Beijing Looks to Singapore as Model of Authoritarian Technocracy…

Most near term lead indicators in China are levelling out and improving at the margin from new PMI orders to total social financing. However, the structural challenges I’ve highlighted since 2010 are deep rooted and will require radical reform not only of the capital allocation system, but the role of the party itself and its relationship to the judiciary/state banks etc. Academic researchers concluded after a recent government conference in Beijing that the country was ‘unstable at the grassroots, dejected in the middle strata and out of control at the top’, which is a fair summary of the very brittle nature of Chinese society as the incoming leadership attempts to shore up the party’s legitimacy, undermined by an endless stream of corruption and insider enrichment scandals. While only the urban elite will be aware of the (quickly censored) NYT revelations on the estimated wealth of outgoing Premier Wen’s extended family, every taxi driver in Beijing can recite the excesses of the Ferrari driving third-generation Princelings, who invariably derive their income from private equity and other investment vehicles which thrive parasitically around the edges of the vast and largely unaccountable SOE economy to which they have preferential access by birth.

Achieving a transparent legal and financial separation of state/SOE and party assets would be a good start in renewing reform momentum, but would infuriate the vested interests for whom the current opaque structures offer ample opportunity for corporate looting. Indeed, I’ve often characterised China as a competent kleptocracy (as opposed to the bureaucratically incompetent variants in say Russia or India), but the balance between officials delivering tangible economic progress rather than finding ever more imaginative ways to deliver their burgeoning assets into offshore havens has swung dangerously out of balance. The ‘grassroots and middle strata’ morale problems can’t be addressed until control is demonstrably restored at the top. It’s intriguing that an article in an influential party magazine held up Singapore’s system of ‘managed democracy’ as a possible model for China; this coincides with a 10 part series on the city state set to air on state TV in early 2013.

The magazine in question is published by the Communist Party’s Central Party School, whose president is Xi himself, who is known to have a dialogue with Singapore’s founding father Lee Kuan Yew. If you are looking for a new Asian one-party model, the ever adaptable PAP certainly offers a better record of success than say Japan’s LDP. The sophistication of indirect social control in Singapore is remarkable, ranging from obligatory military service to HDB mortgages, and it’s a country where the military has a huge and lucrative role, with generals retiring at 45 (in case they get restless) to parachute into cabinet or executive roles in local hybrid SOEs, and where senior bureaucrats (typically chosen initially by competitive scholarship, but able to spend periods in the private sector during their careers) earn USD$500k plus to dissuade them from corruption.

I’ve  met  many  superbly  educated  young  Singaporeans  whose  loyalty  to  the  system (brainwashing?) is remarkable, whereas in China cynicism among the same age group is rife. Of course, attempting the micromanagement of every aspect of life seen in Singapore with 5.2m residents (and 3.5m citizens) across China’s vast population looks impossible, but as the party can never again risk a Tiananmen style crisis, the use of more subtle propaganda and social control mechanisms to guarantee loyalty is critical. Alongside a political relaxation, the economic reforms it implies and which are long overdue should help global investor sentiment, as the current status quo is increasingly untenable…expect one of Xi’s first overseas visits to be to this modern day vision of Confucian harmony, but he’ll probably skip the casinos stuffed full of his compatriots.

If there’s one feature that defines Singapore (aside from a brutally competitive educational and working culture and the world’s longest working hours), it is artificially generated paranoia to stoke up imaginary foreign threats and sustain social cohesion. There is little justification for the country’s vast defence budget on any objective assessment of the threat from Malaysia (whose youth based on a recent visit to KL are too busy attacking junk food to try it on with Singapore’s modern Sparta – surging diabetes rates remains a core Asian investment theme) or Indonesia, whose only invasion plans involve Jakarta’s elite racing Maseratis along Orchard Road to meetings with their ultra-discreet wealth managers.  However, Lee Kuan Yew and his successors cleverly realised that fear and even a sense of siege is the best tool for social control, and in that light perhaps the sudden spate of Chinese territorial disputes this year is also no coincidence. It’s conceivable that with a more liberal domestic political and economic environment under Xi we will also see a more assertive regional foreign policy as Singapore style armed to the teeth nationalism replaces the party’s residual Leninist pretensions.

US Productivity Growth a Double Edged Sword for Labour Market…

In this US recovery, total payroll employment has only risen by 1.9%, versus over 8% on average in recoveries since 1961. Productivity has rebounded above its 2% LT trend, while real median income has been negative since the recession. That more than any Fed action explains why equities have performed so well in such a lackluster macro environment, as margins have swiftly rebounded on technology enabled cost-cutting, but that is also driving extreme income inequality and weak aggregate demand. The non-farm payrolls report on Friday showed unemployment declining to 7.8% in September after holding between 8.1% and 8.3% during the first eight months of the year. This is the lowest unemployment rate in more than four years. Employers added a seasonally adjusted 114k jobs, accompanied by upward data revisions indicating that 181k jobs were added in July and 142k in August, and Q3 job growth was far higher than in the spring, amid yet another US growth panic.

Despite gasoline prices flirting with $4/gallon and the pervasive uncertainty over 2013 tax levels, the jobs market has returned to its recent trend. Since the start of 2011, payrolls have grown by a pretty consistent average of 169k jobs a month. Payrolls have risen by more than 250k only three times since the start of 2011, and by less than 50k only once. The labour force rose by 418k in September and the participation rate rose, although it remains historically low (see chart below). In addition, the long term unemployment level has moved down to 40.1% from 41.9% in June. Naturally, the surprisingly low unemployment rate and large upward revisions to prior months drove Republican conspiracy theorists needlessly into overdrive.

Large revisions are a long-standing pattern, whether there’s an election looming or not. Almost all the revisions, however, came from an upward revision of 101,000 to local government education in August before seasonal adjustment – a repeated anomaly at this time of year. It’s likely something is wrong in the BLS collection process as there shouldn’t be a recurrent pattern of error like this. The real issue is less the quantity than quality of the jobs being created; the vast majority were part-time, continuing the general trend since 2009. After accounting for population growth the economy is on balance shedding full-time positions with benefits, offset by part-time positions at lower pay and no benefits. We need to see median real household income rising on a consistent basis to drive a stronger and less volatile recovery, rather than simply cheaper consumer financing as prescribed by the Fed.

The  gain  in  hourly  earnings  was  solid  in  September  at  1.8%  y/y  and  suggests  a corresponding increase in personal income, which would imply support for consumer spending, and further employment gains (the relationship as shown in the chart is that personal income/consumption leads employment by about 3 months). The minutes of the September FOMC meeting released last week point to a vigorous discussion about employment conditions. Those wondering when the Fed’s QE measures might end did not get the definitive decision rule they were hoping for, as the current US recovery is historically well past middle age, at 13 quarters, but has been a very weak one on almost every metric, making traditional policy short hand rules such as the capacity utilization rate dubious.

Stepping back from the data noise, the proportion of 16 to 64-year-olds who are employed fell sharply in the recession and has barely recovered since; while the unemployment rate has steadily fallen back towards its historic levels, labour force participation has fallen, keeping the employment-population ratio constant. One hypothesis is that the recovery has been so weak because of underlying adverse trends in the US labour market. In an academic paper entitled “Manufacturing Busts, Housing Booms, and Declining Employment: A Structural Explanation”, the authors show how the ongoing decline in the demand for men with no more than a high school education in increasingly IT intensive manufacturing has generated an increasingly negative employment trend for these workers for three decades.

This trend continued unabated during the years after the 2001 recession but was masked by the housing boom, which lifted employment for less-skilled workers for another five years. If we view the housing boom (when residential investment doubled from its long-term average at about 3% of GDP) as an aberration that is unlikely to resume, it is misleading to compare the current labour market with that just preceding the onset of the 2008 crash, just as output gap analysis is similarly misleading. In both cases, the starting level of activity was artificially boosted by an historic credit boom, flattering the apparent strength of the US economy at every level back in 2007. The decline in the employment to population and male workforce participation ratios has been a long-term structural trend, pre-dating the 2008/9 recession but accelerated by it.


The recent auto sales data, alongside the ISM surveys (particularly on services) suggest that we’re still stuck in that 2% or so growth zone. Whether the recent mediocre but steady performance of the jobs market and overall economy can be sustained into Q1 or even accelerate, depends increasingly on political events in Washington. As both the Presidential election and ‘fiscal cliff’ loom, there seems to be bipartisan agreement emerging in a couple of areas. Defense spending is slated to come in for $600 billion in cuts over nine years, which might compromise national security and would certainly eliminate thousands of jobs. It seems likely that at least some of that will be restored. In addition, there is bipartisan support for allowing the temporary payroll tax reduction to expire; this will help restore cash flow into Social Security and Medicare, but will cost the average household about $1,000 annually. The uncertainty has been a deterrent to economic activity, as reflected in weakening corporate investment trends, for example.

The  two  sides  have  been  in  meaningful  discussions,  which  are  encouraging;  Treasury Secretary Tim Geithner recently met with Congressional leadership and the Congressional Ways and Means Committee has stepped up its deliberations, but there remains fundamental ideological disagreement on the future course of tax policy and entitlement spending. Without a compromise in these two areas, a long-term budget agreement will remain difficult to achieve. Some observers suggest that a deal will be reached that postpones the crunch point on the debt ceiling, deferring hard discussions until later in 2013, or even that we will go over the cliff to avoid the Republicans breaking their bizarre but sacred principle of no tax rises, and then some taxes get cut again in January.