SinoInsight 1
On Sept. 20, the Hangzhou City local government held a so-called “New Manufacturing” mobilization meeting where a “New Manufacturing Plan” was rolled out. Part of the plan would see the Hangzhou government dispatch 100 officials as government representatives to a first batch of 100 key enterprises (including Alibaba, Geely, and Hangzhou Wahaha Group) for a year.
Meanwhile, the Taiyuan Municipal Government in Shanxi Province recently assigned full-time, government-hired accountants to some private enterprises in an unspecified district of the city to oversee their finances in a pilot scheme, according to leaks posted on Chinese social media. If workable, the pilot scheme will be implemented throughout the region.
OUR TAKE
1. We wrote back in January that the CCP could be making emergency preparations to partially “close up” China in the event that Sino-U.S. trade talks break down completely and the worst case scenario emerges. And in a partially closed China, the regime will rely on its supply and marketing cooperatives and revert to a planned economy.
We believe that the dispatching of government officials to private enterprises in Hangzhou and Taiyuan are not isolated incidents. There is a good chance that local governments are following orders from Party Central to use “innovative” methods to strengthen the collection of taxes and fees from private enterprises. Such a move, however, erodes the autonomy of private enterprise in the regime. The move also verifies our China 2019 outlook prediction: “The central government will introduce tax reduction measures, but will unlikely trim a proportionate number of government workers. As a result, corporate tax will be subtly raised, not decreased.”
2. The CCP might see some short-term revenue gains by supervising the finances of private enterprises to ensure that they pay their dues. Tightening supervision, however, is a suicidal move of killing the goose that lays the golden eggs—to evade government control, private enterprises might end up shutting shop or move their capital and base of operations out of China.
3. The CCP’s recent “parachuting” of officials to scrutinize and supervise the finances of private enterprises also suggests that China’s finances are under severe pressure, likely due to the escalating Sino-U.S. trade war. We have reason to believe that China’s fourth quarter economic figures will be ugly (worse than third quarter figures in some sectors). China’s worsening economy and rising unemployment could in turn lead to rising social instability and mass incidents breaking out.
SinoInsight 2
On Sept. 20, China Investment Corporation, the PRC’s sovereign wealth fund, released its 2018 annual report and held a press conference. At the press conference, CIC chairman and CEO Peng Chun warned that the CIC faces an arduous task of guarding against financial risks given the “grim external environment” and “growing downward pressures” on the domestic economy. Peng added the phenomenon of banks going bankrupt will become a “living reality” and “financial risk disposal” will become the norm on the mainland.
OUR TAKE
1. CIC chairman Peng Chun’s remark about banks in China going bankrupt becoming a “living reality” is an indirect admission that China’s financial institutions are in trouble and corroborates our China 2019 outlook prediction about some Chinese financial institutions going bankrupt.
This year, at least three small and medium-sized commercial banks in China have been taken over or restructured after facing liquidity problems:
- In May, the PRC government took over the administration of Inner Mongolia’s Baoshang Bank. The following month, the authorities announced that the bank would be restructured “as soon as possible”;
- In July, the Bank of Jinzhou in Liaoning Province ran into liquidity issues and was “rescued” by three state-owned financial institutions;
- In August, the Shandong authorities took over Hengfeng Bank. Central Huijin Investment Ltd., a unit of the PRC’s sovereign wealth fund, also bought into Hengfeng Bank.
According to a mainland media report in August, over 20 urban and rural commercial banks have delayed disclosing their 2018 annual report.
2. We have repeatedly warned since early 2018 that China cannot withstand a trade war with the United States. A trade war sharply raises the risks of the property bubble bursting and the triggering of a financial crisis.
To deal with trade war pressures, the PRC government has resorted to liquidity boosting measures, such as cutting the reserve requirement ratio for banks, and has sought to keep property prices stable. However, such measures are at best stop-gap and end up hurting the real economy.
During the earlier periods of economic boom, many Chinese financial institutions over-invested in leveraged loans, as well as made illegal investments in property and government financing platforms. The accumulated risks are now creeping to the surface as the Chinese economy deteriorates. The Sino-U.S. trade war has also become a risk-triggering catalyst.
3. As the PRC government faces tighter and tighter financial constraints, and with what we estimate to be a high probability of further trade war escalations in the coming months, Chinese financial institutions are at high risk of going bankrupt between December 2019 to the Lunar New Year in 2020. Rising business failure in turn rises the probability of greater social unrest on the mainland.
