Bedlam Asset Management on CHINA

Occasionally, weak attempts have been made to reform the financial system (IN CHINA). In 2003 for example, and with considerable hullabaloo, the Bank of China fired 20 local bank managers (out of 3,000) for corruption. Care to bet that stopped the rot? More common are 'one-off' rescues, which repeat every few years. $45 billion was shelled out by the financial authorities in 2003 to prop up the Bank of China and the China Construction Bank, followed by $30 billion into ICBC. Even by western standards, these are simply huge numbers (Barings couldn't even lose a billion, despite trying very hard). All these reforms and bail-outs fail for one reason, the core problem of the Guangxi system.

Guangxi (or connections) is not just having a Scottish Cabinet ruling England and Wales, or Enarques, all of whom attended the same two schools, running the French civil service. It is more subtle. It includes blood relatives and in-laws; it can extend to cousins of cousins, clans of the same name (China has only 100 proper surnames), people from your village or province and hopefully, senior politicians for whom one of your set once did a favour. It has been around for hundreds of years. Neither the Manchu nor Mongol rulers understood it or could break it. Guangxi has its strengths; it provides a support net for the weak and dispossessed. Very large personal networks on a national level can make the creation of new businesses and raising capital a remarkably smooth operation. It also embeds corruption, deeply. Thus any attempt at reform becomes mired and compromised. Government regulators find themselves having to pull the plug on their own connections, including perhaps their bosses or even worse, senior army officers and politicians. This is why so many of Hong Kong's listed 'red-chip' companies, run by wholly unqualified children of senior officials, were able to get all the funding, licences and assets they wanted in record time. Another more recent example of a Guangxi in operation took place in July this year; an order from the Government that the state-owned commercial banks must lend $1.2 billion to around half of the country's 130 securities firms which in practice have gone bust. Each has a major political connection. It is into this hopeless financial morass that western bankers have now decided to invest.

Today, most leading western banks have agreed that they must be in China, seemingly irrespective of the price, because of its rapid growth. They cannot resist the lure of potentially 1.3 billion savers and borrowers. They have swallowed the myth that the balance sheets of China's financial institutions have been cleaned up. Western banks are now shelving out considerable sums for the tiniest toehold in the China market. Not surprisingly, one of the earliest players was Hong Kong's Hang Seng Bank. In 2003, together with the finance arm of the World Bank and the Government Investment Corporation of Singapore, it plonked down $324 million for a 24.9% stake in China's Industrial Bank. Its parent, the better known HSBC, subsequently shelled out $1.75 billion for a 19.9% stake in the Bank of Communications. Both these two banks have an economic imperative and a level of knowledge of how to work in difficult Asian countries, which means they might even make a small return on capital, one day. For almost all other major banks, there must be considerable doubt. Bank of America is paying $3 billion for a 9% stake in China Construction Bank; Dutch-based ING Groep bought a 19.9% stake in the Bank of Beijing for €166 million. Newbridge Capital of the US bought 18% in the Shenzhen Development Bank. There is now hardly a major foreign bank not sniffing around Chinese banks and assets in one form or another. Those who have either been snoogling or have stated they are looking at major bank or asset deals include the Commonwealth Bank of Australia, Britain's Standard Chartered Bank, JP Morgan, Credit Agricole, Morgan Stanley, Bank of Nova Scotia and many, many more. It is a global herd.

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