College Questions: What’s going on with the USA and China?

Posted by | September 21, 2019 | College Questions, Random Thoughts | No Comments

Continuing on with this series, I have a new question to answer surrounding the ever-present USA vs. China debate. The question at hand looks something like this:

Explain China, Hong Kong, and all of the global politics that are going on related to it. What is the chess game that is being played?

I feel it necessary to make a large disclaimer upfront that I’m not a pro at economics and that this is a highly, highly complex set of topics to cover. This will be pretty shallow and there will definitely be some opinions involved. I will also disclose upfront that I’m not a fan of China and tend to bias against China. As a reminder, this series is effectively me taking 1 hour to learn a subject and then 1 hour to write it – with no edits! It’s a verbal vomit of my thoughts onto the page.

Now, that all said… strap in!

To start out with, China and Hong Kong should be viewed as separate entities, as they historically were. For much of China’s history, they have been a communist state. They are still very much considered a communist state today but have a much more interesting economic agenda that we will likely cover later. In 1972, President Richard Nixon went to China with a lot of economic advisors as China was starting to undergo an economic change that focused largely on expanding their trade and presence globally.

This is separate than Hong Kong which was a British colony up until 1997 in which the British transferred “ownership” of the territory over to China proper. Since then, they have historically operated as one country but with 2 separate systems in place (communism vs. capitalism).

Why did China want to take back ownership of Hong Kong? I think the answer is pretty simple. Hong Kong had the global exposure and trade policies already in place that China could leverage. They could subtly attract global corporations to doing business with China through Hong Kong, unlocking billions of potential people to sell to. Pair that with business-friendly policies and you’ve got yourself a recipe for rapid growth. Oh, did I mention that in order to do business with China you effectively have to sign over your corporation? In essence, you have to have a company sponsor you whose origins are in China already – with the exception of a handful of large corporations (think Boeing).

This is where shit gets hairy. While China has IP rules, they don’t really follow international IP rules. For example, if you were to have your plans for your toy and manufacture them in China, you will almost certainly have a Chinese knock off to compete with your exact product at a fraction of the cost. In my opinion, the Chinese knew that Americans almost always choose the cheaper option and so they could effectively undercut American companies. The real reason they could do this is that the taxation was completely backwards. While USA corporations were not only taxed at a corporate level but also had import taxes into China, whereas China could import into the USA with effectively 0% taxes, making it impossible for USA corporations to compete. This is largely true on physical goods and gets a little more tricky with software or complex IP.

In the case of complex IP specifically with large corporations, China has been known to go to extremes to get their hands on it. In one scenario, they were actually charged for stealing IP from a massive flash memory maker called Micron.

You’d think that the USA would start to get worried about this, right? Nope. In fact, the opposite happened during the 2000’s with massive globalization. China created a massively strategic plan that was effectively a grassroots campaign to enter the USA market. In order to gain leverage on the USA, they purchased a lot of the debt we accrued during the 2000s Afghanistan and Iraq war, putting us a bit on our heels in terms of economic leverage. They then started to push massive donations into Universities to help influence agendas and normalize a Chinese culture. If you go onto any major campus in the USA today, you’ll find something called a Confucius Institute. Taken directly from Wikipedia, this is the description:

Confucius Institute is a public educational organization under the Ministry of Education of the People’s Republic of China, whose stated aim is to promote Chinese language and culture, support local Chinese teaching internationally, and facilitate cultural exchanges.

The way I read into this is effectively a long-played game to normalize a culture that is the polar opposite to the United States.

If we fast forward to today, the Trump Administration has made it clear that they are fighting hard against China to level the playing field once again. There’s an absolute metric fuckton of political interests at play here with massive money to protect the status quo with China. While each administration has extremely shady elements going on, a great example of how deep these interests can go is exemplified in former Vice President Joe Biden and his son. Hunter Biden flew on Air Force Two to China with his dad, Joe Biden, in December of 2013. Shortly after they got back to the United States, Hunter Biden’s private equity firm received a $1.5B PE deal from China. Shady, no?

So, let’s just assume that there are a lot of deep, entrenched interests to make sure that certain agreements continue to stay in place in order to benefit a few elites. If we go along with that conspiracy theory, a lot of the follow actions make a lot more sense.

As President Trump took office, he and his economic advisors start to prepare for a trade war. They decrease taxes for the majority of Americans to start to increase the overall USA population cash flow. The trade-off here is more USA debt. From there, they start to renegotiate all of their trade deals in order to get more favorable terms. What is actually happening is that they are working to deleverage China by creating alternative trade options. He does this by creating the USMCA trade agreement, pulling out of the TPP in hopes to create a more strategic and favorable trade deal, and then starts to massive in-roads in Africa with Prosper Africa to accelerate a 4th, and cheaper, alternative labor market. The other three markets being China, Indonesia proper, and South America.

I’m sure there are many more but all of this was designed to level the playing field and deleverage China.

And then the trade war starts. It all starts to go south for China starting April 17th of 2017 after the two parties fails to make progress on negotiating on their 100-day plan. Both parties aren’t willing to make the concessions needed to move the deal forward.

What happens from there has been pretty spectacular. The Trump administration starts a “death by a thousand cuts” strategy by starting to incrementally increase tariffs on strategic items that China imports to the USA. China responds in kind by doing the same, however, the blowback to the USA is fairly marginal for two reasons: the tax cuts and the alternative markets created through the renegotiated trade deals. Or at least that is what was intended. Over most consumer goods, 9 categories of goods had seen a significant increase in CPI. Additionally, it clearly impacted the exports of agriculture from USA farmers causing the federal government to have to step in on further subsidies to keep that industry afloat.

Another element at play here is the stock market. Where money flow dramatically impacts political decisions. The Trump administration is clearly working on ways to ensure that the stock market stays “healthy” relative to China by using central financial instruments, such as quantitative easing (QE), to make sure cash is flowing and the stock prices stay high. The USA is trying to force the Chinese hands by reducing the value of their stock market while also forcing them to deplete their cash reserves. The problem with this strategy is that China is considered a currency manipulator. This makes it very difficult to compete on cost of goods imported/exported. For a quick primer on currency manipulation, check out this article.

Alright, so we’ve talked through a bit of the trade war. How does this deal with the Hong Kong uprising?

The reason the Hong Kong protests started to happen was due to something called the ELAB: the Anti-Extradition Law Amendment Bill. Hong Kong citizens oppose this bill because it would enable China to detain and extradite Hong Kong citizens back to China, effectively saying that China rules supersede Hong Kong. This is scary for Hong Kong citizens because China has a very Orwellian approach to governing its citizens. Millions of citizens have been part of this demonstration.

The big reason there is such a blowback is that Hong Kong has been largely pushing for a more democratic society – similar to the USA. There was an attempt to start the revolution back in 2014 with the Umbrella Revolution – a series of sit-ins by students to protest the Chinese government starting to take over the Hong Kong system. There is effectively a multi-government war going on and the Hong Kong citizens are being subjected to being taken over into communism.

As such, you can see the Chinese government continuing to push for a takeover in order to gain a strategic economic lever inside of Hong Kong. It wouldn’t surprise me if the USA government was trying to stir the pot with the local citizens as well.

I’m at the 1-hour mark so I’ll do a quick summary to wrap this up.

  • The USA renegotiated strategic trade partnerships to gain more favorable terms to deleverage China
  • The USA is starting strategic investments into Africa to further open up more markets to buy/sell into in order to deleverage China
  • The USA is incrementally increasing tariffs on China in order to push its stock market down while starving their government tax revenue
  • The USA is betting on the financial “squeeze” to push China to negotiate a fair, bilateral trade agreement as well as renegotiate US debt held by China
  • China has a long term strategy of normalizing their way of operations by effectively infiltrating the USA from the ground up (eg. University influence on the new generation of kids)
  • The Hong Kong protests pose another angle of a challenge for China that is making it hard for them to continue down the path they’re on.

I wouldn’t be doing my job if I didn’t call out one specific example that hits home for me. My genetics company recently had a call with a very large buyer of genetic consumables for genome sequencing from a company called Illumina. In our discussion, we questioned why there are such few organizations in the USA doing whole human genome sequencing. Their answer was astonishing.

What has effectively happened is that a company called Novogene, who is owned by the government of China, created entities in the USA to operate within. The Chinese government buys massive quantities of consumables at a super high discount rate. From there, the Chinese government subsidizes the cost of goods, labor, and real estate in order to bring the price significantly down to a competitive range that USA companies cannot compete with. Companies do business with Novogene because it’s the cheapest option on the market for whole human genome sequencing. Typically, human WGS costs around $800-$1,000 to perform. With Novogene, it’s about $400-$500. What is so bad about this is that the samples are physically shipped to China where the genetic data produced lives. This data is critical for novel allele discovery when aggregated. Now, obviously you need health records for truly targeted drug discovery, however, for a wide range of generics, you can work off of population-based genetic data sets. The generics drug market is on track to reach $380 billion by 2021.

For us little guys, it makes it nearly impossible to compete with the entire backing of the Chinese government versus our measely $200k investment.

I hope this was interesting to read. Leave a comment if you agree, disagree, have more comments to add, or whatever. I’ll be continuing to play around with this series so if you have a question that you want to me to pour my brain over, let me know!

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