Where did we see something like this before? Asian culture and the “saving of face” in places like Japan encourages bankers and others in government not to manage bad debt. Companies keep living because of their network of social contacts, not because they have a good businesses. In China it now seems clear that it is even worse than the case with Japan. At least in Japan there are market forces which over time eventually correct the problem, but in China it may be far worse than many have imagined.

Stratfor Weekly has reported that China suspended all lending for a few days in China. This is a very bad sign for the economy of China. Why? It means that China is probably in a panic over its bank lending practices and the poor loans that are outstanding currently. Strator Weekly also suggests that China may be sending a message to the banks about the lending practices as well. But this means that the Chinese economy may be in for a very difficult future. Here is why.

• Chinese socialism relies on contacts or “guanxi”, the building of relationships through informal networks rather than organizations per se. The banking system exists in China based upon “guanxi” and not reliable market driven factors for lending.
• The only way in China at present to keep the company going is through debt servicing on loans, not on equity generation and growth for the corporation.
• To keep the economic monster alive as a corporation, exports play a big role in maintaining the cash flow that is needed to service the debt. So any change in exports over time cuts off the flow of capital to the corporation to sustain itself.
• ROI or return on investment is not important since shareholders legally have few rights as it relates to stock positions.
• Consumers add to this equation economically in places like China because they have to save in order to survive for the future. Savings rates tend to be higher in places like Japan, Taiwan, Hong Kong and China because there are weak retirement systems or in the case of Singapore forced savings in retirement by government held funds. This means there is less capital afloat in consumer spending. This drives prices downward in the local markets and creates smaller and smaller margins for the cash flow needs of the corporations.
• Three mechanisms exist to keep this kind of frail economic and banking system moving forward. These mechanisms are (1) Restructuring of debt service all the time on bad loans (2) Aggressive export programs for growth (3) FDI or foreign direct investment that seeks money from the outside for very shaky companies inside China. Quanxi makes all this work through networks of relationships that keep the big lie going to save the face of the Chinese in all parts of the system.
• What finally happens is that the crisis comes to a head when the exports slow and/or the debt servicing can no longer be maintained while the FDI is drying up from abroad. This leaves the Chinese economy is a real crisis.

All of this prevents normal business cycles from being developed in an economy like the one in China. It is all based upon false assumptions that Americans and Westerners, in general, bring with them to international marketing and foreign direct investments. Conducting a banking syndication deal in Asia is an interesting exercise in economic awakening or epiphany (appearance of the manifestations) all at once, but only if Westerners do their due diligence. If a corporate executive just looks at the books of a corporation in China quickly, all might look quite good because U.S. investors carry with them certain assumptions about the quality of the information they are getting. In China the quality of the information is poor because of the house of cards that has been built around the cultural issue of “quanxi”.

According to Strator Weekly, the Chinese tried to bail the banks out of this mess using $45 billion to help them. Didn’t work apparently and now China’s banking system is in for big trouble this year. The political system in China could face serious challenges because of the financial chaos that might ensue.

What this may mean is that once again money will return to the United States seeking safety from a Chinese economy that is clearly out of control and is stacked like a house of cards ready to fall from grace in the international financial circles. All this is going on while the U.S. is distracted by the challenges from terrorism.

U.S. foreign policy needs to be driven by a new kind of diplomatic leader and one that knows how to use analytical talent ahead of a crisis like the one in China. The U.S. State Department is in for deep trouble if it does not get its house in order in places like China, India and even Latin America. Even Africa looms huge on the horizon for the kind of change that is coming.

The U.S. needs people who think radically (root thinking as in mathematics). This means going to back to the essence of an issue and reformulating it. We will need people who can think systemically (meaning all the component parts of cultural, economic and political systems of other nations) not the current group of business attaches that provide descriptive research in our embassies and know nothing about the country in which they reside, thus leaving diplomats ignorant. Finally, we will need people who think ethically (this means moral principles of right and wrong, not relativistic values that float America into the troubles that we see currently). Corruption of the business mind and the diplomatic mind is going to create problems for the U.S. in places like China and elsewhere in the world if we do not address it head on. The recent corruption in the U.N, France, Russia, and Germany on the Iraq deals is the tip of the iceberg as it relates to corruption in business and international relations. The U.S. is not free of this condition, but we are in a position of power to stop it now.

China bears watching carefully and regularly for its slight of hand economics.

Professor M. Gene Aldridge
New Mexico Independence Research Institute, Inc.
galdridge@zianet.com
505 640 3447 or 505 523 8700

©Copyright NMIRI 2004
This article, from the New Mexico Independence Research Institute staff, fellows and research network, is offered for your use at no charge. NMIRI Syndicate articles are published for educational purposes only, and the authors speak for themselves. Nothing written here is to be construed as necessarily representing the views of NMIRI or as an attempt to influence any election or legislative action. Please send comments to: Editor, NMIRI 2401 Nieve Lane, Las Cruces, NM 88005. Phone (505) 523 8700. We do request attribution be given to both NMIRI and the author when the article is cited.
e-mail is galdridge@zianet.com.