Illustration by Clay Hickson
China Is a Black Box of Misinformation
To this day, many Chinese people believe that Mao Zedong didn’t know millions of people were starving in the Great Leap Forward.
The agricultural production statistics were all rosy, a testament to the success of his new economic policy, while hordes of hungry masses migrated from province to province, chasing false reports of bumper crops. Thirty million or so people starved, in no small part because of the manipulation of economic data.
Half a century later, China has the second-largest economy in the world, and the country has lifted about 400 million people out of poverty. The magnitude and speed of urbanization are unprecedented in the history of human civilization.
I am proud of what China has done for its people since the introduction of state capitalism in the 1980s. Gross domestic product has quadrupled in the past decade, from $1.2 trillion in 2000 to almost $6 trillion in 2011. But as a China native and a U.S.-trained investor, I struggle with the country’s governance, openness and, therefore, the reliability of its data. Behind the scenes of an economic miracle, China has remained a gigantic black box to insiders and outsiders.
Cooking the Books
In the 1980s and 1990s, during China’s opening-up stage, both my parents left employment in the state-owned sector to jump into the newly opened private sector. As they toiled through the “wild west,” I learned the most important lesson about doing business in China: Numbers don’t mean much. Most companies have three books: a real one for internal use, one for the tax bureau and one for the CEO’s wife (and, in some cases, a fourth for his mistress).
More than a decade later the practice hasn’t changed much, as has been highlighted by the recent allegations of fraudulent accounting associated with a slew of China-based U.S.-listed companies. China as a whole is a giant black box -- no one really knows what is in it. Chinese bureaucrats don’t have any interest in reporting anything that doesn’t paint a good picture, and, even if they did, the statistics bureau remains woefully inadequate.
At the same time, gross domestic product forecasts issued by major investment banks are equally unreliable. Just as with equity research analysts and stockbrokers who package IPOs and sell them to investors, major banks’ economists try to curry favor with Chinese bureaucrats. As such their forecasts are essentially a point-for-point rehash of what fiscal and monetary policies the bureaucrats say are coming down the pipe. The information is repackaged and sold as euphoria to support banks’ profit-generating activities, such as IPOs and securities trading.
So far, these forecasts have worked relatively well, as one would imagine. China’s hybrid economy depends more heavily on government policy than most, and can count on the cushion of intervention from on high.
Once a growth target is set by the top, the central government then allocates GDP growth from the top down. The state gives provinces a target, each province mandates to the regions, regions to departments, and departments to corporations, including state-owned enterprises and private companies. Despite the admirable economic growth that China has delivered, at its core the reward and punishment system hasn’t changed in stride. Those who comply are rewarded and those who raise uncomfortable subjects are punished; a cut in pay or a cork in one’s career advancement are to be expected if one can’t provide the euphoria package.
There is a Chinese saying usually applied to the legal system: While the top has its policies, the bottom has its counterpolicies. In economics, if the bottom can’t meet the mandate, they cook the books and send the data back up the ranks. Everyone’s happy -- for a while.
It’s as if Mao’s proposed farming methods could actually produce the amount of crops that were being reported -- if the powers that be must be pleased, so be it. As long as the upper levels of governance maintain their authority and lower levels of governance don’t take any heat for a missed target, then everyone can be happy.
Many unbiased economists would argue that it is statistically improbable for any economy to have produced a real GDP data stream as smooth as China’s since 1980. During its early years of modern growth, China was still overwhelmingly agricultural, so it should have been subjected to Mother Nature’s unpredictability in the form of bad harvests or bumper crops. As manufacturing and industrial productions have grown as a percentage of GDP, business cycles driven by demand and productivity fluctuations should have generated far more significant swings in the economy than what the reported data have indicated.
Moreover, in the span of the past 32 years, the structures of the Chinese and world economies have changed rapidly and unpredictably. China opened up to international trade and foreign direct investment, and therefore subjected itself to more external economic shocks. Yet in this same period Chinese official statistics show aggregate GDP advancing like an Audi at a high but steady speed on an empty highway.
GDP-ism has become the Chinese government’s strongest ideology, and as such might not be an accurate indicator of reality. In the political and economic matrix of China, rosy statistics are the strongest self-justification mechanism for authority.
But, as history has shown, statistics and ideology don’t always work in a harmonious relationship; one has a habit of eclipsing the other until the lie that has been said a thousand times becomes the truth. Data manipulation, however, is a nontruth that can only fool for so long. Let us hope that when it is exposed, it won’t result in China’s next Great Leap Backward.
(Junheng Li is the founder and senior equity analyst of JL Warren Capital LLC, an independent equity research firm in New York. The opinions expressed are her own. Hannah Lincoln, a master’s candidate at Johns Hopkins University-Nanjing University Center for Chinese and American Studies, contributed research to this article.)
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