In two weeks, the 19th Party Congress will meet in Beijing to elect a new leadership for the Communist Party of China. This is a critical moment which will be watched by the world. It will show how much in control the Chinese government is over its economy, its society and its security. It will also endorse the stepped-up governance of the economy, defined by the dramatic changes of the past two years which have impacted China’s global positioning.
One such important dimension is that Chinese overseas investment has overtaken foreign direct investment into China.
The transition was effected in 2015, when Chinese overseas investment exceeded FDI for the first time albeit under the cloud of a cooling economy. For much of the first half of 2015, the Renminbi-U.S. dollar peg was maintained rather tightly, until the sudden 3% devaluation in August. The balance of trade still being in China’s favor, it was inevitable that surplus capital pile up. With core sectors such as iron & steel, energy and construction already overbuilt, the best channel for this capital was investment overseas, with numbers crossing $100 billion that year.
This was consistent with the strong push from the Government of the People’s Republic of China (GOPRC), specifically, from the National Development and Reform Commission (NDRC), and its governing authority, the State Council, toward the dual goal of using overseas investment as a means to promote growth while keeping the Renminbi in check. NDRC is the powerful body that directs China’s economic trajectory, by providing both macro vision and micro-level policy direction.
What followed in the next two years is well known. Between 2015 and 2016, over $1 trillion (out of $4 trillion in reserves) traveled out of the country[1]. This included corporate overseas investment, and funds to pay for steadily rising imports. More interesting, from the perspective of human drama, was the massive cash outflow having to do with Chinese individuals and families, who were losing confidence in their banking system and scrambling to purchase properties and possibly lay roots in foreign lands – but this is a different story. The breathless shopping spree and accelerated investment caught the attention of monitors within GOPRC, and likewise of regulatory authorities (such as the American CFIUS) in destination countries. In most instances, the investment was welcomed by recipient countries, but in a few cases perceived as being detrimental to their national interest, there was swift pushback. At the same time, the dwindling quality of overseas investment caused worry to Chinese authorities, with passive assets abroad such as resorts and office buildings stacking up against more strategic assets like hi-tech or utilities.[2]
Some measure of course-correction was in order, both to curb “irrational” overseas investment, and to manage the perception of such excess. This came in December 2016, by way of cautionary guidelines issued jointly by four state bodies: NDRC, MOFCOM (Ministry of Finance and Commerce), MOFA (Ministry of Foreign Affairs) and PBoC (People’s Bank of China). This intervention flagged private corporations perceived internationally to be “aggressive” dealmakers: Anbang Insurance Group Co., Fosun International Ltd., Dalian Wanda Group Co., and HNA Group Co.[3] This move at rationalizing and regulating the investment cycle had immediate effects, with a slowdown recorded in the first quarter of 2017. In the first half of the year, overseas direct non-financial investments slowed down by about 46% compared to the frenzied pace of 2016[4].
Not being content with the status quo, the NDRC has decided to once again take matters into its hands. In mid-August 2017, the NDRC issued directives to curb and regulate overseas investment, in the process stipulating three categories[5]:
- Banned list (including China’s core military technology and products, Gambling, Sex industry, investments that violate Chinese international treaty commitments or hurt national security),
- Restricted list (Property, hotels, cinemas, entertainment and sports clubs; investing in war zones or countries that have no diplomatic relations with PRC; Equity investment funds; obsolete equipment; and investments that violate environmental, energy or safety standards),
- Encouraged list (Infrastructure projects that stream into BRI; Hi-tech and innovative research; Industry-specific equipment; Agriculture, Energy and Mining; Service industries including commerce and culture)
The timing of the announcement, though not dramatic is nonetheless significant, sandwiched between the BRI (Belt and Road Initiative) Summit of May 2017, and the upcoming 19th Party Congress in October. More than anything, this validates the ‘finger-on-the-economic-pulse’ approach of GOPRC, re-affirming close scrutiny by regulatory authorities on a continual basis. At the same time, it indicates the state’s responsiveness to criticism and feedback emanating from inside and outside the country. The tight regulations and scrutiny normally associated with SOEs are now extended to private companies and conglomerates investing overseas.
The NDRC regulations reveal a great deal about Chinese political priorities and societal changes. This has a bearing on the collective learning of investors and markets worldwide.
The first learning is GOPRC’s explicit effort to align economic activities with national goals. There are no surprises here, as the entire point of a planned economy is to marshal state resources for growing national wealth, and ensuring that it stays within the nation. Remarkable is the fact that other nations, including those committed to the global free market, are proving to be as sensitive and protective about their crown jewels, be it agriculture or hi-tech or semiconductors or mining. Quite often, they deny or hinder Chinese purchase, or controlling investments in critical or sensitive technologies or operations. In other words, this is the age-old yin and yang of the long-arm of the State versus the unseen hand of the marketplace; of neo-mercantilist impulses competing with neo-liberal institutionalism.
The second learning, related to the above, is the prominence – perhaps permanence – of BRI on the global economic horizon. All roads will lead to the Belt and Road, and this project will continue absorbing and directing state resources. For instance, the first quarter of 2017 recorded a dip in Chinese outbound investment with respect to the BRI countries[6]. The NDRC regulations, which were issued in the second quarter, will no doubt stimulate such investment for the next few cycles.
Third, and most interesting is the earnest attempt by GOPRC to understand and respond to the contradictions in the aspirations of its middle classes. For instance, the ban on sex and gambling industry investments is no prudish reaction, but a move consistent with the national goals of morality and social harmony. The NDRC restriction on trophy purchases is another case in point. Given the socialist underpinnings of society, it is strongly felt that wealth extracted out of China and placed overseas is the wealth of the Chinese people, whether the owners of moneys are individuals, companies or SOEs. The government, therefore, must ensure that overseas investments show fiscal prudence and appear neither profligate nor aggrandizing an individual.
This comes at a time when several questions were raised in the Chinese blogosphere about the propriety of domestic investors acquiring foreign sports teams (retail giant Jiangsu Suning Group’s purchase of 70% of Italian football club for $307 million Inter Milan caught the national attention). This is a paradox, as many young Chinese certainly look up to the Western model of life. Aspiring to drive foreign cars and to follow foreign teams fits the trend. Moreover, acquiring foreign sports teams might synergize with the national goal of developing the fledgling Chinese professional sports industry, were these teams to actually visit and to train in China. The perception of propriety is an important consideration here. Sustaining modest growth, and creating job and home-ownership opportunities commensurate with middle class aspirations are potent policy drivers.
GOPRC restrictions on how their companies place their capital overseas is certainly their prerogative, as is the reaction from other governments. It is instructive for all to track and decipher the underlying pattern of these restrictions, and learn the best practices to be gleaned. Chinese leaders and researchers are certainly learning from current and prior examples, including the grim result of Japan’s extended, untrammeled M&A excursion of the 1980s and 1990s.
There are valuable lessons in this for India. That the BRI will dominate investment opportunities is simply a point of reference. The more interesting learnings relate to the quality of India’s global investment footprint, and the need to align such forays with clearly articulated national goals, and with citizen aspirations. Surplus capital tends to flow outward, and not necessarily in the most optimal or rational directions. How or how not to regulate these flows such that national goals are met, domestic human resources are cultivated, domestic industries and investors are supported; and at the same time how to expand the field, and encourage boldness and creativity in M & As – these are questions worthy of reflection and research.
Indira Ravindran is Adjunct Fellow, China Studies, Gateway House.
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References
[1] ‘China Capital Outflows Rise to Estimated $1 Trillion in 2015’, Bloomberg News, 25th January 2016 <https://www.bloomberg.com/news/articles/2016-01-25/china-capital-outflows-climb-to-estimated-1-trillion-in-2015>
[2] Chinese overseas investments are sometimes directed or “encouraged” to pick up a strategic asset or technology on behalf of the state. The much-vaunted aircraft carrier Liaoning which in its original incarnation as the rusting shell of the Varyag, was purchased by a maverick Chinese investor with shaky antecedents in order to “operate a casino”.
[3] ‘China Codifies Crackdown on “Irrational” Outbound Investment’, Bloomberg News, 18th August 2017 <https://www.bloomberg.com/news/articles/2017-08-18/china-further-limits-overseas-investment-in-push-to-reduce-risk>
[4] Yu Yifan: ‘China’s outbound investment slumps 46pc in first half amid tighter regulations and global uncertainty, South China Morning Post, 14th July 2017, <http://www.scmp.com/business/global-economy/article/2102700/chinas-outbound-investment-slumps-46pc-first-half-amid>
[5] ‘关于进一步引导和规范境外投资方 向的指导意见’: <http://www.gov.cn/zhengce/content/2017-08/18/content_5218665.htm>
[6] MOFCOM: Investment and Cooperation Statistics about Countries along Belt and Road in January-April 2017, 29th May 2017, <http://english.mofcom.gov.cn/article/statistic/foreigntradecooperation/201706/20170602599261.shtml>