We’re starting the holiday week – October 1 is the anniversary of the 1949 revolution – so markets were closed today and will be closed for the rest of the week, and there’s a pretty good chance not a whole lot will happen on the policy front until the end of the holiday schedule. Much of official public attention has been focused on the successful return of Shenzhou VII, whose flight included China’s first space walk. Unofficial public attention is still on the milk scandal, whose social repercussions are likely to be fairly deep.On that note I thought it might be useful to recount an interesting discussion I had last night with a group of six young Chinese friends. The foreign media has made a lot of noise in recent months about the ugliness of China’s ultranationalist youth, and I get the impression that a lot of people abroad are worried by the spectacle of China’s being overwhelmed by mobs of goose-stepping youth proclaiming hostility to the rest of the world. There is no question, of course, that this country has its fair share of flag-addled nationalists, but in China, like in most other countries, it is too easy to mistake the views of a very loud few for the views of the general population. The reality here, it seems to me, is not a youth population teeming with aggressive nationalists but rather a great deal of very worried questioning about China and her future.
Last night my club presented a show by a well-known folk singer in his mid-30s from Shandong province. After the show I sat down with him to chat, and was joined by five young people in their early to mid-20s who represented a pretty decent cross-section of young Chinese. One was a software engineer from Hubei, another a college student from Fujian, a third was a bar manager from Dongbei, a fourth was a kid from Xinjiang who had just moved to Beijing a few months earlier to get a job, and the fifth was a Beijing college student majoring in design. Although half of them were college educated none of them were graduates of elite colleges, and a few of them came from fairly poor circumstances – and so in that sense are perhaps more representative of ordinary youth than some of the nastier types we often see charging through the Beijing streets in their flag-bedecked SUVs.
With the help of plenty of beer we had a wide-ranging discussion, and at one point the young Hubei engineer asked me what I thought of the Beijing Olympics. I gave him the standard response – a great success for China, wonderful show, etc. etc. He interrupted me and said that in his opinion it was good for Beijing and terrible for China.
That started off a very long and impassioned discussion in which the people at the table – with the folk singer being the most demure, interestingly enough – launched into a very brutal attack on China and especially on the government. The milk scandal was presented by everyone as proof of why China was, and was destined to be forever, a failure as a nation. They gave many other examples and would not hear of anything good I might say. When I tried to argue that China would inevitably experience difficult problems in the process of its growth, and that the milk scandal was one of them, they very politely but very firmly explained to me that I could only say this because I was a foreigner and knew nothing about the real China (although I had been to more parts of China than any of them except the folk singer). They especially pointed out that as a Peking University professor the only students I meet were the ones who would run and benefit from the system, and so my views about Chinese were distorted (they said this very politely, as young Chinese are likely to be with professors, but quite firmly – they had little use for the elite). They were utterly demoralized about prospects for ordinary Chinese and scathing about their leaders, even Grandpa Wen. I found myself in the position (and not for the first time) of defending China and its government from very critical young Chinese.
I can’t discuss the whole conversation and of course I don’t want to suggest that these young people represented the totality of young Chinese opinion – after all the fact that they were at a bar to see the performance of a folk singer famous for his social concerns suggests some form of non-random selection – but it was a very striking version of a conversation I have had many times before in the past few years, both with elite college students and with less exalted types. Often under the outpourings of pride there can still be a real despair among many young people about the prospects for their country, and many are far more skeptical about the official story than one might suppose from reading the press. In fact I suspect the nationalistic rage of the feng qing, the so-called angry youth, may be as much a reaction to that skepticism as it is to perceived foreign slights.
What does all of this have to do with China’s financial markets? I would argue that one thing it suggests, and I have made this comment before, is the brittleness of government credibility. The idea that Chinese youth mostly follow the dictates of the official media is simply not true, even though you would have to be very naïve not to acknowledge the media influences the debate.
But the fact that the government regularly directs the media and tries to limit the debate is not lost on most people, and there is a lot more skepticism, distrust, and even hostility than we might think to the China that many of us see in the press. The government, in other words, can mobilize opinion relatively easily up to a point, but underneath it all this is a population a lot more sophisticated and a lot less malleable than we think, and when anger or frustration breaks, it can break pretty quickly (I remember this happening during the SAS crisis). That is probably good for China in the long run (I tried to explain to my very doubtful young friends that the very fact of their skepticism undermined their pessimism, and that China was much worse off when people uncritically accepted of the official line) but suggests more instability in the short run than we might otherwise expect.
Again, I want to stress that these ruminations are not the result of one conversation, but that last night’s conversation was simply a very strong version of many conversations I have often had before, and although my participation in it may have colored it to some extent, it was pretty clear that these were things that these kids had thought about and argued about among themselves often. It was the beer and feelings of bonhomie that allowed them to be so openly critical of themselves in front of the foreign professor.
I suppose I shouldn’t take on topics about which I have little expertise, so to move away from my attempts at trenchant social analysis I will return to something about which I can pretend more knowledge. I was asked today to write an Op Ed piece about the state of the Chinese financial system, and although I have committed to writing two other pieces this week (so much for the holidays), I agreed to do it.
I think the point of this Op Ed piece will be to argue that much of the analysis of the banking system in China is a little like the old joke about the drunk who one night loses his car keys in the middle of the road, but spends the night searching for them on the sidewalk because the light there is so much better. Most discussions of credit and monetary policy focus on the impact of PBoC policies on the banks and the formal sector, mainly because that is where we have data, even though the real action may be going on elsewhere.
So for example when the PBoC raises minimum reserve requirements or imposes lending caps so as to slow loan growth, we duly note that RMB lending by commercial banks slows. But does that mean that total credit in the economy is slowing, or does that simply mean that more rapid loan growth is now occurring in the informal banking sector and off balance sheet? When the PBoC raises deposit and lending rates, does that mean that the cost of credit has gone up, or is that increase mitigated by a shift in lending from the more expensive informal sector to the cheaper formal sector, as deposits shift to the now-higher-paying commercial banks? We don’t know the answer to either of these questions, but we still make assumptions about the efficacy of monetary policy based on what happens in the data we can see – and sure enough there the PBoC regulations do seem to have the desired impact.
However if you start from the assumption, as I do, that China’s capital controls are too leaky to be effective, then China must face the so-called impossible trinity, which argues that by managing the currency the PBoC cannot have any real control over domestic monetary policy. In that case rather than assume that specific monetary policies will have the same impact in China as they might in the US, and seeing confirmation of that assumption in the official data, it might be more helpful to look for the types of leakages that automatically undermine the impact of that policy.
I have been congratulated a lot of times recently for getting a number of forecasts right – about hot money, about the growth in off-balance sheet lending, about the stress in the banking system and growing NPLs, about the growth of the informal banking sector – but to tell the truth none of those predictions arose from any deeper understanding of China’s financial markets than other analysts have. In fact I usually turn to much better informed friends to get a sense of what is actually going on.
All that happened was that when new monetary policy was implemented, and seemed to have the intended effect, I assumed that it could not have had that effect and looked for counterbalancing changes in other parts of the financial system. In other words I almost begin with the assumption that what drives monetary policy in a system determined by the currency regime is primarily net capital inflows, not domestic central bank policies, and then look for evidence that supports that thesis. That means taking every bit of data with a lot of skepticism – not because the data are incorrect, but rather because what information is missing is likely systematically to counter the data we have.
On a completely separate topic, Tuesday the 3-day Modern Sky Festival begins in Haidian Park, just west of Peking University. Many of Beijing’s best indie, underground, folk and experimental musicians will be taking the two stages, including some of who I think are the freshest young bands in the world today (especially on the third day, Thursday). Those living in the Beijing area should check it out for a very different and pleasant view of China.
Originally published Monday September 29, 2008 at China Financial Markets and reproduced here with the author’s permission.