As economies across North America and Europe prepare for an economic downturn in the new year, China’s financial and manufacturing industries are also on pace for a slowdown. The world’s second-largest economy is experiencing the consequences of a major housing crisis, significant blows to its labor markets, and strict enforcement of its zero-COVID policy.
Richard Turrin, former fintech executive at IBM, author of the book “Cashless, China’s Digital Currency Revolution,” and resident of Shanghai, shared his thoughts with CFO on what China's economy will look like in the future, along with its impact on the global business landscape.
Zero-COVID Policy Difficulties
“The biggest issue that China needs to tackle is how to manage a phased re-opening as China transitions from its zero-COVID policy,” said Turrin. “The government has been clear that this policy will be with us for a while longer, but in the interim, the government could deliver a solid boost to the economy by outlining plans for a phased or gradual reopening.”
When asked about the slowing of business travel in cities like Shanghai, Turrin made it clear that business travel has decreased dramatically. Even he, an avid hiker in China's rural mountainous areas, has resisted travel for some time, all for the sake of avoiding the consequences of zero-COVID policies.
The continuation of such policies is making the growth of existing companies in China difficult, Turrin said. “The uncertainty of how much longer the zero-COVID policy will be with us, and what the transition will look like, is causing many businesses to be very cautious and is hitting growth. Until we have greater clarity in timing, I expect growth to continue at muted levels.”
Although Turrin is experiencing some of the strictest coronavirus restrictions in the world first-hand, the best-selling author believes the zero-COVID policies cannot be dismissed as doing more harm than good. Although he recognizes the economical woes induced by the policy, Turrin said the complexity of defending against coronavirus for a population the size of China’s is hard to envision for those who don’t live there.
"As far as the economic fall-out from zero-COVID, yes it's having a huge impact on the overall economy,” said Turrin. “But to the Chinese government, this is a small price to pay to avoid the higher costs of dealing with coronavirus running through 1.4 billion people,” he said. “I know this is a calculus that is hard for many in the West to grasp, as is the concept of how difficult it is to provide for a population of [that size].”
Learning From EverGrande’s Collapse
As real estate has been largely used as an investment vehicle in China, where roughly 70% of the country’s wealth is stored, Turrin called the collapse of the country’s second-largest real estate developer, Evergrande, a “wake-up call” for the People's Republic.
“Evergrande is the poster child for excessive debt financing and shockingly poor corporate management,” he said, when asked what lessons can be learned from China’s real estate problems. Turrin argued that major economic remedies to struggling sectors of the world's economies, like real estate investments, haven’t been figured out yet worldwide.
Evergrande is the poster child for excessive debt financing and shockingly poor corporate management. — Richard Turrin
“I would like to say the U.S. is immune from such events, but the subprime mortgage crisis of 2008 says otherwise,” he continued. “The root of both crises can be found in debt financing, which was perfectly legal during the run-up of both. The question is, 'What can we do to manage debt financing prior to the crisis materializing?' I don't think China or the U.S. have cracked this just yet.”
While addressing a recent banking crisis, where account holders at five Henan and Anhui rural banks were unable to withdraw their funds, Turin made it clear that the phenomenon of a run on the banks occurring in China was not true.
“This was a case of fraud of an astounding level with collaboration or non-existent risk management practices at the failing institutions,” he said. "China’s rural banking system has always had a reputation as being 'lightly regulated’ and risky, and clearly, this episode shows how there is a clear need for greater regulatory insight."
Added Turrin: “The U.S. and crypto markets can both learn from this episode. Regulations are not optional. Can we have a similar misuse of capital in the [states]? Look back to 2008 and the global financial crisis.”
Struggling Labor Markets
Cheap labor has been a major enticer for foreign companies with production facilities in China, But a combination of slowing demand for Chinese-produced goods along with the implementation of zero-COVID policies has resulted in companies like Nike, Apple, Google, HP, Dell, and others taking portions of their businesses to neighboring countries.
With this, Turrin believes the Chinese economy is far from being down for the count. "Betting against China's ability to produce just about anything is a sucker's bet,” he said.
Turrin said Apple’s departure was interesting. According to him, analysts have estimated it would take eight years to shift a mere 10% of Apple's production out of China. China produces 90% of Apple’s products, he said. “In the case of Apple's India production facility, it imports pre-assembled elements from China for final assembly. So clearly, China isn't cut out of the manufacturing cycle.”
The 12-year resident of Shanghai spoke on the lack of impact the labor market woes have had on the country's high-tech manufacturing sector, where some major manufacturers have made future investments in Chinese-based production. “[High-tech manufacturing] continues to grow,” Turrin said. “As seen by recent moves by BMW and Volkswagen to place more EV car production in China, the world is still very dependent on China's production capabilities for its high-tech gear.”
There has been a spate of friendshoring, as international companies move low-tech operations out of China to less-expensive nations that may also be considered better ‘friends’ than China. — Turrin
The concept of "friendshoring," or an organization's choice to do business in a particular country due to relationships or political ties, is also a cause for the exodus of some companies from China. “There has been a spate of friendshoring, as international companies move low-tech operations out of China to less-expensive nations that may also be considered better ‘friends’ than China,” Turrin said. “This is prevalent in low-cost manufacturing, where the cost of labor is the primary component of the product's cost.”
Interestingly, though, the companies moving some production out of China are not bringing those operations home. “There is very little 'reshoring' of industry back to the U.S. or EU,” he said.
Tensions Over Taiwan, Chip War
“The U.S.-China chip war is big,” Turrin said. “With the most recent ban on all chip-making gear with U.S. intellectual property and high-end chips, the U.S. is essentially declaring war on China’s high-tech ambitions. The intent isn’t just strangling China’s access to chips but its ability to make them,” he continued. “What makes this such a significant move is the U.S. is putting its ‘containment’ policies on public view with little expectation that U.S. allies and the U.S. chip industry will foot the bill.”
In the short term, Turrin believes the restrictions will only make the Chinese chip production industry stronger. “The ban won't work and will push China to become a chip juggernaut in the next decade," he predicted.