Xi Jinping’s stock market populism
China’s Communist Party can’t rule a country in which half the population orders food from restaurants and the other half delivers it. And it can’t keep its credibility unless Chinese families see the Gaokao – the university entrance examination – as a great equalizer of opportunity.
That is the common element in Beijing’s dual shock to tech stocks over the weekend: A requirement by Chinese regulators for food delivery firms to keep drivers’ incomes above the statutory minimum wage, and a sweeping ban against private tutoring services.
All prospective college entrants in China are equal, but some are more equal than others: The median Chinese family spends a full year’s income on private tuition to prepare for the Gaokao, but an affluent family can further improve the odds that its princeling will place into one of the country’s prestige universities.
By the end of 2020, China’s stock market looked remarkably like America’s. A handful of Internet giants dominated equity market returns and capitalization. At their peak valuation in February 2021, the combined market capitalizations of Alibaba and Tencent, China’s two largest public tech companies, had reached $1.3 trillion, equivalent to 13% of the Shanghai Composite Index valuation.
That was comparable to the dominance of the top six US tech names, which comprised 23 percent of the S&P 500’s market cap. But China has decided that it doesn’t want an economy dominated by Internet monopolies.
Alibaba and Tencent, to be sure, still have a huge role to play in China’s economy, but it won’t depend on picking the low-hanging fruit from consumer applications. Above all, Beijing doesn’t want a tech market that depends on initial public offerings in an increasingly hostile United States, where Chinese companies could be exposed to American regulatory pressure.
Part of Beijing’s concern stems from national security considerations. Internet firms like Didi and TicTok might be subject to cyberwar, and their global operations might become a gateway for hacking. Accused of sponsoring the dummy firms that attacked the Microsoft Exchange Server earlier this year, China is taking stock of its own vulnerabilities
The overriding issue in Beijing’s crackdown on parts of its tech market, though, is governance.
Under the new rules, for-profit tutoring firms will have to transform themselves into non-profits or shut down. That wipes out a $100 billion market in private tuition, but – in Beijing’s view – restores the credibility of China’s ancient meritocracy.
Only the top-scoring half of the 11 million Chinese high school students who take the Gaokao each year will attend university. The rest will revert to a lower-income track at trade schools, or drive a car for ride-hailing apps like Didi, or deliver restaurant meals for Meituan.
And, as several commentators have observed, for-profit tutoring depresses China’s birth rate by encouraging families to concentrate their economic resources on a single princeling rather than divide them between two children.
That phenomenon plagues all of East Asia, where the examination-based university entrance system encourages small families. Japan, South Korea and Taiwan all have lower fertility rates than China.
Meituan was China’s hottest tech stock last year, but it fell 14% overnight after the government decreed higher wage costs. Its American depositary receipt traded on July 27 at $61, down from a February peak of $118.
Earlier this month, China pulled the plug on Didi after its initial public offering in the United States by suspending downloads of its smartphone app pending a cybersecurity review. Its stock is now trading at half the IPO price.
Food delivery and ride-hailing apps took off in the United States for a simple economic reason: Smartphones allowed drivers to work at odd hours, using private vehicles that otherwise would sit idle for most of their service lives; in return for work flexibility, gig workers would accept low pay.
Their success presumes the existence of an enormous class of workers and retirees with inadequate income willing to sacrifice a few hours’ worth of leisure each week for a small income supplement.
In the great scheme of things, that sort of labor has no future: Autonomous drones will take over food delivery and self-driving cars will take over passenger transport in China’s smart cities.
That is possible in China because urban infrastructure is new, simple and easy to negotiate for autonomous vehicles communicating via 5G, with its almost instantaneous response time.
China faces a long-term labor shortage due to its low birth rate, and the single greatest source of labor savings is the job category of drivers, the largest source of employment in the world.
Automated warehouses (in which China’s e-commerce giant JD.com has the leading edge) will benefit from the internet of things and fast, high-volume communications. Embedded chips in consumer products will make storage and sorting easy, and robots will do the work of Amazon’s $15-an-hour warehouse employees.
Drones and autonomous vehicles will replace the dull, low-paid work of delivery people.
Holding all of this together is so-called “smart logistics,” in which the location of every input to production as well as every final product is monitored at every stage of production, storage, transportation and sale, and the financing of trade and inventory is matched to the physical state and whereabouts of products.
Internet companies like Meituan and Didi captured spectacular network effects in the last phase of the Third (digital) Industrial Revolution. There is room for two (but not four) ride-hailing apps on one’s smartphone, and two or three food delivery apps, so all of the startups will tend to merge into Internet giants with multi-billion-dollar valuations. Natural monopolies arise spontaneously from the technology.
But this doesn’t add to productivity; as noted, it merely leaches more labor into the marketplace by making gig work more convenient, while keeping costs down by constricting drivers’ pay.
An enormous shakeout is underway in China’s technology sector. Emblematic of the changes that are underway was the failure of Tsinghua Unigroup, a semiconductor conglomerate forced into reorganization earlier this month.
Unigroup bid aggressively for Chinese semiconductor firms, including RDA Microelectronics, which it acquired at a big premium to market in 2014. In 2015 it bid $23 billion for Micron.
The semiconductor business runs on talent, and conglomerates like Unigroup couldn’t retain the best engineers, who are starting their own companies and taking them public on the Shanghai STAR market.
Despite its chastening by Chinese regulators, big tech in China will remain a fixture of the landscape because its cloud and artificial intelligence businesses are indispensable to China’s future growth. But the great sorting-out of Chinese engineering talent that’s now occurring probably will look more like America in the 1980s, when startups like Intel and Micron challenged established computing giants like IBM and Honeywell.
President Xi Jinping’s approach to rule by decree in capital markets carries major risks, however. Whatever the rationale for pulling the rug out from under the for-profit education sector, abrupt and seemingly capricious changes in regulation are toxic for entrepreneurship.
Beijing can’t accomplish its economic objectives without encouraging thousands of semiconductor engineers to get rich. If China’s top talent decides to work elsewhere, Beijing’s economic plans will fizzle.
Author: DAVID P. GOLDMAN, Asia Times