Even if Donald Trump destroys global supply chains, Michael Power argues that is probably too late to rebuild much of the US’s industrial base. Besides the fact that China knows how to make pretty much all that US Inc has been contract-assembling in China, it no longer needs even to copy foreign ideas. It is inventing its own.
Lindsay Williams: With me now is Michael Power, Strategist at Investec Asset Management in Cape Town. In a few weeks’ time, he is going to be presenting a piece of his own writing called “China: No Longer a Copycat Economy”. Michael, you are going to be presenting this, as I said in my introduction, in a few weeks’ time. Can you give us a few teasers now? What’s it all about? What prompted you to do this?
Michael Power: Well, I think that the common narrative from the likes of Donald Trump is that China is cheating its way to the top by copying US technology and selling it to the world at a quarter of the price, which is massive simplification of the reality and, in fact, a distortion of the reality and what I want to suggest is that not only is that wrong but also, as sort of almost a heady footnote, China is no longer a copycat so it no longer needs to cheat its way to the top. It can think its way to the top through its own genius.
Lindsay Williams: And by coincidence, as we record this interview, if you look at the telegraph.co.uk or the print edition today, there is a piece by Ambrose Evans-Pritchard which is headlined as follows: “Wall Street dangerously exposed as China digs in for Trump showdown”. Then a couple of paragraphs in, it says the following:
“Mr Trump boasts that tariffs are working big time and that it is easy to win a trade war against predatory rivals running a structural surplus. It is a false lesson drawn from the 1930’s before the advent of interlocking global supply chains.”
That is the first point that I picked up from your presentation which you kindly sent me, that Mr Trump doesn’t like global supply chains.
Michael Power: No, indeed not, because essentially what it means is relocating production facilities out of the United States and into China. Of course, it is not, in the first instance, the Chinese who have done this and it is not Chinese product that, in the first instance, is being sold into the United States. It’s American product.
I mean take the classic example of how Apple sets up its own supply chain. It buys from a company, usually Foxconn in Shenzhen, an iPhone for $370. Its end price in the United States is $999. While I don’t say that the $629 uplift is all profit, I would say close to $600 of it probably is and the result is that this supply chain is immensely profitable for US Inc.
So in declaring trade wars against China, Donald Trump, whether he realises or not and I think he has started to realise it in the last week, is actually declaring war against US Inc.
Lindsay Williams: That’s interesting. Mr Trump, does he have the ability to break down these global supply chains or is he just blundering around at the moment and then people will remove papers from his desk so he doesn’t sign certain letters, which has been a feature of the last week on many media outlets. More seriously, can he do it because this looks like a prolonged spat that they are going to have? It is not just a flash in the pan.
Michael Power: I think that is probably right and I think it is part and parcel of the realisation at a grand level, probably grander than even Donald Trump, whether in the next 10 years China is likely to overhaul the United States in terms of economic size. They have their strategy called “Made in China 2025”, not that we are hearing too much about it from the Chinese at the moment because they have chosen to go quiet on it but essentially it identifies 10 industries where they want to dominate the world by 2025. I think, in fact, it is dawning on the United States and possibly on Donald Trump as well that the end is nigh.
Lindsay Williams: Yes and, when you talk about the end is nigh, let’s talk about the market. You say that he risks crashing the Dow, the S&P as the FANG stocks have driven performance and much of their profits are founded on supply chains rooted in China. Is it as serious as that? I mean these FANG stocks have got their own problems in Europe at the moment but could the China problem become the really big so-called elephant in the room.
Michael Power: Well, not just China. The whole concept of supply chains is the elephant in the room. China just happens to be the biggest part of global supply chains at the moment so it is guilty by association and I think that, yes, it is a huge part of what makes America seemingly great or at least what makes Wall Street seemingly great.
A huge amount of the profits have been driven by the rise of tech. As you know, the FANG stocks have been largely responsible for pretty much all of performance in the S&P 500 this year and a number of them (Apple, Google, Amazon), they do have a huge portion of their industry, their supply chain, exposed to China, so I think that it is a very worrying sign. If Donald Trump decides to take on US Inc., he is inadvertently taking on Wall Street.
Lindsay Williams: Yes, indeed. One of your sentences really stood out for me as very telling: “China now knows how to make pretty much all that US Inc. has been contract-assembling in China for its own account and a lot more besides.” So what you are saying is that China has the potential to out-US the US.
Michael Power: Absolutely. My favourite examples of the moment are the aforementioned iPhone X and most people in the West who don’t actually think about this assume that it’s the best phone in the wall. Well, there’s a company – there are two companies in London and the Brits have no horses in this race so they are wonderfully balanced in their perspective and they ranked Huawei the best smartphones in the world and I must say there the iPhone only comes in at number 3 for Stuff Magazine. Huawei comes in at number 1. A company which has only been in existence for four years comes in at number 2.
So the Chinese are really learning to do this for their own account. They don’t just have to make it for others. That is in the micro example of smartphones but you can look across everything pretty much industrial at the moment and, while they are not, for instance, in aircraft in the lead yet, when it comes to electric cars, they probably are.
I am extraordinarily worried about Tesla. I was even worried before Mr Musk got, you know, high last week. I think that Tesla is in trouble simply because I think the Chinese are going to eat its lunch. They are producing, by 2020, 62% of the world’s lithium ion batteries. Half the electric cars in the world each year that are sold are sold in China. They are really going to use their domestic base to leverage up their global position and take on the world.
So they are learning to do things for themselves. You know there was a time when air-conditioners were made by Carrier. Now they are made by Haier and other players at the moment. These are now happening and this is just at the consumer electronics level. You can go into much more sophisticated industrial areas and the Chinese are really pretty much close to the cutting edge in most of them.
Lindsay Williams: So what you are saying is that China has managed to shake off the negative “made in China” motif and actually be taken seriously, whether it be cell-phones with Huawei and aeroplanes because aeroplanes will be next. There are so many things that they can do apparently as well as everyone else.
Michael Power: Well, interestingly, the company called Comac, which will launch their answer to both the Airbus and I suppose the Dreamliner, will do so in 2022/2023. Yes, it has borrowed some of the technology from Bombardier of Canada, which I see now is more associated with Airbus itself, but, nevertheless, hard times are coming for the likes of Boeing and, indeed, probably Airbus when the Chinese have also got a big player in this game.
We have seen what they have done in the world of solar panels. We have seen what they are doing in the world of wind turbines. We are seeing what they have done in the world of locomotives for trains. The Chinese are moving in and slowly but surely taking over. Well, actually, not so slightly – quite quickly but surely taking over.
Lindsay Williams: I remember when Naspers, a proudly South African company, first made its successful foray into China, Koos Bekker (the then CEO) would say to me: I can’t find decent engineers in South Africa; I can’t find decent engineers or any other professional that I need in the West because the Chinese are so good and they work so hard and they work 14 hours a day, 6 days a week instead of 10 hours a day, 5 days a week, sometimes 4.5 days a week. It seems like this momentum cannot be stopped at the moment.
Michael Power: I agree but it is not just about the sheer number of hours and how hard they work. They are coming up with brilliant new ideas, whether it is in areas like quantum cryptography (and I am not going to go into that) or in one of the most interesting areas, which they have completely revolutionised, is in the transmission over long distances of electricity with minimal amounts of wastage. This is transformative and this is essentially Chinese ingenuity. It is not just about sweat – brainpower is now being brought to bear on coming up with products and I think this is something which, as I say, means that China is no longer a copycat.
Lindsay Williams: Once you do present this piece, people are going to inevitably say: so what do we do about it? What’s the investment case? This is the $64,000 or renminbi question – what do we do?
Michael Power: Look, I think we are in an age of change. That sounds trite but we profoundly are, both technologically and geographically, and I am always minded of the advice that Warren Buffet gives when you are faced with big change in an industry. He says: it’s not as an investor about picking winners but avoiding losers.
Take, for example, two big losers in the last decade that we all thought as being industrial giants – it’s Siemens and GE. Both of them have been sideswiped mainly because they did not see the renewable energy revolution coming and they were too geared to the old order.
So my principal advice to investors at the moment is don’t buy horses when the car arrives. You are looking backwards and you are on the wrong side of history.
Lindsay Williams: Michael Power, thank you very much for your time. Michael Power is a Strategist at Investec Asset Management in Cape Town.
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