Hong Kong – and by extension the GBA – moved into a new category of geopolitics this week. It is now no longer only the frontline of an ideological war between China and the West; it is also where the two sides are set to fight some of their fiercest battles in the Great Financial Decoupling to come.
It might be said that conflict between the Treasuries of the two superpowers has been under way for some time. Sanctions imposed last year by the United States against some of Hong Kong’s and China’s top officials have shaken the city’s financial institutions. Moreover, who can forget former US President Donald Trump’s saber-rattling throughout four fraught years, which led to speculation the Hong Kong dollar might be cut off from the global financial system. Yet what makes the likelihood of real, protracted financial conflict more likely now is the Cyber Administration of China’s action against the country’s dominant ride-hailing app, Didi Chuxing; what that action means for Chinese listings on stock exchanges in New York and Hong Kong; and the likely US reaction.
The Didi saga might appear similar to what happened to Ant Financial, only this time the IPO of a colossal tech company was knee-capped days after the fact, rather than days before. Didi will recover, of course, as will Ant (which will likely list later this year), but the confidence of foreign investors in China’s tech sector will surely take longer to bounce back. This is especially as the CAC has also announced it will henceforth vet all further IPOs by Chinese companies on overseas exchanges – at least, by those using the so-called Variable Interest Entity structure. (Which are the only ones worth buying.)
Yet what makes Didi different from Ant, besides that the drama is playing out in New York, is that it appears to be part of a broader effort by the central government to end not only a litany of monopolistic abuses by the country’s tech giants, but also the access that foreigners might have to their data. And even that, it could be said, is part of a broader effort, as enunciated by President Xi Jinping on July 1, atop Tiananmen Gate and wearing a Mao suit, to force the US to accept it has an equal in the world.
This is about more than face. The rug-pulling from under Didi comes just as the company, and many others like it, are about to be told they are no longer welcome on the US exchanges, anyway. Next week, the Public Company Accounting Oversight Board will issue a ruling on all Chinese companies listed in the US which have not yet submitted to its auditing oversight. This is likely to result in a stampede from New York to Hong Kong of the said companies. Any that might have had a moment’s pause previously to ponder the rock or the hard place will undoubtedly have been given clarity by President Xi’s July 1 speech.
The more important question is whether their departure is going to be acceptable to Uncle Sam, or whether the SEC and the Treasury Department will be hard on their heels. This ruling has been eagerly anticipated by both sides of Congress for nearly a year. A tough line might be enough to pacify many, but there are probably going to be others among them – with Senator Marco Rubio in the vanguard – who will want to press the advantage further. It is likely that this will become a hot topic in American media, and their focus will likely shift to Hong Kong as they seek to portray the HKSE as a place where US investors in these Chinese companies have unsatisfactory protections.
It might also be said that this conflict has been brewing for awhile. The Chinese side could rightly point out that the US has been threatening to kick its companies off the New York stock exchanges since before President Joe Biden took office; the US could retort that these companies have been in breach of their commitment to PCAOB audit oversight since President Xi took office in 2013. The trigger for the latest conflict is new, however. The idea that it’s only about protecting sensitive data, such as how many rides the Ministry of Public Security booked via the Didi app, is laughable. At a higher level, this is clearly an ideological struggle about asserting China’s right to manage what its companies do around the world in the same way that the US does. It took Xi’s 100th anniversary speech to make this a no-going-back moment. What happens next in New York and Washington is far more important to the Party – and its president seeking an unprecedented (since Mao) third term in October next year. This is fundamentally different from the Ant case, which was a domestic kerfuffle. It is about putting Xi’s July 1 gauntlet throwdown into effect.
The harder question is what might happen once this shift is under way. Will the US, as the (self-appointed) manager of the global financial system, accept that companies in which American teachers’ pension funds are invested can skip across the pond to Hong Kong rather than having to cough up their financial audits as required by the PCAOB? Will American regulators continue to accept that the HKSE is run like a Chinese stock exchange, full of companies that do not meet global auditing standards, yet sucking in Ray Dalio and others nevertheless? Or will they seek to assert Washington’s primacy over the chokepoint for those flows of global capital, via the local currency’s link to the US dollar?
It is not unthinkable that what is playing out now is indeed the mid-steps of a Thucydides Trap, if only a financial one. Trump and his investing advisor, hedge fund manager Kyle Bass, might have jumped the gun by speculating about it, but Biden is the one who will have to deal with the reality of it, and probably sooner rather than later.
How this crisis point was reached so quickly is the easy part. To understand the Chinese perspective, there are plenty of Xinhua and Global Times analyses of the state of US-China relations. The American perspective can be read in the Washington Post or New York Times. For hard evidence of the two sides’ incompatibility, look back to the trade deal that was inked at the start of China’s sixth millennium – its accession to the WTO in 2001 – and count the number of years it took before the pain of reforms forced onto 60 million laid-off SOE workers began to show up in social unrest statistics. By 2006, it was obviously enough to affect the next generation leadership transition, as the Party was polarized by the contrasting governance styles of Bo Xilai and Wang Yang, Party Secretaries of Chongqing and Guangzhou, respectively. The leadership team of President Hu Jintao and Premier Wen Jiabao came under enormous pressure from all sides to slow the Reform and Opening process. It was quite unclear until the last minute in 2007 whom among the younger cohort was going to be elevated to the Politburo Standing Committee to succeed Hu and Wen. In the end, neither Bo nor Wang got in, but rather Xi Jinping and Li Keqiang. The next five years saw an intensified power struggle until Xi was elevated to General Secretary in 2012, and then President and CMC Chairman in 2013. It was soon followed by the most audacious and vicious anti-corruption crackdown since the Cultural Revolution.
This is not a personality story: Once the backlash against WTO-related SOE reforms reached fever pitch, the Party clearly realised it could not achieve its founding mission while continuing to play by the rules of globalisation as set by the G7. It should have surprised no one, therefore, that when Xi took office he almost immediately decided Chinese companies no longer needed to cooperate with the PCAOB. That it took the SEC and White House so long to respond is testament to how distracted the entire US leadership was by Iraq and Afghanistan, followed by the global financial crisis. But they are fully focused now, as “Asia Czar” Kurt Campbell has made clear.
There is plenty of middle ground for the two sides to reach an understanding on. It should be easy to accept that Chinese bureaucrats are right to get their tech firms to reform their monopolistic ways. China is doing what the US should have been doing a decade ago with its own tech titans. However, bureaucrats are not making the bigger decisions. Just like it wasn’t a bureaucrat who yanked the Ant IPO, it surely won’t be one who decides to end the VIE loophole. Similarly, declaring Chinese companies in violation of their US listing status might be the SEC’s call, but they haven’t made that call since 2013 for a reason. Ideologues are hands-on now, on both sides.
Can they find restraint? Will their people allow them to? The smart money must start to accept that the more likely answer is no.
There will probably be many smart money managers that choose to disagree with this view. Some will claim that it is smarter to buy the dip, as what is happening here is, in fact, just bureaucrats whittling the Chinese tech giants into a more manageable shape, and China is still a growth story – Michael Pettis be damned – worth investing in. Others might say that the two sides will surely come to their senses because they have too much to lose. Still others might point to the power of financial lobbyists in Washington to ensure that regulators leave the Hong Kong Dollar alone.
To hold such assurances would require looking past what the country’s history suggests is more likely to happen. When the CCP was founded a century ago, its headquarters in Shanghai was surrounded by the kings of global finance, much like those that are working from home in Hong Kong today. Thirty years later, they were all gone. Since then, Reform and Opening has been a constant stop-start process, but it is clear now that times have changed. From here on out, the global financial community is going to have to accept investing in Chinese companies on China’s terms, or not at all. Whatever the consequences.
It is hard to be sanguine about the US side, either. Xinjiang has become like Jerusalem was to the Crusaders in 1099, regardless of the irony that they are now fighting for the Muslims. The Biden administration added more Chinese names to the Entity List the day after the Didi news broke. Could Chinese defiance on NYSE listings be allowed to go unpunished much longer? And once engaged, what US president could survive at the polls if Fox News decided to take up the cause of US pensioners being exposed to the CCP’s clutches on the HKSE?
Without wanting to sound overly melodramatic, the Great Financial Decoupling is surely coming. It’s time for Hong Kong to brace for impact.