Mixing Finance and Politics, China-Style

By Ashby Monk

“Claims by Chinese officials that the establishment of CIC is intended to create an investment vehicle for strictly economic purposes are contradicted by many of the facts”, according to the U.S.-China Economic and Security Review Commission(USCC) 2008 annual report released today. The report, which is over 400 pages long, dedicates an entire section to China’s “capital investment vehicles” (i.e. SWFs) and their implications for the U.S. economy and national security.

It makes for an interesting read, as it outlines in great detail the sources of U.S. concern with respect to China’s SWFs.

“China appears far less likely than other nations to manage its sovereign wealth funds without regard to the political influence that it can gain by offering such sizable investments. With an estimated 40 percent of its domestic economy still under government ownership and control, China has long mixed economic and political goals and is likely to do so with its international investments, despite protestations to the contrary” (p.43).

This is a sentiment that came through clearly during our discussion with USCC Chairman Larry Wortzel this past June. At the time, he noted that you can’t understand the CIC without understanding China’s broader national strategic economic objectives. As the report notes:

“In fact, both SAFE and CIC are just two parts of a complex web of state-owned banks, state-owned businesses, and government-run pension funds, all of which draw their money-and receive their directions-from the central government and which promote a state-led development agenda” (p.44).

While the CIC does get quite a bit of attention, the report casts a very critical eye on SAFE, which it refers to as a “Shadow Sovereign Wealth Fund”:

“…SAFE is determined to prove it is the more astute and capable institution and, in particular, that it can obtain the same or better returns than CIC…SAFE now is competing with CIC for investments and brings some significant advantages to this second phase of the contest. SAFE has far deeper pockets than CIC, which at the moment has only about $90 billion in remaining cash to invest abroad. SAFE’s head sits on CIC’s board, with access to sensitive information about its planned investments” (p.53).

As we have flagged several times, the report goes into some detail about SAFE’s politically motivated investment in Costa Rican bonds:

“In 2008, a Chinese government agency promised to purchase Costa Rican government bonds in return for Costa Rica’s severing of diplomatic ties with Taiwan. That same agency invested $2.5 billion with TPG Capital, a Texas private equity firm.172 In addition, it bought approximately $2 billion in British Petroleum shares and approximately $2.5 billion in shares of France’s oil and gas company, Total S.A.173 Late in 2007, it made several small purchases of shares of three Australian banks..This government-owned investor, however, was not CIC, China’s official sovereign fund, but a secretive offshoot of SAFE, the official manager of the nearly $2 trillion of foreign exchange reserves China has amassed” (p.52).

“Both Taipei and Beijing have used ‘checkbook diplomacy’ in the past, but this is the first confirmed time that China has used its foreign exchange funds as a means of directly applying political pressure” (p.53).

In general, the report is a compilation of all of the fears surrounding CIC, SAFE and SWFs. It outlines the areas where confusion and misunderstanding remain between SWFs and recipient countries. It also serves as a wake up call to those that thought the ‘SWF debate’ had been resolved with the release of the Santiago Principles. Clearly, the trust building exercise that is at the heart of the IWG process has not yet had its intended effect on the USCC.

However, distrust is perhaps to be expected at the USCC, which was created in October 2000 around the time that China topped national security concerns. Indeed, some perceive the commission to be anti-China, viewing the Sino-American relationship as an ongoing and escalating rivalry.

In short, this report says is that China’s SWF may mix the political with the economic in ways similar to the methods of other Chinese institutions. However, as is noted, this is a feature that is particular to China. Once again this highlights the importance of distinguishing between SWFs–they are not all the same.

3 Responses to “Mixing Finance and Politics, China-Style”

  1. 1 Michael Xiao November 21, 2008 at 12:16 am

    I don’t quite agree with this report. It seems China has nowhere to put the money to, if in America, it will be viewed as “control American financial system”. If in other developing counries, it will be regarded as bookcheck foreign policy.

    Actually, China has a huge pressure for aging population. Due to the one child policy, in 20 years a Chinese adult will support at least 1 child, 2 parents and 4 grandparents. However, the current social security system is virtually zero. It will be serious sociocial problems if there will be no improvement in the social security program. The government has to solve this problem by cautiously investing its foreign reserve. My fundamental belief lies in this. I don’t think that China will risk its stability of society to run political agenda and lose money from its investments.

  2. 2 Christian Braun November 21, 2008 at 6:34 am

    The report’s treatment of CIC is, I think, very weak.

    For example, it cites CIC’s indirect financing of the foreign investment activities of domestic SOEs as an example of political investing. But this financing should only be of concern if, to give an example, Haier’s proposed acquisition of GE’s appliance business, financed by CIC, had itself been politically motivated.

    CIC’s mandate to support bids like the proposed Haier one is a constraint and will certainly be a drag on performance. But the authors’ statement on p. 52 that “Overtly supporting Chinese state firms… would contradict the assurances that CIC is motivated solely by commercial considerations,” while true on one level, is misleading on another, since this isn’t necessarily the kind of political investing that has been the focus of the SWF debate, and this is really more about passive constraints than about political motivation and the use of non-financial investment criteria on the part of the CIC’s managers.

    As Gao Xiqing is indirectly quoted as saying on p. 51 of the report, this is an issue constrained autonomy, and I do not believe the constraints are of a type that should necessarily be of concern in the target investment countries.

    SAFE is a slightly different kettle of fish.

  1. 1 Washington Less Concerned With CIC? « Oxford SWF Project Trackback on July 29, 2009 at 1:22 pm

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This website is a project of Professor Gordon L. Clark and Dr. Ashby Monk of the School of Geography and the Environment at the University of Oxford. Their research on sovereign wealth funds is funded by the Leverhulme Trust and The Rotman International Centre for Pension Management.

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