Carolyn Bartholomew, Vice Chairman of the U.S.-China Economic and Security Review Commission, introduces the Commission's 2016 Annual Report to the Congress, on November 16 on Capitol Hill. To her left is Chairman Dennis C. Shea who spoke before her. The bipartisan commission reports to Congress on national security implications and the economic relationship between the U.S. and People's Republic of China. (Gary Feuerberg/ Epoch Times)Carolyn Bartholomew, Vice Chairman of the U.S.-China Economic and Security Review Commission, introduces the Commission's 2016 Annual Report to the Congress, on November 16 on Capitol Hill. To her left is Chairman Dennis C. Shea who spoke before her. The bipartisan commission reports to Congress on national security implications and the economic relationship between the U.S. and People's Republic of China. (Gary Feuerberg/ Epoch Times)

WASHINGTON—Members of the U.S.-China Economic and Security Commission, an advisory group to Congress on China, are calling for a reconsideration of the United States’ long-held China policies, citing widespread disappointment over China not moving toward becoming a free market economy. 

On Nov. 16, the Commission’s annual report—a 550 page book—was released, and several commissioners discussed their key findings and recommendations and answered questions from the public.

“The Commission believes it’s time to reconsider U.S. policy towards China guided by its kind of actions, not by its words,” Vice Chairman Carolyn Bartholomew said. 

Commission Chairman Dennis Shea said the Commission had conducted several public hearings and briefings, sponsored research, and went on fact-finding trips to China, Taiwan and India in the past year. The result is a tome of rich detail concerning U.S.-China trade, China’s state-owned enterprises (SOEs), China’s military modernization, China’s “force projection” and “expeditionary” capabilities, espionage threats to the United States, Taiwan, Hong Kong, North Korea, and the U.S. “rebalance” to Asia.

At the public release of the report, two topics dominated the Commissioners’ concerns and questions asked by the press and interested China watchers: trade imbalance and state-owned enterprises (SOEs).

Trade Deficit, Overcapacity Promises

The U.S. goods trade deficit with China in 2015 reached $365.7 billion, an increase of 6.5 percent from the previous year and the highest on record. The cumulative trade deficit with the U.S. since China’s accession to the World Trade Organization (WTO) fifteen years ago is “a staggering $3.5 trillion,” states the report.

It has become all too apparent that the CCP [Chinese Communist Party] has no intention of opening up what it considers key sectors of its economy to significant U.S. or foreign competition and control.

— 2016 Report to Congress, U.S. China Economic and Security Review Commission

The business climate in China was markedly less congenial last year and the first quarter this year. U.S. companies complain about unclear laws and inconsistent regulatory enforcement, states the report. China’s policies favor domestic competitors and industrial overcapacity.

“Industrial overcapacity topped the U.S. economic agenda, replacing currency as its primary concern,” states the report.

Chinese officials repeatedly made promises to cut back production in steel, aluminum, and coal, but progress has been “extremely slow” or nonexistent. Maintaining employment and economic growth is a higher priority. Beijing exports its surplus production to the U.S. and other foreign competitors, which affects employment and capital expenditures, especially steel and aluminum producers here. Beijing does not want to shut down industrial production and lay off workers.

Consequently, the U.S. steel industry took a big hit; U.S. producers posted net losses of $1.43 billion in the fourth quarter of 2015 and $233 million in the first quarter of 2016.

The Commission laments the unfair barriers that the regime imposes on foreign firms, including forced technology transfers, and the theft of intellectual property.

“It has become all too apparent that the CCP [Chinese Communist Party] has no intention of opening up what it considers key sectors of its economy to significant U.S. or foreign competition and control,” states the report.

In deed and word, China has shown to be a country that does not embrace free market principles.

— Vice Chairman Carolyn Bartholomew, U.S. China Economic and Security Review Commission

WTO and Market Economy Access

Differences with the U.S. are shaping up over whether China will be granted market economy status.

China gained membership in the World Trade Organization fifteen years ago. As the U.S. trade deficit, China’s overcapacity, and unfair treatment toward foreign companies illustrate, Beijing has failed to uphold its WTO commitments. Recently, the U.S. brought WTO cases on China’s aircraft taxation, export restrictions on raw materials, and agricultural subsidies. Nevertheless, Beijing argues that China should automatically be granted market economy status when the WTO accession protocol expires on Dec. 11.

The WTO accession protocol has meant that the trade partners are authorized to treat China as a nonmarket economy for purposes of applying antidumping and countervailing duty enforcement. If China is regarded as a market economy, it would result in a significant reduction in antidumping duties, or, in other words, anticompetitive advantages for Beijing.

“Countries rely on antidumping and countervailng duty enforcement cases against China to protect themselves from the influx of government subsidized goods imported below market value,” states the report.

The U.S. argues that expiration of the agreement does not automatically grant China market economy status. “We will make that judgment under our own laws,” Chairman Shea said.

U.S. law has strict criteria for determining whether an economy is a market economy. Some of these include the extent to which foreign investment is permitted, the extent of government ownership of industry, and control over the allocation of resources. China gets a failing grade on all these and so it is unlikely that the Commerce Department, which makes the determination, will classify China as a market economy. It is not on the path to becoming one either, according to the report.

Vice Chair Bartholomew said, “In deed and word, China has shown to be a country that does not embrace free market principles.” 

China’s Alarming State and Corporate Debts

Beijing has failed to make needed reforms to enable a more market-led economy by reigning in the size and influence of its SOEs. There are several reasons why the CCP is not enthusiastic about reform that would require some deregulation and privatization of the SOEs.

First, the SOEs in strategic sectors are the primary entities through which the CCP achieves strategic ends and so it would be resistant to giving up control.

China’s stimulus policies are delivering rapidly diminishing returns.

— 2016 Report to Congress, U.S. China Economic and Security Review Commission

Second, reducing the size of the state sector would produce job losses and slower growth. Finally, entrenched interests that rely on perpetuating the SOEs as they are make it politically difficult to reform the sector.

China’s state sector continues to be heavily subsidized, despite warnings from the International Monetary Fund that many large SOE defaults could impact the global economy. It has pumped stimulus money into the economy to boost economic performance. China’s state-controlled banks released a record $701 billion (RMB 4.7 trillion) of credit during the first quarter of 2016, which even exceeded the amount used in the first quarter of 2009 during the global financial crisis.

China’s repeated reliance on borrowing from its state-controlled banks to bolster growth is alarming, says the Commission report. “China’s stimulus policies are delivering rapidly diminishing returns,” the report states. Using analysis from Morgan Stanley, the report states that today it takes nearly six RMB of additional credit to generate one RMB of GDP growth. During 2003-2008, it took just one RMB of extra credit for one RMB of growth.

China’s total debt is $27.2 trillion or 255 percent of GDP in the first quarter of 2016. The rapid growth of debt is alarming. It was only 148 percent of GDP in 2007. Corporate debt is also concerning at 169 percent of GDP. SOEs hold about 55 percent of corporate debt while producing only one-fifth of China’s total economic output.

SOEs: ‘Essentially on Life Support’

As a result of inefficiencies, “Chinese SOEs face growing corporate debt, sluggish demand, weak pricing, and high leverage. SOE profits have been steadily declining in recent years. … To remain viable, many SOEs remain reliant on loans from state banks, leading to the proliferation of ‘zombie’ companies that require constant bailouts to operate,” states the report.

To remain viable, many SOEs remain reliant on loans from state banks, leading to the proliferation of ‘zombie’ companies that require constant bailouts to operate.

— 2016 Report to Congress, U.S. China Economic and Security Review Commission

Dr. David Lipton, first deputy managing director of the IMF, is cited that the growth of corporate debt must be addressed immediately by making serious reforms. The SOEs are “essentially on life support” and if not dealt with, could lead to a larger crisis.

However, despite the rising debt levels, Chinese companies are increasingly acquiring foreign companies in strategic sectors. The Commissioners at the release of the report expressed wariness about this development, with several commissioners referring to Chinese SOEs as “arms of the state.”

“We don’t want the U.S. government purchasing companies in the United States,” remarked Chairman Shea. “Why would we want the Chinese government purchasing companies in the United States?”

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A general view of buildings in the abandoned Qingquan Steel plant which closed in 2014 and became one of several so-called 'zombie factories' in Tangshan on Jan. 26, 2016. (Kevin Frayer/Getty Images)A general view of buildings in the abandoned Qingquan Steel plant which closed in 2014 and became one of several so-called 'zombie factories' in Tangshan on Jan. 26, 2016. (Kevin Frayer/Getty Images)

This is the final of a four part series. Parts one, two, and three were published previously.

Since Marx created his communist theory, China’s has become the first capitalist economic system under communist party rule. The Chinese Communist Party (CCP) started its reign by eliminating capitalism—transforming private ownership into state ownership—but was unable to create a successful socialist economic system. It finally had to switch back to a capitalist system to extend its rule.

During the reform to private ownership, CCP officials at all levels, and their families, became entrepreneurs, large property owners, and huge financial asset owners. Their process of wealth accumulation has been one of darkness and crime. They thus needed the red regime to protect their property and lives, and they also needed government monopolies to continue amassing more wealth. Therefore, these people are the strong supporters of China’s current system, rather than facilitators of democratization.

Unlawful Misappropriation

How did the CCP’s red elite go from owning nothing to becoming super wealthy in a short period of 20 to 30 years? This is the communist-capitalists’ secret and the guide to understanding the communist capitalist system and the future political direction of the CCP interest groups. Basically, they achieved it through unlawful misappropriation of public assets, maintaining monopolies of important industries, and by manipulating policies to gain benefits and maintain their authoritarian rule.

Cheng Xiaonong (NTD)

Unlawful misappropriation of public assets refers to the CCP elite directly taking over small and medium-sized state-owned enterprises (SOE) and obtaining free shares in large SOEs during the privatization process.

Maintaining monopoly industries refers to large SOE’s in the financial, energy, electricity, transportation, telecommunications, and other industries in which the red elite or their second generation offspring occupy key positions. Some of these enterprises are among the world’s top 500 enterprises. They provide large amounts of tax revenues to support the regime and allowed the red elite to quickly become rich through acquiring shares, kickbacks, pay and bonuses.

By influencing and manipulating policy-making, the red elite and their relatives were the first to get involved in many industries and projects and hence easily gained tremendous benefits.

Maintaining authoritarian rule refers to the red elite’s extreme hostility to democratization and to their hope to eternally keep the red regime in power, so as to permanently have their privileges and huge amounts of illicit wealth be protected by the CCP regime.

Red Capitalists

When a large number of China’s enterprises and wealth lie in the hands of red capitalists, the only reliable system of protection for them is neither market economy nor the rule of law, but “the proletarian class dictatorship,” which means their permanent dictatorship over all other members of society.

They clearly know that the traditional socialist economic system is not workable; they have access to wealth that is more readily available than wealth earned by entrepreneurs in democratic counties; they also have an excellent political position without competition, and they are able to prevent political democratization that might lead to political and economic liquidation. This is the essence of the “China model.”

An elderly Chinese farmer stands outside her home on farmland backdropped by a new housing development in Hebei on Nov. 21, 2014. (Kevin Frayer/Getty Images)

Obviously, under the CCP’s regime, this red capitalism will not spontaneously transform into a capitalist democratic system. For a long time, Western scholars have held the belief that, after economic liberalization, the red elite will naturally embrace democracy and freedom. China’s transformation has proven this idea to not only be naive, but also wrong.

However, the red elite is also very clear about the fact that the China model faces constant threats from the bottom of society. Therefore, they have been transferring personal assets to Western countries while arranging for their family members to immigrate to Western countries should the need arise. This indicates that the future of the “China model” is actually very fragile.

Revisiting Marx

In early 1989, the Friedrich Ebert Foundation, a German NGO, arranged for several visiting scholars to visit the Karl Marx House in Trier. Someone wrote in Chinese: “Mr. Marx, you really harmed us.”

Now it seems this statement was only half right, as Marxism was also harmed by the China model. If Marx were able to comment on today’s communist capitalism, he might be irritated and pleased at the same time. Irritated, because communists have married their enemy in order to survive; and pleased that a few communists are still around, no matter what kind of anti-Marxist theories they employed. So Marx might feel that he hasn’t become totally irrelevant.

But Marx would still be disconcerted by a huge contradiction. According to his theoretical framework “the economic base determines the superstructure,” and “advanced productive forces inevitably change a backward superstructure.” However, the China model would force Marx to completely overthrow his core concepts and thus the entire Marxist ideology, because under the present communist capitalist system, the superstructure of the “proletarian dictatorship” relies, in fact, on the economic base of capitalism.

A broken desk is seen at the top of an enclosed conveyer belt at an abandoned chemical factory on the outskirts of Beijing on April 4, 2016. (Greg Baker/AFP/Getty Images)

So, the big question remains on what the fate of this residual superstructure of the old socialist economic base will be. Is it to be totally eliminated on the scrap pile of history, or does it indeed contain an “advanced” nature that will inevitably breed a new communist revolution to eradicate communist capitalism?

Alternatively, in order to learn from the China model, Marx might need to update his theory from, “the economic base determines the superstructure” to, “the superstructure determines the economic base.” This would not only be a tough lesson for Marx to face, but also poses an unavoidable ideological crisis for the CCP.

Marx is still revered by the CCP because he provides ideological legitimacy to the privileged red bourgeoisie as well as to the continuation of the “dictatorship of the proletariat” model. The paradox is that the China model itself is anti-Marxist.

The CCP’s trick of survival is to hold the banner of Marxism while building and consolidating a capitalist economic system that is the opposite of Marxism. The China model thus is opposed to both Marxism and democracy.

Dr. Cheng Xiaonong is a scholar of China’s politics and economy based in New Jersey. He is a graduate of Renmin University, where he obtained his Masters degree in economics, and Princeton University, where he obtained his doctorate in sociology. In China, Cheng was a policy researcher and aide to the former Party leader Zhao Ziyang, when Zhao was premier. Cheng has been a visiting scholar at the University of Gottingen and Princeton, and he served as chief editor of the journal Modern China Studies. His commentary and columns regularly appear in overseas Chinese media.

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Chinese workers weld at a construction site in heavy pollution on Nov. 29, 2014 in Beijing. (Kevin Frayer/Getty Images)Chinese workers weld at a construction site in heavy pollution on Nov. 29, 2014 in Beijing. (Kevin Frayer/Getty Images)

Deng Xiaoping’s 1992 southern tour is generally referred to by official Chinese propaganda as a new starting point of reform. In fact, from the perspective of institutional transition, China’s socialist economic system officially came to an end in 1997, when China began to implement the privatization of state-owned enterprises (SOEs).

SOEs are considered one of the pillars of the socialist economic system. When most SOEs are privatized, the socialist economic system will completely disintegrate because an economic system characterized by private ownership is in fact capitalism.

Cheng Xiaonong (Epoch Weekly)

But interestingly, the Chinese Communist Party (CCP) is in denial about its privatization policy. Although it actually did take place, the CCP has never admitted that it already completed privatization more than a decade ago. The authorities have covered up privatization with the term “SOE reform,” but deliberately avoided talking about what kind of system they were reformed to. In fact, there were only two possibilities for SOE reform: either complete privatization, turning it into a completely private enterprise, or partial privatization, allowing partial private ownership with the main share owned by the state.

1990s Banking Crisis

There was a reason for the government to choose privatization but deliberately remain vague about it.

Zhu Rongji, China’s premier at the time, took two factors into consideration when making the decision. First, SOEs had become heavy financial burdens for the government, leading the banking system to the verge of collapse. The economic reforms of the Deng Xiaoping era could not resolve the serious problems facing SOEs, which relied unconditionally on state bank loans. However, business conditions deteriorated, and many SOEs ceased to repay their bank loans and even interest payments. From the mid-1990s, a potential banking system financial crisis became increasingly apparent.

In this case, China’s SOE managers became the new owners, basically through illegal means

In the early 1990s, more than 20 percent of loans by four major state-owned banks were bad debts. In 1994, China’s banking industry suffered its first serious nationwide loss. By 1996, seventy percent of overall bank loans had become bad or overdue.

In the second half of 1997, to save the banking system from collapse, the government had to roll out a restructuring plan for SOEs—namely, privatization—to rid itself of most of the more than 10,000 SOEs and their “burden” on the state.

World Trade Organization Requirements

In addition, China was eager to join the WTO to expand exports. But the WTO had the precondition that China must establish a market economy within 15 years, abolish its planned economy, and implement privatization of SOEs. If China could not prove the implementation of SOE privatization, it would not be allowed into the WTO.

Since the government and the media covered up the facts about SOE privatization, people who never worked at SOEs were unaware of the meaning of “SOE reform.” In fact, the so-called “reform” was to allow the privatization of small and medium enterprises and allow large SOEs to be listed on the market for partial privatization.

The authorities let the directors and managers of SOEs implement “restructuring” and layoffs. Any social discontent and anger arising from the reform would thus be transferred to those people instead of to the government. Of course, these directors and managers did not take the blame for nothing; they were handsomely compensated.

The key question in this privatization plot was: who would buy these SOEs? Just as was the case in Russia, directors and managers of Chinese SOE did not have the millions or hundreds of millions in savings to acquire businesses, and foreign capital played a minimal role in the SOE privatization process. In this case, China’s SOE managers became the new owners, basically through illegal means.

Workers construct an oil rig in Daqing, Heilongjiang province on May 2, 2016. (Nocolas Asfour/AFP/Getty Images)

Cover-up

This is the reason why the Chinese government has not allowed domestic researchers to study the process of SOE privatization, and Chinese media simply does not report the truth.

Ironically, despite being a forbidden topic for Chinese media and researchers, it is open to outside researchers. Foreign researchers, through international organizations such as the World Bank, could enter China freely and conduct nationwide sample surveys on SOE ownership status after privatization. Over the past decade, those researchers have published a number of books in English on the results of China’s privatization. However, none of these books were translated or published in China.

The Chinese government allowed foreign researchers to study SOE ownership in order to provide information on the progress of privatization in China to the World Bank and other international organizations and to pave the way for China’s entry into the WTO.

Since privatization of China’s SOEs has already been revealed to the world, the Chinese government’s attitude inside China can only be called self-deception.

Dr. Cheng Xiaonong is a scholar of China’s politics and economics, based in New Jersey. He is a graduate of Renmin University, where he obtained his Masters degree in economics, and Princeton University, where he obtained his doctorate in sociology. In China, Cheng was a policy researcher and aide to former Party leader Zhao Ziyang, when Zhao was premier. Cheng has been a visiting scholar at the University of Gottingen, Germany and at Princeton, and served as chief editor of the journal Modern China Studies. His commentaries and columns regularly appear in overseas Chinese media.

See the first essay here.

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Beijing is working on a merger of gigantic proportions.
Two state-owned container shipping giants—China Ocean Shipping Co. (a.k.a. COSCO) and China Shipping Group—are working on a combination to create the world’s fourth-largest container-shipping line. The merger is part of the Communist Party’s plan to reform its bloated state-owned enterprises (SOEs) to better compete with international rivals.
While the two shipping giants have been hashing out a deal for months, a merger is still no guarantee. Social, political, and economic pitfalls inherent in an economy dominated by SOEs are hampering efforts to modernize and optimize the sector.
Shipping Giant
COSCO and China Shipping have been structuring a deal for months, around the combination of the two firms’ container-shipping, tanker, dry-bulk, and port operations businesses.
The two have 330 container vessels combined, managing around 8 percent of all global shipping. Together, the firms trail only global shipping giants Møller-Maersk of Denmark, Mediterranean Shipping Co. of Switzerland, and CMA of France.
The companies’ container shipping units have incurred losses totaling $911 million over the past five years, according to London-based shipping analyst Drewry Shipping Consultants Ltd.
Beijing is also contemplating a merger between two other state-owned shippers, China Merchants Energy Shipping Co. and Sinotrans & CSC Holdings Co.
Freight Rates Plummeting
According to a report by investment bank Jeffries, COSCO and China Shipping together operate about 73 percent of China-flagged tonnage. That’s a de facto monopoly, and allows the combined company to demand higher pricing from customers seeking to ship goods from China.
Container-shipping rates have plummeted in recent years on excess capacity and lackluster demand, with many shipping routes becoming unprofitable.
The Shanghai Containerized Freight Index, a weighted index that tracks global freight shipping rates from China, sat at $484 per twenty-foot container equivalent unit (TEU) on Nov. 20. That was is the lowest rate of 2015 and less than half of the $1,000 per TEU quoted as of the end of 2014. TEU is a globally used metric to quote freight shipping costs.
The average price per TEU from China to Europe is $409, around half of the benchmark rate of $800 per TEU, which is considered the break-even point at today’s already low fuel prices, according to a report by Drewry.
Mergers among global shipping giants have been rare, but the COSCO-China Shipping merger may kick off a wave of consolidation in the fragmented industry. Singapore’s Neptune Orient Lines Ltd. is also in discussions to sell itself, with France’s CMA as a leading bidder.
“I think we are standing in front of a new wave of consolidation for the first time in 10 years because the market is very weak,” Maersk Line Chief Executive Soren Skou told The Wall Street Journal in an interview.
SOE Consolidation
China announced earlier this year that it would consolidate the country’s bloated and underperforming SOE sector—where most companies are not profitable.
Newly consolidated companies would then be organized as holding companies instead of government agencies, with their primary focus on maximizing profitability and getting more private funding such as through IPOs.
Earlier this year, China combined its two biggest railway equipment manufacturers to better compete with General Electric Co. and France’s Alstom SA on an international scale.
Similar mergers in other industries are planned. Beijing is looking to combine the cargo operations of Air China, China Southern Airlines, and China Eastern Airlines. The discussions are ongoing, and could eventually include consolidating the passenger services of several China state-owned airlines.
Beijing’s goal is twofold. One, to increase profit share to the Communist Party from 15 percent to 30 percent by 2020 partially to fund a rapidly aging population—most of whom used to work at SOEs. And two, to better compete with international rivals, increase innovation and accountability, in an effort to revive a stumbling economy.
Reform Pitfalls
But consolidating SOEs is easier said than done.
Discussions between COSCO and China Shipping have dragged on largely due to challenges in combining overlapping shipping operations without cutting jobs, which would make winning over Beijing regulators—who are concerned about social stability and the Communist Party’s reputation—difficult.
According to Jeffries, COSCO and China Shipping both have minority non-state owners who would need to approve such a consolidation. Non-Beijing-influenced minority investors hold about 45 percent of COSCO and 53 of China Shipping Container Lines, the primary container shipping business of China Shipping.
The two shipping firms have high minority ownership compared to Chinese SOEs in other industries. But to these minority owners, not cutting jobs given current economic and shipping industry realities may be a non-starter.

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