Pondering Two Worlds in China, Stephen Roach (from Beijing)
March 25, 2003
China always stands out. But in this growth-starved world, the Chinese dynamic is all the more visible. It is certainly the topic du jour in investment circles, even in these times of geopolitical angst. Everyone now wants to come to China and see the story first-hand. My phone is ringing off the hook these days with requests to be invited on my proverbial “next China trip.” Working on Wall Street all these years had left me with the increasingly insecure feeling that I had no alternative fallback skills. I now know that I could at least re-invent myself as a China tour guide.
Morgan Stanley is certainly doing its part for the China frenzy. Our firm has long had an active business in China. But this year we added a new twist on the investment research side -- we moved our annual Asian investor conference from Thailand to Beijing. China was just about the only thing Asian investors were talking about any way, so we decided to bring them directly into the laboratory of the future. This conference is the youngest in our ever-expanding family of global investment gatherings -- an effort that began in Lyford Cay some 17 years ago, spread to Europe about ten years ago, and started up in Asia three years ago. The drill is pretty much the same in all venues -- we start with the big macro themes and, over the course of several days, bore down to specific investment ideas.
Due to the war, it was touch and go as to whether we would even hold this year’s conference. After the terrorist attacks of September 11, we actually moved our Lyford Cay conference temporarily to New York. No one wanted to travel in the immediate aftermath of that shock, and we feared a similar response as war in Iraq loomed. But that was not the case -- there was only one drop-out as we gathered in Beijing on the eve of the first assault in Iraq. Perhaps we’re all getting accustomed to living in an insecure world. We rolled the television into our conference room for periodic updates, but we were able to stay reasonably focused on the business at hand.
The overall sentiment of this group of investors made me look like a bull. They conceded the downside to virtually every gloomy forecast I tossed out, whether it was GDP growth, prices, or profits in every major region of the world. And this wasn’t a group of cyclical bears -- most of them were caught up in the grips of more secular perils. Mainly Asian specialists, augmented by a sprinkling of European and US-focused investors, the assembled group had lived through many a boom-bust cycle. A majority came from bubble-prone Hong Kong, where despair is deepening by the day. The prewar upswing in world equity markets did little to whet their appetites. Long bruised and battered, these investors viewed rallies as selling opportunities -- not make-or-break entry points. Macro was dead (again) and stock selection was seen as the essence of investor survival.
The macro debate was fascinating. I led a couple of breakout sessions on “policy traction” -- whether the recent and prospective reflationary initiatives by monetary and fiscal authorities around the world would work. This is the issue that I have long believed would dominate the financial market debate this year (see my 13 January essay in Investment Perspectives, “Policy Traction”). I have been a skeptic on this count -- arguing that a post-bubble US economy was likely to be relatively unresponsive to the counter-cyclical actions that have been undertaken by the Fed and the Congress. Having failed to purge the excesses of the bubble and lacking pent-up demand, my view remains that Washington will continue to be frustrated by the results of efforts to jump-start the US economy. And in a US-centric world, if America can’t get rolling again, the world will remain vulnerable to a recessionary relapse. I got little pushback from the investors on that one. They, too, felt Washington was effectively “pushing on a string” -- not unlike the Japanese experience. Several investors voiced concerns that Germany might be the next Japan. They didn’t get much of an argument from me on that count.
Lacking in policy traction, the group thought that the global economy was likely to remain in the doldrums for some time to come. A US-centric world was hobbled by the persistent sluggishness of a post-bubble US economy. Nor did anyone make the case for the emergence of a new source of global growth. Europe and Japan were seen as structurally impaired, and export-led Asia would hardly prosper if industrial-world sluggishness led to a downturn in the global trade cycle. The world was desperately in need of a new fix, plagued by massive external imbalances and dependence on the US growth engine. In keeping with my long-standing theme, there was general agreement that a global rebalancing was needed before the world economy could really get going again. New sources of global growth were desperately needed. The most memorable line of the conference? “The world has yet to function as a world economy.”
Yet the investment pros knew we were missing something. After all, they collectively concluded, there’s always a way out of every quagmire -- something had to give. The leading candidate for that something was the currency lever. triggered by a significant and long overdue depreciation of an overvalued US dollar. Little in the way of instant gratification was expected. There was widespread recognition that currency impacts on real economies are usually long and slow in coming. But a currency realignment was viewed as an important trigger to global rebalancing. The structurally impaired economies of Europe and Japan would then have to respond to a strengthening euro and yen. A fall in the dollar was seen as the only real hope to force the rest of the world to go for policy stimulus that would boost domestic demand. Few investors at our conference in Beijing thought the world was likely to embrace such actions spontaneously. Pressure was needed -- and currency realignment was at the top of the list of possibilities.
I know how self-serving all of this may sound: An independent group of investors ends up singing out of my own hymnbook. I guess that’s why I go to Asia so often. Seriously, it did unnerve me to see such a conformity of bearish views. The old saw has it that consensus bets are invariably wrong -- especially when they reach such extreme conclusions on the market outlook. Years ago we called this the “curse of Lyford Cay” -- symbolic of those big investment themes that we identified at our flagship conference that often proved wrong. Over the course of the Beijing conference, financial markets certainly sent a loud note of repudiation to the “deflation trade.” By contrast, the “reflation trade” was finally working. The US and world equity markets were sustaining the prewar buying binge and even began discounting the “perfect victory.” The related sell-off in both fixed income and foreign exchange markets was equally sharp and wrenching. So much for global rebalancing -- the old trades were back on with a vengeance. The curse of our Asian conference seemed to be in full force before the group even showed its cards. That would set a new record for the humiliation of consensus thinking at any of our investment conferences.
For me, the conference ended on an upbeat note. I was to stay on in Beijing for the annual China Development Forum, a gathering of official China and a delegation of foreign “experts.” This was the world’s first look at the newly installed Chinese leadership. We heard from the new central bank governor, ministers of construction, commerce, finance, and information. The conference closed with an audience with newly installed Premier Wen Jiabao, his first meeting in an official capacity with a foreign delegation. In assessing the significance of a major leadership change in a place like China, it helps to have been a frequent visitor to the region and a participant in this same conference over the two preceding years. With the benefit of that perspective, I saw a China that was very much committed to staying the course set by its previous leadership.
I also saw a new Premier who seemed to have a knack for macro, not unlike his predecessor, the indomitable Zhu Rongji. Wen Jiabao was very much up to speed on all of China’s macro tension points -- its role in shaping worldwide deflation risks, currency-related sensitivities, and the potential trade tensions that might afflict an export-led economy. And he had a holistic grasp of the complexity of China’s reforms, stressing the interplay between the imperatives of urbanization, restructuring of state-owned enterprises, financial sector reforms, the establishment of a viable social security system, and agricultural reforms. It was a first meeting, to be sure. But I saw a grasp of the big picture in the biggest country of them all. From the standpoint of economics, the world couldn’t ask for more from the new Chinese leadership. Don’t get me wrong -- it’s far too early to anoint China as a new engine of the global economy. But I remain convinced that day is coming -- and probably a good deal sooner than anyone thinks.
I leave Beijing with mixed feelings. Our investor conference was a depressing experience, even for a bear like me. An unbalanced world seems stuck in an increasingly painful rut. Yet the streets of Beijing were more alive than ever, and official China seemed ready to take the next big step on its daunting transition. It’s that comparison between the dynamism of China and sluggishness in the rest of the world that continues to stagger me. I saw two worlds in China this week -- a contrast that only hints at the extraordinary resolution that lies ahead. |
