1 CCP targets foreign firms and restricts data access
April 26
1. The Financial Times reported that PRC police visited the Shanghai offices of the U.S. management consultancy Bain & Company and questioned employees a fortnight ago, citing six people familiar with the matter. The police confiscated computers and phones but did not detain any of the Bain team members. Three people said that the police made more than one visit to the Bain office in Shanghai.
The incident follows a raid of U.S. due diligence firm Mintz Group’s office in Beijing and the detention of five local staff in late March, as well as the detention of an employee of the Japanese firm Astellas Pharma on suspicion of espionage around the same period.
2. The PRC updated its anti-espionage law to ban the transfer of any information related to national security and broaden the definition of spying.
The revised law lets the CCP authorities launch anti-espionage investigations to access data, electronic equipment, information on personal property, and ban border crossings. The definition of espionage was also expanded to include cyber attacks against state organs or critical information infrastructure.
April 27
Rep. Mike Gallagher (R-Wis.), chairman of the House Select Committee on the Chinese Communist Party, said in a statement, “The CCP’s updated counter-espionage law sends a loud, clear signal to the world: there is no such thing as a private company in China. The State reserves the right to arbitrarily seize any property, steal any IP, harvest any data.”
Gallagher added, “Our business leaders need to take off their golden blindfolds and recognize that the recent police raids of American companies Bain and Mintz are not one-offs, but part of a long, proud tradition of exploitation.”
April 28
The Wall Street Journal reported that the business executives in China say that the CCP authorities are looking to “more tightly control the narrative about China’s governance and development, and limit the information collected by foreign companies such as auditors, management consultants and law firms that could influence how the outside world views China.”
The Journal added that the CCP authorities’ actions have “worried the Western business community, which relies on credible information and professional service to assess risks in China.”
The Journal also reported that some foreign business executives are concerned that the revised anti-espionage law means that “many topics, ranging from the status of Taiwan to China’s human rights record to technology such as semiconductors, are now becoming off limits in discussions with their Chinese counterparts.”
April 30
The Wall Street Journal reported that the CCP authorities have in recent months “restricted or outright cut off overseas access to various databases involving corporate-registration information, patents, procurement documents, academic journals and official statistical yearbooks.”
The Journal added that access to the Wind databases “appears to be drying up,” with many foreign think tanks, research companies, and other non-financial entities discovering that they cannot renew subscriptions to Wind over “compliance” issues.
The Journal further reported that Beijing is scrutinizing and pressuring Western management consultants, auditors, and other service provides that multinationals rely on to assess risks in China as part of a broader effort to “tighten the Communist Party’s control on how the rest of the world forms its views on China” and “essentially close off China from foreign influence,” citing business executives who have consulted with the CCP authorities.
The business executives add that Xi Jinping has a “deepening conviction” that the West and the U.S. in particular pose “existential threats to the Party’s hold on power.”
May 1
The Financial Times reported that Beijing’s raid of foreign companies threaten the latter’s ability to carry out due diligence “through consultants or their own staff, hampering their ability to invest just as Beijing tries to woo them to revive an economy hit by COVID-19 controls.”
Current and former executives in the due diligence industry told FT that Beijing is increasingly wary of the sector, “which frequently uses methods familiar to spies and private detectives.” Two people told FT that Beijing targeted Mintz because the firm has “taken some of the untapped business for Xinjiang supply chain audits.”
FT also cited multiple sources as saying that problematic areas for Beijing include “checking supply chains to ensure that they did not involve forced labor from Xinjiang” and giving advice on “how to restructure technology supply chains to reduce dependency on Chinese sources.” Meanwhile, companies that complied with instructions to not pull personal information from hukou (household registration) files “had been on safe ground.”
Backdrop
The CCP’s scrutiny and pressure on Western consultancies and research firms follow the Biden administration’s efforts to ratchet up pressure against the PRC and a steady worsening of Sino-U.S. relations.
Our take
1. Beijing’s campaign to control what information foreigners can access appears to be part of a broader and long-term effort (at least since after the “financial coup” in July 2015) by the Xi leadership to tighten control over access to and the flow of information in the regime in general. The Xi leadership had also been acting to strengthen the CCP’s oversight of all financial and economic data, including reining in non-bank payment institutions and rolling out a central bank digital currency.
Meanwhile, Washington’s efforts to counter the PRC from the Trump era onwards appear to have convinced Xi Jinping to take action to shore up regime security and protect sensitive data. For instance, U.S. requirements for Chinese companies to share auditing review data to remain listed on American stock exchanges led to the voluntary delisting of several state-owned enterprises and appeared to have been a reason why the Xi leadership intervened to stop Ant Group’s 2020 IPO and get Didi to delist from the New York Stock Exchange shortly after it went public there. We previously analyzed that Didi “almost certainly possess(es) crucial data that could reveal the workings of the PRC government (location of secret intelligence bases, government operations, etc.) or the personal activities of Chinese officials.”
With the escalation of the “new cold war,” the Xi leadership appears to have decided that denying or greatly limiting the U.S. and the West’s access to China’s economic and financial data is paramount for safeguarding national security. Beijing would have likely also calculated that it is a worthwhile trade to receive criticism and pushback (including having some foreign businesses and investors pull out from China) from the West over its actions, as opposed to not doing anything to obscure the PRC’s weaknesses at a crucial time.
2. Regime security issues aside, the Xi leadership’s attempt to greatly restrict foreign access to various databases, as well as revision of the anti-espionage law and efforts to scrutinize and pressure Western companies, are indirect indicators that the Chinese economy is seeing serious deterioration. Otherwise, Beijing would not be too concerned with allowing foreign firms and researchers to view various databases so that they can help the CCP propaganda effort by “telling the China story well” to attract external investments and stabilize foreign trade.
Put another way, the PRC’s economic and financial data must now be so bleak that there is no way for foreigners to read anything positive from them even if they wanted to. To keep up the facade of the “China growth story,” the CCP authorities have to block foreigners from viewing most of the data themselves, only allow the public to view the “sanitized” (i.e. heavily manipulated and fraudulent) official figures, and tightly control “how the rest of the world forms its views on China,” as the Wall Street Journal reported.
3. Washington could view the Xi leadership’s effort to clamp down on information access and harassment of U.S. companies in China as more evidence of Xi Jinping’s growing authoritarianism. This could prompt the Biden administration and Congress to step up their hawkishness towards China and apply even more pressure on the PRC. Sino-U.S. relations could deteriorate more rapidly over the next couple of months, with no off-ramp in sight.
Businesses, investors, and governments must make contingencies for worsening geopolitical tensions and elevated political risks in China.
2 Beijing sticks to old playbook in bid to overcome sluggish economic recovery
April 28
1. Xi Jinping chaired a Politburo meeting on analyzing and studying China’s current economic situation and economic work.
The meeting said that the triple pressures of “demand contraction, supply shocks, and weakening expectations” were easing, economic growth was “better than expected,” and market demand is “gradually recovering,” according to state media. However, the “current improvement in economic performance is mainly restorative,” “internal drivers still aren’t strong,” and “demand is still insufficient.” Further, “economic transformation and upgrade face new resistance” while the “promotion of high quality development still needs to overcome many difficulties and challenges.”
The meeting made the following economic work requirements:
- Develop the advantages of new energy vehicles, as well as accelerate the construction of charging piles, energy storage, and other such infrastructure and supporting power grids.
- Attach importance to the development of general artificial intelligence.
- Adopt a proactive fiscal policy and a prudent monetary policy to expand demand. Promote private investment through government investment and incentive policies.
- Adhere to the “two unwaverings” to boost the confidence of business entities.
- Attracting foreign investment should receive higher priority, and the fundamentals of foreign trade and investment should be stabilized.
- Coordinate and do a good job in reforming small and medium-sized banks, as well as insurance and trust institutions, to reduce risks.
- Adhere to the position of “houses are for living in, not speculation,” and adopt city-specific policies.
- In mega cities, promote urban village transformation and the construction of public infrastructure for normal and emergency use (平急兩用).
- Plan and construct affordable housing (保障性住房).
- Strengthen local government debt management and strictly control (the growth of) new implicit debts.
- Continue to do a good job of preventing and controlling COVID-19.
- Effectively protect and improve the people’s livelihood, expand employment channels for college graduates, and stabilize employment for migrant workers and other key groups.
- Do a good job of ensuring that power supply meets peak demand in the summer.
- Do a good job in food production and in supplying important agricultural products.
2. The secretariat of the Cyberspace Administration of China (CAC) issued a notice regarding a “special action” to “clear and optimize the business network environment to protect the legal rights and interests of enterprises” (關於開展“清朗·優化營商網絡環境 保護企業合法權益”專項行動的通知).
The notice required the cyberspace administrations of the Party Committees of all provinces, autonomous regions, and directly administered municipalities to thoroughly clean up “false and infringing” information that is unfavorable to enterprises and entrepreneurs, crack down on “malicious speculation behavior,” as well as investigate and deal with websites, platforms, and accounts that “infringe” on enterprises and entrepreneurs. The goal of the “clearing and optimizing” campaign is to create a “good online public discourse atmosphere” so that companies can “concentrate on their business and develop without distractions.”
The notice listed 10 types of “network chaos” that should be targeted:
- Impersonation of other companies in setting up websites, registering accounts, launching applets, etc.
- Malicious spreading of so-called “private enterprise sellout theory” (民營企業離場論), “the state advances while the private sector retreats” (國進民退), and other arguments that “play up ugliness” (渲染醜化) and incite conflicts against state-owned companies and private enterprises.
- Leaking of corporate business secrets, fabricating topics about the private lives of entrepreneurs, speculating about the personal privacy of entrepreneurs, and leaking the personal information of entrepreneurs.
- Impersonating enterprises and entrepreneurs to engage in illegal and irregular activities.
- Interfering with the normal operation of businesses by writing headlines that distort the original meaning of news, taking past statements by entrepreneurs out of context, and interpreting financial statements of enterprises in a one-sided manner.
- Providing associated terms, related searches, and popular recommendations that contain false and inaccurate information about enterprises and entrepreneurs.
- Engaging in “black” public relations and other smear campaigns.
- Malicious collecting of negative information about companies to secure illegal benefits.
- Malicious marketing by speculating on trending events involving enterprises.
- Releasing information through (an individual or organization’s) distribution facilities to discredit and attack competitors.
April 30
1. The CAC announced the first quarter results of its “Qinglang” (清朗) series of “special actions,” according to state mouthpiece Xinhua. The cyberspace authorities interviewed the owners behind 2,203 websites, had 48 websites suspend some operations or update their functions, removed 55 apps from domestic app stores, shut down 12 applets, and worked with the telecommunications authorities to shut down 4,208 illegal websites.
2. Data issued by the PRC National Bureau of Statistics showed that the official manufacturing purchasing managers’ index declined from 51.9 in March to 49.2 in April, or below the 50-point mark that separates contraction from expansion in manufacturing activity. The bulk of the manufacturing PMI’s indicators showed contraction while the growth rate of some indicators that showed expansion was not as good as that of the previous month. The official April PMI was also lower than the 51.4 predicted by economists in a Reuters poll.
Meanwhile, the non-manufacturing PMI was down 56.4 in April from 58.2 in March, and the composite PMI fell from 57.0 in March to 54.4 in April.
Our take
1. The CCP’s own data and political assessment of the economic situation suggest that things are currently very grim for the Chinese economy and are on track to worsen over the coming months.
The April 28 Politburo meeting’s view of China’s economic situation is very similar to the assessment made at the Central Economic Work Conference in December 2022 when the regime had just started to move out from “zero-COVID.” Then, the CCP authorities concluded that the economy was facing the triple pressures of “demand contraction, supply shocks, and weakening expectations” and the “foundation of China’s economic recovery is not yet solid.” While the economy has improved after four months of post-“zero-COVID” conditions, Beijing believes that China’s economic performance is still “mainly restorative” and the troubling issues it had earlier identified remain a concern. Further, Beijing observed that there are new and persisting problems with “economic transformation and upgrade,” as well as “high quality development.” In other words, the Xi leadership has indirectly acknowledged that China’s first quarter economic performance and recovery was lackluster at best and well off the mark at worst, and there is still much work to be done to turn around the situation.
Meanwhile, the manufacturing PMI contraction in April appears to affirm our pessimism towards China’s economic situation this year. In our 2023 China Outlook, we wrote that “signs of a quick recovery will likely be illusory as the Chinese economy continues to deteriorate and people lose confidence in China’s economic prospects.” We also wrote, “Despite orders from Beijing to boost domestic demand, local authorities will struggle to implement the central government’s policies. Chinese consumption and demand will continue to shrink.”
2. The CCP authorities appear to be reusing its old economic stimulus playbook of promoting infrastructure construction and real estate sales to turn around an economy that is suffering from “insufficient demand” and deflation:
a) The April 28 Politburo meeting called for “developing the advantages of new energy vehicles” and building infrastructure to support NEVs. On paper, this would spur infrastructure investment and construction to drive the economy and increase demand. However, Beijing’s plan could fall through if the ongoing vehicle price war and “subsidies war” (see here and here) lead to a wave of auto company bankruptcies that have a negative knock-on effect on the Chinese auto industry and the economy more broadly.
Yu Chengdong, CEO of Huawei’s Intelligent Automotive Solution business unit, told mainland media that NEV manufacturing will face a watershed in 2025. “There will be no more than five major players in the Chinese NEV market at the end,” he said. Mainland media noted that there are currently more than 50 Chinese NEV companies producing at scale.
b) The Politburo included some property sector-related economic work requirements, including adopting “city-specific policies” to promote real estate sales and insisting on “houses are for living in, not speculation.” The central government appears to be looking to drive up demand, including for property, through implementing what it calls a “proactive fiscal policy and a prudent monetary policy.”
However, it is unclear if the central government’s latest efforts to stimulate property demand will improve upon the limited impact that its recent relaxation of real estate financing restrictions had. According to data released by CRIC Research on April 30, the top 100 Chinese real estate companies saw their sales decrease 14.4 percent month-on-month in April. The scale of real estate transactions in 30 major cities fell in April after surging in March, with the absolute volume of transactions staying basically the same as in February. Meanwhile, China Index Academy published a “hundred cities price index report” (百城價格指數報告) on May 2 that showed second-hand property listings remaining high in April while the scale of transactions decreased from a year ago. The abundance of second-hand property listings and falling real estate sales transactions in major cities point to declining demand for property in China.
c) The Politburo’s call to construct public infrastructure for “normal and emergency use” sounds like an effort to resume construction of or carry out renovations to facilities like the “fangcang” makeshift hospitals that the central government had ordered to be built during the “zero-COVID” period. Such “normal and emergency use” public buildings could serve as hostels or other forms of accommodations during regular times and be converted into isolation centers or medical facilities during a pandemic.
While the idea of constructing such “normal and emergency use” infrastructure sounds good in theory, it would likely require substantial funds and investments to build and maintain. And unless local governments can figure out ways to “monetize” such infrastructure, they could quickly become white elephants that serve as a drag on local finances.
3. The CCP authorities’ “proactive fiscal policy and a prudent monetary policy” has not done much to stimulate demand because funds are mainly flowing into the public sector as well as into infrastructure and manufacturing, while increased nominal savings are not being dispersed among ordinary households. The chronic lack of purchasing power among households is driving down consumption, affecting the recovery of the real economy, and causing deflation.
China’s wealthy elite is better positioned to access funding as credit growth picks up. For instance, China Merchants Bank’s 2022 annual report showed that 2.25 percent of its 184 million bank customers owned up to 81.4 percent of its 12.123 trillion yuan in assets; each of those 2.25 percent of customers has more than 500,000 yuan in assets. However, the wealthy elite plays an extremely limited role in stimulating consumption even as they benefit disproportionately from China’s credit expansion.
4. The central government’s boosting of inefficient government investments to stimulate the economy could end up exacerbating local government and urban investment debt problems instead of driving private investments, and could raise financial risks for banks.
Beijing’s property sector restrictions and “zero-COVID” policy in recent years have compounded local government debt problems. This has led some local governments to go public about their debt woes and inability to resolve the crisis, likely in hopes of getting the central government’s attention and rescue (see here and here). Also, some municipal investment companies (like Zunyi Road in Guizhou) appear to be already in technical default; the (now highly risky) urban investment bonds issued by troubled municipal investment companies were previously purchased by small- and medium-sized banks, who packaged them into wealth management products that were bought by the Chinese people.
According to a report published in January 2023 by Zheshang Securities about the impact of urban investment risk on banks (“城投風險對銀行影響幾何?”), bank exposure to broadly defined urban investment bonds at the end of the first quarter of 2022 was about 68 trillion yuan, or 22.4 percent (nearly 15 trillion yuan) of the total assets held by commercial banks. And in November 2022, bank WMPs suffered a “discount wave” (破淨潮) where thousands of WMPs saw a discount to their net asset value.
Municipal investment bonds more noticeably lost creditworthiness and saw a significant shrinking of their financing capacity from the second half of 2022. According to publicly available information, the net financing scale of municipal investment bonds in the second half of 2022 fell from 1.297 trillion yuan over the same period in 2021 to just 194 billion yuan, or drop of 85.1 percent. From January to March 2023, the net financing scale of municipal investment bonds decreased by 22.53 percent to 460.692 billion yuan. The shrinking financing capacity of municipal investment bonds means that the issuing of new bonds to make repayment on old debt will become problematic going forward and further increase the risk of defaults. Problems with municipal investment bonds will in turn make bank WMPs even riskier.
5. The Cyberspace Administration of China’s various measures to “clear and optimize the business network environment” and its “Qinglang” campaign appear to be part of Beijing’s broader effort to tighten its control over information access and flow (for more, see item one in this newsletter). This, as well as the Politburo’s call to adhere to the “two unwaverings” and prioritize attracting foreign investments, are more signs that China’s economic deterioration and the unemployment situation are very serious.
The Xi leadership’s contradictory policies and growing authoritarianism, however, likely end up doing more harm than good in promoting the key economic driver that is the private sector (former vice premier Liu He said that the private economy contributes more than 50 percent of China’s tax revenue, over 60 percent of the GDP, at least 70 percent of technological innovation, over 80 percent of urban employment, and accounts for 90 percent of market entities) and keeping foreign investments and capital in China.
The CCP’s latest economic figures hint at withdrawing foreign investments and a shrinking private sector. According to data from the National Bureau of Statistics, industrial enterprises above designated size funded by foreign investors and investors from Hong Kong, Macau, and Taiwan realized total profits of 331.81 billion yuan in the first quarter of 2023, a decrease of 24.9 percent from a year ago. NBS data also showed that private enterprises realized total profits of 389.41 billion yuan, a decrease of 23 percent year-on-year.
External indicators tell a similar story. The Financial Times reported on May 3 that trading in the most liquid U.S. listed options that track Chinese stocks have more than halved since hitting a record in November 2022. Also, direct purchase of Chinese stocks by foreign investors slowed sharply after breaking records at the start of 2023; foreign investors only bought $6 billion worth of Shanghai and Shengzhen-listed shares from February to April, down from the net $20 billion bought in January.
Separately, global consulting firm Kearney’s annual reshoring index report showed that as many as 96 percent of American CEOs are evaluating reshoring their operations, have decided to reshore, or already reshored, an increase of 78 percent in 2022. Kearney also observed a shift in commercial production away from China to other Asian countries like Vietnam, Taiwan, and India, as well as Mexico. By 2025, 84 percent of U.S. companies would have reshored some or all of their manufacturing operations. Meanwhile, Apple supplier Foxconn announced a $700 million iPhone production plant and is spending $300 million on leases in Vietnam to expand its manufacturing capacity in the country.
Foreign companies and multinationals have likely determined after three years of “zero-COVID” that the political risks of doing business in China have greatly risen and that they need to move supply chains out of the mainland and diversify their operations to mitigate some of the risks. Growing Sino-U.S. tensions and the PRC’s unwillingness to properly denounce the Russia-Ukraine war have also led foreign companies and investors to be wary of China’s growing geopolitical risks and adjust their China strategy. The Xi leadership’s recent efforts to tighten foreign access to information and target foreign companies as Xi Jinping looks to strengthen regime security amid intensifying internal and external crises will likely exacerbate the trend of foreign capital and investment outflows, as well as further worsen the employment situation and cripple the private economy.
