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EP 6 - KKR Asia Report, ¥1 trillion Bond, Foreign Company Investigation, and New Yorker's Article.

EP 6 - KKR Asia Report, ¥1 trillion Bond, Foreign Company Investigation, and New Yorker's Article.


  • KKR Asia visit and our key observation on the ground

    • KKR visited Asia third time this year,

      and had a chance to meet and share with the delegation. KKR’s Head of Global Macro Henry H. McVey, and Head of APAC Macro, Frances B. Lim, wrote a report after the trip, stating that they have came out of China with a refreshed, and more upbeat view. Robert and Mu talked about some of what they shared in the meeting.

  • The Chinese central government announced a ¥1 trillion special sovereign bond program

    • Robert, in his personal stack(

      ) , stated that this is a “nuclear control rod”. We expanded this point in the podcast. This bond program, while small in size relative to the overall economy, would create multiplier effect, symbolizing the change of stance from the central government from releasing rhetorical measures to substantive measures to support the growth of the economy.

    • This is in line with what we discuss in the previous podcast that we shall expect more time taken for stimulus measures to be formulated as new cabinet needs to be onboarded and be more meticulous in designing given the more complex Chinese economy.

  • Foreign company investigations

    • Reaction is disproportionally large on cases on foreign companies but there are also cases on domestic companies. Bribery and corruption cases existed amongst both foreign companies and domestic companies. Without overall analysis, conclusion can’t be drawn that there’s an intention to mistreat foreign companies.

    • Foreign companies and investors should internalize the fact that as China grows, super national treatment in the early years of reform would be normalize, and enforcement of laws would be more matured. It would be a norm for foreign companies to be treated as equal to domestic companies.

  • Thoughts on Mu’s response on Evan Osnos’s “China’s Age of Malaise” on New Yorker

    • Mu talked about why he wrote his twitter post, pointing out China is larger and more diverse than what Osnos wrote.

    • Most of the foreign media and China watchers are necessarily elites, who may be fall into their own information cocoon when it comes to analyzing China. Peter Hessler who through his book, River Town, detailed his experience in a small town call Fuling涪陵, is an example of getting out of the cacoon and discussed the broader Chinese society.

Full transcript

[00:00:00] Mu: KKR recently published a report. They have a trip in Asia. Specifically, they visited Japan, China, Singapore, and it's their third trips in Asia this year, and there's a lot of new views that's not common within the broader investor community. It's publicly available. Our readers can go on and read it. For those that haven't read it, the main takeaway is that there's a transformation happening across Asia. Within China specifically, their view is that there's an old China and new China in terms of investment & economy. We are seeing the sunset of old China's economic model, but there's much new China going on the ground that haven't been fully covered, which is what we are doing. And we are honored to be mentioned by the report. We had a chance to sit down with the delegations led by Henry and Francis, to spend 90 minutes sharing with them our insights and what we see on the ground. So to the extent we can, Robert, you want to share what we talked about with the KKR team?

[00:01:09] Robert: So we've actually been working with KKR as well as many other private equity funds for the last few years. And this time we are also honored to present our insights.

We share mainly two key observations. The first one is about what we understand about the so called unemployment or the employment situation in China, because the official data has become more spotty now. What we are observing through BigOne Lab's data is we see a strong, what we call frictional unemployment problem, especially for the young graduates, for the young junior jobs.

Although you do see many industries, for example, real estate, education, that are traditionally a big source of youth jobs that are crashing over the last couple years. But at the same time, you are also seeing industries like manufacturing, especially high end manufacturing, like semiconductor, biotech, they're actually increasing.

Their demand for talents, especially young talents. So, it's not a one way street view of unemployment. It's a mismatch of the talents, the skill sets, and the actual needs. And it's actually reflective of the overall industry transformations that China is ongoing right now. Because it's a frictional unemployment situation it's not going to be resolved like today.

It's going to take some time. It will take maybe years for the talents to readjust their skill sets, their majors, their trainings. But we don't think it's going to last forever. Frictional unemployment will adjust and will be resolved. As the industry transformations take root. So that's our first observation. Directly from the data we're seeing.

[00:03:21] The second key observation surrounds the consumer market which is going through what we call a consumption downgrade, just by looking at the average value spent. Per item, per purchase. That's one part, but also we remind the KKR team that it is not the only point of the market right now. Another key observation that is also happening is actually there are two. First is because the economic growth has changed gear, people are actually having more time and also they want to devote more time into those consumer behaviors that are generally better for their both physical and mental health.

This kind of consumption is actually growing double digits, even high double digits over the last two years. And this includes not only health products like health supplements, but also includes a lot of outdoor activities related consumption. It even includes pet products. We see pet as a kind of substitute for having children. People actually want companionship to satisfy their psychological needs. We see that along the line of these new forms of consumption.

The second thing is even though people are spending less it doesn't mean that their need to express themselves, their spiritual need, is decreasing. For the younger generations of consumers, even though they have less money to spend, they still want to spend in a way that they can express themselves. Meaning that in this round of consumption downgrade, there's also ample opportunities for brands to capture. In fact, a lot of the more successful brands recently say, Luckin Coffee, MINISO , many other brands, they are not only just cheap. People don't go to Luckin or go to MINISO just because it's cheap.

Cheap is important. But what's more important is that all these brands, they're really good at brand building. They're really good at making people identify with brands. We talk about the campaign between Luckin and Moutai, which is a super premium liquor brand.

We talk about how MINISO is developing all these different intellectual property into those really cute and lovely product lines. This cannot simply be explained by a consumption downgrade. It's consumption downgrade coupled with higher demand for expressing of personal ideas and brand identity.

These are what we share with the KKR team.

[00:06:16] Mu: I think we clarify it by giving nuance to the idea of "Consumption Downgrade", It's more about slowing down in terms of consumer growth, and the consumer become more aware for the value they want to get for the same amount of money they spend. They are not spending as frantically as they did in previous economic growth stage. It's still growing. The top line is still growing at a slower rate. So that will translate to a structural change in terms of the consumer behavior and there'll be opportunities.

[00:06:53] Robert: Even when we look at the luxury markets. I remember 10 years ago or like 15 years ago. When people purchase high-end luxury, there will be a lot of debates about what we call conspicuous consumption, right? Mm-Hmm, the you know, the fancy new sports car, the million dollar piece of watch.

It creates constant discussions in China. Nowadays, there's less of that. But people are still spending a lot on luxury. You look at these luxury groups, LVMH, Hermes, they are still expanding at pretty fast speed.

Why there's less of those kinds of conspicuous consumption or even like debates about that? I think that's also reflective of the maturing of the Chinese consumers, especially in this high end segment. People still have luxury needs, but it will be more internalized and less noisy, less, as you said, frantic.I think that's just overall trend right now.

[00:07:55] Mu: The content we share with KKR have also been discussed in the paid content of our SubStack. So you're not missing out much if you had a chance to read through all the articles. During the talk we can share more nuance but overall what we're trying to convey is that nuance is required for understanding the new China. KKR also echoed that in the report mentioning that the investment for a local team is required. The requirement is higher nowadays to help them get China. What's interesting is that those who have visited China all left with a refreshed perspective and more upbeat view than the mainstream media or than what's been discussed within the mainstream investment community.

Talking about more upbeat view, for the past few months we also have been paying attention to the state stimulus. One major announcement from the government is the trillion RMB bond, which is being discussed on Robert's Substack. By the way, Robert just started a personal Substack sharing his personal view. Some of them may be reflected in our Substack, but he also wants an outlet for his personal thoughts . So we'll share the link to his personal Substack in the show notes. Going back to the Trillion Yuan bond, You discussed that it's a nuclear control rod Effect, right? What do you mean by that?

[00:09:25] Robert: So let's maybe talk about the bigger picture first. So as you said over the last couple months both the central government, the state council, and all the ministries keep rolling out different kind of stimulus policies. But for all those policies, there is a complaint in general that it's all talk but no real action. Many policies are more of those kind of encouraging certain thing kind of policy. Some policies are aimed at tax reduction but not to a big deal. What people are waiting for is really the moment when the central government says, okay, I have to step in now with the real money to help different local governments, to some extent, developers to weather this debt crisis and to stimulate the growth. That signal was not sent until last week, when the government suddenly announced this trillion RMB sovereign bond, which is outside of the original budget, and increased the government deficit from a 3 percent to 3. 8%. It only happened two times in history that the government increased deficit in the middle of the year. You're also seeing entities backed by the central government, for example, Central Huijin, aggressively using real money to invest in index ETFs to boost the market.

And what I mean by the nuclear control rod analogy is that 1 trillion yuan itself is actually not so significant. By some estimate, all the local government debt in China is at least 87 trillion yuan. So 1 trillion yuan is just small compared with all the debt existed and also the government is not really saying this one trillion new debt is going to be used to repay the local debt. They actually say this one trillion debt is used as a so called disaster relief kind of purpose, so much of the fund will go into those infrastructure projects, some hydraulic projects, for example. So if we look at this economy as a nuclear power plant, one trillion yen is not like a nuclear fuel that the government is trying to push into the market. The fuel is not increased significantly. But what it achieved is that by taking this kind of abrupt change from previous standpoints, they are actually channeling a strong sense of confidence that is being used to kind of fundamentally change people's expectations of what the government will be doing. In a nuclear plant, you use those control rods to adjust whether the nuclear plant is working or not. And this is really similar to the point where in a nuclear plant, they're releasing the rod. The energy burst into each other and create more activities. It's not really the value of that trillion dollar debt that's significant, but the fact that it is there and it, it breaks previous precedents. This kind of stance and the confidence it entails will trickle down and have systematic effects. That's, as I said in my personal Substack, the most profound event of last week.

[00:13:01] Mu: This bond program will have a multiplier effect that triggers more positive changes in the economy.

The other thing I'd like to add is that many have not, internalize the fact that there's a new changing cabinet. Since end of last year, after the party congress and then all the government official are put in place in March this year. So if you are running a company, we also have an onboarding period, say six months, right? So they are also onboarding the cabinet, different officials. Meanwhile, they will have to design this program. Bearing in mind that, China is bigger now than 08 so the design of this program has to be more meticulous, which takes more time to design and simulate the effect. It takes more time. They announced it a couple of weeks ago, so that's about half year from March, the People's Congress. They are all onboarded announcing new measures. So the expectation would be as they are more and more on track in performing on their positions, we shall see if there's any more positive measures being announced. The message is clear from the Central government that they want to boost the economy. But we're also hearing from outside of China, there's still concerns that's confusing people about the message.

One is the foreign companies investigation. Recently, there are two headline news about foreign company investigation. One is on WPP, the other one is on Foxconn. How shall we understand this?

[00:14:47] Robert: We have more knowledge about the WPP case compared with the Foxconn case. But I will maybe just go through them first, and also share our overall observation about this whole narrative. So the WPP case I think is pretty simple. It is a classic commercial corruption case involving huge sum of money. As any advertising industry, they operate in huge advertising budgets. It is entirely possible, that some of the crooked senior managers, they might be using their power to enrich themselves. I think in this case the government authorities, especially the Shanghai Police Department, are actually quite proactive in terms of explaining the motives.

I think this is totally normal. What is not normal is how now it seems like every time a foreign business in China involves some law enforcement action, will create the kind of reflex and reactions that we're seeing in foreign media. Right, and also for the I think for the the Foxcoon Investigation. It's different in that for China, it's not really a foreign business. It's Taiwanese business. Anything that's related to Taiwan is more delicate and more complicated at the moment. We are not in that field and we not, we cannot really comment that much about it. What I can say is, I don't think this story also fits into the, you know, quote unquote, So China is against foreign business, scaring away foreign investors kind of narrative. Overall what we want to say is what we are seeing right now in terms of all these different law enforcement case, supposedly against foreign businesses, are just a kind of going back to normal. Normal in the sense that for some years foreign businesses actually enjoyed, it's not official, but it does enjoy some kind of super national status. Because in the very beginning during the opening up and reforming period, government goes Out of their ways to attract foreign capital.

[00:17:03] Mu: I agree with that. Coming up from Shenzhen, we know there are lower tax rates for foreign companies running business in Shenzhen in the early years of the reform era. So there are some supranational treatments.

[00:17:16] Robert: In the previous years, you have to be treating foreign capital differently in order to attract them. Otherwise "why should we invest in", quote unquote socialist China? For that time, that kind of policy totally makes sense as well. But nowadays, I don't think it's a discrimination against foreign business, it's just treating every business the same way.

Any businesses run compliance risk, they have compliance risk, and any business have the risk of Incurring non compliant, even illegal activities. And so it's just perfectly natural for any business, foreign and non- foreign, to be part of any investigation. Provided those investigations are really about setting those non compliance straight.

On the other hand, like for example, if we talk about WPP case, instead of focusing on this single case, why don't the media talk about all the non- foreign advertising companies that got themselves into investigations, right? There are actually way more than that. Unless you can tell me that foreign businesses in China, they suffer a disproportional amount of these law enforcement cases. Otherwise, it's really not convincing to me that foreign businesses are treated differently. I think it's high time, now we get back to a normal standard that everyone is treated the same way.

[00:18:42] Mu: There are two layers, right? One is the sun setting of supranational treatment for foreign business. The other one is the maturing of China's law enforcement. They are becoming more professional. In both way, in punishing illegal activity and in encouraging business to grow. So the two layer is taking into effect. But the reports by many of the news are only focusing on the single cases. Like you say, if we put in statistics, then we can investigate or talk more on that level.

[00:19:15] Robert: I think there is just a lot of these maturing of Understanding about China that are taking place. So for example last week there is this big article by New Yorker, by Mr. Evan Osnes, which is actually one of my favorite writers, by the way. He wrote this article, China's Age of Malaise, and I know that it created quite some discussions. Mu, you wrote a post discussing about this article. Why did you respond to that?

[00:19:45] Mu: So I wasn't trying to argue the fact that he described. The reason that drove me to respond was the frustration by how they construct a framework on China.

I was so frustrated, not by its stance but the perspective of the article. I think regardless of what different social system or political system each society adopt, people live their life, and there's diversity in the society.

So the article focused more on the elite view of the society. But China has evolved, in last few months, we keep mentioning that China has grown to a sizable society, to a sizable economy. So, to have a meaningful report about the entire China, you have to look into not just the 0. 01 percent of the people in the most advanced city in China, but there's the remaining 1. 4 billion people living outside of Beijing, Shanghai, Shenzhen. So that's what we need to talk about. That's what we need in terms of sharing insights, sharing news to helping people understand China better. We need to also cover the perspective and the life of the majority of the Chinese people that's living outside of the Tier 1 cities. Also the economy that's being developed outside of the Tier 1 cities. So that's what's lacking. They are still reminiscing the China in the early years, where modernizing the top tier city is the priority for the society. But now there was also a mention about triggering down effect, right? Get some people rich and then they will help the rest to get richer. So now it's a second step where the rest of China are getting richer, and I would appreciate more if the article can also cover more about the 99. 9 percent of the China.

Robert: I want to add to that in that there's one thing that every person who claim to be a China watcher has to be careful about, which is if you are a foreigner and you care about China, you are necessarily a elite. Otherwise you wouldn't care. Yeah. Right. And you are at least intellectual elite. You are well read and you express yourself really well. Being an elite, the drawback and the peril is: you always have what we call information cocoon or bubble, this elite bubble around you, because you tend to surround yourself with people who are also able to perceive and describe things as eloquently as you do.

And if we're not careful enough, we'll surround ourself and kind of swim just within this bubble and, it will take extra, really extra effort for you to break through and to be able to talk to the wider public, what we call the masses in Chinese.

I think another good example is Mr. Peter Hassler, which is also a famous New Yorker. One of my favorite books is his Rivertown. That was a classic example of a kind of foreign elite breaking through his own bubble ,install himself into a town that nobody have heard of for years and try to get really human level observations and you know, writings about this wider world. And I'm really curious and I really want to see more of these works. And at Baiguan, we're also writing an article about this topic recently. We wrote about some other cities like Gaoyou and Leshan. We did a podcast on Leshan before.

Now we are going to also write about our tour into this small little manufacturing town in eastern China. It's called Shengze盛泽, and it's going to be quite another interesting story about this part of China. So, definitely stay tuned to us as well.

[00:23:58] Mu: On the other hand, I also want to share another view about this lack of understanding about China. It takes years for the world to appreciate that in America, there's difference between California and New York, and Virginia, and Carolina or Maine. We should expect more time needed to help foreigner to understand the nuance of China.

There's difference between the Eastern, Western, Northern China. And we also want to be patient about this process because it's also a language barrier. That's why KKR say they need to invest more. I think that's the time. This is a time where China is not a simplistic society, but it's a mix of a diverse economy and society within itself. So this is going to take years and we are part of the effort to help bridge this gap. We look forward to actually spending more time and energy to help on that.

And for those that are looking into understanding China better, one suggestion we have is to focus on one locality, one province, one city, or one industry. Barely one city or one province is large enough. For you to spend a lot of time on. So that's how China has become and that's the reality.

You need to put in the energy and effort to help benefit your business and your investment. Alright, so that's it for today.

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