturday night, India’s Defense Ministry said in a statement Monday. It accused the People’s Liberation Army of violating diplomatic and military agreements on the undemarcated area.

Beijing was in close communication with New Delhi regarding issues on the ground, Chinese Foreign Ministry spokesman Zhao Lijian said at a daily briefing in Beijing on Monday. “Chinese border troops always strictly abide by the Line of Actual Control,” Zhao said. “They never cross the line.”

India’s benchmark stock index S&P BSE Sensex plunged 2.1% in Mumbai, the biggest drop since May 18. The rupee weakened 0.3%.

The latest skirmish between the two sides took place along the Southern bank of the Pangong Tso -- a glacial lake at 14,000 feet -- along the 3,488 kilometer (2,162 mile) Line of Actual Control. Both India and China have moved thousands of troops, tanks, artillery guns and fighter jets close to the border.

The number of casualties or captured troops is not yet clear, and while there’s a high-level military meeting in progress to resolve the tensions, India’s military is fully deployed along the disputed border.

‘Deliberate Move’

This fresh attempted incursion by Chinese troops is significant and was not carried out by local commanders alone, said retired Air Vice Marshal Manmohan Bahadur, the additional director general of New Delhi-based Centre for Air Power Studies.

“It appears to be a well thought out and deliberate move,” Bahadur said. “China, it appears, is trying to change the alignment of the Line of Actual Control and put further pressure on Indian positions.”

Indian troops “undertook measures to strengthen our positions and thwart Chinese intentions to unilaterally change facts on ground,” the ministry said, noting it would not release any further details to “maintain operational security.”

India and China’s worst dispute in four decades culminated in the death of 20 Indian soldiers and an unknown number of Chinese soldiers in an ugly battle on June 15.

Since then tensions have continued to simmer, with India revealing in late July it was positioning an additional 35,000 troops along the border as the possibility of an early resolution to the deadly tensions between the two neighbors faded.

— With assistance by Ravil S

 Here, applied to Australia, is the theoretical analysis that we have advanced for years - notably in our pieces on Friedrich List.

How Australia's big bet on China is going wrong

Adrian Blundell-Wignall

China's trade is managed for geopolitical advantage – and Australia risks becoming a vassal state if it is not careful.

Policy decisions are made with a great deal of uncertainty. A consensus emerges about likely outcomes – let's call them "priors" – and a decision is made. If new facts come to light that contradict our initial expectations, so that the chance of them being realised is reduced, the priors need to be updated. Policy changes are needed as a more informed view emerges.

Sounds sensible enough. But does this describe Western thinking about China?

In the late 1990s, the main prior of global policy makers, economists and businesspeople was that welcoming China into the WTO would bring on prosperity by unleashing a new wave of globalisation; the largest country by population, urbanising and trading with the West. Real wages in cities would rise, imports from the West would accelerate and everyone would gain.

Many of our working assumptions about China turned out to be wrong. Bloomberg

Fast forward to today. China invests and saves 50 per cent of GDP. That requires massive exports to the West at subsidised prices, while imports from countries that China regards as strategic competitors are substituted in favour of those that fit into a global vision with China at the centre. This pattern long pre-dates the 2013 announcement of the Belt and Road Initiative.

The chart below shows the shares of the Five Eyes (the US, UK, Canada, Australia and New Zealand intelligence network) and Japan in Chinese imports versus the BRI countries. The US and Japan, the main strategic competitors of China, have seen a startling decline. Europe holds its own, but mainly because China needs German capital goods. Australia, protected by inelastic demand for its resources, has seen a rise in the past few years. The BRI countries gained strongly.

China's development model is based on funding massive investment intermediated by state-owned banks, Chinese Communist Party presence on company boards and investing in infrastructure in key non-aligned neighbouring countries. The basic goals are security of energy, resources and food supplies; transforming itself into the technology hub for its strategic partners; and pushing lower-value-added manufacturing towards the latter.

The strategy isn't new. President Xi Jinping's BRI announcement has simply brought it more into the open: "We should promote land, maritime, air and cyberspace connectivity, concentrate our efforts on key passageways, cities and projects and connect networks of highways, railways and seaports. The goal of building six major economic corridors under the Belt and Road Initiative has been set, and we should endeavour to meet it.

"We will actively engage in negotiations with countries and regions along the routes of the Belt and Road Initiative on the building of free trade areas.

"We will strengthen international co-operation on energy and resources and production chains, and increase local processing and conversion."

Two world views on how the global economy should work are colliding.

In building its BRI empire, China is doing what it sees as being in the interests of its people. One can't argue against that. But the West must look after its own, too. The China shock has been disastrous for advanced countries with significant basic materials and manufacturing sectors. The hollowing out of jobs for lower-skilled workers and the onset of global deflation forces have been unfolding for decades.

Two world views on how the global economy should work are colliding. The result is a misallocation of global resources; a predictable outcome when finance is subsidised and capital allocation is based on geo-political objectives.

Yet despite evidence that contradicts what was supposed to happen, little has been done to level the playing field.

That priors were not matched by facts should have led to a revision of our thinking. Effective policies to counter the China distortions might have included an explicit focus on state-owned enterprises in trade treaties and foreign investment access; adherence to the Agreement on Government Procurement; contracts that waive sovereign immunity; countervailing duties; and carbon price equalisation taxes.

The role of trade bullying

But the West did not address the fundamental issues because there was no consensus to do so. Consensus gravitated instead towards transforming liquidity support needed in the financial crisis into some sort of permanent quantitative easing to counterbalance the real economy distortions.

The problem is selective thinking. There is an incentive to ignore or dispute facts that you are not responsible for (the global economy, malfeasance), if dealing with them will hurt your local and near-term interests. Businessmen with earnings responsibility and political clout, think tanks and other public opinion influencers become effective weapons against change.


Sunday 30 August 2020

 It seems Western central banks are determined to kill capitalism as an efficient machinery for the production of goods and services that preserve national political and industrial power. Here, Bartholomeusz explains how this is happening. Once again, one may point out the wisdom of Professor Pettis's remarks on the importance of 'governance' in the 'measurement' of GDP data.

Why markets barely blinked at Fed's new direction

Late last week the US Federal Reserve Board unveiled its new monetary policy framework, turning its back on nearly 40 years of prioritising a low inflation rate. The financial markets’ reaction was instructive, with the announcement barely causing a ripple.

That may be because the change the Fed chairman, Jerome Powell, announced at the annual Jackson Hole conference was so widely foreshadowed. It might also be because no-one believes it is going to actually change much in the foreseeable future.

Jerome Powell's policy shift barely caused a ripple in financial markets.

Jerome Powell's policy shift barely caused a ripple in financial markets.CREDIT:BLOOMBERG

Since Paul Volker raised the Federal Funds rate (the US equivalent of our cash rate) in 1981 to 20 per cent and killed off what had been rampant inflation in the 1970s, the Fed – and most other major central banks – has prioritised keeping a lid on inflation. That was formalised in 2012 when the Fed adopted a two per cent target/ceiling for the US inflation rate.

In what Powell described as a "subtle" shift in policy, the Fed now says that after periods when the inflation rate has been running persistently below two per cent, it will aim to achieve a rate "moderately" above two per cent for "some time."

In other words, the Fed will allow inflation to overshoot two per cent for some indeterminate period in a form of compensation for periods of low inflation. The two per cent target has become a long term average rather than a ceiling.

In essence, it says that even more debt and leverage is encouraged and that the Fed will provide a rising safety net under risk assets, in the process exacerbating the wealth inequality that has already produced significant social stresses in the US and elsewhere.

Given that the US inflation rate since the global financial crisis has averaged about 1.7 per cent, any concern about the new policy leading to an imminent outbreak of inflation in the US could be regarded as baseless. After all, central bankers have been trying to generate inflation for the past decade – Japan for closer to 30 years - without success.

The post-financial crisis era has, so far, been characterised by low economic growth and low inflation despite the deployment of unconventional and ultra-loose monetary policies and ultra-low interest rates.

That has led to many central banks postulating that there has been structural change in the developed economies - that ageing populations, new capital and people-light technologies that have changed the nature of economic activity and work and the effects of globalisation have generated deflationary pressures throughout the developed world.

If that thesis were correct then low economic growth rates, very low inflation and very low interest rates would be permanent features of the economic landscape and the Fed’s new framework would be irrelevant because the inflation rate would never be consistently high enough to see how the central bank’s "lower for longer" interest rate policy would play out.

The alternative scenario, where inflation did rise above two per cent but the Fed kept rates low would produce an interesting challenge for markets and the Fed.

The Fed can anchor the short end of the US yield curve via the Federal Funds rate but the market sets the rates on longer-dated bonds and would be likely to push them up sharply if it appeared inflation were breaking out, with the threat of market tantrums and meltdowns forcing the Fed to consider more unconventional responses to avoid a financial crisis.

The shift provides additional comfort to investors in equities and other risk assets that the Fed will have their backs long into the future.

The shift provides additional comfort to investors in equities and other risk assets that the Fed will have their backs long into the future.CREDIT:AP

What Powell and his fellow governors have done in revealing their new tolerance for higher inflation is provide additional comfort to investors in equities and other risk assets that the Fed will have their backs long into the future.

The two most meaningful moves in markets on Friday were another rise in the sharemarket and another modest depreciation of the dollar, which is consistent with the implications of that lower-for-longer view on US rates for equities and for foreign investors in the US bond and credit markets.

Whether or not the Fed has the ability to deliver high inflation via low rates – the Fed funds rate is effectively zero and may well end up being negative if the US economy doesn’t rebound strongly from the impact of the pandemic – the signals it is sending to markets are consistent with those that it, and other central banks, have been sending since the financial crisis.

In essence, it says that even more debt and leverage is encouraged and that the Fed will provide a rising safety net under risk assets, in the process exacerbating the wealth inequality that has already produced significant social stresses in the US and elsewhere.

In some respects it is the ultra-loose settings that the central banks have left in place since the crisis that have forced the Fed’s hand.

There is so much debt and leverage in the system – even more now because of the government and household responses to the coronavirus – that central banks couldn’t raise interest rates even if they wanted to without precipitating a dire financial and economic crisis.

The new framework will encourage more debt and keep more zombie companies alive and the capital that could be used more productively trapped within them, contributing to the anaemic levels of economic growth that perpetuated low inflation and low rates.

In effect, analysis of the practical effects of the new policy framework underscores how limited the tools available to central banks really are – and how using the tools that they do have too aggressively tends to generate long-term unintended consequences that increasingly narrow the banks’ room to move.

What would happen if the inflation rate did move significantly above two per cent and remained there for a sustained period? Would the Fed really raise rates decisively to clamp down on inflation, knowing its impact on inflated markets, highly-leveraged companies and on the cost to its government of servicing levels of debt previously only experienced during war times?

By broadly maintaining, for more than a decade, the debt and markets-friendly monetary policy settings they created to respond to the financial crisis the key central banks have locked themselves into policies with no obvious escape routes without risking market mayhem and corporate destruction on a scale much greater than was likely in the aftermath of the financial crisis had the banks allowed the processes of creative destruction to run their course.