China looks inward and downward 0 comments

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The chief winner in the new millenium so far must be China. Its economic opening up brought to an abrupt halt in 1989 by the Tiananmen "incident" (to put it euphemistically), it spent the 1990s in diplomatic recovery mode while building up domestic foreign investment quietly as the IT, technology and dot-com industries boomed elsewhere. Now in the 2000s it has finally realised its potential as a critical mass of foreign domestic investment and labour supply have made it the factory of the world. China is growing at a steady rate of ~10% per annum, a pace of growth that Singapore enjoyed in its golden years in the 1980s. And this is for a country a zillion times Singapore's size!

The most common class of problems with rapid economic growth are social problems, and the unequal distribution of income has long been recognised as one of the most pressing issues. China's growth has been driven by investment, and these have tended to congregate around the eastern coastline of China: a normal development as ports and external links usually emanate from these coastal cities. The original special economic zones (SEZs) were chosen from cities along the coast: Shenzhen, Xiamen, Shantou, Hainan, Zhuhai. Later other cities along the coast began to open up, most successfully Shanghai, which has a long economic legacy from the past.

The dangers of a poor majority rising up against a well-to-do minority are well-documented: communist China herself was formed from such a mass movement of opinion. Of course, today a great proportion of the population are congregated around the coastal regions, most significantly the Pearl River Delta centred around Hong Kong-Guangzhou, and the Yangtze River Delta centred around Shanghai. However the Chinese government remains cautious of the huge disparity in income between the rural regions in the interior and the urban developed coastal cities.

For a central government-driven country such as China, where quotas and restrictions can have a huge impact on investments overnight (they did it in the "soft landing" policy, affecting property, automobiles, cement in 2004), one would do well to watch the government's future plans and priorities. The recent National People's Congress (NPC), the top decision-making forum, laid down the next five-year plan commencing 2006 till 2010. In the words of their spokesman, it "signifies a major shift in China's economic policies: from urban development and heavy investment in billion-dollar projects to increasing rural and sci-tech investment in the interest of sustainable development...... Infrastructure investment will be shifted from the urban areas to the countryside, with a focus on farmland, roads, safe drinking water, methane facilities, power grids and telecommunications networks."

My guess is that allied to this policy will be incentives to foreign MNCs (and local companies as well) to invest in the inner regions. Already there are companies relocating their production bases further inland, as wage inflation starts to take hold in the coastal cities where living costs have risen (just look at their skyrocketing property costs). Chief among them would be automobile makers (eg. Ford) and technology companies (eg. Intel) in second-tier cities, themselves the capital cities of the inland provinces, such as Chengdu and Xi'an. The traditional heavy mnaufacturing base in the Northeast which have lagged economic expansion --- the provinces of Heilongjiang, Jilin, Liaoning --- are also set to benefit from renewed government attention.

As in stock investing, the investor must decide whether to "follow the winners" (the hot coastal regions) or "chase the laggards" (the less developed regions which are the government's new medium-term focus) . There are two main sub-themes here in the latter category: one would be infrastructure construction, chief of which must be (1)logistics and commmunication links to link them to the developed regions, (2)basic infrastructure like power and clean water, (3)development of better farming facilities to enhance the incumbent main economic activity -- agriculture. The second theme would be a geographical investment focus on the second-tier cities which are coming in for foreign investment attention as they boast decent infrastructure (being the most developed city in their particular province) and yet low labour costs (the original competitive advantage that drove FDI into the coastal cities several years back). Among the current crop of China stocks and new ones which are IPOing with alarming frequency this year, there should be quite a number from which one can pick to play these themes.

References:
(1) China.org article Mar 14 2006: NPC Endorses Five-Year Economic and Social Plans
(2) The US-China Business Council: Foreign Investment in China