How can China clobber America? This question has consumed wonks since the noughties when China began to creep up on a terror-and-subprime ravaged America. Military experts thought China would reconquer Taiwan forcing America to fight a conventional war on China’s turf. Energy specialists thought China would use its “nuclear and gas influence” over Europe to weaken NATO. Techies propagated China’s legendary capabilities in cyberattacks and robotics to write America’s obituary in futuristic battlefields. But hardly anybody thought China could use an economic weapon against America, although the portents of a “wealth attack” were hiding in plain sight. Let’s go back to the beginning here.
How China Used “Escape Velocity” to Marshal Trillions of Dollars of American Debt
Tomes have been written about how Deng Xiaoping transformed China into a multi-trillion-dollar economic superpower to rival America. In my book Superpower? The Amazing Race Between China’s Hare and India’s Tortoise (Penguin Allen Lane, 2010), I have postulated the “escape velocity” model, powered by two engines borrowed from the Soviet Union and Japan that enabled China to become the second-largest global economy, snapping at America’s heels. Using communist coercion, China began extracting massive surpluses through the 1970s-90s:
From farmers, by expropriating their land at throwaway prices
From workers, by keeping wages at sub-human levels
From consumers, by keeping the yuan artificially low against the US dollar
From competing economies, especially America, by keeping the yuan artificially low against the US dollar (note how this tactic is getting repeated). This helped China-domiciled firms to export goods on a gargantuan scale to the West, building fantastic reserves of US dollars.
The surplus extraction from farmers, workers, and consumers was on a scale as epic as Stalinist Russia, creating physical assets and social infrastructure on a scale hitherto unknown to mankind. At one stage, China was investing nearly half – I will say that again – almost 50 per cent of its Gross Domestic Product (GDP) in infrastructure.
But then Deng sprung a twist in the tale. Unlike the Soviets, he borrowed a leaf from the Japanese economic revolution, throwing China open to foreign trade and investment. Not just that, he also learnt the “dirty currency” lesson from the Japs, who had powered their exports by keeping the yen artificially depreciated against the US dollar through the 1970s.
China began wooing foreign investors with cheap land, labour, infrastructure, and currency to become the “factory of the world”. As its foreign currency reserves swelled, China also became the “treasury of the world”.
At its peak in 2011, China held nearly $1.1 trillion of American paper, about a tenth (i.e., 10 per cent) of the total stock. It was a happy and virtuous cycle — as America consumed more of Chinese exports, China lent even more dollars to America to fuel that consumption.
But financial experts were getting alarmed at China’s ability to inflict “economic terror” on America, i.e., if the Chinese dumped Uncle Sam’s debt, American interest rates could rise uncontrollably, crushing an economy reeling from the aftershocks of the sub-prime crisis. Mercifully, China sued for peace.
Today, even though China’s stock of US treasuries is down to about 5%, it’s still a little over $1 trillion, enough to keep the threat of “economic terror” dangling over the US.
China Annihilates Tech Heroes; America Suffers Massive Wealth Casualty
But elsewhere, China has been building another cache of a trillion dollars that everybody considered benign and “win-win”. From the turn of the 21st century, Chinese companies have been in a frantic race to list in America. One of these was NetEase, a leading Chinese internet technology company that went public in June of 2000. Lo behold, it has given investors a return of 18,000% in 21 years, beating the iconic Amazon which has “merely” returned 8,700%!
As other Chinese IPOs rushed in, American savers picked up billions of dollars of new equity to feast on the Dragon’s astonishing growth. The frenzy peaked when Jack Ma’s fabled Alibaba scooped up $25 billion in 2014. It was the biggest IPO in America, quickly joining an elite club of Facebook, Microsoft, Amazon, and Alphabet, as the five most-owned stocks by hedge funds.
Despite spiralling acrimony and confrontation between America and China, nothing stopped the IPO juggernaut. Not even the shadowy ownership of several companies with invisible links to the Chinese Communist Party (CCP) or the Chinese military. Not even their refusal to get mandatory audits done by the Public Company Accounting Oversight Board (PCAOB), taking refuge behind China’s secrecy laws.
These dodgy creds were terribly uncomfortable, but the gravy train was unstoppable. At the beginning of this year, 248 Chinese companies worth over $2 trillion were listed in the US, with American investors holding over a trillion dollars of this wealth. In just the first quarter of 2021, nearly $7 billion were raised, an eightfold increase over the previous year! Everything was going swimmingly.
But earlier, a big crack had occurred in October 2020, which was ignored by the go-go crowd. It was Alibaba again, whose subsidiary, Ant Group, was looking to raise $34 billion, beating its own 2014 record. However, perhaps in a momentary lapse, Jack Ma publicly criticised China’s regulators. The Chinese government responded ferociously, filing an antitrust case against Alibaba, forcing it to abort Ant’s IPO. Jack Ma went off the radar. Alibaba’s shares collapsed by 40% on NYSE.
Yet nobody had bargained for what followed nine months later. Didi, China’s Uber-like ride-hailing app, had a rousing IPO in New York on 30 June, 2021. In less than a week, Didi was banned from Chinese app stores, citing data privacy concerns. Nearly $17 billion of American wealth was wiped out. Then food delivery platform Meituan was ordered to comply with tough labour laws, destroying a third of its value. In a breathtaking reversal, Chinese ed-tech companies were prohibited from doing commercial business. Overnight, their revenue models got killed. TAL Education, New Oriental, and Gaotu Techedu, three of the largest US-listed Chinese ed-tech companies, lost 70% of their market cap in hours.
Continuing the onslaught, Tencent’s exclusive rights over 80% of China’s music library were rescinded. The marquee company lost $170 billion of shareholders’ wealth in a few days, perhaps the single-largest stock wipeout ever recorded.
American investors were left stunned, speechless, and flat-footed by such an epic destruction of wealth. China may have annihilated its ed-tech and consumer internet companies to control domestic data and/or cull overweening entrepreneurs, but American savings became a massive collateral casualty.
So, China had finally clobbered America — not militarily in Taiwan or the South China Sea, not via a cyberattack, not even by dumping American bonds — but by destroying the American lifeline that had nourished its tech giants.
China had cut its trillion-dollar nose to spite America’s face.
The self-flagellation was least expected.
It was a typically Chinese manoeuvre. Inscrutable!
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