Recently I read John Huber’s great article about China. Although for the most part I agree with the text, I would also like to point out other kinds of views.
The bright side of China
China is certainly not a black-and-white issue. I can share the common opinion that China’s economy and its people have a very bright future. But surely not without ups and downs.
In his article, Huber brought out many essential things about China. The work ethic common to the country has always been at a high level. The technical know-how of employees has improved enormously in recent years. Entrepreneurial spirit among citizens has become more intense. All are true and positive things, no question.
Although Huber told how he has spent significant amount of time reading and learning about China, visiting only a week there can easily give just a narrow view what is really happening. It's very easy to fall in love with any interesting country when visiting there shortly. Many things look beautiful at first sight, but the visitor rarely gets insight into the true corporate culture. Only by living in the new country for a longer period does one come to discover deeper truths.
The other side of China
Huber wrote that China is becoming more and more of a market-driven economy and that it is growing more entrenched into the global economy. This is certainly quite true -- but maybe not the whole truth.
Even though China is becoming more of a market-driven economy, it is still far from the typical Western economy. China was accepted as a member of the World Trade Organization in 2001 on light arguments. The West relied on the fact that the economic rise allowed democracy to gain a stronger foothold in China, and that leaders from Beijing began to adhere to the same rules as Western countries in international economic relations.
China's growing market was all too overwhelming to the Western countries. All those who tried to warn about the problems of communist dictatorship were seen as stupid killjoys.
Now, however, the truth looks different. China plays its own game in international trade. China's state-controlled capitalism protects its own businesses and key industries without any hesitation. It does not respect patents or copyrights. China builds ruthlessly high obstacles for foreign investors and at the same time pushes excess production of steel, caused by its own mistake investments, at dumping prices prices to the world market. We should also remember that Google effectively shut down its Chinese operations in 2010 because of censorship.
The accounting of Chinese companies can be far from Western standards and in some cases unreliable. Every net-net investor knows to be aware of companies that are based in China or have major operations in China. Especially Chinese reverse-takeover scams. There are some excellent articles on this subject at China Accounting Blog. Â
China can always surprise us. The political consequences of economic success have been quite different from what the world around them expected. The Communist Party and Xi Jinping have just strengthened their power. China has not become more democratic or transparent. Human rights violations and non-respect of international law are still commonplace.
However, we must remember that Western truth is not necessarily the only right one. Western societies have seen themselves as the model for all others. But China isn't like us. It never has been and never will be. We must accept this and be able to take it in the right way.
Takeaway for investors
For investors this means not only great opportunities but also many risks. A company or an owner who faces a misunderstanding of political leaders may lose his otherwise healthy business. Company accounting can be tailored to the desired outcome. We can only imagine the position of a Western investor in these situations. They have had the same experience in Russia earlier.
It is important that investors are not too enthusiastic about running blind to China's huge and attractive market. Just as Huber said, it will be very difficult to pick winners. Sticking to your circle of competence is key, and not straying outside that circle requires being honest with yourself about whether you truly understand the investment idea that you’re currently analyzing. Do not forget the rising risk level. All companies are not like Tencent.
Disclosure: No positions.
