Bejing’s crackdown could put an end to 20 years of opening up the country.

This interview was previously published in Les Echos on 19th august 2021. Interview by Nicolas Madelaine et Sébastien Dumoulin

For David Baverez, an investor in China and based in Hong Kong, the chips are by no means down. But the recent crackdown on the Chinese internet is more problematic than Beijing’s move against Alibaba last autumn. The coming months will be crucial in knowing whether or not the Chinese government will return to a more conciliatory position.

Question: Last year, when Beijing blocked Ant’s IPO, you welcomed this measure of control. Is the latest crackdown more problematic?

Yes. It’s very different this time. It puts out some worrying signs. After opening itself up for two decades, China could well be entering a long phase of closing up. It’s too soon to be definite about this; we shall have to wait till the end of the year to see what it really means. We can only hope that, as in 2018, the private sector will make the government retract. But all the signs are that Xi Jinping has taken the necessary measures to prevent any such counter-power being set up again.

Question: In what way is the recent crackdown different?

Government intervention has covered three areas in turn. Firstly, its approach was anti-monopolistic with the cancellation of Ant’s IPO. Secondly, the Chinese government wanted to give more protection to user data, which was the problem with ride-hailer Didi’s app. These first two areas of intervention were legitimate and desirable. As an investor, it’s a good thing that predatory behavior should be forbidden. On the other hand, when control of “edtech” companies was taken over, there was no data protection or monopoly problem involved; it was simply an ideological move. The government took the brutal decision to stop the private sector from making a profit out of education any longer. What it amounts to is de facto nationalization without compensation. Profit is no longer acceptable in any area of the digital economy. Alibaba explained that Beijing had pointed out that it was making too much money. So, private digital companies are putting the brakes on their investment. Everyone is asking themselves who will be the next on the list. China seems to be embarking on a way of thinking that is a dangerous reminder of the cultural revolution.

Question: Why is this change in ideology happening now?

The Covid-19 crisis has acted as a catalyst, particularly since China has no effective vaccines and is being forced into new lockdowns. The pandemic has strengthened the digitization of services. The consequence is that web service companies are threatening to occupy the same place in China as the GAFA have in the USA. This is unacceptable for the Chinese government: it is impossible for any private company to possess data that the government does not have, or for a private company to put up any resistance to the government, as Apple is doing in the USA by refusing to give in to pressure from the FBI.

Question: Isn’t it merely the limited sector of education that is concerned by this new ideological control?

One would hope so, but it doesn’t look like it. There is an overall cultural aspect: control over the content of karaoke material, censorship of video games… The government is putting restrictions on alcohol consumption after working hours. It has also put itself onto the boards of several tech companies. All of this is going in the wrong direction.

Question: And yet some, like Blackrock, are calling for more investment to be made in China…

The asset management giants in the world have specific interests. Before this crackdown, it was thought that half of global growth in the sector would be in China. Numerous investors wanted to do business with China, to get permits… Ray Dalio, for example, said in January that we had to invest in the country. These investors are saying that nothing has changed, that everything’s going to be all right. But if they’re not careful, they might remind us of Chamberlain in 1938.

Question: So, the chips are down?

No. The coming months will be decisive. The crackdown on the economy has come at a crucial moment. China is facing the risk of middle-class incomes coming to a standstill (the middle income trap). Putting restraints on the service sector only aggravates this risk. Already, young people have become demotivated because of the economic challenges they face (housing costs, ever-lengthening working hours…) and are taking refuge in the new “lying flat” trend. If stock market levels continue to fall, this could reduce consumption. The whole economy could suffer a serious slowdown.

LES ÉCHOS / BLOOMBERG

The whole question is to know if Beijing will go back on its decisions or will only partially apply the measures. For the most part, the Communist party is arguing for keeping the economy open in order to keep it safe, and believes that foreign capital also brings know-how. The Chinese stock exchange authority is meeting the problem head-on, summoning the American banks to reassure them that the crackdown will be limited to education alone. There’s a show of strength going on. The best thing would be if, in the coming months, there were to be a meeting between the powers-that-be and the bosses of the large Chinese tech companies, which would announce that some sort of balance has been achieved. Among the signals to be looked for: seeing if the country agrees to buy Western vaccines, letting tech companies be quoted on the Hong Kong stock exchange…

Question: Are China’s Internet successes being jeopardized?

It could well be that, from now on, profits will be limited, even though we don’t know to what level. The worth of Chinese internet companies could well fall by 50% to 70% in comparison with their American counterparts. The leading Chinese companies would therefore no longer be competitive on the global internet. This is a striking contrast with last year when the digitization of the economy and private initiatives in education were producing a wave of optimism. The success of companies like Tencent, which was about to become a world leader in video games, was considered good for the country. Edtech was educating children to be the best in the world.

Question: Will certain sectors be spared?

If the government doesn’t take a step backwards, the sector covering consumers and online services for private individuals will be particularly affected. In B2B, “Made in China” should survive better. Artificial intelligence for industry, the internet of things, software for the energy network, etc. will be less affected, for example. That said, the risk is that foreign companies will be allowed to operate but without making profits, as has been the case of the EDF for 30 years. In effect, the government is likely to favor Chinese companies in an inequitable way.

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