SinoInsight 1
The PRC National People’s Congress proposed a new national security law for Hong Kong during the Two Sessions. The planned law would allow PRC state security agencies to operate officially in Hong Kong. According to the South China Morning Post, Han Zheng, the CCP Politburo Standing Committee member who oversees Hong Kong affairs, told Hong Kong delegates on May 24 not to “underestimate Beijing’s determination” on enacting the legislation. “When the decision is made, we will implement it till the end,” Hong Kong delegation deputy convenor Wong Yuk-shan quoted Han as saying.
Many in Hong Kong and the international community believe that the implementation of the NPC’s Hong Kong national security law would mean the de facto end of “rule of law” in Hong Kong and the “one country, two systems” arrangement. Analysts believe that businesses and investors could move their assets and operations out of Hong Kong to other financial centers. Hong Kong’s Hang Seng Index fell 5.6 percent on May 22 (the biggest decline since July 2015), a day after news broke of the new law. On May 24, thousands of people in Hong Kong staged a protest in the Causeway Bay shopping district. Hong Kong police fired tear gas and water cannons at the protesters, and arrested over 100 people.
The United States and other Western countries reacted strongly to the CCP’s latest Hong Kong move.
- In a May 22 statement, U.S. Secretary of State Mike Pompeo said that the PRC’s “disastrous proposal” would be a “death knell for the high degree of autonomy Beijing promised for Hong Kong under the Sino-British Joint Declaration.” Pompeo added that “any decision impinging on Hong Kong’s autonomy and freedoms … would inevitably impact our assessment of One Country, Two Systems and the status of the territory,” and noted that the U.S. stands “with the people of Hong Kong.
- On May 23, nearly 200 political figures from the U.S., the U.K., and about 20 other countries around the world issued a joint statement condemning the Hong Kong national security law proposed by the NPC as a “comprehensive assault on the city’s autonomy, rule of law and fundamental freedoms” and a “flagrant breach” of the Sino-British Joint Declaration. “If the international community cannot trust Beijing to keep its word when it comes to Hong Kong, people will be reluctant to take its word on other matters,” the statement wrote. Chris Patten, the former Hong Kong governor who organized the joint statement together with former U.K. foreign secretary Malcolm Rifkind, told The Times newspaper that “the Hong Kong people have been betrayed by China” and that Britain has a “moral, economic and legal” duty to stand up for Hong Kong.
- In an interview with NBC on May 24, White House National Security Advisor Robert O’Brien said that the PRC is “going to basically take over Hong Kong” with the NPC’s national security law, and “if they do … Secretary Pompeo will likely be unable to certify that Hong Kong maintains a high degree of autonomy and if that happens there will be sanctions that will be imposed on Hong Kong and China.” He added that it is “hard to see how Hong Kong could remain the Asian financial center that it’s become if China takes over.” When asked if the PRC will be affected by U.S. sanctions, O’Brien said, “China is dependent on capital from the rest of the world, to build their economy and grow their middle class. They’re dependent on liquidity in financial markets. If they lose access of that through Hong Kong, that’s a real blow to Xi Jinping and the Chinese Communist Party.”
The strong pushback against the proposed NPC law appeared to provoke some concern in Beijing. On May 24, PRC foreign minister Wang Yi said during a press conference that “some political forces in the U.S. are taking China-US relations hostage and pushing our two countries to the brink of a new Cold War.” In a string of tweets on May 24, PRC foreign ministry spokeswoman Hua Chunying echoed Wang’s “new Cold War” statement and called for Sino-U.S. cooperation. She also sought to justify the NPC law by claiming that “excessive unlawful foreign meddling in Hong Kong affairs has placed China’s national security in serious jeopardy” and that the law would not affect Hong Kong’s high degree of autonomy, rights and freedoms, and the “legitimate rights and interests of foreign investors in Hong Kong.”
OUR TAKE
1. On paper, it does not make much sense for the CCP to take drastic measures to ensure that national security laws are passed in Hong Kong. Hong Kong is a vital financial hub and intelligence conduit for the PRC. The CCP elite also have many interests in Hong Kong. Keeping up the pretense of the “one country, two systems” arrangement would appear to be the wiser option for the CCP regime instead of making a provocative move that has spooked the West and international investors.
From the CCP’s perspective, however, growing global anti-CCP sentiment and a U.S. that has decided to call out its regime for what it is are reasons enough to justify its urgency in seeking to pass controversial national security legislation in Hong Kong (NPC plan and Article 23 push in Hong Kong). As the CCP struggles to cope with domestic crises, the last thing it wants is an anti-communist base in PRC territory where the Western powers can “subvert” the CCP regime. Thus, the embattled CCP would rather lose Hong Kong as a financial base by seeking to implement national security laws in the city than allow Hong Kong to be transformed into a regime-threatening anti-CCP base.
Passing the national security law is also in Xi Jinping’s interest. Xi needs to tighten his control over Hong Kong to deny his political rivals a channel by which they can continually undermine his rule. Xi also needs to show the Party some “results” after overseeing many failures over the past three years (worsening economy, Taiwan, etc.), and it cannot be ruled out that “getting tough” on Hong Kong, alongside poverty alleviation, are Xi’s attempt to win some political credit to prop up his leadership.
2. We looked at the NPC’s proposed Hong Kong national security law from the CCP’s perspective in the May 21 edition of this newsletter. In particular, we noted that the CCP is likely looking to gauge how the U.S. and the world react to the law “so that it can know what to expect and how to respond to efforts to implement Article 23 in Hong Kong.” Put another way, the CCP appears to be looking to test the waters with the proposed NPC law in a similar manner to how it stationed troops near the Hong Kong border in August 2019 during the height of the anti-extradition bill protests. Then, the relatively tepid response from the U.S. and the international community to the troop movement emboldened the CCP to “keep pushing the limits in suppressing the protesters,” leading to the besieging of the Chinese University of Hong Kong and the Polytechnic University of Hong Kong in November (see here and here for analysis of the CCP’s strategies on Hong Kong). The CCP’s “testing waters” approach is the result of the decades-long U.S. policy of engagement with China; U.S. unwillingness to robustly confront pernicious CCP behavior (like island-building in the South China Sea and their militarization) convinced the CCP that the West would not react strongly to its “salami slicing” strategies to advance its world domination agenda.
The CCP, however, almost certainly misread how quickly U.S. and global attitudes towards the PRC have turned and hardened in recent weeks. A 16-page document outlining the U.S. strategic approach to the PRC released on May 20 makes it clear that America’s policy of deepening engagement with China had failed to spur economic and political opening in the PRC and that the U.S. was now embarking on a “competitive approach” to China “based on a clear-eyed assessment of the CCP’s intentions and actions, a reappraisal of the United States’ many strategic advantages and shortfalls, and a tolerance of greater bilateral friction.” The coronavirus pandemic has also led Australia, Britain, and other U.S. allies and countries to more candidly call out CCP misbehavior. The CCP’s announcement of the Hong Kong national security law has only confirmed what America and its allies have been saying about the CCP regime and convinced them to put their foot down where they would previously have backed off.
We noted that the U.S. and China are already waging a “new cold war” in our 2019 Special Report. The Trump administration’s recent release of the U.S. strategic approach to the PRC document marks the informal “official” declaration of the “new cold war.” Meanwhile, the PRC foreign ministry’s reaction to the global pushback against the NPC’s Hong Kong national security law indicates that the CCP has not quite caught up to the new geopolitical reality. In sum, the CCP’s latest Hong Kong policy is most definitely a miscalculation of U.S. strategic intent and changing global attitudes towards China.
3. We previously wrote that “the NPC’s Hong Kong national security law will likely turn out to be a legislation that is more ‘conceptual’ than ‘operational’ in function.” In the face of strong U.S. pushback, the CCP could potentially keep the NPC law “conceptual” for an extended period, including dragging out the deliberation process in the NPC.
Looking ahead, Hong Kong will almost certainly see more protests. The focus of the protests will likely also change from local issues (the “Five Demands” of the anti-extradition bill protesters) to being overtly anti-CCP. This is not unthinkable as the Hong Kong people, pushed to the brink by the national security law, decide to confront the root of their problem; already, protesters were heard yelling “Heaven will destroy the CCP” (天滅中共) and holding aloft banners bearing the slogan during the later stages of the anti-extradition bill protests in 2019. The CCP has effectively invited trouble onto its doorstep with the proposed Hong Kong national security law, and its “Berlin Wall” moment draws ever nearer.
Globally, the NPC’s proposed law, the coronavirus pandemic, and America’s toughening stance on the PRC could convince more and more countries to more boldly stand up to the CCP and even join the U.S. in confronting the communist regime.
Businesses, investors, and governments must prepare for political Black Swans and tremendous change in China.
SinoInsight 2
On May 22, PRC premier Li Keqiang delivered his 2020 government work report at Two Sessions meeting. Below are the key points of the work report:
Economics and finance
- For the first time, the PRC did not issue an annual GDP growth target.
- China’s consumer price inflation should be kept at around 3.5 percent in 2020.
- The PRC government will work to effectively prevent and control major financial risks.
- The growth of broad money supply and social financing scale should be significantly higher in 2020 as compared to last year.
- The PRC government will strengthen financial supervision and prevent arbitrage through “idling” funds (防止资金“空转”套利).
- Pilot testing of a growth enterprise market (股市创业板) will commence.
Employment and livelihood
- PRC government work in 2020 will be focused on the “six guarantees,” with a priority on guaranteeing employment and basic livelihood.
- The PRC government will keep the unemployment rate at around 6 percent.
- The PRC government will look to eliminate rural poverty.
- The PRC government will fund vocational training, including expanding enrollment in vocational institutes to 2 million people.
- The PRC government will raise the basic pension for retirees, including increasing the basic pension rate for rural and urban residents.
- The PRC government will expand the scope of eligibility for welfare allowances.
Support for enterprises
- The PRC government will provide financial support for small- and medium-sized enterprises.
- The PRC government will encourage banks to let businesses make more profits.
- The PRC government will reduce corporate taxes and fees.
Finance and debt issuance
- The fiscal deficit rate will be kept at 3.6 percent and above while the fiscal deficit scale will increase by 1 trillion yuan.
- The PRC government will issue 1 trillion yuan worth of “anti-epidemic” special government bonds.
- The PRC central government will distribute remit to the cities and counties the 2 trillion yuan raised from selling the aforementioned special government bonds.
- Government at all levels are to cut down on expenditure; the central government will cut down its non-urgent and non-essential expenditure by over 50 percent. Li Keqiang said that government at all levels “must really tighten [their] belts” (“必須真正過緊日子”).
- The scale of special bonds for local governments will be increased by 1.6 trillion yuan to 3.75 trillion yuan.
Land and property
- Provincial governments will gain expanded authority over land designated for construction.
- The PRC government will expand urbanization.
- Houses are built to be lived in, not for speculation.
Industrial layout and technological development
- The PRC government will promote the upgrading of the manufacturing industry and the development of emerging industries.
- The PRC government will support basic and applied research.
- The PRC government will promote regional development strategies.
Opening up
- The PRC government will significantly reduce items in the “negative list.”
- The PRC government will increase the degree of autonomy granted to pilot free trade zones.
- The PRC government will speed up the development of the Hainan free trade port.
- The PRC government will pilot free trade zones and comprehensive bonded zones in the central and western regions of China.
- The PRC government will promote trade and investment “liberalization and facilitation.”
OUR TAKE
1. The focus of Li Keqiang’s government work report is on maintaining government operations, addressing public grievances with an eye of reducing complaints, and maintaining social stability. This signals that China is facing a very serious economic crisis that is directly endangering the security of the CCP regime.
2. Several of the items in Li’s government work report are consistent with our May 20 analysis of government policies that could be unveiled at the Two Sessions:
- The PRC government’s focus is on the “six guarantees” and particularly on issues related to employment and people’s livelihood.
- The PRC government looks to be issuing 10.6 trillion yuan worth of local government bonds, special treasury bonds, and special bonds for local governments. This is an even greater figure than the upper range of 10 trillion yuan that we forecasted.
- From Li’s “belt-tightening” call to the central government cutting back on expenditure, the signs are there that the PRC government is seeing serious fiscal shortages.
- The central government’s move to directly remit 2 trillion yuan to the cities and counties is clearly an attempt to prevent higher levels of government from withholding funds to those areas. The central government needs to keep cities and counties funded so that they can carry out “stability maintenance” work and curb social unrest.
3. The various financial and economic support measures announced in Li Keqiang’s 2020 government work report hint at the scale of China’s economic problems.
- While the central government has rolled out several stimulus measures in recent years, it has been unable to develop the real economy. Instead, much of the stimulus found its way to inefficiently operating financial institutions that take advantage of government policies to profit from arbitrage. For instance, the total revenue of A-share listed Chinese companies in 2019 was 50.4 trillion yuan while their total net profit was 3.78 trillion yuan. Meanwhile, listed banks had total operating revenue of 5.058 trillion yuan (10 percent of total revenue of listed companies) while their net profits totaled 1.67 trillion yuan (44.2 percent of total net profits of listed companies). This shows that Chinese banks are still making huge profits (up to 33 percent of the total listed banks’ profit margin) when the real economy is doing poorly (4.7 percent of total listed banks’ profit margin).
- About half of the loans issued by Chinese financial institutions end up flowing to the property sector. Also, Chinese banks have a very high bad debt rate. The PRC government’s requirement that banks allow businesses to make more profits could lead to increased bank bad debts and financial risks.
- The CCP princelings control and have very deep interests in China’s financial sector. The Xi Jinping leadership’s effort to rein in banking profits will likely lead to an intensification of factional struggle in the CCP as conflicting interests clash.
