China as A Petulant Adolescent

On the world political and economic stage, China has recently presented itself more as a petulant adolescent than as a responsible nation.

The nation’s recent food and drug scandals provide a case in point:

China recently executed the former head of its equivalent of the Food and Drug Administration after he was found guilty of taking bribes to permit the introduction of dangerously harmful medicines into China. Many people died as a result. Ultimately, so did he.

Frankly, I have no complaint with this man’s conviction or execution. His greed cost the lives of many innocent people; and with luck his execution will send a message throughout China’s corruption-contaminated bureaucracy that the sort of bribe taking that endangers life, at the least, may no longer be tolerated.

Meanwhile, earlier this month, a high ranking Chinese regulator acknowledged that nearly a fifth of the food and consumer products it checked in a nationwide survey this year were found to be substandard or tainted.

The government said, for instance, that canned and preserved fruit and dried fish contained excessive bacteria; that 20 percent of the fruit and vegetable juice inspected was deemed substandard and that some children’s products were defective or laced with harmful chemicals.

According to the International Herald, the announcement came amid a growing scandal over the quality and safety of Chinese-made exports, and follows a series of international recalls involving everything from contaminated pet food ingredients and counterfeit toothpaste to toxic toys, defective tires and contaminated seafood.

Playing Chicken

The Chinese regulator’s honesty was refreshing. But rather than focusing strictly on what it needs to do to clean up the products it offers to its people and to the world, China, in response to the flurry of negative international press it has received on the issue, has suspended imports of chicken and pork from Tyson Foods Inc., the biggest U.S. meat processor, and six other U.S. companies.

This is diversion and obfuscation at its worst.

According to China’s General Administration of Quality Supervision, frozen chicken meat from Tyson was found to contain salmonella; Frozen chicken feet from Sanderson Farms Inc. had residues of feed additives and anti- parasite drugs, the regulator said.

No one particularly believes this; and most everyone sees this action as a face-saving ploy primarily for domestic Chinese consumption. However, China’s officials need to step back and consider the loss of credibility they suffer internationally when they pull stunts as these.

They obviously have their hands full getting their own house in order. China gains great credibility when it confronts its problems publicly and honestly. It should stick to that approach.

False Purveyor of Free Markets

Meanwhile, while China laments the growing “asset bubble” in its nascent stock and real estate markets, and while it worries about the “uncontrolled” influx of foreign capital into its markets, it ignores that it alone has created these problem in the first place; or that it alone may fix the problems, virtually overnight.

Stocks and Capital Markets

China essentially uses a two-tiered stock system. Shares of companies in China that are sold on mainland exchanges such as the Shanghai exchange are called “A” shares; while identical shares – called “H” shares — representing the same percentage ownership in the same company are sold on the Hong Kong (Hang Seng) exchange.

These are not duplicate stocks. They are part of each company’s total issued and outstanding bank of shares. The only real difference is where those shares are sold.

Chinese Mainlanders may only purchase A shares. The rest of the world may purchase H shares. Neither side may swap one stock for another.

Do you see the problem?

There are 1.3 billion Chinese. The mercurial rise in mainland indexes has propelled hundreds of millions of them to invest in A Share stocks – and why not? Even with reforms announced this week, interest on bank savings accounts in Mainland China is still only 3.3% annually. The Shanghai Index rose that much in a single day this week.

So Mainlanders flock to the stock market. The A Share stocks on their exchanges are the “only game in town” for them. So they push the price up to sometimes twice as high as the price of the same stock when offered as an H share.

Massive demand and limited supply on the Mainland are not the only factors affecting the price disparity between A and H shares. In Hong Kong investors may chose, literally, from a world of stocks. H shares must compete with stocks offered in Hong Kong and on all the world’s great exchanges; and there are countless additional variations of financial instruments from which to choose. This of course drives H share prices down to where, for example, the price earnings multiple of the Hang Seng index is not much more than the PE of the S&P 500 Index.

The sooner China merges A and H shares, and opens it stock markets to foreign investment while at the same time allowing its people (as in the People’s Republic of China) to access the Hong Kong exchange and other world exchanges, three things will happen – all good:

* A and H shares will promptly reach parity. A shares will drop in value a bit, and H shares will increase in value a bit because hundreds of millions of new Mainland investors will be demanding shares there.

* A similar parity will occur in foreign capital flows between China and other nations. Right now foreign capital wishes to profit from the artificial difference between A and H shares. Remove that distinction and there will be far less of an incentive to flood China’s exchanges with foreign capital.

* While investors in Mainland China may suffer a short-term re-valuation of their equities, they will promptly – and permanently – benefit from an expanded investment selection, freer flows of capital, and the freer flow of economic opportunity that always results.

Real Estate

Just this past week one of the countless departments of the Chinese government announced that they were going to fight the rampant inflation in urban housing prices there by – of all things – limiting supply.

The announcement said that the way to end real estate speculation was to stop issuing building permits. I am not making this up!

Obviously, the reverse is true. Demand will continue to outstrip supply as long as the Chinese government practices the economics of scarcity with respect to housing.

China must undertake four steps – and the sooner the better – if it is serious about making housing affordable for the average Chinese citizen:

* Extend their version of recently-enacted private property rights to persons living outside urban areas. Currently the new reforms only permit renewable 70-year leases in urban areas.

* Eliminate the practice of government units taking land by eminent domain only to sell the land directly to developers. This practice currently empowers the government (and local officials) to capture the profit from flipping the land. This practice should be abolished. Instead, establish the property rights of the persons who occupy the subject property, and if the property is rezoned for development, let those property owners sell directly to developers – if they wish – at a price that reflects the value of the newly zoned property.

* Make large suburban and rural tracts of land available for settlement and fee ownership, upon reasonable terms, at reasonable rates of interest, to average Chinese citizens. Let the people decide where they want to live. Stop the practice of crushing people into incredibly dense “instant cities.” Letting people seek the highest and best private use of land will build a solid tax base for the government. Everyone wins.

* Eliminate controls on where people may live and work. All Chinese citizens should be free to seek the best life they can find anywhere in China. The government fears people will race to the city. But they are wrong – if they first implement the land reforms mentioned above.

An Act of Surrender

History’s most significant political act was an act of surrender – By America’s founding fathers. Our most powerful, wealthiest and influential patriots gathered at Philadelphia and signed a document that for the first time in history: Surrendered power from the elite to the masses; acknowledged that governments derive their just powers solely from the consent of the governed; and acknowledged that all rights come from God, not from Governments, Kings or tyrants of any stripe.

We hold these truths to be self evident; that all men are created equal; that they are endowed by their creator with certain inalienable rights; that among these are life, liberty and the pursuit of happiness.

Only when China’s government gets out of the business of granting and withholding false rights, and into the business of protecting those rights already granted by God, will this incredible nation begin to achieve the greatness of which it is capable.

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