Where is the Next Spring of the Chinese Economy?

By Shuo Qin, originally published on FOF Weekly.

The 2018 China LP Investment Summit was held on 26–28 September 2018 in Beijing. Shuo Qin, a famous media worker and the founder of “Qin Shuo’s Moment”, delivered a theme speech, “Where is the Next Spring of the Chinese Economy?” . He shared his opinion on the future of China under the new economic situation of financial deleveraging and capital contraction. Here’s the speech:

Today, I will discuss the trend with you. Since the start of the supply-side structural reform in 2016, there have been some changes in the industrial sectors. In 2017, a series of changes have taken place in the capital market, combined with the strengthening of financial deleveraging, especially after the China–United States trade war in April, many friends are discussing “winter” this year.

For example, some major shareholders of listed companies pledged some or even 100% equity to finance in the beginning of the year. Hundreds and thousands of them subject to bankrupt now.

It is also obvious that the two most popular industries, real estate and car manufacturing, have encountered difficulties this year.

Recently, I have come into contact with many big real estate developers, who are very cautious about the market, lowering the expectation of growth rate. Some developers tend to adopt an asset-light strategy to acquire some projects and companies that cannot continue in the second- and third-tier cities. Liang Yu, Chairman of the Vanke (one of Chinese largest developer), proposed two words: “Focus & Convergence” when conducting a strategic review in September. He said, “Vanke should analyze and clean up existing business and to survive as the basic strategy in the next three years. Therefore, this year’s cash inflow has become particularly important, while the annual target was only half completed by September. ”

The auto industry, which has maintained a fairly high growth rate in the past few years, has shown signs of decline since April this year. By July and August, there has been a sharp decline in both wholesale and retail.

The government issued a stimulus policy halving purchase tax when the auto market fell in 2015. But it had not reacted this year which leads to a more significant decline. In the meantime, the industries related to the real estate, such as home, building materials, kitchen and bathroom, lighting, have encountered much bigger difficulties.

(Addressing the speech at the 2018 China LP Investment Summit)

In spite of these difficulties, we should not focus on the negative side, but think where is the next spring of the Chinese economy?

During my investigation and study tours around China, I have talked to many companies in various places, and have been asking two questions:

The first question is what is the positive energy in your company? Can you show me something positive? Because I think people can’t always live in an atmosphere of doubt and pessimism.

The second question is what are the reasons behind such difficulties in private enterprises this year? Is it because of micro factors like small-scale, scattered distribution, fail to meet the environmental protection and high speculation or macro factors like industrial restructuring and policies?

The number of market entities in China was 490,000 in 1978 and 100 million now, nearly 2/3 of whom are individual industrial or commercial households, and another 1/3 of whom are corporate entities and limited liability companies. The rest are rural cooperative organizations.

Therefore, I think China’s economic development is still on the road, just in the early stage.

According to a survey by OECD (Organization for Economic Co-operation and Development, an intergovernmental international economic organization composed of 36 market economies), entrepreneurial density is often used to reflect the degree of economic activity in a country, where the denominator is the total population, and the numerator is the number of market players.

There are 100 million market economy entities, which are much more active than most parts of the world. It may not be as active as small economies like Hong Kong, but they are still the most active place in the world. So I think as long as there is an entrepreneurial spirit and such entrepreneurial drive can still be motivated, the general trend in China is still positive.

China has much experience in the development process:

Today, many excellent Internet companies in China are making overseas investments including e-commerce, payment, and smart travel and they are not particularly satisfied with foreign technology platforms, because they are used to deal with parallel transactions carried out by hundreds of millions of people. Their required capacity is totally different from the platform produced in a small market.

The supply chains of many offline industries are different. For example, the supply chain of Zhejiang manufacturing companies is mainly in and around Zhejiang, and the one in Guangdong is in the Pearl River Delta. That means the degree of specialization and deepening produced by the division that has a population of several tens of millions can support considerable competitiveness in the manufacturing.

Because of the Internet, we can learn something advanced in the world, such as cutting-edge knowledge in academic journals published nowadays. If it has commercial value, it will often be made in China first. Especially hardware-related, the prototype may soon come out in the Pearl River Delta. In the coming decades, many innovations related to manufacturing and intelligent manufacturing will probably be concentrated in China and the industry without cost advantages will slowly vanish. I think this advantage of Learning By Doing is very obvious.

There is tolerance in this strategy, so many companies will have more chances of making mistakes in this process, which in turn change and make adjustments that lead to a stronger management system and risk control system.

From online to offline, the second half of the Internet has just begun. Yesterday, I participated in a forum on rural financial services in Zhengzhou, which shocked me.Many people argue that no one is farming in the countryside. Actually, the planting and breeding in many places like Henan and Shandong are still very active. Lots of services that are slowly evolving. Through the mobile Internet, we can accumulate much information, including the status of the grassroots farmers’ assets and production materials, so as to provide accurate services.

In the past, it is not possible to serve small and medium-sized enterprises because of the cost. However, with the Internet, information processing has driven down the overall cost and the deepen change in various industries. It will greatly help us improve efficiency and enhance total factor labor productivity.

Chinese companies, which used to have a cost advantage, have been the leading in efficiency and then experience, and will be leading in innovation globally.

We definitely have our own problems, among which the biggest one is lack of research and development in the rapid expansion. The low barriers to enter the market lead to an unprofitable situation, which in turn affect long-term investments.

Chinese total retail sales of goods last year were 36 trillion RMB. This number is likely to reach 40 trillion this year. Correspondingly, American retail and food consumption, rose 30% in ten years to $5.75 trillion from $4.48 trillion.

In 2008 the total retail sales of goods were only 11 trillion, and is 36 trillion now, which has risen more than three times. Also, the potential and depth of the Chinese market are beyond our imagination. The population after the 80s, 90s, and 00s in China are over 550 million and are frequently associated with the Internet. Another 560 million people in the county economy are expected to improve their lives.

People say the consumption quality declines such as the case appeared in PDD, GIF, Qutoutiao. This reflects the slow development in the third and fourth-tier and even more underdeveloped cities. Many people say that most products are fake in PDD, however, if you have been to the lowest village in China, the problem is more serious. For instance expired goods been resold in another place with a new wrapping paper. In the e-commerce platform, there are at least qualified production qualifications. In fact, PDD represents the bottom of Chinese consumption is slowly rising instead of the downgrade in Chinese market consumption.

Plenty of traditional industries do have a lot of problems: Chinese newspaper, terrestrial channel and TV industries reached a turning point in 2012, 2013 and 2014 respectively. The broadcasting is temporarily fine because of traffic jams, but it has also dropped slightly. If you just look at these, you may think the industry does have no hope.

However, Xiaobo Wu, former special host of the First Financial News, hosts the “Wu Xiaobo Channel” whose annual profit has been tens of millions; Husheng Xu innovated a “Yitiao”, whose e-commerce income this year exceeded 2 billion and has opened three new offline stores in Shanghai this month; Zhenyu Luowho was the chief planner of the First Financial TV Channel, initiated “Royal Thinking” and “Get”. So if you look at the traditional industry, you feel it is very bad. But if you look at what these people are doing and have done, you will feel that there are still many opportunities.

Nowadays, people have gotten too pessimistic for China. Actually, since the global financial crisis in 2008, foreign institutions such as IMF, the World Bank, and Standard Chartered Bank have first recognized the long-term value of the Chinese economy. They believe that there are three major cycles in the world’s recent 100 or 200-year history: the US, Japan and then China.

Some say Chinese data released by the National Bureau of Statistics is unreliable. However, current GDP in China is actually underestimated compared with those in developed countries. Because our service industry statistics are extremely incomplete, many of them have not been converted. As for the disposable income, it is also underestimated because the rich-income people in China are generally reluctant to fill out the questionnaire. Accordingly, serious scholars are now increasingly inclined to believe that Chinese entire economic aggregate is underestimated. On the other side, we do have problems with structure and efficiency, but you can’t say that the economic growth is fake, which I think is unfair.

Many people say that China can not innovate, especially about the chips and the engines. China is indeed not as good as the United State in terms of the number of engineers and the amount of financing in the chip business, but the situation is changing rapidly. I have done a lot of research on my own and came to the conclusion: if we do well in the chip field, China can basically solve most problems in about 15 years, and achieve a relatively large self-sufficiency rate. Maybe the capabilities of innovating super devices like lithography are not yet achievable, but the capabilities of launching Samsung storage can be achieved reasonably.

There is no doubt that Japan, Germany and the former Soviet Union were finally defeated by the United States and at that time their per capita GDP was very close to the US or even surpassed the US. But it is a different situation for China, in which the per capita GDP is only 1/6–1/7 to the US and therefore China still have very large potential.

According to the Wind (China’s leading provider of financial data and analysis tools), there are about 1,538 private enterprise manufacturing companies and one third of them facing reduced profit in the first half of the year. This is a bit more than historical data. But we should see a trend as well: If the enterprises that the semi-annual profit is below 100 million, 50% of which have weaker profits. But for those enterprises that have above 100 million semi-annual profit, only 20% of which are decreasing and 80% are increasing. So Chinese private enterprises have encountered difficulties at present. The stated-owned enterprises move forward, but the private ones are the opposite. Meanwhile, there may also have the Leading Effect, the Central Effect, and the Long Tail Effect. In other words, the profits are more concentrated in the head enterprises, and thus those small businesses are indeed rather passive.

From a macro perspective, where is the spring of the future?

It is quite clear in “China in 2030” published by the World Bank and Development Research Center under the State Council in 2013: Our government should be ruled by law and be transparent, honest and efficient; our market economy should be more solid, innovative and competitive; our society should be widely involved and co-construction, co-governance and shared.

The situation of enterprises is totally different now. For example, almost all steel companies are losing money in 2015. One of my friend who is a steel salesman told me there were 200 steel mills and 2 left now, which is very cruel.

I asked, “How are another 198 enterprises?” He told me, “Don’t worry. Everyone will survive in their ways. Some have entered another industry. Therefore, although the cost is much about structural adjustment in China, there is also a positive side.

The 19th NPC (National People’s Congress, the highest organ of state power in China) referred to a new growth point of the national economy in the future, which is suitable for investors. I summed up ten points:

1. Strength manufacturing country and advance manufacturing: Promoting full integration of the Internet, big data, artificial intelligence and the real economy, promoting our industry to move towards mid- and high-end market of Global Value Chains, and cultivating several world-class industrial clusters of advanced manufacturing.

2. New growth points and new momentum: Mid- and High-end consumption, Innovation, Green and Low-carbon, Shared economy, Modern Supply Chain, Human Capital Services.

3. Infrastructure construction including water conservancy, railway, highway, water transport, aviation, pipeline, power grid, information, logistics, etc..

4. Strengthening the basic research, implementing forward-looking basic researches and major breakthroughs in the leading original achievement; expanding and implementing national major science and technology projects; highlighting technological innovation including the key common technologies, the cutting-edge technologies, the modern engineering technologies and the disruptive technologies; supporting the construction of a strong science and technology, quality, space, network, transportation power, a digital China, and a smart society.

5. Establishing a technological innovation system which takes the enterprise as the mainstay, the market as guidance, and based on the full integration of production, teaching and research to strengthen the creation, protection and application of intellectual property rights.

6. Building a modern agriculture system of industry, production and management; cultivating a new type of agricultural businesses and establishing a perfect service system of agricultural socialization.

7. Speeding up efforts to support the development of old revolutionary, ethnic, frontier and poverty-stricken areas, strengthening the measures to advance west development; deepening the reform to accelerate revitalization of old industrial bases such as the Northeast; maximizing the advantages to promote the rise of the central region; leading the optimized development of the the eastern region creatively, and building a town pattern of coordinated development of large, medium-sized and small cities and small towns based on the urban agglomerations.

8. Promoting the coordinated development of Beijing-Tianjin-Hebei region, and constructing Xiong’an New District with high standard; promoting the development of Yangtze Economic Zone guided by greater protection and no large-scale development; supporting the economic transformation and development of resource-based regions; accelerating the development of border areas, adhering to land and marine development in a coordinated way and building China into a maritime power.

9. Deepening the reform of state-owned enterprises, developing a mixed-ownership economy, and cultivating world-class enterprises with global competitiveness; fully implementing the market entry negative list system, cleaning up and abolishing various regulations and practices that hinder the unified market and fair competition; supporting the development of private enterprises, breaking and preventing the administrative monopoly.

10. Focusing on the construction of the Belt and Road, sticking the “Introducing” and “Going out” strategies, easing the market, and exploring the construction of a free trade port; innovating foreign investment methods to promote international capacity cooperation and then forming a global network of trade, investment, financing, production and service.

For the Chinese economy, I think, the more you look at the media and macro arguments of some scholars, the more pessimistic you may be. However, the more you go to the grassroots level and you contact those enterprises, the more you will feel more confident.

I attended a company event in Zhejiang this week, called China Jushi, which is the world’s largest fiberglass manufacturer. Their management and technical requirements are very high. However, we judge private enterprises still in old stereotypes of 10 or 20 years ago and think they are too extensive. In fact, it is completely wrong.

At present, many national-level innovation platforms base on private enterprise. And so do lots of frontier companies in the manufacturing industry in China, which means that these private enterprises already have represented the most advanced productivity of this era. So why don’t we give them the greatest support?

According to McKinsey’s 2016 report, China has slowly shifted from imitating, copying, and innovating to leadership innovative modes. Of course, China still has certain shortcomings in scientific research and engineering technology whose “manufacturing equipment” have to import from Germany, Japan and the United States and so do several key materials.

The impact of the China–United States trade war will gradually appear in Q4 this year and next. They have begun to encounter difficulties, and even if the local government provides support, such as 16% of the export tax rebate increased from 13%, but it still makes a loss after adding a tariff to the current gross profit level. From this part, our government should immediately and vigorously support these core export-oriented enterprises.

Specifically, where is the future spring?

1. Globalization of resources distribution. Many places have anti-dumping and anti-subsidy pressure on China. The rising cost has made amounts of Chinese economic activities unsuitable, so you have to allocate your production in a global sense.

2. Innovation-driven. Updating our productions, technologies and consumption.

3. Structure reform. The core is the law-based economy under global equity, fair chance and fair regulation.

Finally, the company needs to improve its quality in comprehensive approaches, which is extremely urgent. Our objective is a professional and open market by law, and to promote our humanization, specialization and modernization.

From 1900 to 2017, the United States achieved economic growth by 36 times, but GDP in China has increased 36 times in 30 years from 1987 to 2017. In other words, China has taken 30 years to go through the 117 years of the US.

I believe after such an adjustment period that there is a clearer path for the reform and development, the development of the private economy, the construction of a legal market economy, and especially more stable policies, China will usher in a healthier and more sustainable stage of high-quality development, which, in fact, is more created by the Post-80s and Post-90s, therefore I believe that the future is still full of great opportunities.

Good luck. Thank you!

Translator | Darlene Zhu

A customized platform for GPs/LPs, providing news, data and insights.

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