Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 434

Is China’s regulatory reform stifling ‘animal spirits’?

  •   Chi Lo
  •   17 November 2021
  •      
  •   

Some investors worry that regulatory tightening in China could strangle growth in its private sector, which is now dominated by technology companies and e-commerce platforms. Such concerns have wiped about USD1 trillion off valuations on China’s stock market over the past year. The poor sentiment has spilled over to other Asian markets and their tech sectors.

Why is China taking the risk of damaging these new drivers of economic growth when building a high-tech economy is part of its ‘common prosperity’ policy framework? Is there evidence of China’s regulatory overdrive negating investment incentives in its private sector?

How badly damaged is the private sector?

Many players see Beijing’s regulatory campaign, which started in 2020, as a move to exert greater control over the private sector and the technology firms and make them subservient to the Communist Party under the guise of an anti-monopoly policy. According to this school of thought, the survival of China’s private sector is under threat.

On closer examination, though, the e-commerce and technology companies subjected to the crackdown are a small share of the large and growing private sector. We have found no evidence of significant damage done to the private sector despite media reports to the contrary.

Reflecting the continued growth of the private sector is:

  1. The sharp decline in state-owned enterprises (SOEs) as a share of total industrial firms (Exhibit 1)
  2. The strong increase in private-sector employment in the industrial sector (Exhibit 2)
  3. The significant rise in the share of private investment at the expense of the SOEs’ share (Exhibit 3).

All this suggests that the large private and tech companies hit by Beijing’s measures play a small part in the overall private sector. While they may have made the news headlines, their situation is not representative of the whole private sector.

We have also found no evidence as yet of the much-feared decline in private investment in the wake of the regulatory tightening.

High-frequency investment data shows that while the growth rate of fixed asset investment by non-state-owned companies [1] has slowed, it has continued to outperform SOE investment by a wide margin since the regulatory campaign began (Exhibit 4). In fact, SOE investment has been contracting since early 2021, while non-state and private investments have continued to grow.

Why the crackdown?

Beijing is taking the opportunity arising from the economy’s Covid recovery to tighten oversight. It aims to align the private sector’s interests with Beijing’s strategic targets. Indeed, such reform is long overdue, as poor oversight has allowed many Chinese private companies, notably the internet firms, to prosper and add to moral hazard problems in the system. 

Granted, China needs proper regulation for its private and tech sector. The question is whether it has now over-tightened and, thus, risked strangling innovation and incentives in the private-sector. This concern has understandably spooked markets, leading to a sharp sell-off in Chinese equities, especially tech and e-commerce stocks.

However, we believe China is just catching up with global practices of tighter supervision of tech companies rather than pursuing a more aggressive agenda to rein in corporate profits or destroy private capital.

Evidence shows that other countries, notably the US, the EU, South Korea and Japan, have been active in probing technology firms for alleged collusion and monopolistic practices and bringing anti-trust cases against global tech companies. [2]

What makes China different is that it has stepped up tightening efforts on the internet sector faster than other countries. An examination of Asia’s new regulations and remedy measures suggests they are broadly in line with those implemented by Europe and the US. [3]

For example, Chinese anti-trust laws allow for fines of 1-10% of annual turnover for anti-monopoly violations. This is consistent with most practices around the world. However, China and most Asian countries have been lagging in implementing the laws. They are catching up now and China has become even more active in enforcement.

Market implications

In a nutshell, China’s regulatory tightening since 2020 is, arguably, a tactical shift of its reform policy under the ‘dual circulation’ framework to tackle intensifying domestic and geopolitical challenges. Beijing still wants the private sector to drive innovative change and fund the development of high tech.

The regime change may have been abrupt, hurting the valuations of some of the best-known private companies and unsettling the stock market. However, the resultant correction now appears to have priced in most, if not all, of the regulatory concerns.

Repricing the internet sector under the new regime should give China’s tech sector a new investment horizon when the dust has settled.

 

Chi Lo is the Senior Market Strategist APAC of BNP Paribas Asset Management based in Hong Kong. The information published does not constitute financial product advice, an offer to issue or recommendation to acquire any financial product. You will need to seek your own advice for any topic covered in the article. 

 

[1] Non-state-owned firms include private firms, collectives, cooperatives, joint enterprises, foreign private firms and sole propriety ownership.
[2] “A Cheat Sheet to all of the Antitrust Cases Against Big Tech in 2021”, Quartz, 29 September 2021 at https://qz.com/2066217/a-cheat-sheet-to-all-the-antitrust-cases-against-big-tech-in-2021/.
[3] “APAC Regulatory Fears Drive US$1tn Selloff: Overreaction or Signal of More to Come?” UBS Q Series, Global Research, 20 October 2021.

 


 

Leave a Comment:

     

RELATED ARTICLES

China’s new model is a plan for a hostile world

Five trends shaping investments in China: 2021 and beyond

Debt is the biggest risk on China’s horizon

banner

Most viewed in recent weeks

Lessons when a fund manager of the year is down 25%

Every successful fund manager suffers periods of underperformance, and investors who jump from fund to fund chasing results are likely to do badly. Selecting a manager is a long-term decision but what else?

2022 election survey results: disillusion and disappointment

In almost 1,000 responses, our readers differ in voting intentions versus polling of the general population, but they have little doubt who will win and there is widespread disappointment with our politics.

Now you can earn 5% on bonds but stay with quality

Conservative investors who want the greater capital security of bonds can now lock in 5% but they should stay at the higher end of credit quality. Rises in rates and defaults mean it's not as easy as it looks.

30 ETFs in one ecosystem but is there a favourite?

In the last decade, ETFs have become a mainstay of many portfolios, with broad market access to most asset types, as well as a wide array of sectors and themes. Is there a favourite of a CEO who oversees 30 funds?

Betting markets as election predictors

Believe it or not, betting agencies are in the business of making money, not predicting outcomes. Is there anything we can learn from the current odds on the election results?

Meg on SMSFs – More on future-proofing your fund

Single-member SMSFs face challenges where the eventual beneficiaries (or support team in the event of incapacity) will be the member’s adult children. Even worse, what happens if one or more of the children live overseas?

Latest Updates

Superannuation

'It’s your money' schemes transfer super from young to old

Policy proposals allow young people to access their super for a home bought from older people who put the money back into super. It helps some first buyers into a home earlier but it may push up prices.

Investment strategies

Rising recession risk and what it means for your portfolio

In this environment, safe-haven assets like Government bonds act as a diversifier given the uncorrelated nature to equities during periods of risk-off, while offering a yield above term deposit rates.

Investment strategies

‘Multidiscipline’: the secret of Bezos' and Buffett’s wild success

A key attribute of great investors is the ability to abstract away the specifics of a particular domain, leaving only the important underlying principles upon which great investments can be made.

Superannuation

Keep mandatory super pension drawdowns halved

The Transfer Balance Cap limits the tax concessions available in super pension funds, removing the need for large, compulsory drawdowns. Plus there are no requirements to draw money out of an accumulation fund.

Shares

Confession season is upon us: What’s next for equity markets

Companies tend to pre-position weak results ahead of 30 June, leading to earnings downgrades. The next two months will be critical for investors as a shift from ‘great expectations’ to ‘clear explanations’ gets underway.

Economy

Australia, the Lucky Country again?

We may have been extremely unlucky with the unforgiving weather plaguing the East Coast of Australia this year. However, on the economic front we are by many measures in a strong position relative to the rest of the world.

Exchange traded products

LIC discounts widening with the market sell-off

Discounts on LICs and LITs vary with market conditions, and many prominent managers have seen the value of their assets fall as well as discount widen. There may be opportunities for gains if discounts narrow.

Sponsors

Alliances

© 2022 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.