Sovereign Funds: How the Communist Party of China Finances Its Global Ambitions 0674271912, 9780674271913

Table of contents :
Cover
Title Page
Copyright
Dedication
Contents
Introduction
1. China’s Evolving Perspectives on Foreign Exchange Reserves
2. Central Huijin
3. China Investment Corporation
4. State Administration of Foreign Exchange
5. Sovereign Funds in a Changing Global Geoeconomic Landscape
Notes
Acknowledgments
Index

Citation preview

S O V E RE I G N F U N D S

SOVEREIGN FUNDS How the Communist Party of China Finances Its Global Ambitions

ZONGYUAN ZOE LIU

THE BELKNAP PRESS OF HARVARD UNIVERSITY PRESS Cambridge, Mas­sa­chu­setts London, ­England

2023

​Copyright © 2023 by the President and Fellows of Harvard College All rights reserved Printed in the United States of Amer­i­ca First printing Cover design: Graciela Galup Cover art: Getty Images 9780674293403 (EPUB) 9780674293397 (PDF) The Library of Congress has cataloged the printed edition as follows: Names: Liu, Zongyuan Zoe, author. Title: Sovereign funds : how the Communist Party of China finances its global ambitions / Zongyuan Zoe Liu. Description: Cambridge, Massachusetts : The Belknap Press of Harvard University Press, 2023. | Includes bibliographical references and index. Identifiers: LCCN 2022042096 | ISBN 9780674271913 (hardcover) Subjects: LCSH: Zhongguo gong chan dang—Finance. | Sovereign wealth funds—China. | Foreign exchange—China. | International finance. | Globalization—China. Classification: LCC HG3978 .L658 2023 | DDC 332.450951—dc23/eng/20221207 LC record available at https://lccn.loc.gov/2022042096

​To my parents, Li Liu and Xingkai Liu, who made innumerable sacrifices to send me to Amer­i­ca for education to my mentor, Dr. Kent Calder, who has always firmly believed in me and inspired me as a scholar and to my husband, Daniel Stemp, who is the light of my life

Contents

Introduction  1 1. China’s Evolving Perspectives on Foreign Exchange Reserves  31 2. Central Huijin  74 3. China Investment Corporation  90 4. State Administration of Foreign Exchange  149 5. Sovereign Funds in a Changing Global Geoeconomic Landscape  185 notes  223 acknowledgments  265 index  269

S O V E RE I G N F U N D S

Introduction

The January  19, 2008, edition of The Economist had on its cover an

image of three large tandem-­rotor military he­li­cop­ters, each hauling a pallet full of gold bars and emblazoned with the flags of China, Singapore, and Kuwait. Above the fleet of he­li­cop­ters, the headline announced the impending “invasion of the sovereign wealth funds.” This hyperbolic declaration was a reference to several sovereign wealth funds (SWFs) from Asia and the oil-­rich Arabian Gulf that had in the week prior pumped $69 billion into troubled Western financial institutions, some of which w ­ ere among the world’s largest banks and investment 1 man­ag­ers. At that time the collapse of Lehman ­Brothers and the advent of the 2008 global financial crisis w ­ ere still more than nine months away. The prevailing attitude of Western policymakers was still mostly averse to the notion of wide-­scale market intervention, which some economists half-­mockingly described as drops of “he­l i­cop­ter money.” ­L ater that same year, when global financial market turmoil forced major central banks to inject hundreds of billions of dollars into the international banking system, such “he­li­cop­ter money” was rebranded with the sufficiently technocratic polite euphemism “large-­scale asset-­ purchase programs.” Although the cash injections from the SWFs ­were ultimately not enough to rescue the companies in which they invested, SWFs had proven themselves to be the crisis’s first responders. As state-­owned investment funds, SWFs w ­ ere the first institutions to deploy sovereign capital in a bid to steady markets while it was still

SOVEREIGN FUNDS

pos­si­ble to prevent the spread of financial contagion and avoid the financial sector dragging down the real economy. SWFs w ­ ere able to beat other government institutions onto the scene of the crisis precisely ­because they w ­ ere proactive participants inside financial markets rather than regulators operating outside of markets. The ability of SWFs to act promptly makes them a potentially invaluable tool for governments, but one that can be effectively wielded only if governments are willing to redefine the bound­aries of the state–­market dichotomy. One reason Western governments are understandably hesitant to redefine the relationship between state and market is that the existing relationship had been functioning seemingly well up u ­ ntil the last de­cade. In 2019, when many leaders in the West ­were congratulating themselves for having recovered from the 2008 financial crisis, global financial markets w ­ ere again cast into chaos, this time by the COVID-19 pandemic. The cost of the COVID-19 crisis was more than double that of the preceding crisis. MIT professor Deborah Lucas estimated the total direct cost of US government bailouts in the 2008 crisis to have been 3.5 ­percent of GDP ($500 billion), whereas the International Monetary Fund (IMF) estimated that in the first year of the COVID-19 pandemic, the US government had spent 8.8 ­percent of GDP ($1.8 trillion) on economic stabilization.2 This double-­dip into crisis is undermining public confidence in government and the economy. The high cost of the most recent bailout has contributed to higher inflation rates while si­mul­ta­ neously fueling doubts that governments ­will have the fiscal capacity to adequately respond to the next economic crisis. Google web search trends showed that the term “stagflation,” an economic condition in which both inflation and unemployment are high, was more popu­lar in the public discourse in June 2022 than at any time since the eve of the last crisis in February 2008. During the last de­cade, financial instability has exacerbated social in­equality and driven the deterioration in social cohesion.3 Consequently, the vulnerabilities of the Western cap­i­tal­ist system and the bound­aries of state–­market relations are arguably more subject to debate ­today than at any other time since the 1970s. Against a backdrop of heightened socioeconomic angst, it is not surprising that many publications that shape Western po­liti­cal debate de2

I n t roduc t ion

liberately blend the imagery of finance and war when discussing SWFs. This editorial choice reflects the perceived national security impact of capital flows. It implies that countries with abundant state-­owned capital could weaponize their financial power and pose a security threat to countries that receive capital inflows. Mounting concerns over SWFs are symptoms of the profound anxiety that capital flows from SWFs are a sign of the West’s waning influence and that SWFs’ geopo­liti­cal motivations could harm the ­f uture of the liberal demo­cratic cap­i­tal­ist system. Such concerns partly stem from the fact that SWFs represent a state-­led approach to capital allocation that did not originate in the West and remains somewhat unfamiliar despite the expanding footprint of SWFs in the global financial system. Between 2008 and 2021, global assets ­u nder management at SWFs more than doubled from about $4 trillion to exceeding $10 trillion.4 The apparent socioeconomic consequences of SWFs’ investments in Western firms add to distrust in capital-­recipient countries. SWFs’ investments inevitably dilute the existing shareholders in a target com­ pany, tantamount to the replacement of domestic elites by foreign interests in the owner­ship class. This change in owner­ship composition can trigger po­liti­cal conflict at the local level ­unless the SWF remains a ­silent partner, as the domestic managerial class is much more responsive to the concerns of foreign owner­ship than to ­those of the ­labor force and the surrounding community. This tension is the theme of the 2019 documentary film American Factory produced by former president Barack Obama. The dilution of existing domestic shareholders’ rights by foreign state-­owned capital and the displacement of domestic elites by foreign national interests represented by SWFs feeds into national security concerns, especially when the target com­pany is in a strategic industry. The concern is that SWFs use their capital to buy more than just equity shares in target companies; they are also buying influence in Western corporate boardrooms that can translate into strategic advantages for foreign governments by virtue of the extensive rights granted to shareholders in many Western ­legal systems. As Jonathan Kirshner argued, the 2008 financial collapse eroded US dominance in global politics, and the United States has since found itself 3

SOVEREIGN FUNDS

increasingly unable to enforce its po­liti­cal and economic priorities in an increasingly recalcitrant post-­crisis world.5 China’s sovereign funds debuted in global financial markets in 2007 and have since expanded in scale and scope, contributing to a narrative of Western decline and the twilight of American hegemony.6 By deploying sovereign capital to acquire strategic overseas assets and exploit the exalted rights granted to shareholders in cap­i­tal­ist economies, China has the potential to outmaneuver the United States as each looks to assem­ble regional economic blocs to the detriment of the other. By using China’s state-­owned capital to fill the cash coffers of Western firms while advancing national interests, China’s sovereign funds could quietly use the US-­led global economic system to put an end to American hegemony. If US policymakers fail to understand the political-­economic model of China’s sovereign funds and how they advance the global ambitions of the Communist Party of China (CPC), then the United States risks surrendering its leadership in financial markets e­ arlier than anticipated and in unexpected parts of the world. As the power of nations ebbs and flows over time, the only constant is the evolving nature of their competition. Since the end of the Cold War, the front line of g­ reat power competition has shifted from the military battlefield to novel nontraditional security domains like financial markets, cyberspace, critical infrastructure, and corporate governance. A state lacking the ability to proj­ect power in the traditional sense may invent new means to outcompete rivals that are more power­ful eco­nom­ ically or militarily. China’s sovereign funds are such an innovation. They employ leverage to transform China’s comparative advantage in international trade derived from manufacturing into a long-­term strategic advantage in global financial markets and other areas prioritized by the Communist Party of China and the Chinese state (the Party-­State).

Po­liti­cal Economy of China’s Sovereign Leveraged Funds The Chinese sovereign funds complex comprises two leading funds with dozens of affiliated investment funds that collectively managed 4

I n t roduc t ion

more than $2 trillion in assets at the end of 2019. No similar fund exists in the United States. Although several other countries have established funds using the same model, none can compare to the Chinese sovereign funds in scale. Among China’s sovereign funds, China Investment Corporation (CIC) has received the most scholarly interest and media attention. Besides CIC, China has several other, more obscure investment funds affiliated with the State Administration of Foreign Exchange (SAFE), the foreign exchange management arm of the ­People’s Bank of China (PBoC). Although ­these SAFE-­affiliated investment funds are not as well known as CIC, they have established a global network that collectively managed at least $1 trillion in assets as of 2019. Over the past de­cade, China’s sovereign funds have injected capital into several state-­ owned policy-­oriented investment institutions, such as the China Development Bank, Export-­Import Bank of China, and the Silk Road Fund. ­These policy-­fi nancing institutions have played an instrumental role in directly financing the ­Belt and Road Initiative (BRI), the centerpiece of President Xi Jinping’s foreign policy that aims to construct a new global trade network aligned with China’s vision for the world. China’s sovereign funds are outliers among the world’s SWFs, which are primarily commodity-­based funds established in oil-­rich states, including Norway and countries throughout the M ­ iddle East and Africa. As the world’s largest importer of commodities, China has relatively ­little in common with the countries traditionally associated with SWFs. It is perplexing that China should have such massive sovereign funds in the first place. Researchers have pointed to China’s excess foreign exchange reserves as the impetus for China’s sovereign funds, but this is an insufficient explanation. A new framework is required to properly understand the origins of China’s sovereign funds and their political-­ economic functions. This book analyzes China’s sovereign funds by following a ­simple research princi­ple: follow the money, find the politics. This approach is operationalized by using financial statement analy­sis to investigate the capital structures and asset allocations of China’s sovereign funds, including the sources of their capital, the conditions for capital transfer into the funds, their balance sheet strength and risk exposures, and the individuals involved in the funds’ most consequential 5

SOVEREIGN FUNDS

investments. By closely following the money, one is able to uncover the politics that steered the flow of capital into China’s sovereign funds and the geopo­liti­cal motivations that drive the funds’ asset allocation. Before introducing this book’s framework for analyzing China’s sovereign funds, some explanation of SWFs in general is necessary. The term “sovereign wealth fund” was first used in 2005 by Andrew Rozanov in his article “Who Holds the Wealth of Nations?” Rozanov defined SWFs as “sovereign-­owned asset pools, which are neither traditional public pension funds nor reserve assets supporting national currencies.” 7 According to this definition, commodity-­based SWFs have existed for more than six de­cades. The first government-­owned investment fund that would l­ ater be labeled a SWF was the Kuwait Investment Authority, established in 1953 and capitalized by the monetization of oil wealth found in the state. The 1970s saw the launch of a few more resource-­ based funds, but most present-­day SWFs emerged a­ fter 1990. ­These commodity-­based SWFs ­were capitalized by natu­ral resource revenues and act as a national savings account; their investment revenues help smooth out the effects of commodity price fluctuations and stabilize national fiscal bud­gets. Such fiscal buffers are crucial to insulating ­t hese economies from the vagaries of global commodities markets. By 2007, SWFs had already achieved an impressive scale, managing more than $3.1 trillion in assets—­about the same size as the entire US money market fund industry.8 Despite their size, SWFs have historically maintained a relatively low public profile.9 China’s sovereign funds are unlike commodity-­based SWFs and represent an entirely new class, which I term sovereign leveraged funds (SLFs). A distinctive feature of SLFs is their funding scheme, which relies upon a series of complicated transactions, including debt issuances and other forms of implicit financial leverage. SLFs are a political-­economic innovation ­because they are the product of the state leveraging its financial and po­liti­cal resources to make it pos­si­ble to capitalize a fund without relying upon a high-­profit revenue stream like the export of commodities. To fully understand the po­liti­cal economy of SLFs, one must also understand how the state takes on financial leverage. The state can assume e­ ither explicit leverage, by issuing debts, or implicit 6

I n t roduc t ion

leverage, by recharacterizing the risk profile of existing low-­risk assets. A stylized balance sheet of the state can most clearly illustrate the difference between t­hese two approaches. The key point is that explicit leverage and the issuance of new debt leads the state to expand its balance sheet. In contrast, implicit leverage increases the state’s overall risk profile without expanding its balance sheet. Unlike traditional commodity-­based SWFs, neither of ­these approaches to leverage relies in any way upon natu­ral resource revenues. A state without significant natu­ral resource revenues can take on explicit or implicit leverage to source the seed capital for the founding of a sovereign leveraged fund. The most straightforward way for the state to raise capital for its sovereign leveraged fund is to issue new government bonds or some other form of government debt. This allows the government to raise new capital from private markets, add it to the existing stock of available capital, and deploy the combined lot via a SLF as investments in risky assets. From an accounting perspective, the state has expanded its balance sheet and increased its use of financial leverage. The result of such financial engineering is that the state becomes explic­itly leveraged ­because the newly issued debt remains on its balance sheet. The decisions about how the newly issued debt ­w ill be underwritten and who ­w ill ultimately control the resultant SLF are the product of intensive po­liti­cal negotiation and aggressive bureaucratic competition. Chapter 3 discusses China Investment Corporation as a case of the state taking on explicit leverage to establish a sovereign leveraged fund. An alternative approach for the state to obtain investment capital is to convert existing pools of low-­risk capital, or state-­owned assets like foreign exchange reserves, into high-­risk-­bearing capital that is subsequently transferred to the management of the SLF. How this pro­cess constitutes an increase in the state’s financial leverage can be understood by considering the typical investment made by a SLF. In general, the fund uses its capital to make an equity investment in a target com­pany that is itself internally leveraged—­that is, carry­ing debt on its own balance sheet. The sovereign fund’s equity interest is subordinate to the debt of the target com­pany. The state is implicitly leveraged ­because the debt of the com­pany stays off the balance sheet of the state, but the state still 7

SOVEREIGN FUNDS

bears the risk of losing its entire equity stake if the com­pany’s debt cannot be repaid. In other words, the leverage is external to the state’s balance sheet. In this way, the state itself does not issue any new debt or expand its balance sheet, but it still increases its financial leverage. Eco­ nom­ically, t­ here is no difference between explicit (internal) and implicit (external) leverage: the only distinction is the accounting treatment and awareness among the general public of its existence. Regardless of which type of leverage the state chooses when raising capital, the outcome is the same: it ­will inevitably precipitate a po­liti­cal conflict among ­t hose that aspire to control the resultant capital. Implicit leverage is usually the more po­liti­cally expedient choice b ­ ecause the associated liabilities are usually not recorded in official accounts. Both Central Huijin and SAFE-­affiliated investment companies serve as examples of how the state takes on implicit leverage and then po­liti­cal conflict ensues. ­These two cases are discussed in Chapter 2 and Chapter 4, respectively. To summarize, SLFs are created by the state taking on financial leverage in ­either of two ways: one is to take on explicit leverage by issuing new debts; the other is to take on implicit leverage by raising the risk exposure of existing low-­r isk-­bearing capital. ­W hether a SLF is capitalized from the proceeds of debt issuance (explicit leverage) or by reallocating idle reserve capital (implicit leverage), the positive gearing effects are the same, with the practical difference being the degree of transparency. Both approaches require the state to leverage its capital resources, financial assets, and po­liti­cal power. In other words, SLFs are the product of the state’s financial engineering and po­liti­cal engineering. Before a county’s leaders can establish such a fund, a po­liti­cal negotiation must occur between the state bureaucracies to determine where to source the fund’s seed capital and who w ­ ill ultimately exercise control over the investment decisions. This pro­cess of negotiation firmly embeds SLFs in the politics of the state. SLFs use financial leverage to gather the capital necessary to implement the state’s strategic priorities without relying upon po­liti­cally unpop­u ­lar conventional means of raising money like tax policy or trimming bud­gets. 8

I n t roduc t ion

The experience of China’s SLFs demonstrates that although the state cannot always impose its w ­ ill on markets, it can create new institutions that reshape the incentives that guide markets. SLFs are state-­capitalist instruments for market governance. They are power­ful tools that allow states to engage with markets and represent a new ­middle path between the prevailing dichotomy of the liberalist proposal to “remove state intervention” and the market institutionalist proposition to “bring the state back in.” SLFs reconcile the seemingly opposite perspectives of liberalists and market institutionalists. The state’s control over the market cannot extend beyond its own borders, even in the extreme case of a centrally planned economy. Sovereign funds do not “administer or regulate” their portfolio companies. SLFs reduce the state’s reliance on nonmarket mea­sures when engaging with the market. ­These funds can use equity participation to become direct participants in the market and provide capital to companies in the industries prioritized by the state. Well-­k nown funds can also influence the market via their pure brand effect. Other institutional investors perceive investments made alongside prestigious sovereign funds to be inherently safer, imparting a higher risk–­reward ratio compared to other investments. This effect is sometimes called the “Buffet Effect” ­because it was first observed in reference to investor Warren Buffet and his com­pany Berkshire Hathaway, but it can also be seen with increasing frequency in the investments made by the Government Pension Fund of Norway, Abu Dhabi Investment Authority, Temasek, and China Investment Corporation. This is to say that SLFs empower the state to move and even shake the market by making selective equity investments that promote its industrial policies and geoeconomic interests. This is a fundamentally dif­fer­ent approach to the traditional model of the state guiding markets by administrative directives. SLFs are agents of the state in the exercise of noncoercive economic and financial statecraft. The creation of t­ hese state agents is firmly embedded in domestic politics, but their global activities are grounded in international geopolitics. How ­t hese agents interact with global markets 9

SOVEREIGN FUNDS

is a function of the state’s own geopo­liti­cal aspirations and structural constraints in global markets. SLFs act as a noncoercive means for the state to advance its strategic interests in the global marketplace. They do so by establishing connections to influential foreign actors and gaining access to global networks of sophisticated investors and po­liti­cal elites. SLFs form partnerships and establish joint ventures with other prestigious investment institutions to mobilize global capital for the state’s prioritized goals. They also participate in multilateral institutions that set standards for global financial governance, effectuating the state’s sway over global finance. SLFs offer companies and other capital-­seekers compelling financial incentives to comply with the state’s direction, allowing the state to forgo the more blunt tools of economic statecraft like tariffs and sanctions. SLFs also allow the state to practice coercion by exercising their equity voting rights in firms across strategic sectors or at critical junctures in globalized supply chains. Armed with abundant capital, SLFs can choose to ­either finance the founding of a new firm that may eventually grow into a mono­poly or acquire a controlling stake in mature companies that already have monopolistic power. SLFs influence their portfolio companies through the exercise of equity voting rights and can gain cooperation from even reluctant stakeholders by threatening to withdraw their capital support and sink the com­pany’s valuation. As the first line of discipline, a SLF may cast its proxy vote against the management team as punishment for not keeping the com­pany’s corporate be­hav­ior aligned with the state’s national interests. L ­ ater, if management refuses to adhere to the SLF’s guidance, it can divest its position and reinvest in a more pliable competitor. The equity capital of SLFs buys more than just a stream of dividends and a seat on the board; it acquires for the state the strategic option of responding to geopo­ liti­cal conflict with geoeconomic reprisals. This was demonstrated during the early days of the COVID-19 pandemic when many governments cajoled private companies into limiting exports or redirecting shipments of medical personal protective equipment (PPE) to domestic hospitals.10 By investing in companies at critical junctures in global supply chains, a SLF can ensure that the state’s interests ­w ill be given 10

I n t roduc t ion

first consideration in all decisions over supplies while its rivals ­w ill only receive short shrift.

Born from Crisis: China’s Sovereign Leveraged Funds The evolution of China’s SLFs has unfolded against the backdrop of China’s domestic financial reform and the globalization of Chinese capital. Once a backward country, China has caught up with Western powers on gross economic terms by relying upon its ability to mobilize capital. No other country in history has so rapidly transformed its economy from being among the world’s poorest and most isolated to one of the world’s largest economies, at the heart of the global supply chain, and a leading source of international investment capital. For the last two de­cades, SLFs have played a significant role in China’s economy, mitigating financial crises and tempering exogenous shocks. SLFs have supported China’s industrial policies by financing the state’s procurement of strategic overseas assets, bankrolling Chinese enterprises’ mergers and acquisitions abroad, and sponsoring the development of indigenous Chinese technology startups. As China’s state-­owned capital has gone global, the scope of China’s geoeconomic influence has duly expanded. Although SLFs have become essential tools of China’s economic statecraft, their creation did not arise from some g­ rand strategy of the CPC. Like most innovations, China’s SLFs ­were born out of necessity amid a state of crisis. Two exogenous shocks formed critical junctures in the evolution of China’s SLFs. The first was the Asian financial crisis in 1997; the second was the global financial crisis in 2008. At each of ­t hese critical junctures, the Chinese economy was at a starkly dif­fer­ent level of integration and embeddedness within global markets. The CPC leadership responded to ­t hese shocks by reexamining the bound­aries of state–­market relations in China and reinterpreting the Party’s commitment to reform and opening up. Among the results of this pro­cess, the CPC changed its approach to managing state-­owned capital, especially China’s foreign exchange reserves. 11

SOVEREIGN FUNDS

The 1997 Asian financial crisis was the precursor for the CPC leveraging its po­liti­cal and financial resources in 2003 to create Central Huijin, the first of China’s sovereign leveraged funds. The Asian financial crisis had major consequences for China’s state–­market relations and foreign exchange reserve management. Chinese policymakers witnessed how quickly the Asian financial crisis derailed the economies of China’s neighbors, primarily South K ­ orea, Indonesia, and Thailand. More specifically, the CPC leadership was keenly aware of the devastating economic consequences of a lack of sufficient foreign exchange reserves. Capital flight from the countries at the center of the Asian financial crisis had exacerbated their already weak foreign exchange reserve position. In light of this, the Chinese state moved to tighten its control over foreign exchange and capital flows, part of a suite of policies scholars refer to as financial repression. Violation of t­ hese foreign exchange regulations was made punishable in the criminal code.11 ­These regulations drove a 52  ­percent increase in China’s foreign exchange reserves during the four years following the crisis (1997–2001). This trend sharply accelerated when China ascended to the World Trade Organ­ization (WTO) in December  2001 and “Made in China” goods ­were exported to newly opened-up foreign markets. Between 2001 and 2005, China’s foreign exchange reserves increased 386 ­percent to $820 billion. This trajectory convinced the CPC leadership that foreign exchange reserves would continue growing and would be sufficient to deter capital flight for the foreseeable ­future. Subsequently, the attitudes of the CPC leadership t­oward foreign capital and foreign exchange reserves began to shift. Rather than intently focusing on attracting foreign capital, the CPC leadership began to consider how China’s foreign exchange reserves could be deployed to secure the state’s strategic interests at home and abroad. Protecting China’s economy from the fallout of the Asian financial crisis led the CPC leadership for the first time to consider financial security a core ele­ment of China’s national security. For the CPC, financial security had become too impor­tant to be subject to market vagaries, and the task of improving the supervision of China’s financial system had become more urgent. By the early 2000s the rise of nonperforming 12

I n t roduc t ion

loans (NPLs) in the financial system was causing China’s largest banks to drift ­toward insolvency. Given that the level of foreign exchange reserves was already more than enough to cover the needs of China’s real economy, the CPC leadership began to contemplate using excess reserves to finance the restructuring of the domestic banking system. In 2003 the Party broke with the practice of putting state ministries at the head of reform by establishing Central Huijin, a special purpose vehicle incorporated as a l­ imited liability com­pany, and giving it the mandate to recapitalize China’s banks. In taking this experimental approach, the CPC accomplished two objectives: on the one hand, Central Huijin maintained state owner­ship over China’s banks, allowing the CPC to intervene in the financial system with Central Huijin acting as its agent; on the other hand, Central Huijin shrouded the Chinese state’s intervention ­behind the veil of a market-­oriented com­pany, projecting a hands-­off, market-­friendly image to the rest of the world that China’s government was still e­ager to impress a­ fter joining the WTO. By choosing Central Huijin and not an official organ of the state to restructure China’s financial system, the CPC signaled that the hard realities of the nonperforming-­loan crisis would not cause it to abandon its commitment to reform. Unlike other periods of change in the Party’s history, po­liti­cal dictates ­were not ­going to be allowed to completely supplant market mechanisms. Central Huijin was established as China’s first sovereign leveraged fund to give the CPC the maximum degree of flexibility to decide when it would leave the market to its own devices and when it would forcefully intervene to protect the state’s interest. The 2008 global financial crisis had a pivotal influence on the development of China’s two other sovereign leveraged funds: China Investment Corporation and the affiliated investment funds of the State Administration of Foreign Exchange. Before 2008 the CPC leadership was increasingly aware of the high opportunity cost of investing China’s foreign exchange reserves in low-­y ielding US government securities. This was the primary motivation for the CPC leadership to consider diversifying China’s reserves by making alternative investments in assets of strategic value. The e­ arlier success of Central Huijin gave the CPC the confidence it needed to use foreign exchange reserves again to 13

SOVEREIGN FUNDS

create a new sovereign leveraged fund. In 2007, CIC was founded with a mandate to make investments in foreign markets that would earn higher yields but also carry more risk than government bonds. The origin of CIC and its evolution into China’s most notable sovereign leveraged fund is the topic of Chapter 3. The establishment of CIC in 2007 was somewhat unfortunate timing, as the impending global market tumult caused CIC to suffer a large paper loss during its first year of operation. CIC’s troubled debut in global markets exacerbated an ongoing domestic power strug­g le between the Ministry of Finance, which has influence over CIC, and the ­People’s Bank of China, which controls SAFE, the agency responsible for managing China’s foreign exchange reserves. The lackluster per­for­ mance of CIC in the first years a­ fter its creation presented a po­liti­cal opportunity for SAFE to significantly expand the scope of its global network of captive investment funds starting in 2013. Since then, SAFE-­ affiliated investment funds have quietly grown to surpass CIC in terms of both scale and breadth of activities both domestically and abroad. SAFE-­affiliated investment funds are shareholders in both foreign and domestic Chinese companies and have indirectly financed President Xi’s overseas B ­ elt and Road Initiative. The structure of SAFE-­affiliated investment funds and their role in advancing China’s national interests at home and abroad are discussed in Chapter 4. Although few p ­ eople realized it at the time, the establishment of Central Huijin in 2003 marked the birth of China’s sovereign funds complex. During the next two de­cades, Central Huijin outgrew its initial function as a bank rescue outfit and evolved into the “shareholder in chief ” of China’s financial ser­v ices sector, acting on behalf of the Party-­State to supervise almost the entirety of the Chinese financial system. Internationally, China’s SLFs have allowed the Party-­State to extract the benefits of participation in global markets or­ga­nized around the norms of shareholder capitalism without the Chinese state relinquishing its control over strategic firms and industries. CIC and SAFE-­ owned investment funds have made strategic investments, gaining influence over the corporate governance of foreign companies and, by the same token, insulating Chinese companies from foreign influence. 14

I n t roduc t ion

Sovereign leveraged funds have strengthened the CPC’s leadership over the Chinese economy and increased China’s geoeconomic capacity abroad. Since Xi Jinping took office in November 2012, the Party has gradually expanded the SLFs model, applying it to the reform of state-­owned enterprises (SOEs) to update the state’s industrial policy. China’s SOEs are supervised by the State-­Owned Assets Supervision and Administration Commission (SASAC), formed in 2003 to consolidate many industry-­specific bureaucracies. SASAC’s purview does not include the financial sector overseen by Central Huijin, itself sometimes called the “Financial SASAC.” Unlike in the financial sector, SOEs in the other sectors h ­ aven’t benefited from a SLF like Central Huijin, which sits atop the w ­ hole industry and directs capital flow down to individual SOEs.12 However, this began to change in November 2013 ­after President Xi laid out his vision for China’s economy for the first time at the Third Plenary Session of the Eigh­teenth CPC Central Committee. Xi led the working group that called for the creation of “state-­owned capital investment companies” to invest in “key industries and fields that are vital to national security and are the lifeline of the national economy.”13 In effect, Xi’s proposed state-­owned capital investment companies are SLFs mandated to focus on financing development in state-­prioritized strategic industries like civil aviation, energy and mineral resources, nuclear power, and global shipping and logistics.14 Finance Minister Lou Jiwei (楼继伟), the founding chairman of CIC and its former CEO, was the person in charge of fleshing out the details of Xi’s vision. As the primary author of the State Council’s policy document “Opinions on Reforming and Improving the State-­Owned Assets Management System,” Lou clearly drew upon his familiarity with the orga­ nizational models of CIC and Central Huijin while describing how a group of state-­owned capital investment companies could exercise their shareholder’s rights in portfolio companies to “form a ‘separation zone’ between the government and the market.”15 As explained during an interview with a researcher at a Beijing-­based think tank backed by the State Council, the state-­owned capital investment companies “create a layer of isolation as well as a linkage between SOEs and their respective 15

SOVEREIGN FUNDS

supervising agency” that allows the state to shape the business operations of portfolio companies without direct intervention by administrative directives.16 Such a change in the mode of interactions between the state and the market does not represent the retreat of the state from the market but a retrenchment. The ongoing transformation of SASAC speaks to the continued centrality of the state in the market. In May 2017 the State Council approved SASAC’s plan to change its mandate from the administration of SOEs to the management of capital with the stated goals of pursuing long-­term interests by channeling state capital into essential industries, critical infrastructure, and forward-­looking strategic sectors of national security interest.17 As of June 2022, SASAC had restructured nineteen centrally administered SOEs as state-­owned capital investment companies. Xi’s prioritization of capital management in China’s economic reform—­and his use of SLFs as a tool to accomplish this—is not a complete departure from the path of his pre­de­ces­sors. Instead, it reflects the enduring influence on China’s economic policymaking of the dual successes of Central Huijin in stabilizing China’s financial system and CIC’s expansion into global financial markets. Like sovereign leveraged funds, the state-­owned investment companies of SASAC allow the Party-­State to exercise control by leveraging capital instead of resorting to administrative directives. For Xi’s generation of CPC leadership, the SLFs model provides a ready playbook for expanding the influence of the Party-­State both at home and abroad. China’s experiment with SLFs started with the crisis-­era special purpose vehicle Central Huijin, which was not deliberately designed to serve a g­ rand strategy of the Party. However, over time China’s SLFs have evolved into tools of geoeconomic power projection. President Xi has expanded the model of SLFs to encompass capital management across strategic sectors of the Chinese economy. The shared mission of China’s SLFs is to serve the state’s prioritized agenda: first, ensure domestic financial stability; second, develop China’s industrial capacity by securing essential resources and technology; and third, increase China’s 16

I n t roduc t ion

long-­term global capacity to respond to geopo­liti­cal conflict with geoeconomic reprisals. Financial security has been among the top priorities of the Party-­ State ever since the 1997 Asian financial crisis. During times of financial turmoil, China’s SLFs act in concert to form part of China’s so-­called “national team” of large institutional investors that buy depressed assets to stabilize prices and provide liquidity to the market. In July 2015, China’s national team responded to a 30 ­percent single-­month decline in the Shanghai Stock Index by systematically buying an estimated $144 billion in Chinese stocks.18 During normal times, China’s SLFs stand ready to finance the state’s industrial policy by supporting both SOEs and private Chinese enterprises in acquiring foreign assets, technology, and resources—­the materials required to propel China’s manufacturing base to move up the value chain. China’s SLFs use their war chest of capital to buy more than just shares; they buy influence over corporations and access to foreign countries’ elites. China’s SLFs mobilize capital to effectuate the Party’s geoeconomic initiatives like the BRI. Simply stated, China’s sovereign leveraged funds are how the CPC finances its global ambitions.

A Review of State–­Market Relations in China To understand how China’s sovereign leveraged funds advance the state’s strategic interests, it is helpful to situate SLFs within the broader topic of state–­market relations. The relationship between the state and the market is a fundamental subject of po­liti­cal economy. The idea that ­t here is a dichotomy between the state and the market sets the stage for market liberalists to advocate for liberating markets from the intervention or control of states. This state–­market dichotomy is epitomized in Hayek’s warning that government control of economic lives would lead to “the abhorred tyranny.” Naturally, the liberalist prescription for economic and financial reform is to emancipate the market from the state’s intervention or control. This was endorsed by President Reagan, who 17

SOVEREIGN FUNDS

famously said, “The nine most terrifying words in the En­glish language are, ‘I’m from the Government and I’m h ­ ere to help.’ ” In contrast, po­ liti­cal economist Karl Polanyi’s argument that “laissez-­faire was planned; planning was not” has inspired market institutionalists to emphasize the institutional components of markets and the embeddedness of markets in society. Recent scholarly work such as Steven Vogel’s Marketcraft broadens market institutionalists’ perspective and uses the notion of “market governance” to reconcile the paradox of freer markets but more regulation.19 Not surprisingly, the market institutionalist prescription for reform and crisis management is to strengthen state regulations as comprehensively as pos­si­ble. Such an institutionalist idea as keeping the market embedded in society is periodically validated by the downslope of the business cycle, especially during times of economic crisis. The 2008 global financial crisis brought to light the limitations and imperfections of the market, just as the ­Great Depression did in the 1930s. In times of catastrophic market failures like ­t hese, the state comes to the rescue of the market, and regulatory institutions are shortly thereafter restored. The concept of “state capitalism” has as its under­lying assumption a dichotomy between the state and the market. Prior research largely converges upon the conclusion that the rise of state capitalism signals the end of ­free markets.20 Scholars have reached this conclusion from several dif­fer­ent ­a ngles, providing deep insights into how the state uses a wide range of policy instruments and institutional arrangements to advance industrial policies. Scholars have also examined state capitalism’s characteristics across countries and its evolution over time.21 This has led to the development of a taxonomy of va­r i­e­ties of state capitalism in which the Leviathan can be a minority investor, a majority investor, or an entrepreneur.22 None of ­t hese three models guarantees an improved efficacy, based on empirical studies of national oil companies, development banks, state-­owned commercial banks, and other state-­owned enterprises. Some scholars even argue that state owner­ship generally has a significant and primarily pernicious impact on corporate investment and financial policies.23 State capitalism is a means to an end, not an end in itself. State owner­ship and state control are the major character18

I n t roduc t ion

istics of state capitalism but not the ­causes of success or failure. Rather, the per­for­mance of state capitalism is ultimately determined by w ­ hether the state can use its state-­owned economic and financial institutions to shape the market and align it with the state’s agenda. Applying the state capitalism framework to China has its limitations. It cannot explain China’s policymaking ­because the Chinese state is fragmented and incoherent; it is an organ riddled with bureaucratic rivalries.24 The framework does not capture the supremacy of the core leadership of the CPC in directing the state bureaucracy; therefore, it fails to adequately explain the link between the results of Chinese policymaking and the changing perspectives of the CPC core leadership. Regarding the role of the state in creating competitive advantages and generating economic development, arguably the most impor­tant place to look for answers is the developmental state lit­er­a­ture. But this lit­er­a­ture suffers from a similar deficiency as the state capitalism lit­er­a­ ture, which is a failure to acknowledge bureaucratic competition. On top of that, this lit­er­a­ture often reduces the state to one critical bureaucracy and overweighs the competency of this single bureaucracy as if it exists in a po­liti­cal vacuum. Fi­nally, the developmental state lit­er­a­ture only addresses the domestic aspect of state–­market relations, leaving untouched how and by what means the state manages its relationship with global markets.25 A few scholars have attempted to introduce the interaction between the state and the international system into the developmental state model, but the model still fails to explain how China has been able to industrialize and grow richer by participating in global markets without fully assimilating the prevailing liberal norms at home.26 This idea reflected broader changes in the international system that w ­ ere g­ oing on at the end of the Cold War and in the midst of the remarkable economic integration of the East Asian developmental states into global markets. However, China has not followed the path of the East Asian developmental states, which have become liberalized at home and integrated into the global markets. Instead, the CPC and the Chinese state have been able to exert tighter control domestically while also gaining greater influence in liberal global markets. 19

SOVEREIGN FUNDS

Scholars have debated w ­ hether China fits in the developmental state model and in ­doing so have also attempted to develop a China-­ specific developmental state framework. 27 The issue with this debate over the fitness of China as a developmental state is that it does not pay sufficient attention to the role of the CPC leadership in deciding the trajectory of how China reforms and opens up. Moreover, it takes a static view regarding the role of the Chinese state in the domestic and international markets without fully considering the influence of global financial developments on the changing calculations of the CPC to best leverage its control over state resources to advance its strategic interests worldwide. The economic statecraft lit­er­a­ture, meanwhile, is a natu­ral place to look for an answer to the question of how the state can achieve its strategic interests in the global system. This lit­er­a­ture examines the use of economic and financial policies and tools by the state to change the be­ hav­ior of other states and achieve desired outcomes. Scholars have primarily taken a state-­centric approach to analyze international economic policies, including coercive and noncoercive instruments, as the state’s means of economic statecraft.28 The goal of the state is to change the undesired be­hav­iors of foreign states and force them to conform to the sanctioner’s preference. However, policies cannot execute themselves. Without agencies and p ­ eople, they are only empty words on pieces of paper. Scholars have devoted much attention to analyzing the role of specific economic policies, such as sanctions, trade, aid, and international investment. Still, they have largely ignored the politics of implementing agencies and the p ­ eople in charge. Existing scholarly debates also do not adequately distinguish between agencies that explic­itly implement mea­ sures of the state’s economic statecraft and t­ hose that implicitly advance national interests. Scholars have not sufficiently explained how the state advances its interests, explic­itly or implicitly, through shaping global markets and changing the market payoff structure. Consequently, the existing lit­er­a­ture does not fully answer how exactly the state can successfully exercise economic statecraft despite acknowledging that such policy instruments could fail to deliver desired goals. Recent scholarship on weaponized interdependence by Henry Farrell and Abraham 20

I n t roduc t ion

Newman provided deep insights into the key venues and conditions that make coercive economic policies effective.29 Still, it does not explic­itly answer the question of how and by which mechanisms, ­whether coercive or noncoercive, the state can make global markets work in ­favor of its strategic interests. A growing body of scholarship examines the actors of economic statecraft and the enabling role of corporations and financial markets.30 Regarding China, William Norris’s informative book on China’s economic statecraft uses a bottom-up approach to examine the circumstances ­under which China’s economic power can be used effectively alongside the variations in state control over state-­owned commercial actors.31 Norris uses the examples of CIC, SAFE, and the National Social Security Fund to understand China’s use of foreign direct investment as a tool of economic statecraft. Norris’s analytical treatment ­faces two obstacles. First, it makes the under­lying assumption that China has a ­g rand strategy that is served, to dif­f er­ent degrees, by state-­owned commercial actors. However, with the exception of the Silk Road Fund, China’s sovereign funds ­were capitalized without explicit geoeconomic or geostrategic mandates. By contrast, the research presented in this book does not start with an assumption that China has a ­g rand strategy that its sovereign funds must serve. Instead, it follows the money and traces how Party leaders and policymakers gradually became more comfortable with transforming China’s reserve management approach from passive investment in US government securities into riskier investments in strategic overseas assets. Second, Norris’s analy­sis of CIC emphasizes the “potential” of the fund as an instrument of Chinese economic statecraft, suggesting that CIC primarily functions on a commercial basis. This depiction reflects a perception of CIC that the fund’s management and Chinese policymakers have carefully cultivated, which is not necessarily representative of CIC’s ­actual internal workings. This is not to say that Norris’s description of CIC is incorrect, only that it is further evidence of CIC’s successful global image-­bolstering campaign. CIC’s public relations coups include its voluntary participation in the International Forum of Sovereign Wealth Funds and the installation at CIC of an international advisory 21

SOVEREIGN FUNDS

council mostly comprised of Western elites. Norris’s argument that CIC is an essentially commercial actor with a ­limited policy agenda is difficult to support in light of the policy-­oriented activities of Central Huijin, which manages two-­t hirds of CIC’s assets, and the vari­ous international subsidiaries of CIC that lend support for the BRI, which are documented in this book. China’s SLFs, CIC included, are intricately linked to the Party-­ State. As detailed in Chapter 3, CIC is composed of two dif­fer­ent systems: a domestic arm and two international subsidiaries. Each of them has its respective mandates in support of an overall mandate defined by the Party-­State. The domestic arm, Central Huijin, was created to solve China’s domestic banking crisis and has since evolved into the shareholder-­in-­chief of almost ­every major state-­owned Chinese financial institution, where it exercises shareholder rights on behalf of the Party-­State. Although Central Huijin does not directly invest overseas, it supports China’s state-­owned commercial banks and policy banks in their overseas investments. Additionally, CIC’s international subsidiaries have directly supported the BRI, another example of CIC financing the Party-­State’s strategic priorities. SLFs shape markets and advance the state’s interests in three primary ways. First, they are the con­temporary version of Alexander Ger­ schenkron’s capital mobilizers. They are created to mobilize capital that other­wise cannot be easily accessed by the state due to existing domestic regulatory constraints or institutional deficiencies. Michael Porter insightfully writes that financial markets and financial institutions played dif­fer­ent roles in providing industrial financing and that ­t hese national-­ level institutional differences in industrial financing have led to a comparative economic advantage for some nations.32 SLFs help the state create a comparative financial advantage by directly participating in the market with its low-­cost capital and long-­term investment horizon. Just like Gerschenkron’s universal banks, SLFs advance the state’s goals by changing the landscape of financial institutions and re­orienting market incentive structures. Examples of SLFs as capital mobilizers include the formation of special purpose vehicles to deal with the inadequacy or insufficiency of 22

I n t roduc t ion

existing systems, such as the failure of the domestic banking system or the undiversified nature of the existing economic system. Several SLFs in existence t­ oday have their origins in e­ ither a domestic banking crisis or a perceived necessity to diversify the economy. An apt example is the recapitalization of failing Chinese state-­owned commercial banks in the early 2000s, which prompted the creation of Central Huijin. Initially created as a state-­owned special purpose vehicle to bail out failing banks, Central Huijin is now the single largest shareholder of almost all major Chinese financial institutions. A similar case is the Ireland Strategic Investment Fund, created in 2014. It was funded by the assets left over ­a fter the National Pensions Reserve Fund (NPRF) was used to recapitalize struggling Irish banks during the 2008 financial crisis. When the NPRF was founded in April 2001, its assets ­were supposed to be used to meet ­future pension liabilities. However, with the transfer of the NPRF’s assets into a new strategic investment fund, this capital is now used to support economic activity and employment in Ireland.33 Second, SLFs are the “financiers of reliable resort” to support strategic industries and iconic national champions by providing a ready supply of cheap capital. This is especially crucial in times of liquidity shortage during financial stress or when the state or home industry needs capital to fend off potentially hostile foreign takeovers to preserve domestic owner­ship. In this regard, China’s SLF model has already traveled to Western cap­i­tal­ist economies. Following China’s lead, economies representing “va­ri­e­ties of capitalism” have increasingly resorted to SLFs as channels to provide capital to state-­owned enterprises, especially in cap­ i­tal­ist economies where the dominant economic actors are state-­backed enterprises, which scholars have identified as coordinated market economies (CMEs) and mixed market economies (MMEs).34 Several CMEs and MMEs in Eu­rope have established such funds or are currently considering ­doing so (­Table  1). Some major Western economies launched SLFs precisely to defend against Chinese SLFs’ influence. One such example is Germany, which Peter Hall categorizes as a CME. A number of German politicians in recent years have considered setting up a government-­ owned investment fund to “beat predatory Chinese and Gulf investors to German assets and keep valuable technology in German hands.”35 23

SOVEREIGN FUNDS

This is not an entirely new idea. During the Eurozone debt crisis, scholars and think tanks called for such a fund, although the reasons they gave ­were dif­fer­ent from the protectionist argument of politicians.36 Germany’s financial sector also supported the idea of a government-­owned investment fund to finance the country’s infrastructure needs and strategic industries. The German Federation of Financial Analysts and Asset Management (DVFA) found that 69 ­percent of its members backed the creation of a sovereign fund that could help with “targeted, direct investments.”37 The fact that many cap­i­tal­ist economies without substantial commodity-­based revenues have capitalized their own SLFs suggests that the SLF model could have broader application as cash-­ constrained governments cope with domestic challenges and a shifting geoeconomic landscape. ­After all, ­today’s ­great power competition is less about hard military strength and more about geoeconomic asymmetric advantage. While ­great powers may rely on their SLFs to compete in corporate boardrooms and secure supply chains, ­middle powers also need to consider SLFs as an option to hedge the risk of de-­g lobalization as a side effect of ­g reat power competition. As state-­directed capital distribution channels, SLFs could have significant implications not just for global financial markets but also for international trade and investment more broadly. With the support of SLFs, state-­owned enterprises ­w ill have a competitive advantage when it comes to executing overseas mergers and acquisitions or competing to win capital-­intensive infrastructure contracts. For example, when a Chinese state-­owned enterprise in the natu­ral resource sector wants to acquire major shares in a large overseas mine, it ­will need a large amount of cash to ­settle the transaction. This state-­owned com­pany may be prohibited from cheaply financing the deal by selling new equity shares ­because that would unacceptably alter its owner­ship structure. Alternatively, private debt financing may be prohibitively expensive, especially if the com­pany already has a weak financial position. In such cases, a SLF acting as a “financier of reliable resort” can come to the rescue. In China’s case, the SAFE Co-­Financing Office plays this role. It can extend foreign exchange entrusted loans to qualified companies to help 24

Type of Economy Mixed Market Economy

2016

2008

Italy

Greece

France

CDP Equity SpA (formerly Fondo Strategico Italiano)

Hellenic Corporation of Assets and Participations S.A. The Strategic Investment Fund (SIF, Fonds Stratégique d’Investissement)

2011

Country Ireland

Name of Fund Ireland Strategic Investment Fund

Year Founded 2014

(Continued )

It was endowed with €20 billion, of which €14 billion was shares of French companies previously held by the government and the Caisse des Dépôts et Consignations (CDC), and €6 billion was cash. The fund is owned by CDC (51%) and the French government (49%).

Description Formed from the remaining assets of the National Pensions Reserve Fund (NPRF); established with a statutory mandate to invest on a commercial basis in a manner designed to support economic activity and employment in Ireland. The fund’s initial capitalization was 90% (€1 billion) from Cassa Depositi e Prestiti (CDP) and 10% from Fintecna. On March 31, 2016, Fondo Strategico Italiano was renamed CDP Equity. Currently, it is 100% owned by CDP. Its purpose is to invest in strategic Italian companies and help them to compete globally. It is a holding com­pany managing a wide array of Greek State-­ owned assets and participations.

­TABLE I.1  “Va­ri­e­ties of capitalism” and sovereign leveraged funds in continental Eu­rope

2015

Belgium

Austria

SFPI-­FPIM (Federal Holding and Investment Com­pany)

Austrian State and Industrial Holding ­Limited

Source: Author-collected data from publicly available information.

2006

Finland

Solidium Oy

2008

2014

Luxembourg

Luxembourg Intergenerational Sovereign Fund

Year Founded

Coordinated Market Economy

Country

Name of Fund

Type of Economy

Known as Österreichische Bundes-­und Industriebeteiligungen GmbH (previously OIAG), it is a state holding com­pany that administers the investments of the Republic of Austria in partially or entirely nationalized companies. The fund is or­ga­nized as a ­limited liability com­pany.

It is supported by an annual bud­get allocation of at least €50 million, which consists of revenue partly derived from VAT on e-­commerce and excise duties on fuel. It can be fed by other receipts considered as nonrecurring. It is a holding com­pany wholly owned by the State of Finland and a minority owner in nationally impor­tant listed companies. Solidium was founded to manage the property of SKOP Bank (Säästöpankkien Keskus-­Osake-­Pankki), which went bankrupt in the early 1990s. In 2008 the purpose of Solidium was changed to manage the listed minority shareholdings of the Finnish state. It was established by a merger between the Federal Participation Com­pany and the Federal Investment Com­pany. It centrally manages the federal government’s shareholdings, cooperates with the government on specific proj­ects, and pursues its own investment policy in the interests of the Belgian economy.

Description

­TABLE I.1  “Va­ri­e­ties of capitalism” and sovereign leveraged funds in continental Eu­rope (Continued)

I n t roduc t ion

with overseas investments and mergers and acquisitions. Chapter  4 discusses this in more detail. SLFs also serve as agents of the state to practice noncoercive means of financial statecraft in global markets. Economic and financial statecraft, as traditionally conceptualized, can be useful when an incumbent power or a stronger state targets a weaker state, but not necessarily the other way around.38 As Thucydides concluded, “the possession of capital enabled the more power­ful to reduce the smaller cities to subjection.”39 Moreover, in a globalized world only the incumbent powers, such as the United States, have control over critical global financial networks like the Society for Worldwide Interbank Financial Telecommunication (SWIFT) payment system to credibly impose sanctions. SLFs broaden the scope of which countries can exercise financial statecraft and how. The proliferation of SLFs means that the use of financial power to achieve the state’s national interests and foreign policy goals is no longer the exclusive prerogative of incumbent powers. SLFs empower nonincumbent states in the international system, whose sanction policies would not necessarily be effective, to use noncoercive means to achieve their desired outcomes. Establishing SLFs through financial engineering can be seen as a step t­oward the financialization of state policy. ­These funds give the state access to more capital than it would other­wise have. Thus, the state can use market mechanisms to pursue policy objectives rather than resort to administrative directives. By establishing SLFs, the state essentially penetrates the market with a market-­facing state representative that allows the state the flexibility to step into markets or step back whenever necessary. The state’s role is no longer that of a deskbound regulator that stands outside of the market, nor is the state just another participant that follows the lead of the market. Rather, the state and its sovereign leveraged funds are market makers and market shakers. They exert their influence not through regulations but through long-­term capital investments that can re­orient market incentives ­toward the achievement of strategic goals. This can also crowd-in other market participants and thus amass additional capital to finance the state’s initiatives. 27

SOVEREIGN FUNDS

Methodology and Structure of This Book The insights presented in this book are drawn from 105 interviews with policymakers, scholars, financial prac­ti­tion­ers, retired central bankers, and private equity fund man­ag­ers, conducted during four years of fieldwork in China, Japan, the UAE, Germany, and Italy. In addition to interviews, I also draw upon primary sources in En­glish and Chinese, including official documents and reports, firsthand accounts published in newspaper reports, industry analyst investment reports, and US regulatory filings made by Chinese financial institutions. The data series presented in this book are from secondary sources of noted authority, such as the World Bank, the International Monetary Fund, the US Federal Reserve System, and private data providers like Bloomberg, the SWF Institute, and the Global SWF. Chapter 1 provides the broader historical context of China’s changing perspectives regarding foreign exchange reserves. It overviews the Party-­State’s approach to reforming the Chinese financial system and foreign exchange reserve management from when it took power in 1949 to the pre­sent ­under the leadership of Xi Jinping. This chapter covers the emergence of China’s SLFs in chronological order and embeds ­those events in a historical context. It also describes the changing perspectives of key CPC leaders on state–­market relations and the management of foreign exchange reserves as a result of domestic ­factors and exogenous shocks in global markets. Chapters 2–4 collectively pre­sent the landscape of China’s sovereign leveraged fund complex. Chapter  2 and Chapter  3 together provide a picture of the evolution of Central Huijin and CIC. The existing research does not distinguish between CIC’s domestic and international operations. This is an issue b ­ ecause its domestic arm, Central Huijin, holds about two-­thirds of CIC’s assets ­under management. ­These two chapters systematically pre­sent the idea of “one CIC, two systems”—­ alluding to the international and domestic arms of CIC. Chapter  2 focuses on Central Huijin, which was created long before the establishment of CIC but was ­later reincorporated as a subsidiary of CIC. Central Huijin 28

I n t roduc t ion

was China’s first attempt at using foreign exchange reserves to finance the reform of China’s domestic financial system. Central Huijin is an example of the state taking on implicit leverage without issuing new debt. The Chinese state used its foreign exchange reserves and po­liti­cal authority to create Central Huijin to solve China’s domestic banking crisis. Central Huijin outlived its original mission and eventually became the shareholder-­in-­chief of Chinese state-­owned financial institutions. The experience of Central Huijin is a story, not about the state trying to control or rule the market, but instead about how the Chinese state reinvented the Chinese domestic financial market without resorting to antimarket administrative directives. Central Huijin takes owner­ship of major Chinese financial institutions on behalf of the state, giving the state the flexibility to assert itself in the market or step back as necessary. Chapter 3 empirically analyzes the case of CIC. The creation of CIC exemplifies how the state can take on explicit leverage by issuing new debt. This chapter discusses the complex po­liti­cal pro­cess of how the debt was issued and how the proceeds ­were used to capitalize CIC. The Ministry of Finance issued bonds and used the proceeds to purchase foreign exchange reserves from the PBoC, which in turn ­were used to capitalize CIC. This pro­cess required less financial engineering than po­liti­cal engineering to negotiate the move of the foreign exchange reserves out from ­under the PBoC without revising the PBoC Law. It also required the leveraging of state-­owned capital and state-­owned financial assets. The employment of both financial and po­liti­cal leverage amassed by the Party-­ State is another indication that sovereign leveraged funds such as CIC are deeply embedded in the domestic political-­economic pro­cess. CIC has taken on missions that are closely aligned with the state’s strategic interests and prioritized agenda. In other words, CIC pursues not only tangible financial gains but also intangible strategic returns. This chapter covers the three stages of CIC’s development and its evolution into t­ oday’s troika structure. Additionally, this chapter covers the impor­tant personnel decisions in CIC’s evolution and the shifts in its investment strategy to match changes in the Chinese state’s strategic priorities, such as China’s global energy quest and the B ­ elt and Road Initiative. 29

SOVEREIGN FUNDS

Chapter 4 analyzes the more obscure SAFE and its global network of affiliated investment funds, another example of the Chinese state taking on implicit leverage to establish SLFs. This chapter discusses SAFE’s global network of investment funds that invest part of China’s foreign exchange reserves in assets besides US government securities, like infrastructure proj­ects, strategic resources, real estate, and private equity funds, among other investment vehicles. Many of ­t hese SAFE-­affiliated investment funds are not disclosed in SAFE’s annual reports and are kept off its balance sheet. The assets of ­these undisclosed funds constitute China’s shadow foreign exchange reserves. This chapter highlights an onshore investment com­pany called Buttonwood, which has established three subsidiaries that have each played a significant role in pumping up China’s stock market, earning them the collective nickname “The Three Musketeers.” Buttonwood has also supported the ­Belt and Road Initiative by capitalizing the Silk Road Fund, China Development Bank, and the Export-­Import Bank of China. Besides ­these SAFE-­owned investment funds, this chapter also analyzes an impor­tant office ­under SAFE, the SAFE Co-­Financing Office. This office is responsible for supporting the overseas expansion of Chinese companies, a trend described as Chinese companies “­going out.” The SAFE Co-­Financing Office uses China’s foreign exchange reserves to provide entrusted loans to support qualified Chinese state-­owned enterprises in their overseas expansion and finance the construction of overseas infrastructure proj­ects. Chapter  5 considers China’s geoeconomic capacity and what role SLFs have played in expanding it. It also describes the limits to China’s SLFs as geoeconomic tools and the challenges they face amid changing global geopolitics. Not least of which is that the United States and the Eu­ro­pean Union are increasingly determined to combat state-­backed foreign investors’ influence on their economies. Although this book focuses on SLFs in China, it speaks to the broader issue of the rise of state-­led investment and finance worldwide and policy reactions against state-­led foreign direct investors in Western countries.

30

1

China’s Evolving Perspectives on Foreign Exchange Reserves

During the first three de­cades following the establishment of the People’s

Republic of China (PRC) in 1949, China had few foreign exchange reserves. At times the official reserve balance even technically dipped into the negative. However, starting in the early 1980s, China’s reserves increased rapidly as part of a decades-­long trend. By 2006, China had surpassed Japan to claim the title of the world’s largest holder of foreign exchange reserves. China has maintained that top position for the last fifteen years as its relative share of global foreign exchange reserves has held steady at about one-­t hird since 2014. For more than a de­cade, scholars have debated how China accumulated such a massive stockpile of reserves so quickly. Several explanations have gained considerable traction. Nicolas Lardy and Morris Goldstein described how financial repression in China contributed to the buildup of China’s foreign exchange reserves.1 As China’s central bank intervened in markets to keep China’s currency cheap and attract foreign capital, it also sought to mitigate the destabilizing effects of capital inflows by conducting sterilization operations. The central bank soaked up the excessive growth in the domestic money supply by compelling Chinese commercial banks to ­either buy government bonds or increase their deposits at the central bank to satisfy a higher required reserve ratio. This policy might have hurt Chinese banks’ profitability, except that the government ensured that banks enjoyed a healthy lending margin by fixing the interest rate payable on savings accounts

SOVEREIGN FUNDS

below the inflation rate. The basis for financial repression in China was that ­house­holds had no practical alternative to banks for their life savings. As a result, the Chinese ­people had no choice but to accept negative real yields on their deposits. Th ­ ese retail deposits constituted a captive pool of extremely cheap capital that Chinese banks could repeatedly tap to defray the cost of sterilization at an unpre­ce­dented scale. Financial repression shifted the economic burden of sterilization away from the Chinese banking system and onto Chinese ­house­holds. At the same time that the Chinese ­people endured anemic yields on their savings, foreign investors clamored to invest in China’s fast-­growing economy, causing China’s central bank to pile up foreign exchange reserves at the fastest pace in economic history. Michael Dooley, Peter Garber, and David Folkerts-­Landau also emphasized the role of the Chinese government and national economic policy as the crucial driving ­factors ­behind China’s foreign exchange reserves accumulation. However, their argument differs from the financial repression thesis in that they interpreted China’s accumulation of foreign exchange reserves as the amassing of financial collateral that could support the continued growth of inbound foreign capital flows.2 This argument echoes the observation in a 2006 study conducted by the Eu­ro­pean Central Bank that found that between 2003 and 2005, China’s reserve accumulation had been associated with nonforeign direct investment in the form of private capital inflows as international investors had been expecting a revaluation of the renminbi. 3 Eswar Prasad and Shang-­Jin Wei found that over 80 ­percent of the change in the speed of China’s reserves accumulation was associated with an increase in hot money flows and that only 20 ­percent seemed to be associated with the current account surplus and acceleration of inward foreign direct investment. This finding implies that speculative inflows, not trade-­related ­factors, ­were the primary driver for China’s foreign exchange reserves increase.4 ­These explanations for China’s reserve accumulation, especially suggestions that its driving force may not be trade-­related, provide only a partial answer to the puzzling question of how China has managed its growing foreign exchange reserves in light of a pronounced imbalance 32

P erspec t ives on F oreign E x change R eserves

between China’s trade flows and changes to its official reserve statistics in recent years. Although trade inflows have increased significantly, China’s official foreign exchange reserves statistics have not recorded a correspondingly large upward swing. For example, China recorded a $535 billion trade surplus in 2020, but its foreign exchange reserves r­ ose only by $108 billion. This gap continued in 2021, confounding academics and Wall Street analysts alike.5 If China has established channels to deploy foreign exchange earned from trade surplus rather than depositing into its official reserves account, and if China has mechanisms to spend the foreign exchange abroad, then trade inflows would not necessarily lead to an increase in reserves. This chapter analyzes how China has turned from a super-­accumulator of foreign exchange reserves to a strategic spender of them. It sheds light on the mystery of how China exhibits a large trade balance and tepid foreign exchange reserve growth by examining the evolution of the Chinese government’s foreign exchange reserve management policy. This chapter discusses how the Party ultimately de­cided to form several investment vehicles to transform China’s reserves into strategic assets, beginning with the first proposals the Communist Party of China (CPC) considered for managing China’s foreign exchange reserves. This chapter also analyzes the changing perspectives of the CPC’s core leadership on how best to utilize the reserves as China transitioned from being the world’s poorest country to the richest in terms of foreign exchange reserves. Before proceeding any further, it is essential to clarify the definition of foreign exchange reserves, hereafter abbreviated as FX reserves. FX reserves constitute the largest and most impor­tant share of reserve assets held by central banks. To a lesser extent, central banks also hold physical gold bullion and International Monetary Fund (IMF) special drawing rights as reserve assets. FX reserves are foreign assets that are both high-­quality and highly liquid, usually taking the form of highly rated government debt securities or cash deposits at a foreign central bank, like the Federal Reserve Bank of New York. The essential quality of FX reserves is that they can be readily sold or exchanged to ­settle payments that generally arise from international trade when a country’s 33

SOVEREIGN FUNDS

imports and exports are unequal, also called a balance of payments deficit or surplus. Most central banks prefer to invest their FX reserves in assets denominated in reserve currencies that are widely accepted and easily convertible. As of June 2021, about 60 ­percent of global FX reserves w ­ ere denominated in US dollars, followed by euros (20 ­percent), Japa­nese yen (6 ­percent), UK pounds sterling (5 ­percent), Chinese renminbi (3 ­percent), Canadian dollars (2 ­percent), and all other currencies at less than 2 ­percent individually.6 According to the IMF, official reserve assets include “­t hose external assets that are readily available to and controlled by monetary authorities for direct financing of payments imbalances through intervention in exchange markets to affect the currency exchange rate, and  /  or for other purposes.”7 According to this definition, assets cease to be official FX reserves when transferred outside the effective control of a central bank. Furthermore, capital retained by a central bank ceases to be a reserve asset if invested in risky assets that cannot be immediately liquidated at a minimal cost. Therefore, when a country reinvests its FX reserves in almost anything besides the safest government securities or cash, its official FX reserves ­w ill correspondingly decrease in terms of both accounting and statistical mea­sures. When capital is transferred from a central bank to an investment fund or a domestic economic development bank, it no longer counts ­toward official reserves. The assets of state-­owned investment funds with mandates, such as fiscal stabilization or national economic development, are generally not included in official FX reserves. It can be helpful to employ the meta­phor of personal finance to understand technical concepts in government finance more intuitively. Like p ­ eople, governments make money, pay bills, go into debt, and have some savings to invest. Governments prepare for emergencies like prudent p ­ eople by always having a ­little cash on hand or some money in a checking account. FX reserves serve functionally the same purpose for governments but take a dif­fer­ent form. For governments, deposits at a foreign central bank are equivalent to a person’s cash on hand, and high-­quality foreign debt securities, like US Trea­suries, are somewhat 34

P erspec t ives on F oreign E x change R eserves

analogous to a savings account that pays a small amount of interest. For both governments and p ­ eople, the essential character of t­ hese assets is that they can be immediately sold or exchanged to pay bills or purchase goods. In this context it is easy to understand why only the safest assets are permissible investments for FX reserves and most other investments are off-­limits. Like a responsible reserves man­ag­er, no sensible person would risk their upcoming mortgage payment by investing it in the stock market. According to officials at the State Administration of Foreign Exchange (SAFE), the FX reserve management arm of the ­People’s Bank of China (PBoC), China’s official FX reserves accounting methods adhere to IMF guidelines and standard definitions. Wang Chunying (王春英), a spokesperson for SAFE, cited the IMF definition of reserve assets when clarifying how China’s reserve assets ­were reclassified when they w ­ ere used for investment purposes. According to Wang, “based upon the IMF’s definition of official foreign exchange reserves, when reserves are used to support [China’s] ‘­Going Out’ strategy and other investments, in accounting, they are no longer recorded as part of the foreign exchange reserves ­because they are removed from the reserves.”8 Wang’s explanation confirms that assets transferred out of the control of the PBoC to finance China’s national economic strategies are not included in China’s official FX reserves statistics. This accounting treatment suggests a pos­si­ble explanation for the recent puzzling trend in which China’s capital inflows have significantly increased without a corresponding rise in its official FX statistics. The implication is that the PBoC has offset its foreign currency receipts by making large-­scale asset transfers to affiliated investment funds that fall outside the IMF definition of reserve management functions. Although Wang’s statement did not confirm such asset transfers, it explained that capital transferred from the PBoC would no longer be subject to the strict rules governing the management of FX reserves. Once that capital has been reclassified and is no longer a reserve asset, man­ag­ers are ­free to take more risks in how that capital is invested and increase exposures by leveraging that capital to pursue higher investment returns. 35

SOVEREIGN FUNDS

China’s Historical Lack of Foreign Exchange Reserves At the end of the Chinese civil war in 1949, the country faced extreme economic and financial challenges. The first step of the victorious CPC was to nationalize the enterprises previously controlled by the defeated Chinese Nationalist Party. In 1952, state-­owned enterprises accounted for 41.5 ­percent of China’s gross industrial production.9 By 1956 virtually all industry and large-­scale commerce had been nationalized. Even ­those organ­izations labeled as “joint public-­private enterprises” ­were, in real­ity, wholly owned and controlled by the state. Along with state-­ owned enterprises came the installation of Soviet-­style central planning and control. In the 1950s the Soviet Union sent thousands of technicians to China to help set up its centralized economic system. Often the regulations governing the Chinese economy ­were direct translations of the original Rus­sian laws.10 Market mechanisms ­were utterly absent from China’s state-­commanded economy during the first de­cade ­after the rise of the CPC to governance. China’s adoption of a Soviet-­style economic model was not by accident. Mao Zedong (毛泽东) had endorsed a state-­centered po­liti­cal economy as the defining feature of a new China nearly a de­cade before the founding of the PRC. In his 1940 essay “On New Democracy,” Mao envisioned that the “new demo­cratic China” would “own the big banks and the big industrial and commercial enterprises.” He proposed that “in the new-­ democratic republic ­under the leadership of the proletariat, the state enterprises ­w ill be socialist and ­w ill constitute the leading force in the ­whole national economy . . . ​China’s economy must develop along the path of the ‘regulation of capital’ and the ‘equalization of landownership’ and must never be ‘privately owned by the few’ . . . ​We must never establish a cap­i­tal­ist society of the European-­American type or allow the old semi-­feudal society to survive.”11 This essay laid out Mao’s vision for a new Chinese po­liti­cal economy featuring the state as the dominant force in the economy nearly ten years before the CPC took power. From the establishment of the PRC in 1949 to the end of the Cultural Revolution in 1978, China had neither a meaningful amount of FX re36

P erspec t ives on F oreign E x change R eserves

serves nor a specialized FX reserve management system. During this period, amid the drive to build a socialist command economy in the Soviet model, China established a banking system centralized around a handful of state-­ owned institutions, a so-­ called mono-­ banking system. The regulations governing the system ­were ­wholesale copied from the Soviet Union.12 U ­ nder this mono-­banking system, the PBoC was the only functioning bank in China’s financial system for nearly three de­cades. Established on December 1, 1948, the PBoC was not born as China’s central bank but instead was the product of a merger of three commercial banks: Huabei Bank, Beihai Bank, and Northwestern Farmers’ Bank. The merger set out that the PBoC would function as China’s central bank and its only commercial bank u ­ nder the mono-­ bank system. The PBoC held 93 ­percent of the country’s financial assets and was the only provider of credit, settlement clearance, and bank teller ser ­v ices. By the end of the 1950s, many of the storied Chinese financial institutions that predated the founding of the PRC, including commercial banks, security exchanges, and insurance companies, ­were closed down or merged into the PBoC or Ministry of Finance. For example, the Shanghai Stock Exchange, which originated in the 1860s, was shut down in 1949.13 The following year the Bank of China (BoC) became a bureau of the PBoC. In October  1953 the central government issued “Regulations on Bank of China,” designating the BoC as the only institution authorized to ­handle foreign currency and conduct overseas payments.14 The Imperial Bank of China, the first modern bank in Shanghai, was closed in 1952. ­Later, in 1958, China ­People’s Construction Bank was reor­ga­nized as the infrastructure finance bureau of the Ministry of Finance, focusing on fiscal allocation for basic construction. The PBoC and the Construction Bank took over the branches of the Bank of Communications in mainland China. The ­People’s Insurance Com­pany of China ceased its domestic operations in 1958 and existed only as a division of the PBoC u ­ ntil 1979.15 China’s global financial status deteriorated drastically throughout the 1950s as its previously diverse array of financial institutions consolidated into a mono-­banking system in the style of the Soviet Union’s 37

SOVEREIGN FUNDS

command economy. Shanghai, the most impor­tant financial center and cosmopolitan city in mainland China since the mid-­nineteenth ­century, was displaced from its own vibrant past.16 The Chinese economy was increasingly devoid of market mechanisms to allocate capital, and professional financial management was generally absent. The onset of the Cultural Revolution in 1966 brought chaos to China’s financial system. An overzealous student-­led paramilitary group called the Red Guards pledged to wipe out capitalism’s remnants entirely by eliminating the private sector and all monetary incentives for economic activity. Among the radical proposals of the Red Guards was abolishing interest payments in banking.17 In Shanghai, the Red Guards formed an “Anti-­economy Liaison Headquarters” within the PBoC’s branch office. Of the office’s 77 staff members, 47 ­were Red Guards, and they proceeded to dismantle economic organ­izations, investigate bank withdrawals, and generally disrupt regular bank ser­v ices in Shanghai.18 Subsequently, the PBoC suspended its commercial banking ser­vices nationwide, maintaining only its currency issuance and cashier function for the Party. In 1969 the State Council approved the consolidation of the PBoC headquarters as a bureau u ­ nder the Ministry of Finance, with its local branches rolled into local government finance departments. ­After the demotion of the PBoC to just another bureau within the Ministry of Finance, China effectively lacked an in­ de­ pen­ dent banking system for the next de­cade.

China’s Accumulation of Foreign Exchange Reserves With the end of the Cultural Revolution in 1976, China entered an era of reform and opening up. At home, the state played the role of “market builder,” restoring market institutions and building new market infrastructure. Internationally, the state played the role of “market observer,” attempting to reestablish economic connections to foreign markets. Many historians consider the Third Plenum of the Eleventh Central Committee in November  1978 as the beginning of the reform era. At the meeting, the Party shifted its focus from class strug­gle to economic de38

P erspec t ives on F oreign E x change R eserves

velopment, emphasizing socialist modernization and reform of the state-­controlled command economy. The Party’s leadership demanded that the state resolutely follow the laws of economics and pay attention to the law of value.19 During a speech delivered to the National P ­ eople’s Congress in 1981, Premier Zhao Ziyang (赵紫阳) left no uncertainty about the direction of China’s economic reforms. Zhao said that China’s reform should “adhere to the premise of implementing a socialist planned economy while allowing the market to play an auxiliary role. The state, when ­doing its planning, should also fully consider and apply the law of value.” Zhao called for replacing the “old approach of relying solely on the state’s administrative means to govern the economy” with a new approach that “combined economic means with administrative mea­sures and uses economic rules.”20 In May 1982 the State Commission on Economic System Reform was established as a first-­tier body ­under the State Council tasked with leading policy development regarding economic reform. Chen Jinhua (­陈锦华) served as the Commission’s head from 1990 ­until 1993, and he brought forth the line of reasoning that was to find f­ avor with Deng Xiaoping (­邓小平) and the highest leadership of the CPC at the ­Fourteenth Party Congress in 1994. Chen argued that combining the “vis­i­ble hand” with the “invisible hand” was the best way to manage an economy. He reasoned that if cap­i­tal­ist countries w ­ ere ­free to draw upon planning mechanisms to overcome the market’s shortcomings, it only stood to reason that socialism could also utilize markets to raise efficiency and overcome the drawbacks of economic planning. All ­t hese considerations on incorporating market rules and mechanisms in China’s economic reform reflected a significant departure from the Mao-­era ideology of abolishing the market.21 As Chinese economist Qian Yingyi (钱颖一) put it, that this change came to pass was “by no means an accident; it reflected the deep feelings of politicians and the ­people over the terrible failure of the economy a­ fter the ten-­year Cultural Revolution, and the striking contrast between China’s economic disaster and the outstanding economic per­for­mance of the four Asian Tigers nearby.”22 The commitment to reform and opening up gained more momentum in October 1984 with the CPC’s adoption of the Decision on Reform of 39

SOVEREIGN FUNDS

the Economic System. The Decision emphasized the role of the market in economic development and introduced the term “commodity economy” (商品经济) into the Party’s economic lexicon for the first time. It acknowledged that treating the planned economy as the only pos­si­ble model for building a socialist economy was a m ­ istake; the previous policies that denied the positive role of a commodity economy and restricted its development ­were wrong and hindered the development of a socialist economy.23 The Party leadership’s choice to describe the goal of economic reforms as the establishment of a “commodity economy” instead of calling it a “market economy” reflected both their ignorance of how markets actually functioned and their pragmatism about how quickly Chinese society could adapt. In the early 1980s, the terrible upheaval wrought by the radical reforms of the Cultural Revolution were still fresh in the minds of the Chinese people. Above all else, the Party desired to portray itself as a force for stability. This objective would have been severely undermined if the Party’s reforms were perceived by the people as swapping China’s existing centrally planned economic system for its near polar opposite in the market economy. For this reason, the more rhetorically palatable term “commodity economy” became a common refrain in Party documents, despite its vagueness. The Decision marked a significant ideological shift among the core leadership of the CPC concerning the state–­market relationship; afterward, the primary task of reform was to establish a socialist planned commodity economy with Chinese characteristics. In practice, the CPC and the state formally re­oriented themselves to focus on rehabilitating the market mechanism. The market was officially on equal footing with state planning for the first time in the history of the PRC. From 1984 onward, state planning and the administrative direction of resource allocation by central government ministries dramatically decreased in China.24 The rise of Chen Yun (陈云) to the Party’s highest governing body, the Politburo Standing Committee, epitomized the Party’s dramatic shift to the new role of a market builder, reinstating market mechanisms in China’s economy. Chen Yun was a revolutionary leader and a leading economic policymaker in the early years of the PRC. He masterminded early market-­oriented reforms in the 1950s and 1960s but ­later fell out 40

P erspec t ives on F oreign E x change R eserves

of f­avor with Mao during the Cultural Revolution. It was not ­until the pivotal Third Plenum of the Eleventh Communist Party Central Committee in 1978 that Chen fi­nally regained his leading position in economic affairs, helping to steer China’s nascent reform and opening-up movement.25 Chen presented the essential points of his view on China’s economic reforms in a speech entitled “On Issues of Planning and the Market” at a Politburo meeting in March 1979. He said China needed two parallel economies during its transition to socialism, both planned and market-­ based. The planned economy would feature centralized administrative control over production quotas with resources allocated to specific industries. Meanwhile, the market-­based economy’s governance, production output, and resource allocation would be determined mainly by variable market supply and demand forces. Chen concluded by saying that “it is not necessarily the case that the planned economy w ­ ill become larger and larger in size and the market ­will retreat and be reduced as socialism develops; perhaps both can increase.”26 While Chen Yun was vague on how prominently the market should feature relative to the state, he firmly held that fundamental market princi­ples like the law of supply and demand w ­ ere indispensable to economic production. In this re­spect, Chen’s perspective on state–­market relations was not enormously dif­fer­ent from that of Western market liberals. Chen’s economic policies proved crucial in stabilizing the Chinese economy in the immediate aftermath of the Cultural Revolution. During the first few years of the reform and opening-up period, the Party’s leadership moved to rebuild the parts of China’s financial system that had been destroyed during the tumult of the previous two de­cades. Financial institutions, including central banking, commercial banks, and insurance companies, w ­ ere reestablished, and the foreign exchange management system was overhauled. In March 1979 the State Council approved the PBoC’s proposal to spin off the Bank of China together with the newly created subsidiary, SAFE, that was responsible for foreign exchange management. This restructuring put the BoC in charge of overseeing the function of SAFE ­under the direct leadership of the State Council.27 Shortly ­a fter, the PBoC further clarified the role and the mission of the BoC in its “Notice on the Implementation of the State 41

SOVEREIGN FUNDS

Council’s Approval of the PBoC Report on Reforming China’s Banking System,” issued in April 1979. This notice defined the BoC as the state-­ designated specialized foreign exchange bank responsible for the unified operation and centralized management of foreign exchange business in the state. The BoC reported directly to the State Council, and its redefined mission was to conduct international finance and manage foreign exchange reserves to serve China’s economic development.28 The BoC’s activities w ­ ere further expanded in September 1980 with the revision of the “Bank of China Articles of Association” by the board of directors and supervisors. The revised articles expanded the BoC’s scope of business to include participation in international interbank deposits and loans, international gold trading, organ­ization and participation in syndicated bank loans, issuance of foreign currency bonds authorized by the state, and involvement in international financial conferences.29 The BoC was si­mul­ta­neously a state-­owned commercial bank and a quasi-­government agency, given its varied commercial activities and governmental missions. As part of financial reform, the Party also separated commercial banking activities from China’s central bank, the PBoC. The first move was to reestablish the PBoC as an in­de­pen­dent entity. In August 1979 the State Council approved separating the PBoC from the Ministry of Finance. In September 1983 the State Council announced that the PBoC would function exclusively as China’s central bank and would no longer conduct commercial banking ser­v ices such as issuing credits or taking deposits.30 Four banks, subsequently called China’s “Big Four,” assumed the commercial banking operations of the PBoC, each specializing in lending to specific sectors. The BoC retained its leading role in banking ser­v ices related to China’s international trade and foreign exchange but lost control over SAFE, which became a separate entity. The Agricultural Bank of China (ABC) assumed responsibility for lending to rural communities and farms. The most extensive portfolio belonged to the newly formed Industrial and Commercial Bank of China (ICBC), responsible for lending to China’s rapidly growing industrial sector. The ­People’s Construction Bank of China, which shortened its name to China Construction Bank in 1996, took pre­ce­dence in lending to infrastructure 42

P erspec t ives on F oreign E x change R eserves

proj­ects and other long-­term investments. Each of the Big Four was allowed to compete for savings deposits and commercial credits in the ­others’ designated markets. As a result, to use two examples, the rural-­ oriented ABC has branches in cities, and the ICBC undertakes foreign exchange business. However, for the most part, each of the Big Four has kept its operations highly specialized in its respective sector.31 In addition to reestablishing China’s banking and foreign exchange management systems, the Party began to build China’s capital markets in the late 1980s and early 1990s. Restoring and reforming China’s capital markets was a priority in developing China’s financial system. China’s capital markets arose from the incorporation of Chinese state-­owned enterprises. China’s two modern stock exchanges, the Shanghai Stock Exchange and the Shenzhen Stock Exchange, formally opened in December 1990 against a backdrop of a debate among CPC leaders and the state bureaucracies about the most appropriate way to integrate the market as part of building a socialist economy. The Shanghai Stock Exchange registered eight companies and twenty-­five members within its first year, while the Shenzhen Stock Exchange registered six companies and fifteen members. The creation and expansion of a national securities market spurred the rapid growth of financial intermediaries. In October 1992, three national securities trading companies ­were formed in affiliation with the three domestically oriented banks of China’s Big Four: Huaxia Securities (ICBC), China Southern Securities (ABC), and Guotai Securities (China Construction Bank).32 The development of capital markets and the growth of financial intermediaries also encouraged the proliferation of pooled investment funds that bought and sold financial assets, such as securities, ­futures, and real estate. With the support of local governments and banks, t­ hese funds sold shares to the public. By the end of 1996 t­ here ­were seventy-­eight closed-­end funds registered in China, with total assets ­under management of approximately $794 million.33 ­After restoring China’s core financial institutions, the Party turned its attention to deepening economic reform by expanding the latitude given to market forces to decide capital allocation and further opening China’s financial sector to the rest of the world. In 1992 China’s paramount leader Deng Xiaoping visited Shenzhen, Zhuhai, the Pearl River 43

SOVEREIGN FUNDS

Delta, Guangzhou, and Shanghai, a part of what history has memorialized as his southern tour. During the much-­celebrated trip, Deng gave one of the most consequential speeches related to China’s economic reform: The essential difference between socialism and capitalism is not w ­ hether state planning dominates the market or vice versa. The planned economy is not equivalent to socialism, and in a cap­i­tal­ist economy, ­there is also planning. Both planning and markets are means of economics . . . ​ Are securities and the stock market good or bad? Are they risky or not? Are they exclusive to capitalism? Could socialism also use them? We are allowed to take a look, but more importantly, we should try it out . . . ​For socialism to gain an advantage relative to capitalism, it must bravely absorb and learn from all the achievements of civilizations created by ­human society. It must absorb and learn from all the advanced operation models and management methods that can reflect the laws of modern socialized production in the world ­today, and this includes methods in capitalism.34

Deng’s speech during his 1992 tour was a watershed moment in China’s financial market reform and development. It spawned a new debate over what kind of financial system the Chinese state should help build and how to ensure that China’s financial markets operated optimally for economic development. In January 1993 the PBoC governor Li Guixian (李贵鲜) delivered a report entitled “Accelerating the Pace of Financial Reform and Opening-­Up, Establishing a Financial System That Is Suitable to the Socialist Market Economy.” In the report, Li proposed that “the financial system should serve the core mission of economic development. We should allow finance to play a sufficient role in resource allocation. Capital allocations should be done by economic means such as loans and credits, interest rates, and exchange rates, among ­others . . . ​ In a socialist market economy, it would be very difficult to realize efficient resource allocation without the intermediary role played by the financial system.”35 Li’s statement sent a clear message that the CPC had de­cided that the role of the Chinese state in the financial system must conclusively change to become that of a market builder, giving way to market 44

P erspec t ives on F oreign E x change R eserves

mechanisms in the allocation of capital resources. The Li report also called for the state to build a financial system led by the central bank and supported by state-­ owned commercial banks while allowing vari­ous financial institutions to specialize in dif­fer­ent types of business. Li’s report suggests that by 1993 at the latest, the CPC’s core leadership was already in agreement that separating commercial finance from policy finance and creating a market-­based capital allocation system was the foundational core of China’s economic reform. Zhu Rongji (朱镕基) led China’s economic policymaking for nearly a de­cade, first by succeeding Li Guixian as PBoC governor from 1993 to 1995 and ­later serving as Premier, one of the highest offices in the Chinese state, from 1998 to 2003. Zhu carried the torch of market-­building passed down by the first generation of reformers. Zhu Rongji had a reputation for being a strong advocate for markets and also recognized the indispensable role of the state in creating policies that set the strategic direction of markets. Even before becoming PBoC governor, Zhu had a well-­established track rec­ord of speaking out in support of market liberalization. In July 1988, three months into his tenure as the mayor of Shanghai, he gave a speech entitled “Let Enterprises Swim by Themselves in the Markets.” In this speech, he called for an ideological change regarding state–­market relations and the practical implementation of change. He encouraged enterprises and individuals to “go through the markets” ­because he believed that “every­one can form links through the markets.” Zhu also stated that “the thinking at the vari­ous bureau-­level agencies has to change . . . ​The state regulates the markets, and the markets guide enterprises.” He warned the Party cadres, “­Don’t follow the old administrative methods,” while also lauding “mechanisms for competition.”36 Zhu’s market-­oriented reformist approach profoundly impacted China’s financial reform. It reflected the fully solidified consensus among the core of the CPC leadership that markets ­ought to be at the center of China’s economic development. In November 1993 the CPC Economics and Finance Leading Group, headed by Party secretary general Jiang Zemin (江泽民), laid out a g­ rand strategy for China’s transition to a market economy ­a fter consultation with a group of economists. 37 The plan was approved in November 1993 by the Third Plenum of the 45

SOVEREIGN FUNDS

­ ourteenth Party Congress and published as the Decision on Issues conF cerning the Establishment of a Socialist Market Economic Structure.38 The Decision elevated the role of the market and redefined “planning” as an instrument to maintain market stability. In the economic vocabulary of China’s leaders, the word “planning” transformed from a synonym for dismantling the market during the 1950s and 1960s to meaning by the 1990s something more akin to the West’s use of the terms “industrial policy” and “macroeconomic management.” Qian Yingyi, one of China’s most prominent academic economists, called the Decision a critical turning point in China’s market transition.39 The economic real­ity in China was that planning was neither the antithesis of the market nor a rigid end in itself. As Sebastian Heilmann and Oliver Melton put it, the state’s task was to “plan with and for markets.”40 Planning was how the CPC steered market forces to advance its economic development agenda. In this regard, the CPC did not perceive its reforms as laying the foundations for a liberal market economy in China. The reestablishment of markets in China powered an era of high economic growth as the potential of China’s entrepreneurs was unleashed. Between 1978 and 1993, China recorded an average annual GNP growth rate of 9.3  ­percent.41 However, the rapid economic expansion also exposed chronic structural prob­lems, such as dangerously high inflation, that threatened financial disorder and necessitated an immediate policy response. As Barry Naughton described, consumer prices began to rise precipitously in 1993. By June of that year the inflation rate in large cities was 22 ­percent annualized.42 In response, the state implemented several austerity mea­sures to prevent the economy from further overheating. In June 1993 the CPC Central Committee and the State Council jointly issued a policy statement entitled Opinions on Current Economic Conditions and Strengthening Macroeconomic Control. In the Opinions, the state laid out sixteen policy mea­sures aimed at austerity and macro-­ stabilization, commonly known as the “16-­point program.” Twelve of the mea­sures targeted the financial sector.43 In the 16-­point program, the Party remained committed to implementing austerity policies within a market-­oriented framework. However, it recognized the imperative of striking a balance between 46

P erspec t ives on F oreign E x change R eserves

market-­building financial reforms and not leaving China’s economic and financial development up to the whims of market forces. Against this backdrop, the state held its first National Finance Work Conference in July 1993. At the meeting, Zhu Ronji spoke as governor of the PBoC and emphasized that the central bank needed to prioritize the deepening of financial reform with a market-­oriented approach. In Zhu’s view, additional financial reforms “[must] on the one hand, be based on the a­ ctual circumstances in our country, and on the other hand . . . ​ must abide by the general laws of a market economy and gradually move us closer to international rules.” Zhu also described his vision for the general structure of China’s financial system: “[The state] must establish a system of financial institutions, ­u nder the supervision of the central bank, principally consisting of national policy banks and state-­ owned commercial banks, but that encompasses a variety of financial institutions . . . ​We must establish a unified, open, efficient, and orderly financial market system.”44 Zhu elaborated that his envisioned variety of financial institutions included a national long-­term development credit bank, an export-­i mport bank, a national interbank lending system, a market for short-­term paper, and a market-­rate-­based RMB exchange rate mechanism. He also discussed the necessity of improving China’s stock and foreign exchange markets as part of broader reforms. ­After that speech and during the de­cade that followed, Zhu would preside over much of China’s economic reforms and earn the Party credibility in terms of economic management.45 The Party’s con­temporary economic power and financial influence are based substantially upon the institutions that Zhu envisioned in 1993. Fifteen years ­later, in 2008, China’s policy banks and sovereign funds emerged on the global financial scene as some of the world’s largest institutional investors, wielding significant influence over financial markets and projecting the Party’s power abroad. While the Party focused on building market institutions at home, it also revived China’s centuries-­old connections to international markets. China’s opening-up began with the normalization of diplomatic relations with the United States, punctuated by the Joint Communiqué on the Establishment of Diplomatic Relations in January 1979. Historian Chen Jian described the event’s significance succinctly and powerfully: 47

SOVEREIGN FUNDS

it ended the Cold War in China.46 Afterward China ceased to be a total outcast from international markets, and its leaders sought to observe and study the rules and norms of modern international trade and finance. The near-­term objective of the Party was to attract foreign investment in China to grow the economy. In July  1979 the Fifth National ­People’s Congress (NPC) passed the Joint Venture Law.47 The new law actively encouraged foreign direct investment (FDI), a near-­complete reversal of the CPC’s traditional skepticism ­toward foreign investment grounded in ideological and historical reasons.48 The Party further experimented by partially opening China’s securities markets to foreign investors. In the early 1990s, China’s securities markets ­ were fast-­ growing but underdeveloped, characterized by a shortage of foreign currency and tight foreign exchange controls. In this context the state undertook a pi­lot scheme in February 1992 to issue a new class of equity shares to attract foreign investors to invest in China’s securities market. Th ­ ese shares, known as B-­shares, are domestically listed shares that trade in US or Hong Kong dollars and can be purchased by overseas investors. By contrast, A-­shares are both domestically listed and traded in renminbi. L ­ ater, in June  1993, Tsingtao Brewery became the first Chinese enterprise to be listed on the Hong Kong Stock Exchange, kicking off the H-­shares market. China’s B-­and H-­shares stock markets flourished in the early 1990s, leading to the creation of similar foreign-­traded N-­(New York), L-­(London), and S-­(Singapore) shares.49 This foray into foreign capital markets meant that a select few Chinese firms would be subject to international business and financial reporting standards for the first time. Although Chinese companies have been slow to adopt international standards in some areas like accounting, listing Chinese companies on foreign stock exchanges was undoubtedly the beginning of a long trend of standards convergence between Chinese domestic and international financial markets. In January 1993 the Party discussed further opening up China’s financial markets while maintaining a financial system appropriate for a socialist market economy. PBoC governor Li Guixian suggested that the state actively develop its foreign exchange market and steadily integrate China’s financial markets with global financial markets. To this 48

P erspec t ives on F oreign E x change R eserves

end, he described an approach that featured allowing more foreign financial institutions to enter the marketplace in more Chinese regions while at the same time encouraging Chinese financial institutions to enter global markets gradually by setting up foreign branches. Li also pointed out the necessity of referencing international norms in the governance of financial institutions operating in the Chinese market and increasing cooperation between domestic and international financial institutions.50 Two years l­ ater, in July 1995, the China Securities Regulatory Commission (CSRC) officially became a member of the International Organ­ization of Securities Commissions (IOSCO), the leading international body of securities regulators. By joining IOSCO, the CSRC signed on to the group’s mandate “to cooperate together to ensure better regulation of the markets, on the domestic as well as on the international levels in order to maintain just and efficient markets.”51 The market-­friendly mea­sures taken by the Party to attract foreign capital ­were a near-­immediate success. Chinese statistics distinguish between committed versus realized foreign capital investment. Commitments are pledges like contracts and credit lines, whereas realized capital consists of tangible investments like the value of a­ ctual construction and the amount drawn on credit lines. In 1979, foreign investment in China was almost non­ex­is­tent, but by 1985, committed foreign credits and direct investment climbed to $9.87 billion annually. Between 1979 and 1985, realized foreign credits and foreign direct investment ­were $21.8 billion cumulatively.52 In 1993, committed foreign credits and direct investment peaked at $123.27 billion before falling between 1994 and 1996. Although capital commitments declined over the ­later three years, realized foreign credits and direct investment continued to build over the period (Figure 1.1). In 1979 the Party de­cided that, to complement its strategy of attracting inbound foreign direct investment, it would also encourage China’s participation and profit from international trade by restoring its relationship with multilateral international institutions. In April 1980 the ­People’s Republic of China assumed responsibility for China’s seat at the International Monetary Fund, followed soon ­after by the same at the World Bank. China received observer status in the General Agreement 49

SOVEREIGN FUNDS

Total Value Committed (annual) Total Value Realized (annual) 140

123

120 82

80 55

60 39

40

10

20

3

1996

1995

1994

1993

1992

1991

1990

1989

1988

1986

12 1985

0

5

1984

20

16

1987

$ billions

100

Data source: China Statistical Yearbook (1997), National Bureau of Statistics.

FIGURE 1.1  China’s utilization of foreign capital (1984–1996).

on Tariffs and Trade (the pre­de­ces­sor to the World Trade Organ­ization) in 1984 and joined the Asian Development Bank in March 1986.53 During the 1980s the Party regained China’s repre­sen­ta­tion in multilateral global institutions and rebuilt domestic financial institutions, setting the stage for the deepening of reforms in the 1990s. From the de­cade’s start, the CPC steered the state to allow greater market autonomy while incrementally opening the economy to foreign investors, giving Chinese institutions opportunities to become familiar with international norms and standards. At the forefront of China’s participation in global trade ­were two coastal provinces with historical links to international trade, Guangdong and Fujian. To make the most of the region’s trader culture, the Party created China’s first special economic zones (SEZs) in 1980 in Guangdong (Shenzhen and Zhuhai) and Fujian (Shantou and Xiamen). Within the zones, export-­oriented businesses had broad leeway to respond swiftly to the foreign market. The success of ­t hese zones led the Party to designate another fourteen coastal cities as special economic zones in 50

P erspec t ives on F oreign E x change R eserves

1984. In April 1990 the Politburo authorized a plan to develop and open up Pudong, an area consisting of primarily agricultural fields along the east bank of the Huangpu River in Shanghai. Subsequently the Party authorized new economic areas in cities across China. Many of ­these cities ­were former treaty ports, like Chongqing and Tianjin. As Andrew Watson and Xin Luolin observed, the fact that most of ­these authorized new economic zones and new economic areas ­were former treaty ports had the added significance of symbolizing “a revival in the fortunes” of China’s interaction with foreigners during the nineteenth ­century.54 From the perspective of the Party, its revival of China’s former treaty port cities conveyed a message to the Chinese ­people: only the Party was capable of leading China’s broader economic rival and redeeming the country from its prior c­ entury of humiliation. In part reflecting the po­liti­cal significance of ­these cities, three of the four Chinese cities ­under the direct administrative control of the central government are former treaty ports: Tianjin, Chongqing, and Shanghai (the fourth is the capital, Beijing). The success of ­these cities as “red” treaty ports represented another step in China’s overall reform and opening-up plan while legitimizing the leadership position of the CPC over the Chinese state and p ­ eople. Developing China’s international trade using the model of treaty ports rebranded as special economic zones yielded impressive economic growth. Between 1978 and 1996, China’s total trade increased by a compound average of 22 ­percent each year, from $20.64 billion to $289.9 billion (Figure 1.2). The rapid increase in China’s international trade was driven by exports paid for in foreign exchange. The resultant accumulation of foreign exchange helped China pay for the importation of much-­needed foreign technology, improving the country’s macroeconomic condition and general investment environment. In 1994 China’s foreign exchange reserves reached $35 billion (6.2 ­percent of GDP) for the first time. Zhu Rongji commented on the impact that rising reserves had on providing flexibility to pursue greater economic reforms: “This increase has strengthened the confidence of foreign investors. The investment environment has further improved, our ability to pay has been greatly strengthened, and the forex market is becoming more standardized. Now that deposits 51

SOVEREIGN FUNDS 290

300 237

200 136

150 100

70

50

1996

1995

1994

1993

1992

1991

1990

1989

1988

1987

1986

1980

1978

1970

1965

1962

1957

1975

15

2 1952

0

1985

$ billions

250

Data source: China Statistical Yearbook (1997), National Bureau of Statistics.

FIGURE 1.2  China’s total imports and exports (1952–1996).

and forex reserves have increased and the p ­ eople trust the government, ­there is much more room for maneuver with macroeconomic controls.”55 The advent of the Asian financial crisis in 1997 instilled a sense of urgency in t­ hose working to deepen the financial reforms that the Party had incrementally rolled out since the beginning of the reform and opening-up period. The CPC leaders witnessed the economies of China’s neighbors become derailed by capital flight. They w ­ ere keenly aware of the destabilizing effects on a country’s economy if it lacked sufficient foreign exchange to fend off a speculative attack by foreign traders on the international value of its currency. The Party responded to the threat by tightening its control over foreign exchange and clamping down on unauthorized cross-­border capital flows suspected to be motivated by speculative trading. In December 1998 the Standing Committee of the National ­People’s Congress passed a supplement to the Criminal Law that imposed criminal penalties up to a life sentence in prison for illegal foreign exchange transactions activities.56 In addition to imposing capital controls, the Party addressed the threat of capital flight by re­orienting its reform agenda to prioritize financial risk management in China’s financial sector. At a CPC Central Finan52

P erspec t ives on F oreign E x change R eserves

cial and Economic Leading Small Group meeting in November 1997, President Jiang Zemin called for “paying more attention to financial work and ensuring the good execution of financial reform.” Jiang stressed that financial stability was at the foundation of China’s broader socioeconomic stability and indispensable to modernization. Jiang warned, “If the financial system is unstable, it would inevitably affect economic and social stability.”57 Jiang mentioned the challenge of “financial security” six times throughout the speech, more often than in his previous public statements. Jiang’s speech signaled to the apparatus of the state that financial security was the top priority of the Party. President Jiang’s speech reflected the normative impact of the Asian financial crisis on the conceptualization of national security, financial governance, and financial risk management among the third generation of CPC leadership. Awakened by the severity of the crisis, CPC leaders realized for the first time that national security could not be narrowly defined only by military competencies and defense capabilities but must also include financial security. The Asian financial crisis was a turning point in China’s financial reform b ­ ecause it effectively precluded the option of allowing China’s financial system to evolve t­ oward a liberal market system. As Julian Gruin observed, the crisis influenced China not only in real economic terms but also normatively; the crisis “had a deep impact upon perceptions of and attitudes ­towards the dynamics of the global financial system, and the interpretation of specific aspects of China’s integration into this system.”58 Party leaders reordered the financial reform agenda to focus on two issues: tightening financial regulations to strengthen financial security, and resisting foreign pressure to open up China’s financial markets prematurely. Incorporating financial security as an indispensable component of national security kicked off a new round of consolidation in the financial sector. In 1998 the state reformed the banking system and nonbanking financial ser­v ices firms.59 The most prominent action was the closure of Guangdong International Trust and Investment Com­pany (known as Gitic), China’s second-­largest trust and investment com­ pany, in October  1998. The shutdown directly led to the com­pany’s bankruptcy in January 1999, the first by a state-­owned enterprise (SOE) 53

SOVEREIGN FUNDS

in China. Premier Zhu Rongji commented that closing Gitic “was the right t­hing to do” ­because it “helped prevent greater financial risk.”60 But t­ hese reform mea­sures did not solve the chronic prob­lem of nonperforming loans, which put China’s state-­owned commercial banks on the verge of insolvency by the early 2000s. To recapitalize the banks, the Party established a special purpose vehicle, Central Huijin, through which the state injected capital into China’s failing banking system. For the first time, the Party leveraged China’s foreign exchange reserves to resolve a significant threat to China’s financial security. As a com­pany, Central Huijin allows the Party to shape the market without resorting to conventional regulatory directives but instead through capital and equity owner­ship. Ostensibly, Central Huijin is not a financial regulator but a shareholder. It represents the Party in exercising shareholder rights regarding the management of its portfolio companies. The evolution of Central Huijin from an unassuming special purpose vehicle into the shareholder-­in-­chief of all major Chinese financial institutions is the topic of Chapter 2. By acting to restructure China’s financial system through Central Huijin, instead of the Ministry of Finance or the PBoC, the Party could proj­ect a hands-­off, market-­friendly image and shroud its supervision over the market b ­ ehind the veil of a market-­oriented financial institution. This guise gave the Party the maximum degree of flexibility to decide when it would leave the market to its own devices and when it would forcefully intervene to ensure China’s financial security. China’s rapidly growing foreign exchange reserves allowed the Party to afford capital injections into the banking system. The accumulation of reserves was the basis of the Party’s plan to ensure f­uture financial stability. On the eve of China’s accession to the WTO in December 2001, its foreign exchange reserves exceeded $200 billion, a stark contrast to only $167 million in 1978 (Figure 1.3). In this context, Chinese policymakers ­were no longer worried about a potential shortage of foreign exchange reserves. Premier Zhu Rongji conveyed China’s confidence in its foreign exchange reserves in a speech three months before China joined the WTO: 54

P erspec t ives on F oreign E x change R eserves 3,843

4,000 3,500

3,198

$ billions

3,000 2,500 2,000

1,946

1,500 1,000 500

212

74

2021

2019

2017

2015

2013

2011

2009

2007

2005

2003

2001

1999

1997

1995

1993

1991

0

Data source: China’s State Administration of Foreign Exchange.

FIGURE 1.3  China’s FX reserves (1950–2021).

In opening up and bringing t­ hings in, our emphasis w ­ ill not be on capital— we are not very short of capital now. I just mentioned that China now has $193.5 billion of foreign exchange reserves, and this w ­ ill reach $200 billion by year’s end; we [also] have $130 billion in domestic foreign exchange deposits. We utilized over $40 billion in foreign investments last year, which might reach $48 billion this year. At the same time, we have $300 billion in domestic forex assets held abroad through bond purchases and interbank lending. China is using foreign capital, and other countries are also using Chinese capital. That’s why China is not very short of capital right now, including foreign exchange.61

Conventional wisdom among economists is that the minimum sufficient level of foreign exchange reserves is enough to pay for three months’ worth of a country’s imports. China’s leaders w ­ ere familiar with this notion but considered it as mea­sur­ing the wrong ­thing. Foreign 55

SOVEREIGN FUNDS

exchange reserves symbolized China’s economic strength and ­were a source of po­l iti­cal power for the Party. As Zhu Rongji explained: “We ­shouldn’t think that it’s adequate to just have enough [foreign exchange reserves] to sustain three or four months of imports. If that ­were the case, then Japan and our territory of Taiwan ­wouldn’t need such large forex reserves. ­There’s also a po­liti­c al ­factor ­here. This is the ‘po­liti­cal reserve,’ the symbol of a country’s economic strength, which ­can’t be calculated by using several months’ worth of foreign trade [forex] circulation.”62 Zhu’s message represented a new approach to reform and opening up at a moment in which China emerged from the Asian financial crisis as a more robust economy already well along the path to becoming the world’s engine of economic growth. This new approach was the “­Going Out” strategy, formally advanced by President Jiang Zemin as a national strategy in March 2000 during the Third Session of the Ninth National ­People’s Congress. Jiang argued that “­Going Out” was the only way for China to participate actively in the global economic competition: With the continuous development of the Chinese economy, we must actively participate in global economic competition and . . . ​seize the opportunity to implement the “­Going Out” strategy and closely combine “Bringing In” and “­Going Out” to make better use of both domestic and foreign resources and markets. This is the only way for us to seize the initiative and fight an “active b ­ attle” in global competitions. D ­ oing so ­w ill help us adjust our economic structure and optimize our resource allocation in broader space, thereby continuing to enhance the driving force and stamina of China’s economic development in the long run. It is necessary to encourage and support Chinese enterprises with comparative advantage to gradually expand foreign investment and set up multinational operations.63

Since the Asian financial crisis, Party leaders had contemplated how to broaden China’s participation in global markets and redirect domestic surplus capital into foreign investment to ease speculative investment at home and temper appreciative pressure on the renminbi to maintain the competitiveness of Chinese exports in global markets. 56

P erspec t ives on F oreign E x change R eserves

President Jiang Zemin mentioned “globalization” only once in 1996 and twice in 1997, but nineteen times in 1998. As early as May 1998 Jiang argued that “regions like Africa, the ­Middle East, Central Asia, and South Amer­i­ca with large developing countries [have] very big markets and abundant resources; we should take advantage of the opportunity to get in. We should or­ga­nize a group of SOEs with sufficient capacity to invest ­t here and set up operations.”64 For the rest of his tenure as China’s president, Jiang mentioned the term “globalization” more than thirty times each year. In retrospect, China’s ambitious B ­ elt and Road Initiative u ­ nder President Xi Jinping has so far followed Jiang’s vision.

How to Spend the Reserves: A National Debate over Transforming Excess Reserves into Strategic Assets China’s renewed participation in global markets contributed to the rapid growth of China’s foreign exchange reserves. By the end of 2004 China’s stockpile of foreign exchange reserves had already exceeded $600 billion. Leading Chinese scholars and policymakers began to debate w ­ hether China’s foreign exchange reserves had surpassed the optimal level for maintaining trade balance and currency stabilization and, if so, how the excess reserves could be managed more efficiently. In May 2005 Wang Jian (王建), a member of the esteemed Chinese Economists 50 Forum and executive secretary-­general of the China Society of Macroeconomics, an academic research institution affiliated with the National Development and Reform Commission (NDRC), argued that China should spend down its excess foreign exchange reserves. He suggested that two-­thirds of reserves (about $400 billion) should be invested in overseas energy resources, oilfields, and mineral resources to support China’s rapid economic growth.65 In July  2006 the NDRC, SAFE, and the Ministry of Finance together with four other agencies drew up a list of natu­ral resources and technologies that outward FDI should target.66 The list was a meta­phorical baton through which the Party orchestrated China’s global hunt for strategic assets. The Party developed a diverse set of policy tools to encourage outward FDI into targeted 57

SOVEREIGN FUNDS

sectors by reducing administrative red tape, lifting restrictions on foreign exchange purchases, and offering vari­ous financial incentives for transactions.67 ­These policy adjustments provided a reference for subsequent domestic debates over China’s growing foreign exchange reserves and w ­ hether to use reserves to acquire strategic assets. The idea of investing China’s foreign exchange reserves overseas gained additional traction in 2006 a­ fter China became the world’s single largest holder of reserves. At the end of that year, China’s foreign exchange reserves stood at $1.1 trillion, slightly less than the GDP of Brazil but more than all but the ten largest national economies. In this context, Yi Xianrong (易宪容), a leading Chinese economist, argued that the ultimate plan for China’s accumulated excess reserves should be to diversify its investment.68 During a Standing Committee Meeting of the Tenth National P ­ eople’s Congress in December  2006, Vice Premier Zeng Peiyan (曾培炎) proposed that China use foreign exchange reserves to support Chinese companies in acquiring overseas mineral resources to build up China’s strategic minerals stockpile.69 Li Lianzhong (李连 仲), chief of the Economic Bureau of the Policy Research Office of the CPC Central Committee, similarly proposed at a high-­level roundtable that China convert foreign exchange reserves into reserves of natu­ral resources, energy, and advanced technology through overseas acquisitions.70 An expert at the China Social Science Acad­emy characterized the circulating proposals to diversify China’s foreign exchange reserves holdings as mostly sharing three components: (1) using reserves to purchase natu­ral resources and creating a strategic resource reserve similar to the US Strategic Petroleum Reserve; (2) using the reserves to finance long-­overdue technological upgrades in major state-­owned enterprises; and (3) using the reserves to fill the funding gap in China’s social security fund, finance a low-­cost housing program, and establish a sovereign social welfare investment fund.71 The competing proposals all reflected a concern that China had an overly concentrated investment position in US Trea­suries. Chinese economists perceived this exposure as risky for two primary reasons. The first reason was the risk of investment loss due to the falling value of the US dollar. Between 2002 and 2006 the US 58

P erspec t ives on F oreign E x change R eserves

dollar depreciated by about 25 ­percent against a basket of other major currencies. The second reason was the ultra-­low yield on US Trea­suries, which imposed an opportunity cost on China. Since the 1980s the yield on US Trea­suries relative to nearly all other asset classes had been in near-­perpetual decline. To reduce such risks, some within the Party argued that China must diversify its foreign exchange reserves and use them to purchase strategic resources stockpiles, develop the domestic economy, and advance social welfare. However, the Party was not entirely ready to embrace proposals for diversifying China’s foreign exchange reserves. One reason for this was the strong opposition from the PBoC. Even as China’s reserves continued to pile up, surpassing Japan for the world’s top spot in January 2006, se­nior PBoC officials disagreed that excessive reserves w ­ ere in part burdensome on China’s economy rather than entirely beneficial. PBoC governor Zhou Xiaochuan (周小川) publicly rejected diversification proposals and dismissed concerns that China’s reserves w ­ ere excessive: “­There is no need to be concerned that our foreign currency reserves are now the largest in the world (外汇全球第一不用怕).”72 Zhou reasoned that China’s foreign exchange reserves ­were still very low on a per capita basis.73 PBoC deputy governor Wu Xiaoling (吴晓灵) criticized proposals to invest foreign exchange reserves in natu­ral resources or a social security fund. Wu said that the plans lacked recognition of “the fact that foreign exchange reserves are bought by the state by providing basic money. They are not fortunes or capital that can be poured freely into policy programs.” She argued that using foreign exchange reserves to replenish the social security funding gap or invest in other government programs would be a fiscal overdraft on the central bank.74 In the eyes of China’s central bankers, such a move constituted a direct central bank credit to the government. This type of transaction is called monetary financing, and it has long been taboo in the community of central bankers. Economists have warned that monetary financing jeopardizes the central bank’s in­de­pen­dence from the rest of the government and risks conflating monetary and fiscal policy, leading to runaway inflation. The opposition of China’s central bankers to repurposing foreign exchange reserves to acquire resources and shore up social welfare funds 59

SOVEREIGN FUNDS

stands in contrast to their general support in the prior de­cade for using reserves to recapitalize China’s state-­owned commercial banks. PBoC deputy governor Wu clarified that official foreign exchange statistics exclude ­earlier direct equity investments in China’s state-­owned commercial banks during the banking reform of the late 1990s. Wu argued that from the perspective of the PBoC, acceptable areas of foreign exchange reserve investment included foreign sovereign or institutional securities and direct equity investment into state-­owned commercial banks.75 Wu’s argument referenced the e­ arlier critical event in China’s financial reform when Central Huijin was capitalized with foreign exchange reserves and used to inject equity capital into China’s struggling state-­owned commercial banks. That was the first time an investment com­pany was used as a vehicle to restructure a Chinese financial institution and exercise owner­ship and supervision on behalf of the Party. How the success of the Central Huijin model paved the way for the Party to leverage the foreign exchange reserves again to capitalize new sovereign leveraged funds for overseas investment is the topic of Chapter 2. China’s stockpile of foreign exchange reserves is a symbol of the country’s growing economic strength and a significant source of po­liti­cal power for the Party. Ample foreign exchange reserves allow the Party to deploy capital to influence financial markets at home and abroad without having to resort to administrative directives. A former official at the Ministry of Finance explained, “The economic overheating in 1993 and the 1997–1998 Asian financial crisis convinced se­nior Party leaders and Chinese policymakers that financial security is far too impor­tant to be left to the laissez-­faire market.”76 The viewpoint that financial security was critical to broader national security bolstered po­liti­cal support within the Party for leveraging reserves and turning them into risk-­bearing capital managed by China’s sovereign funds. Deploying foreign exchange reserves through investments by China’s sovereign funds granted the Party the ability to directly influence corporate be­hav­ior whenever it felt necessary by informally exercising its rights as a shareholder. In other words, through China’s sovereign funds, the Party could guide the market by using its capital and acting as a shareholder 60

P erspec t ives on F oreign E x change R eserves

rather than issuing government directives. The princi­ples of China’s reform and opening-up had evolved once again. Although the market’s role in the economy had become pervasive, it was still conditioned upon the leadership and close supervision of the Party. Between 2007 and 2012 China accumulated more foreign exchange reserves at a faster pace than any other country in modern economic history. In September 2007 China’s reserves stood at $1.4 trillion, about half of the size of China’s GDP. The next year, China’s reserves reached $1.95 trillion, twice the amount of the next largest holder, Japan. Within the State Council, internal discussions intensified regarding alternative reserve management strategies. The Counsellors’ Office of the State Council (COSC), an advisory and consultative agency directly u ­ nder the State Council, advised the state to use foreign exchange reserves to invest in overseas energy proj­ects.77 The counselors of the COSC are well-­k nown experts in their fields. They are directly appointed by the Chinese premier to serve as a brain trust that offers suggestions to the premier on the core work of the central government. The COSC’s suggestions signaled a newfound readiness within China’s highest level of government to deploy reserves to aid in China’s global search for energy and strategic resources. As China’s reserves continued to grow in the following years, the debate within the Party shifted from ­whether reserves should be used to support domestic economic development to how reserves could be deployed to advance China’s interests abroad. This internal debate w ­ ill be discussed throughout the rest of this chapter. By the end of 2009 China’s foreign exchange reserves exceeded $2.4 trillion, almost double their size in 2006 and approximately equal to the GDP of the United Kingdom. By March 2011 China’s reserves topped $3 trillion, greater than the GDP of all but the world’s five largest national economies. This period of rapid expansion in China’s reserves coincided with the extreme market turbulence of the 2008 global financial crisis. The crisis exacerbated concerns among Chinese leaders, scholars, and SOE executives that China’s reserve management was overexposed to US Trea­suries.78 In retrospect, the global financial crisis was the turning point when China departed from its passive and conservative 61

SOVEREIGN FUNDS

foreign exchange reserve management strategy and began to take a more active approach. Major news outlets in China reflected the shifting consensus in the Party regarding diversifying foreign exchange reserves. The implied opportunity costs of China’s vast holdings of US Trea­suries became a popu­lar subject in state-­owned news outlets. Economic Daily, one of three Party-­owned newspapers, published an article featuring a provocative claim by Song Hongbing (宋鸿兵), the author of Currency Wars, that US dollar volatility was costing China “approximately four aircraft carriers e­ very month.”79 This article was widely recirculated by other major online platforms, stimulating numerous follow-up articles and threads on online message boards. At the same time, trending search terms on Baidu, the leading Chinese-­language search engine, included “the downside of excess reserves” and “why holding excess reserves is bad.” The opportunity cost of investing foreign exchange reserves in US dollar assets had become a part of everyday public discourse on the economy. In Beijing, even a taxi driver can extemporize on foreign exchange issues such as how “China is losing from holding dollar assets” and how “the dollar is hijacking the world’s economy.”80 In the aftermath of the global financial crisis, the Party and the public generally accepted the notion that investing the preponderance of China’s foreign exchange reserves in US government debt had become untenable. The Party’s leaders and Chinese economists ­were keen to identify an alternative to holding US Trea­suries for investing China’s foreign exchange reserves. Several se­nior leaders publicly stated it was in China’s national interests to invest foreign exchange reserves in commercial assets overseas. Premier Wen Jiabao (温家宝) told the Financial Times in February 2009 that the government had been studying how to invest its foreign exchange reserves in global markets. When asked if China might spend some of its reserves on domestic economic stimulus, Wen responded that it was a possibility u ­ nder consideration. Consequently, Wen explained that in his view, China’s foreign exchange reserves ­were a liability of the central bank. He also described the pro­cess of leveraging reserves to capitalize CIC amid broader plans for overseas acquisitions using reserves: 62

P erspec t ives on F oreign E x change R eserves

Foreign exchange reserves reflect the economic strength of a country. We are now studying how we can make the best use of the foreign exchange reserves in China . . . ​I think foreign exchange reserves are liabilities of the central bank, and if a government wants to make use of the foreign exchange reserves, it has to issue government bonds to buy the foreign exchange reserves. We are now having discussions about how to make rational and effective use of the Chinese foreign exchange reserves to serve the purpose of economic development in China. Last year, we issued RMB1.5 trillion of government bonds in purchasing $200bn of foreign exchange reserves to inject capital into China Investment Corporation . . . ​ Foreign exchange must be spent overseas, and it ­w ill be spent mainly on foreign trade and investment . . . ​we want to use foreign exchange to buy the much-­needed technology equipment and products.81

Several Chinese economic historians have identified this moment as the point of no return when the Party fully committed to shifting away from traditional passive management of reserves to an active management strategy that sought to make China’s reserves stockpile more profitable. Chinese scholars also interpreted Wen’s remarks as signaling a new willingness within the Party to use China’s foreign exchange reserves to support domestic economic development.82 Several Chinese scholars commented that Wen’s remarks foretold the pending diversification of China’s foreign exchange reserves. L ­ ater that month, Yin Jianfeng (­殷剑峰), director of the Structural Finance Research Office of the Institute of Finance of the Chinese Acad­emy of Social Sciences, called Wen’s remarks a “clear and impor­tant” signal. Yin explained that “in the context of the global financial crisis, it is particularly imperative and urgent for China to actively pursue alternative ways to manage China’s foreign exchange reserves and increase the investment efficiency and profitability.”83 Besides Premier Wen Jiabao, several other prominent Chinese officials publicly supported reserve diversification during the aftermath of the global financial crisis. Chen Yuan (陈元), governor of China Development Bank and the son of economic mastermind Chen Yun, advocated that China should hedge against rising commodity prices and the falling value of the US dollar by using foreign exchange reserves to purchase energy and minerals assets. 84 Even the conservative PBoC officials 63

SOVEREIGN FUNDS

softened their re­sis­tance to the idea of deploying foreign exchange reserves to promote domestic economic growth and overseas investment. Some se­nior officials at SAFE, the foreign exchange management arm of the PBoC, even publicly expressed support for such proposals. Deputy Director Fang Shangpu (方上浦) stated at a press conference that the PBoC would “support the nation’s need for foreign-­exchange funds to expand domestic demand and increase imports, and provide financing support and facilitation to companies’ foreign investments to help build the national economy.”85 ­There was widespread support from Chinese economists for investing foreign exchange reserves overseas to secure access to natu­ral resources. In April 2009, Zhang Monan (张茉楠), chief economist at the US-­Europe Institute of the China Center for International Economic Exchanges, proposed that China use its reserves to establish three national energy development funds. Zhang reasoned ­there should be a division of l­abor among the funds. One fund would specialize in financing overseas energy mergers and acquisitions, another fund would focus on industrial development, and a third fund would provide venture capital to the energy sector. Zhang also argued for coordination between SAFE, the energy sector, and Chinese financial institutions to create a new “energy investment and reserve bank” that would issue bonds or sell equity shares to raise capital to finance China’s growing energy demand.86 In essence, Zhang’s proposal was a call to create a Chinese sovereign leveraged fund by a dif­fer­ent name; both entail the state increasing its investment risk by transforming low-­risk foreign exchange reserves into risk-­bearing capital. Foreign exchange reserve management was among the top discussion items in March 2011 at the “Two Sessions” of the National P ­ eople’s Congress (NPC) and the Chinese ­People’s Po­liti­cal and Consultative Conference (CPPCC). At the Two Sessions, Liu Kegu (刘克崮), former vice governor of China Development Bank, submitted a formal proposal on making China’s foreign exchange reserves better serve China’s economic growth. Liu argued that excessive foreign exchange reserves created monetary policy challenges, such as inflationary pressure, and exposed the state to potential financial losses. He suggested that the 64

P erspec t ives on F oreign E x change R eserves

Party deploy China’s reserves to help finance Chinese companies as they implement the “­going out” strategy of acquiring overseas resources and energy assets to further national economic security.87 In April 2011 China’s foreign exchange reserves exceeded $3.1 trillion, greater than the national GDP of ­every country except the United States, China, Japan, and Germany. A ­ fter the conclusion of the Two Sessions that same month, China’s top central banker, PBoC governor Zhou Xiaochuan, publicly conceded that China’s foreign exchange reserves had become excessive. Zhou recommended reducing China’s reserves by using a portion to capitalize several new sovereign funds: “China’s foreign currency reserves have already exceeded reasonable levels that we need . . . ​It is exactly ­because the buildup of our foreign exchange reserves is too fast, liquidity growth is too rapid, that has exerted a lot of sterilization pressure on the PBoC. ­There is tremendous risk associated with any policy imbalance . . . ​The accumulated reserve assets must be properly managed . . . ​We should consider diversifying our nation’s reserves through new investment agencies and new investment fields. CIC is one example.”88 Governor Zhou’s speech marked another critical point of departure from the orthodox convention regarding foreign exchange reserve management among China’s top policymakers. As one PBoC official explained in an interview, the cautious culture at the PBoC was motivated by institutional anxiety that “foreign exchange money is in the central bank to­night, but it can be depleted tomorrow.”89 Domestic and international pressures led the PBoC to relent in its conservative approach to accumulating and managing foreign exchange reserves. Domestically, the rapid growth of China’s foreign exchange reserves made it more challenging to keep a cap on inflation as the size of the PBoC’s sterilization operations strug­gled to keep pace.90 Moreover, the years of public discussions on the risks of China’s overexposure to US Trea­ suries had raised public awareness and made the status quo less po­liti­ cally tenable. Between 2008 and 2012, numerous proposals w ­ ere submitted with the support of Chinese academics, SOE executives, and some prominent Party members to make better use of China’s growing reserves for economic 65

SOVEREIGN FUNDS

development. Many of t­hese proposals w ­ ere similar to the 2008 proposal put forward by the Counsellors’ Office of the State Council and outlined specific strategies for spending down China’s foreign exchange reserves. Of ­those strategies, eight received the most attention: (1) spend reserves to build up China’s strategic resources stockpile, taking advantage of low commodities prices in the wake of the global financial crisis; (2) spend reserves on upstream resource exploration; (3) use reserves to purchase advanced foreign technologies and invest in the domestic high-­tech sector; (4) use reserves to capitalize a fund that would support trade by facilitating cross-­border payments; (5) use reserves to capitalize a new sovereign fund in the model of CIC; (6) use reserves to capitalize a specialized natu­ral resource development fund to finance China’s overseas natu­ral resource strategy; (7) use reserves to capitalize a new policy bank to support natu­ral resource development; (8) use reserves to capitalize a fund-­of-­funds that would invest in overseas markets that ­were also destinations for Chinese exports.91 All of ­these eight strategies, in short, favored using reserves to acquire and develop strategic assets. They supplanted the PBoC’s previous one-­dimensional policy of investing reserves mainly in US Trea­suries, and they formed the core of the Party’s policies in financial markets and its ambitions for financial power projection during the next two de­cades. In addition to domestic ­factors, the opportunity to acquire strategic overseas assets at prices that w ­ ere depressed by the severe recession following the global financial crisis also motivated the Party to diversify its foreign exchange reserves. Purchases of advanced technology w ­ ere one such area of opportunity. In a bid to boost exports and aid their flagging economies, several Western countries relaxed export controls on cutting-­ edge technology that had previously precluded purchases by China. In early 2009 the United States and China reached a general agreement on relaxed export controls on high-­tech products that cleared the way for China to use its foreign exchange reserves to substantially increase imports of foreign technology. In his 2009 interview with Financial Times, Premier Wen Jiabao expressed China’s intention to send a large procurement group to Eu­rope to purchase advanced technology and equipment. Less than a month ­later, China’s minister of commerce, Chen Deming 66

P erspec t ives on F oreign E x change R eserves

(陈德铭), took nearly two hundred Chinese executives to Eu­rope as an official procurement del­e­ga­tion for the purpose of purchasing advanced equipment and technologies. One of the trip’s highlights was a $2 billion purchase agreement with companies in the United Kingdom for aircraft engines, metal materials, and software ser­v ices. Following the deal’s announcement, Minister Chen said that China would send another investment promotion group to the UK within a week to discuss options to increase China’s investment in the UK.92 In 2009 a confluence of two f­ actors presented the Party with unpre­ ce­dented opportunity and a critical decision point: domestically, a po­ liti­cal consensus favored more aggressively investing China’s foreign exchange reserves, and abroad, foreign governments welcomed Chinese capital. The Party de­cided the best way to take advantage of the circumstances was to use China’s foreign exchange reserves to capitalize several new state-­owned investment funds. ­These funds would leverage China’s foreign exchange reserves to make equity investments across global financial markets. At this time, several well-­k nown Chinese sovereign funds ­were established, including China Investment Corporation and the China-­A frica Development Fund, and several SAFE-­ affiliated investment offices. The Party has since used t­ hese funds as vehicles to leverage China’s foreign exchange reserves to make overseas investments as part of the ­Belt and Road Initiative and in strategic sectors identified by the 2008 National Development and Reform Commission guideline on strategic priorities.

Strategic Uses of Foreign Exchange Reserves in the Era of President Xi Jinping The ascendance of Xi Jinping to China’s top leadership position in 2012 and the rollout of the B ­ elt and Road Initiative has motivated the Party to leverage China’s foreign exchange reserves as strategic financial power overseas. According to Li Hongyan (李红燕), director of SAFE’s Central Foreign Exchange Business Center since 2013, the Party has used foreign exchange reserves to replenish China’s policy banks and 67

SOVEREIGN FUNDS

establish several new sovereign funds. Th ­ ese new funds include the Silk Road Fund, the China–­Latin Amer­i­ca Production Capacity Cooperation Investment Fund (CLAC Fund), the China-­A frica Industrial Capacity Cooperation Fund, and CNIC Corporation. Li Hongyan identified three areas where the diversified use of foreign exchange reserves serves China’s national strategies. First, she argued that creating policy banks and sovereign funds provides a sustainable mechanism to put China’s foreign exchange reserves to work in ser­vice of China’s national strategies. Such diversified reserve usage has informed the formation of a Chinese investment system featuring equity and debt in adherence to commercial princi­ples that can provide stable financial support for the ­Belt and Road Initiative and other national strategies. Second, she stated that using China’s foreign exchange reserves for international investment and cooperation can advance China’s participation in global governance and create a favorable international environment for the B ­ elt and Road Initiative. Third, she reasoned that strengthening the Party’s leadership and corporate governance can discipline equity investment institutions and drive convergence ­toward professional management standards that w ­ ill ultimately serve China’s national strategies.93 In 2013, as China’s foreign exchange reserves surpassed $3.7 trillion, PBoC officials spoke out for the first time without any reservations about the cost of China holding excess reserves. Yi Gang (易纲), then director of SAFE and ­later governor of the PBoC, openly acknowledged that “holding $3.7 trillion foreign exchange reserves is above the optimal level . . . ​the marginal cost of additional reserves accumulation would outweigh the benefit.” He argued that it was necessary to expand and diversify outflow channels for foreign exchange reserves while tightening control over abnormal cross-­border capital flows.94 Yi’s comments received support from some reform-­oriented Chinese economists who called for using foreign exchange reserves for global investment a­ fter the 2008 global financial crisis. They urged that “China must begin an expedition of relocating its sizable foreign reserves and be ready to play an impor­tant role in global outbound direct investment activities.”95 The idea of using reserves to grow the domestic economy 68

P erspec t ives on F oreign E x change R eserves

and establish natu­ral resource investment funds remained popu­lar among ­these Chinese scholars.96 Experts affiliated with China’s policy banks and China’s oil and gas industry w ­ ere particularly enthusiastic. The Institute of Global Economics and Finance, a research collaboration between China Development Bank and the Chinese University of Hong Kong, called for a moderate reduction in foreign exchange reserves, optimizing the reserves assets, and using reserves to support domestic economic development.97 Hu Chaoyuan (胡朝元), the former deputy director of the Bureau of Exploration of China National Petroleum Corporation, argued that one of the key investment areas for China’s foreign exchange reserves was overseas oil and gas exploration development proj­ects.98 Several Chinese scholars proposed innovative approaches to reserve diversification, such as using debt-­equity-­swap facilities to substitute China’s foreign exchange reserves invested in US Trea­suries for equity shares in other assets.99 Yi Gang’s analy­sis that the cost of additional foreign exchange reserves outweighed the benefit soon became widely accepted within the Chinese government and the PBoC. During a tour of Africa in May 2014, Premier Li Keqiang (李克强) described China’s foreign exchange reserves as “a burden . . . ​­because excess foreign currency reserves could affect the Chinese base currency and could stoke inflation in the long term.”100 This marked the first time that a member of the Politburo Standing Committee acknowledged publicly that China’s foreign currency reserves had become a source of concern. Soon ­a fter this, in June  2014, China’s foreign exchange reserves peaked at slightly more than $4 trillion, about one-­t hird of the global total. The PBoC publicly affirmed its commitment to using foreign exchange reserves to support Chinese companies’ “­going out” strategy in response to the milestone.101 The PBoC stood b ­ ehind its commitment even a­ fter China’s reserves precipitously fell by a quarter—­a lmost $1 trillion—­between June  2014 and June  2016. The PBoC sold reserves to stabilize the US dollar–­renminbi exchange rate, which had come ­under pressure from Chinese businesses with overseas operations rushing to sell renminbi and buy dollars to repay dollar-­denominated floating-­rate loans ahead 69

SOVEREIGN FUNDS

of the anticipated “lift-­off” of US interest rates that corresponded to the US Federal Reserve hiking rates in December 2015 for the first time since 2008. The staggering dollar value of the decrease caused concern among some economists ­because it was the first time since 1993 that China’s reserves had experienced such a significant and sustained contraction. In response, Zhou Xiaochuan, governor of the PBoC, argued that “foreign exchange reserves are to be used, not to be looked at . . . ​ Having $3 trillion in foreign exchange reserves still makes us the largest reserves holder in the world, far exceeding the second holder . . . ​­There is no need to overreact.”102 Pan Gongsheng (潘功胜), deputy governor of the PBoC and director of SAFE, published an article in the CPC’s flagship publication Qiushi (求是), calling for a rational view of the changes in China’s foreign exchange reserves. He argued that “no m ­ atter what mea­sure­ment is used, China’s foreign exchange reserves are quite abundant and can meet the demand of China’s economic and financial development.” He further emphasized that the diversified use of foreign exchange reserves was following the leadership of the CPC Central Committee and the State Council, and that the investment of reserves supported the ­Belt and Road Initiative, international production cooperation, and other strategic areas.103 By 2017 the Party had already had several impressive achievements in transforming foreign exchange reserves into overseas strategic assets. In 2015 China’s two major policy banks, the China Development Bank (CDB) and the Export-­Import Bank of China (CHEXIM), w ­ ere recapitalized using foreign exchange reserves. The fresh injection of capital paved the way for CDB and CHEXIM to become influential creditors in global financial markets. Th ­ ese two policy banks subsequently made considerable loans to resource-­rich countries in Eurasia, Africa, Latin Amer­i­ca, and the M ­ iddle East. By 2017 China’s policy banks and bilateral and regional development funds had doubled the availability of global development finance, far outpacing the Western-­backed multilateral development banks operating in developing countries.104 China’s provision of overseas credit and asset holdings is even more significant when considering investments made by CIC and SAFE-­affiliated investment funds. 70

P erspec t ives on F oreign E x change R eserves

China’s sovereign funds act as quasi-­ministries of the state. They are ostensibly private companies, but their funding comes from China’s foreign exchange reserves, and the CPC appoints their se­nior man­ag­ers. The Party can shape global markets at the firm level through direct equity investments by China’s sovereign funds. Acting at the firm level offers China quicker and more con­ve­nient access to overseas markets and technologies. China’s sovereign investors can directly participate in profit sharing. They can also build networks and alliances with other influential institutional investors. More importantly, they can exercise shareholders’ rights to directly influence foreign firms’ be­hav­ior and obtain proprietary information and technology from the firms in which they invest. Direct investment in foreign firms is thus an essential channel through which the Party can exercise economic statecraft and influence global markets. China’s sovereign funds can actively pursue strategic assets in global markets by leveraging China’s foreign exchange reserves. With more sovereign funds established and more foreign exchange reserves unlocked as risk-­bearing investment capital, China’s outward FDI experienced rapid and uninterrupted growth between 2006 and 2016 (Figure 1.4 and Figure 1.5). By 2016, China’s outward FDI flow peaked at $196 billion, whereas its foreign exchange reserves stabilized at slightly more than $3 trillion. As China’s sovereign funds have expanded overseas, the influence of the Party has also gone global. In this context, the international investments of China’s sovereign funds have made news headlines and raised national security concerns among policymakers in other countries. With the escalation of the US-­China trade war since 2018, CPC leaders have resolutely continued to use the country’s foreign exchange reserves strategically. Chen Yuan argued that China’s foreign exchange reserves should be seen as “the primary battlefield of a potential ‘financial war’ between China and the United States b ­ ecause the United States may exert pressure on China through the exchange market.”105 Chen Yuan’s statement reflects the importance that CPC policymakers attach to using the reserves to defend China’s financial security. Since President Xi took office, the issue of financial security has become deeply ingrained in the CPC’s core leadership. The Politburo has or­ga­nized a 71

196

200

160 137

140 120

108

100 80 56

60 40

2019

2017

2015

2011

2013

2009

2007

2003

1999

1995

1993

1991

2005

7

2

0

2001

20

1997

$ billions (annual flow)

180

Notes: Data for 1990–2005 only include nonfinancial foreign direct investment; 2006–2019 data indicate total foreign direct investment. Data sources: Statistical Bulletin of China’s Outward Foreign Direct Investment (2019), China’s Ministry of Commerce, National Bureau of Statistics, and State Administration of Foreign Exchange.

FIGURE 1.4  China’s outward FDI flow (2006–2019).

Annual flow

Annual stock

2,500

2,199

$ billions

2,000

1,357

1,500

1,000 425

500 3

30

196

75

137 2019

2018

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

2007

2006

2005

2004

2003

2002

0

Data sources: Statistical Bulletin of China’s Outward Foreign Direct Investment (2019), China’s Ministry of Commerce, National Bureau of Statistics, and State Administration of Foreign Exchange.

FIGURE 1.5  China’s outward FDI stock (2006–2019).

P erspec t ives on F oreign E x change R eserves

series of group seminars to discuss how to improve China’s financial security by strengthening the Party’s leadership over China’s financial work, enhancing state supervision, and resolving financial risk. In April 2017, during the fortieth of such seminars, President Xi emphasized that maintaining financial security is an indispensable part of national security, a strategic and fundamental issue to the country’s socioeconomic development.106 President Xi’s personal attention to the financial sector and his prioritization of the Party’s leadership over financial work has made China’s sovereign funds bear more of the Party-­ State’s priority strategic missions, such as financing the ­Belt and Road Initiative.

73

2

Central Huijin

Since its reform and opening up began in 1978, China has accumulated enormous foreign exchange reserves, exceeding $3 trillion. However, besides t­ hese official reserves, China has about $2.1 trillion in assets collectively managed by its three major sovereign funds.1 China first gained experience leveraging its foreign exchange reserves to create Central Huijin (Huijin) in 2003, when the state saw an urgent need to recapitalize Chinese banks. As the Chinese government sought more innovative ways to manage its foreign exchange reserves, the successful experience with Central Huijin ultimately led to the creation of China Investment Corporation and several investment funds affiliated with the State Administration of Foreign Exchange (SAFE). China’s sovereign leveraged funds (SLFs) are the twenty-­first-­century version of what Alexander Gerschenkron termed “capital mobilizers.” They represent a state-­engineered proj­ect to leverage capital to solve urgent domestic prob­lems and support the state’s political-­economic agenda. Using ­these funds to address domestic structural imbalances and finance domestic firms to “go out” shows that the Party-­State employs t­ hese funds to shape global markets, seeking solutions to domestic structural issues in broader global markets. As state-­engineered proj­ects to leverage capital to achieve the state’s prioritized po­liti­cal economic agenda, China’s SLFs were founded out of necessity because state control over major financial institutions and infrastructure had left China’s financial system undeveloped. The dominance

C en t ral H ui j in

of the Chinese state over the financial system had three defining ele­ ments: first, the dominance of state-­owned financial institutions rendered privately owned financial institutions almost non­ex­is­tent, leaving the populace with very ­limited options for saving or borrowing; second, the dominance of state-­owned commercial banks (SOCBs) over credit markets led to cheap and easy financing for loss-­making SOEs and the accumulation of nonperforming loans (NPLs) among SOCBs; and last but not least, a closed capital market and capital controls amounted to a financial ­Great Wall that prevented the ­free flow of capital across the border in pursuit of the most profitable investment opportunities. Central Huijin set into motion China’s experiment with SLFs at a time when China’s banking system was on the verge of failing due to the buildup of nonperforming loans.

Nonperforming Loans and China’s Banking Crisis China does not have a private banking system. Instead, four major state-­owned commercial banks—­namely, the Bank of China (BoC), the Industrial and Commercial Bank of China (ICBC), the China Construction Bank (CCB), and the Agricultural Bank of China (ABC)—­ dominate China’s banking system. Each of t­hese four SOCBs was assigned a unique role: the Agricultural Bank of China was assigned rural and agricultural sectors; the Bank of China, foreign trade; the ­People’s Construction Bank of China (later renamed China Construction Bank), construction and fixed assets; and the Industrial and Commercial Bank of China, business activities of the SOEs. When NPLs ­were piling up in China’s financial system u ­ ntil the early 2000s, ­t hese four SOCBs accounted for most of the loans and deposits within China. For example, at the end of 2002 ­t hese four SOCBs accounted for approximately 59  ­p ercent of all domestic deposits and 55  ­p ercent of all loans. 2 In 2004 their assets accounted for 54 ­percent of the entire banking sector.3 For a long time China’s SOCBs w ­ ere commercial in name only, and their lending activity was noncommercial. In October 1979 Deng 75

SOVEREIGN FUNDS

Xiaoping frankly pointed out the lack of a real banking system in China: “Banks should play a role in the economy, but our banks are merely accountants and have not played the role of a bank in a real sense.”4 Traditionally Chinese SOCBs extended loans to finance the operations of SOEs regardless of their risks or profitability, simply to meet the goals of government policy. By the end of 1995 more than four-­fifths of bank loans outstanding ­were to SOEs, indicating that Chinese banks had not adequately allocated funds to private enterprises on a commercial basis.5 PBoC governor Zhou Xiaochuan publicly disclosed that China’s NPL problems had been brewing since the end of the 1980s. He acknowledged that 30 ­percent of all NPLs came from vari­ous government interventions in the form of direct administrative o ­rders. Another 30 ­percent ­were due to subsidizing the SOEs. About 10 ­percent ­were the cost of inefficient local administrative and judicial systems, and another 10 ­percent ­were from government-­ordered industrial structure adjustment.6 By the end of the 1980s, about 80 ­percent of all the NPLs ­were the result of government administrative o ­ rders and loan subsidies to unprofitable SOEs. The magnitude of NPLs at China’s largest banks kept increasing ­until the mid-1990s.7 In June  1995 Dai Xianglong (戴相龙), then the soon-­to-be governor of the PBoC, revealed that the share of NPLs in the combined loan portfolios of China’s four largest banks had been rising by 2  percentage points per annum for several years.8 A staff member at the headquarters of ICBC confirmed this assessment with more details.9 Governor Dai recalled the grave situation in an article reviewing the first National Financial Work Conference held in 1997: “By the end of June 1996, the share of NPLs on the balance sheets of the SOCBs reached 24.75  ­percent of the total loan balance. Some of our SOCBs w ­ ere literally insolvent.”10 The major contributors to such a  large number of NPLs ­were loss-­making SOEs. By October  1997, 46 ­percent of SOEs ­were unprofitable.11 By the end of 2001 the total level of NPLs in China’s SOCBs had reached 25–40  ­percent of the SOCBs’ total loan balance, far beyond the healthy range by international standards (Figure 2.1).12 76

C en t ral H ui j in

Bank nonperforming loans

Percent of gross loans

35 30

30 25

Central Huijin created in 2003

22

20

20 15

13

10 5

2

2 2019

2018

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

2007

2006

2005

2004

2003

2002

2001

2000

0

Data source: Federal Reserve Bank of St. Louis.

FIGURE 2.1  Bank nonperforming loans to gross loans for China

(2000–2015, ­percent, annual, not seasonally adjusted).

Chinese policymakers recognized the threat posed by NPLs to China’s economic reform. The rising amount of NPLs exposed Chinese banks to severe financial risk and diminished the opportunity to reform the ailing SOEs. The lack of a market mechanism, combined with the state’s control over capital allocation, meant that the SOCBs w ­ ere financial lifelines for the loss-­making SOEs to stay in business. The Party leaders calculated that ­there was no better alternative than to si­mul­ta­neously implement two imperative reforms—­SOE reform and banking system reform. In this context the most critical issue Chinese policymakers discussed during the first four National Financial Work Conferences (NFWCs) was how to implement financial reform to transform the SOCBs into true commercial banks.13 It soon became apparent that ­t here would be no easy way to fix the prob­lems of NPLs in the Chinese banking system. The issue of NPLs threatening the failure of Chinese SOCBs was both a financial and po­ liti­cal prob­lem. The Ministry of Finance (MoF), the sole owner of Chinese 77

SOVEREIGN FUNDS

SOCBs, did not have sufficient resources to recapitalize the SOCBs by itself. Estimates placed the total cost of fixing the banking system at as high as 30 ­percent of China’s GDP in 2005.14 Such a fix would also be po­liti­cally difficult for several reasons. The Party had traditionally considered the SOEs the foundation of its dominance of the Chinese economy and critical to maintaining po­liti­cal stability. Solving the NPLs issue would require reforming the SOEs that had taken out the loans. This would undoubtedly be unpop­u ­lar with some of China’s po­liti­cal elites who exercised control over the SOEs, not to mention the many millions of ­people employed directly by the SOEs. Chinese policymakers realized that leveraging China’s enormous foreign exchange reserves to recapitalize the banking system might be the most feasible solution to the NPLs prob­lem. However, ­t here was no pre­ce­dent for the PBoC to inject foreign exchange reserves directly into the domestic banking system. Moreover, the central bank was prohibited from becoming a controlling shareholder of the banks. Hence, the State Council approved the establishment of Central Huijin as a special purpose vehicle to inject equity capital into the banks using foreign exchange reserves and to exercise shareholder rights on behalf of the state.

The Establishment of Central Huijin and Its Transformation The establishment of Central Huijin was the most critical part of a state-­ engineered solution to the urgent prob­lem of China’s failing banking sector, burdened by high amounts of nonperforming loans, the legacy of de­cades of support for unprofitable SOEs. China’s admission into the WTO made the prob­lem all the more pressing, as WTO membership included a condition requiring that China remove market-­access restrictions on foreign banks. Increased competition from foreign banks could have been a devastating blow to China’s state-­owned banks, whose overall competitiveness was weighed down by heavy debt burdens. China’s banks urgently needed to overhaul their balance sheets to adapt to the changing economic environment brought about by China’s 78

C en t ral H ui j in

ascension to the WTO. Against this backdrop, the Chinese government created Central Huijin as a special purpose vehicle to recapitalize China’s failing SOCBs using foreign exchange reserves transferred from the PBoC. Between 2003 and 2006, Central Huijin acted as a quasi-­state-­ owned private equity fund and played an indispensable role in restructuring China’s major SOCBs and nonbanking financial institutions. Since then, Central Huijin has become central to China’s financial system, exercising owner­ship control over many Chinese financial institutions on behalf of the Party and the Chinese state. The ubiquity of Central Huijin as a significant shareholder across nearly the entirety of China’s financial system has led some to refer to it as the “State-­ owned Financial Assets Supervision and Administration Commission” (金融国资委). The label implies Central Huijin is essentially the financial sector counterpart to the power­f ul state supervisor of SOEs, the State-­ Owned Assets Supervision and Administration Commission (SASAC). SASAC oversees major SOEs designated strategically impor­tant by the State Council. Th ­ ese SOEs are national champions in nonfinancial strategic sectors, such as energy and power generation, infrastructure, civil aviation, and critical minerals. Central Huijin’s holding of controlling shares in critical financial institutions on behalf of the central government mirrors SASAC’s governance over prized national champions in nonfinancial sectors. Still, Central Huijin represented an experiment by the Chinese government with a new market-­oriented approach to financial sector reform. Ostensibly Central Huijin was just another institutional investor with deep pockets. Central Huijin leveraged China’s foreign exchange reserves to give China’s SCOBs much-­needed cash infusions and head off an impending domestic banking crisis. The success of Central Huijin gave the Party a new tool of statecraft, making the Party a participant in financial markets rather than externally exerting control over them through regulation. Central Huijin is perhaps best described as a yangqi (央企), an enterprise wholly owned by the Chinese state. Its mandate is to exercise the rights and obligations on behalf of the Chinese state as an investor in major state-­owned financial enterprises to preserve and increase the value of state-­owned assets. Central Huijin was a subsidiary of SAFE 79

SOVEREIGN FUNDS

within the PBoC ­until 2008 when it was purchased by China Investment Corporation (CIC) and turned into CIC’s domestic arm. Before Huijin was reincorporated as a subsidiary of CIC, it had already matured significantly as an institution, implementing two major restructurings across both the banking and the financial ser­vices industries. Huijin had filled its board of directors with experts drawn from the ranks of SAFE, the MoF, the PBoC, the China Banking Regulatory Commission (CBRC), and elsewhere in the Chinese government. However, Huijin’s relative success did not mean that its institutional culture and governance ­were without prob­ lems. As might be expected of an institution born out of a crisis, Huijin became a point of contention among the established powers with the most responsibility for China’s financial system—­namely, the P ­ eople’s Bank of China and the Ministry of Finance. Central Huijin and the Restructuring of China’s Banking Sector

Central Huijin’s first mission was to recapitalize the SOCBs, reform their orga­nizational structures, and transform them into semiprivate companies that would eventually become publicly traded banks with shareholders. However, the formation of Central Huijin was not the beginning of China’s banking reform but instead a new iteration of it. In the late 1990s the Ministry of Finance had attempted banking reform but had taken a decidedly non-­market-­oriented approach. The state-­ owned commercial banks had long been mired in an unhealthy cycle at that time. They made loans to loss-­making state-­owned enterprises, which eventually became nonperforming loans, which necessitated additional cash infusions from the government, which allowed the cycle to continue. In 1998 the Ministry of Finance injected RMB 270 billion ($32.6 billion) into the Big Four SOCBs (ICBC, CCB, BoC, and ABC) to replenish their dwindling capital. This made the MoF the sole shareholder of the Big Four. In 1999 the government created four centrally controlled asset management companies (AMCs), one for each of the Big Four—­namely, Dongfang (东方), Changcheng (长城), Xinda (信达), and Huarong (华融). The AMCs ­were supposed to purchase bad debts on the Big Four’s balance sheets and dispose of them over ten years. In 1999–2000, 80

C en t ral H ui j in

assets transferred amounted to RMB 1.4 trillion ($169 billion), representing some 40 ­percent of the estimated total NPLs of the Big Four banks and equivalent to 18 ­percent of China’s GDP in 1998.15 This effort achieved only ­limited results, as the banks’ NPLs increased faster than the AMCs could buy them. By 2003 it was believed that Chinese banks ­were sitting on around $500 billion in NPLs, or slightly less than half the nation’s annual GDP. In November 2003, Standard & Poor’s rated major Chinese banks as junk grade.16 Using foreign exchange reserves to recapitalize the banks was an attractive option for China’s leadership. China had been ­running a trade surplus and steadily accumulating foreign exchange reserves since 1994, surpassing $400 billion in 2003. That year the PBoC de­cided on a bold move: it would use China’s reserves to recapitalize the SOCBs and reform their management to break the vicious circle of nonperforming loans to SOEs. However, the PBoC needed a vehicle to implement the recapitalization of China’s banks and oversee their transformation into market-­oriented institutions. This was the raison d’être of Central Huijin upon its creation in December 2003. Since its establishment, Central Huijin held responsibilities for reforming SOCBs, helping restore the health of China’s domestic banking system, and eventually creating competitive domestic financial markets. This undertaking permanently defined Central Huijin’s distinctive nature as a quasi-­government agency charged with carry­ing out China’s domestic financial reform. Central Huijin’s mandate is unique and distinct from its parent, China Investment Corporation, which was founded four years ­later. As part of China’s WTO membership negotiations, the Chinese government agreed that by the end of 2006 it would remove restrictions on the entry of foreign banks and end protections for the domestic financial sector. At the Third Plenum of the Sixteenth Party Congress (十六届 三中全会) in October 2003, the Party Congress de­cided to speed up the SOCBs’ restructuring. Following the Party Congress, the State Council launched the Leading Small Group on Reforming the Shareholdings of SOCBs (国有独资商业银行改革领导小组) to implement this reform. The group was headed by Huang Ju (黄菊), the first vice-­premier and a se­ nior Politburo member in charge of financial affairs. Other members of 81

SOVEREIGN FUNDS

the group included Premier Zhu Rongji and PBoC governor Zhou Xiaochuan, the protégé of President Jiang Zemin. Vice Premier Huang Ju served as the director of the Office for the Leading Small Group (国有独 资商业银行股份制改革试点工作领导小组办公室主任).17 ­These appointments reflected the rising influence of the PBoC in the banking reform relative to other institutions, particularly the MoF and the CBRC, which itself was newly created in April 2003. The Leading Small Group quickly put forward an implementation plan for restructuring the Bank of China and the China Construction Bank. It proposed that the State Council authorize SAFE to establish a government-­ owned investment com­pany as a vehicle to conduct capital injections and to participate in corporate governance when necessary. This proposal was considered a clever way to bypass ­legal restrictions prohibiting the PBoC from owning any commercial bank. In November 2003 this proposal was approved by se­nior leaders in the State Council, including Wen Jiabao, Huang Ju, and Wu Yi (吴仪). Within one month of this approval, on December 16, Central Huijin Investment Co., Ltd. was officially launched. The PBoC allocated $45 billion of foreign exchange reserves (RMB 372.465 billion) as Central Huijin’s initial investment capital. At that time Central Huijin was the largest investment com­pany in mainland China. In the early days of its operations, Central Huijin was considered a special purpose vehicle and the proxy of the PBoC. Central Huijin was officially accountable to the Leading Small Group for the Reform of SOCBs (国有独资商业银行改革领导小组) headed by Huang Ju, but in practice it was directed by the PBoC governor, Zhou Xiaochuan. The real power over day-­to-­day operations at Central Huijin resided with the PBoC’s Financial Stability Bureau (FSB), which had been in charge of administration and institutional planning at Central Huijin since the beginning. The FSB made the policy and Central Huijin conducted market operations in accordance with that policy. Initially Central Huijin did not even have in­de­pen­dent management, sharing the same management team as SAFE. Guo Shuqing (郭树清), then deputy governor of the PBoC and administrator of SAFE, assumed the position of 82

C en t ral H ui j in

Central Huijin’s first chairman. Hu Xiaolian (胡晓炼), then deputy administrator of SAFE, took a concurrent position as Central Huijin’s general man­ag­er ­after it was vacant for quite some time. Li Xiaoming (李笑明), then director of China Foreign Exchange Trading Center, became Central Huijin’s deputy general man­ag­er. The absolute dominance of the PBoC over Central Huijin, from capital injection to staffing, in ­later years became a point of contention between the PBoC and the MoF when Central Huijin was acquired by China Investment Corporation in 2007, which is discussed in Chapter 3. Shortly ­a fter Central Huijin was established, it injected $45 billion into the Bank of China and China Construction Bank, using foreign exchange reserves, with each bank receiving $22.5 billion. The two banks kept the entire $45 billion on their balance sheets in foreign exchange assets and ­were not allowed to exchange it into RMB. This capital injection automatically wrote down $45 billion of SAFE’s foreign exchange reserves, and the MoF wrote off RMB 320 billion of its equity stake in ­t hese two banks. Central Huijin has since become the controlling shareholder of ­these two banks. This transaction contributed to the PBoC’s growing leadership in China’s banking reform and its increasing influence over the two banks, breaking the MoF’s monopolistic control over state-­ owned financial assets. In September  2004, China Construction Bank was reincorporated as a shareholding bank. Xie Ping (谢平) attended the ceremony for the bank’s relaunch as the general man­ag­er of Central Huijin. Xie held a PhD in economics from Renmin University, and he had extensive experience within the PBoC working on financial stability issues. Together with Yi Gang, Xie Ping was one of the two primary architects of Central Huijin when it was still in the planning stages. Before taking the general man­ag­er position at Central Huijin, Xie had been a bureau-­level (局级) PBoC technocrat for more than a de­cade. He was a former director of the FSB, and he also held a concurrent position as the director of the Office for State-­O wned Financial Institution Reform (国有金融机构改革小组办公室). Xie Ping’s appointment as Central Huijin’s general man­ag­er signaled that Central Huijin was no 83

SOVEREIGN FUNDS

longer a merely temporary special purpose vehicle. Instead Central Huijin would begin to assume in­de­pen­dent responsibilities in SOCB reform.18 The first two pi­lot banking reform proj­ects led by Central Huijin ­were successful, as both CCB and the BoC became publicly traded companies. In October 2005, Bank of Amer­i­ca made its first investment in CCB, paying $3 billion for a 10  ­percent stake.19 Soon a­ fter, CCB was listed on the Hong Kong Stock Exchange. In June 2006 the Royal Bank of Scotland invested in the BoC, and a short while ­later the BoC was listed on the Hong Kong Stock Exchange and the Shanghai Stock Exchange. Despite its successes in using foreign exchange reserves to recapitalize the BoC and CCB, Central Huijin chose not to take this approach with the Industrial and Commercial Bank of China (ICBC), China’s biggest bank. Instead, Central Huijin and the MoF jointly injected capital into ICBC as part of a po­liti­cal compromise between the PBoC and the MoF. Both organ­izations ­were vying for overall leadership of the banking reform, and sole control of ICBC would have given one side too ­great an advantage.20 As a compromise, both Central Huijin and the MoF participated in ICBC’s recapitalization and restructuring. As approved by the State Council in April  2005, Central Huijin injected $15 billion into ICBC using foreign exchange reserves, giving Huijin an equity stake worth approximately RMB 124 billion. The MoF wrote down its equity stake in ICBC from RMB 170 billion to RMB 124 billion against provisioning for NPLs.21 This restructuring arrangement gave ICBC a total registered capital of RMB 248 billion. More importantly, it meant that Central Huijin and the MoF ­were equal partners, each having a 50 ­percent owner­ship interest in the bank. Central Huijin’s reform of the Chinese banks peaked in 2006 when ICBC completed the world’s biggest initial public offering (IPO) and raised at least $19.07 billion on the Hong Kong Stock Exchange, smashing the previous rec­ord of $18.4 billion set by NTT DoCoMo of Japan in 1998. With ICBC’s listing, Huijin had completed the restructuring of three of the Big Four within only three years. The last of the Big Four, the 84

C en t ral H ui j in

Agricultural Bank of China (ABC), was restructured in November 2008 ­after Huijin was reincorporated ­under China Investment Corporation. Central Huijin and the Restructuring of Securities Brokerage Firms

Between 2003 and 2004, Chinese securities brokerage companies faced an industry-­w ide crisis for the first time since the industry was established in China. In 2004, 114 major brokerage firms recorded a total net loss of RMB 14.99 billion.22 Losses had been swelling for years across the industry, leading to multiple incidents of malpractice and risky be­hav­ior at several notable securities firms. The industry was rife with allegations of misappropriation of client security deposits, noncompliance with China Securities Regulatory Commission (CSRC) regulations in wealth management ser­v ices, and market manipulation.23 Investors began to lose confidence in the industry as a ­whole. In July 2005 a crisis swept through the entire securities industry, requiring a response from the government. The State Council took action by approving the Comprehensive Plan for the Consolidation of Brokerage Firms (证券公司综合治理工作方案). The plan aimed at restructuring brokerage firms and reforming the securities market, purging the industry of illegal activities and misconduct, reducing risk, strengthening supervision, and implementing new regulatory mechanisms. The State Council gave the task of restructuring the brokerages to Central Huijin, specifically its wholly owned subsidiary Jianyin Investment (建银 投资), together with the China Securities Investor Protection Fund (CSIPF).24 This allowed Central Huijin to go beyond its initial mission of banking reform and step into the restructuring of major brokerage firms. Huijin and its subsidiary Jianyin formed a division of l­abor so each could deal with one aspect of the crisis. Central Huijin focused on restoring financial stability in the brokerage industry, targeting the largest brokerages for acquisition without resale. This included the nationwide state-­owned brokerages Galaxy Securities (银河证券), Shenyin Wanguo (申银万国), and Guotai Junan (国泰君安). Meanwhile, Jianyin focused on 85

SOVEREIGN FUNDS

acting as a strategic investor, injecting capital with the intention to exit the investment eventually. In this way Jianyin purchased several midsize brokerage firms owned by local governments.25 During 2004–2007, Central Huijin had controlling stakes in the most prominent Chinese brokerages, and it exercised enormous influence over the entire industry. In less than three years, Central Huijin and Jianyin had built a “Huijin F ­ amily” of brokerage firms, acquiring controlling stakes in ten major brokerage firms, one-­t hird of the entire industry at the time.26 Huijin’s increased control over the securities industry gave the PBoC tremendous power over ­t hese firms even though it lacked ­legal supervisory authority over them. This posed a significant challenge to the CSRC, which did have a ­legal mandate to supervise securities markets and brokerages. U ­ nder Governor Zhou Xiaochuan, the PBoC’s objective in restructuring the brokerages was guided by market princi­ples. Upon restoring stability to the markets and credibility to the brokerage industry, the PBoC wanted to recoup a portion of its investment. In late 2004 the PBoC put up for sale a 51 ­percent stake in a medium-­size brokerage, inviting foreign and domestic investors to bid. This marked the first time Zhou Xiaochuan or any previous PBoC governor had invited foreign investment in China’s domestic securities markets. By stepping beyond its original mission of bank reform and into the securities industry, Huijin invited questions about its mission’s limits, if any limitations existed at all. Within just three years Huijin had outgrown the scope of its initial remit. In banking reform, Huijin behaved like a state-­owned private equity fund rather than a government bailout fund. It did not stop at s­ imple restructuring but instead forced the banks to become publicly traded companies, allowing Huijin to sell some of its shares at a profit. Huijin was no longer a temporary special purpose vehicle but had become an agency of the PBoC and the State Council, able to directly implement financial policy by virtue of its controlling interests in major banks and brokerages. Many experts criticized Central Huijin as riddled with conflicts of interest due to its expansive and complicated role in the financial system. This criticism would continue to grow, and questions over the appropriate role for Huijin would become 86

C en t ral H ui j in

an acute prob­lem. In 2007 Cheng Siwei (成思危), the vice chairman of the National P ­ eople’s Congress, stated that the time had come to reform Central Huijin itself.27

Conclusion Since its establishment in 2003, Central Huijin has operated as a market shaper inside China’s domestic financial market. It was created to leverage the country’s foreign exchange reserves for the purpose of achieving a state-­prioritized political-­economic agenda—­namely, the reform of the financial system. During this period the Chinese government endowed Central Huijin with $66.4 billion in foreign exchange reserves for the recapitalization of SOCBs and Chinese financial institutions. ­After being acquired by CIC, Huijin was able to maintain its relative in­de­pen­dence and managed more than two-­thirds of CIC’s total assets. Huijin has grown from an inconspicuous special purpose vehicle into a massive holding com­pany wielding influence across the Chinese financial system. Although Central Huijin was initially created as a bailout fund, it ended up behaving like a state-­owned private equity fund. It not only recapitalized the Chinese financial institutions on behalf of the state; it also facilitated their restructuring and eventual public listings. Jing Xuecheng (景学成), formerly Huijin’s representative to CCB’s board of directors, has identified two stages to the development of Huijin: the first stage was restructuring the SOCBs and becoming a major shareholder in the SOCBs; the second stage was diversification out of that core interest. 28 In carry­ing out banking reform, a capital injection was just the beginning of Huijin’s engagement with the banks. As a shareholder, Huijin insisted that banks’ management establish modern international-­standard corporate governance and eliminate vast portions of the business that ­were “administrative.” The ultimate goal was to transform the SOCBs, shedding their stodgy culture to become global banks, publicly listed with foreign investors. Wu Xiaoling (吴晓灵), then the deputy governor of the PBoC, said the impor­tant function of 87

SOVEREIGN FUNDS

Huijin was not to make capital injections into the Chinese banks but instead to become the platform through which corporate governance in Chinese commercial banks could be improved.29 Huijin has played a critical role in strengthening Chinese banks’ financial discipline and corporate governance structure. Huijin demands one-­third of the seats on the board of directors at its banks, the maximum allowed ­under the Com­pany Law of the PRC. This guarantees that Huijin can always exercise a veto on any com­pany action, protecting its shares from pos­si­ble dilution in the ­f uture. Huijin’s role in not only restructuring China’s banks but also insisting upon more professional management and better corporate governance made China’s financial system more resilient, something that became particularly evident when China suffered relatively l­ittle market turmoil during the global financial crisis ­after the Lehman ­Brothers shock. Ba Shusong (巴曙松), chief economist of the China Banking Association, observed that “compared with ­simple administrative capital injections into financial institutions, the current Huijin method undoubtedly is much better and more advanced.”30 Central Huijin’s internal structure is not without some flaws. According to a special advisor to Chen Yuan, who participated in the institutional design of Central Huijin, it was a “self-­claimed government-­owned investment com­pany with no administrative title in its first c­ ouple of years.” However, ­after making capital injections into three SOCBs, each a competitor of the ­others, Huijin repositioned itself to become a holding com­pany that “does not conduct commercial activities.”31 For an extended period ­a fter its founding, Huijin operated semiformally; neither its mandate, function, goals, nor operation princi­ples ­were formalized in a l­egal document. One expert in Chinese finance compared the situation to a play with no director but only actors and a stage—­ anyone could do their own l­ittle show during the play and make ­mistakes, but no one would be held responsible or accountable when ­t hings got out of control. 32 A lack of accountability stemming from an undefined mission meant that Huijin’s expansive holdings soon became a challenge on their own. Outside observers began to note that Huijin was ill-­prepared to deal with the conflict of interest posed by 88

C en t ral H ui j in

affiliate transactions between banks or relationships between commercial banks and brokerages. Although Huijin successfully orchestrated the restructuring of China’s banks and brokerages, its broad portfolio of controlling interests in financial ser­vices firms meant Huijin had a complicated relationship with China’s regulatory institutions. As a bank holding com­pany, Huijin faced scrutiny from several regulatory and supervisory agencies, including the PBoC (financial stability supervision), the CBRC (bank supervision), the MoF (industry regulation), and, of course, the State Council (po­l iti­cal oversight). Si­mul­ta­neously coordinating with all ­these agencies has been cumbersome. For Huijin, this means its power as the largest shareholder of most of China’s financial ser­vices industry is ­limited only by the inertia of bureaucratic layers. Ultimately Huijin is competing with China’s regulatory and supervisory institutions for influence over the financial system. Although Huijin holds veto power on the board of directors of its portfolio companies, it lacks the discretion to appoint or dismiss the CEO or chairman. The power to appoint se­nior management at its portfolio companies resides with the Secretariat of the Central Committee of the CPC, specifically the Orga­nizational Department, which controls all staffing positions within the Party. Huijin’s own se­nior management is appointed by the Orga­nizational Department. This arrangement is a poor fit with international corporate standards, and some may describe it as “corporate governance with Chinese characteristics.” Despite its structural flaws, Huijin’s track rec­ord of restructuring China’s financial institutions is regarded by most as a success.33

89

3

China Investment Corporation

Many scholars have interpreted the creation of China Investment Corporation (CIC) as the byproduct of a bureaucratic competition between the Ministry of Finance (MoF) and the ­People’s Bank of China (PBoC).1 While ­there is more than an ounce of truth to this interpretation, it treats the formation of CIC as an isolated and discrete event. Instead CIC emerged in the broader context of the Communist Party of China (CPC) and the Chinese government attempting to fix structural issues in China’s financial system. Like Central Huijin, CIC is a sovereign leveraged fund (SLF) established to ­free China’s foreign exchange reserves from low-­y ield US Trea­suries bonds and instead use them to serve China’s development needs and minimize opportunity costs. The establishment of CIC following Central Huijin signaled that China’s financial system reform had moved on to foreign exchange reserve management reform. Some scholars have argued that the establishment of CIC was a solution to the monetary policy dilemma presented by China’s enormous foreign exchange reserves.2 China’s current account surplus, combined with a desire to fix the value of China’s currency, required the PBoC to conduct large-­scale sterilization operations, soaking up domestic currency to keep a lid on inflation. Maintaining ­t hese operations began to place pressure on the balance sheet of the PBoC when two distinct trends started to emerge: the falling value of the US dollar and declining rates on US Trea­sury bonds. Conversely, the hot economy in China was

C hina I nves t men t C orporat ion

driving up domestic real interest rates, increasing the interest-­payment burden on the PBoC’s liabilities denominated in renminbi. In short, the opportunity cost of investing foreign exchange reserves in US Trea­ suries was rising. Many scholars argue that the Chinese government de­cided to establish CIC in the hope that it could earn a higher yield on foreign exchange reserves.3 While this argument is correct in its economic reasoning, it is incomplete ­because it fails to consider essential po­liti­cal and historical ­factors. The establishment of CIC would not have been pos­si­ble if the Chinese government had not gained experience from leveraging foreign exchange reserves to fund Central Huijin and recapitalize China’s banking system. In this context, the launch of CIC was not a singular event but another reflection of the Party-­State’s desire to take risks and use China’s financial power to shape global markets. The goal is to transform China’s foreign exchange reserves into strategic overseas assets and seek higher financial and po­liti­cal returns on investments. Like the other SLFs in China’s SLF complex, CIC’s fundamental purpose is to achieve the po­liti­cal and economic objectives of the Party-­State by leveraging foreign exchange reserves. Unlike Central Huijin, CIC was not a crisis-­driven product created to address the existential insolvency crisis in China’s banking system. Instead, the Party-­State launched CIC as a deliberate initiative amid vigorous domestic debates over finding more appropriate ways to transform China’s foreign exchange reserves into strategic assets in global markets. Together Central Huijin and CIC are an example of a “capital mobilizer” in financial markets, leveraging foreign exchange reserves that would other­w ise be dormant sovereign capital for risk-­bearing investment purposes. Central Huijin and CIC mark the Party-­State’s pro­gress in managing financial risks to improve China’s financial security and shape markets at home and abroad without resorting to regulations or administrative directives. Since its establishment, CIC and its subsidiaries have mobilized capital to support proj­ects and companies that advance the strategic interests of the Party-­State. They have also served as indispensable financers for the rise of Chinese technology unicorns, like Alibaba and Didi Chuxing. CIC and its subsidiaries act as intermediaries between 91

SOVEREIGN FUNDS

the Party-­State and markets. They influence portfolio companies and other market participants by injecting equity capital and exercising shareholder rights. In other words, as a sovereign leveraged fund, CIC transforms the CPC and the Chinese state into a shareholder state, allowing the Party-­State to shroud its commanding power over the market ­behind the veil of a market-­oriented investment fund. CIC and its subsidiaries’ participation in global markets enables the Party-­State to be much more flexible in shaping markets without resorting to regulations or administrative directives. This ability to shape markets as a shareholder is instrumental in markets outside China upon which the Party-­State cannot directly impose its ­will. By deploying long-­term patient sovereign capital into firms and sectors most aligned with the visions of the Party-­State, CIC and its subsidiaries are the lubricant for integrating the Party’s development strategies with private firms in global markets. They shape markets and orchestrate market resources on behalf of the CPC and the Chinese state by curating portfolio companies that can best advance what the CPC deems China’s national interests.

The Funding of China Investment Corporation In 2007, the Twenty-­Eighth Session of the Standing Committee of the Tenth National P ­ eople’s Congress (NPC) approved a complicated plan to establish a new sovereign fund that became CIC. This plan involved the MoF issuing bonds to raise capital in renminbi to buy foreign exchange reserves from the PBoC using Chinese commercial banks as the intermediary (Figure 3.1). The essence of this plan was to use China’s foreign exchange reserves to fund a new state-­owned investment fund without violating the PBoC Law, which prohibits the central bank from directly purchasing government bonds and financing fiscal expenditure.4 The approval of the NPC further legalized the plan, which essentially legitimized the use of foreign exchange reserves for investment purposes. ­Under this plan, the MoF was allowed to issue RMB 1.55 trillion ($226.9 billion) worth of special trea­sury bonds, use the proceeds to purchase the equivalent value of foreign exchange reserves from the PBoC, and 92

C hina I nves t men t C orporat ion

FX flow

Bond flow

RMB flow 2b

The People’s Bank of China

Ministry of Finance

2a 3a

State-owned Commercial Banks

3b

2c

1b

1a

China Investment Corporation

Notes: FX = foreign exchange; RMB = Renminbi.; PBoC = ­People’s Bank of China; MoF = Ministry of Finance; SOCB = State-­O wned Commercial Bank; CIC = China Investment Corporation. (1a) MoF issued RMB 1.55 trillion in special bonds and collected the proceeds; (1b) SOCBs bought RMB special bonds issued by MoF; (2a) MoF used RMB special bond proceeds to buy FX from PBoC at a fixed exchange rate; (2b) PBoC transferred the equivalent amount of FX to MoF; (2c) MoF used FX to capitalize CIC; (3a) PBoC purchased special bonds from SOCBs as part of open market operations; (3b) SOCBs receive RMB in exchange for special bonds, which remain permanently in the possession of the PBoC.

FIGURE 3.1  The creation of China Investment Corporation.

eventually use ­these foreign exchange reserves to capitalize CIC. In practice, the MoF achieved the fund­rais­ing target by implementing eight separate rounds of special trea­sury bond issuances between August and December 2017. Two of ­these issuances ­were directed to the Agriculture Bank of China (ABC) in the total amount of RMB 1.35 trillion. A former PBoC official explained that it was administratively easier and more con­ve­nient to designate ABC as the bond purchase bank b ­ ecause it was the only one of the four major state-­owned commercial banks that was not publicly listed at that time, which alleviated much of the bureaucratic hurdle that would have faced the other banks. Moreover, the plan was not for ABC to hold the bonds as its assets but instead for it to 93

SOVEREIGN FUNDS

act as a conduit: once ABC purchased the bonds, it immediately unloaded them off to the PBoC. In both of t­ hese two issuances, the PBoC purchased all the special trea­sury bonds from ABC through open market operations on the same day that ABC bought the bonds from the MoF.5 The PBoC became the ultimate holder of the RMB 1.35 trillion special trea­sury bonds that provided the lion’s share of CIC’s seed capital. The remaining RMB 200 billion was raised through six l­ ater public bond offerings in China’s interbank bond market for a total RMB 1.55 trillion raised. With proceeds from bond issuances, the MoF purchased $200 billion of foreign exchange from the PBoC to complete the fund­rais­i ng cycle. This $200 billion became the funding capital for CIC. The aggregate effect of ­these complicated transactions was the transfer of $200 billion out of the PBoC to CIC, but the sole shareholder of CIC is the MoF. In September 2007, CIC was officially incorporated as a wholly state-­owned com­pany ­u nder China’s Com­pany Law.6 The IMF guidelines on foreign exchange reserves are helpful in understanding the net accounting effect on China’s official foreign exchange reserves ­after the capitalization of CIC using the reserves purchased by debt financing. The establishment of a sovereign fund using foreign exchange reserves ­w ill decrease official reserves b ­ ecause it involves the transfer of foreign exchange reserves out of the central bank’s purview, and the associated investments ­w ill be less liquid and higher risk than conventional reserve assets such as US Trea­suries. In the case of the capitalization of CIC, the MoF issued special bonds and raised proceeds denominated in renminbi. It then used the renminbi proceeds to purchase the equivalent value of dollars from the foreign exchange reserves managed by the PBoC. The net accounting effect of this transaction was to increase the government’s outstanding debt while merely moving part of the government’s existing assets from one agency to another without altering the level of total assets. An increase in debt relative to assets leads to a higher debt-­to-­asset ratio, which is an increase in financial leverage by accounting definition. The pro­cess of the MoF issuing debt and the PBoC expanding its balance sheet to hold the debt was largely transparent and captured by accounting rules in the form of explicit leverage, corresponding to the state’s employment of 94

C hina I nves t men t C orporat ion

explicit leverage to establish a sovereign leveraged fund discussed in the Introduction. The peculiar funding scheme of CIC highlights the most salient difference between SLFs and sovereign wealth funds (SWFs). Unlike conventional SWFs funded by ­f ree cash flow from natu­ral resources revenues, CIC’s seed capital was not from the state’s natu­ral resource wealth but instead from debt proceeds raised in the domestic markets and ultimately recycled by the central bank. Given that the coupon rates on the debt ranged from 4.3 ­percent to 4.69 ­percent, the annual interest cost of CIC’s seed capital was about RMB 66.65 billion ($9.76 billion). However, the real effective cost of capital was much higher during the first few years of CIC’s operation ­because the interest burden increased as a result of the appreciation of the renminbi against the US dollar. This reveals the currency risk embedded in CIC’s financial structure. CIC’s assets are denominated in US dollars, while its liabilities are denominated in renminbi. This asset-­liability currency mismatch meant that CIC’s net profitability was a function of not only its investment prowess but also the USD-­R MB exchange rate. For example, the average interest on CIC’s debts in 2010 was 4.5 ­percent; ­after accounting for a 2 ­percent appreciation in the renminbi, the effective cost of capital for CIC was about 6.5 ­percent. In other words, CIC had to achieve a return on investment of at least 6.5 ­percent just to meet its interest payment. This meant that CIC had to reach a much higher return to make a profit on an annual basis a­ fter accounting for total operational costs. This financial burden is an unusual constraint for a sovereign fund that is supposed to have a long-­term investment horizon but at the same time is faced with annual distribution pressure.

Bureaucratic Politics of China Investment Corporation: A Win for the Ministry of Finance at the Loss of the P ­ eople’s Bank of China Unlike most traditional commodity-­based SWFs, CIC did not have a clearly defined mandate during its first years. A former CIC man­ag­er 95

SOVEREIGN FUNDS

described CIC’s mandate as a point of contention among Chinese officials. Much of the early brain trust of CIC was in ­favor of making passive investments and placing money with professional money man­ag­ers in overseas accounts. ­Others viewed the fund as having a more strategic purpose of supporting Chinese state-­owned companies financially to expand abroad or acquire strategic assets overseas that best serve China’s national interests.7 ­These competing visions within the Chinese government bureaucracies ­were on display when examining the choice of personnel at the fund. The first-­generation CIC board members ­were drawn from the bureaucracies that competed to shape China’s economic and financial policies, such as the MoF, the National Council for Social Security Fund, the China Securities Regulatory Commission, the Ministry of Commerce, and the PBoC and its subsidiary, SAFE. All of the CIC board members w ­ ere also members of the CPC, ­either seasoned government bureaucrats or central bank veterans. None of CIC’s board members had previously worked as professional fund man­ag­ers or had extensive prior asset management experience. Even CIC’s first CEO, Lou Jiwei (楼继伟), did not come from a professional asset management background but was a former vice minister for finance. A se­nior official at the State Development and Investment Corporation, a state-­owned investment holding com­pany, explained that the multiagency composition of CIC’s board might have been designed to institute an internal check-­and-­balance so that no single government bureaucracy could monopolize control over CIC.8 This explanation is reasonable but cannot justify the absence of a board member with professional investment management experience. The bureaucratic nature of CIC’s board composition, especially the lack of investment expertise, suggests that CIC’s corporate governance and investment decision-­making pro­cess would likely be more po­liti­cal and less professional than its peers in Norway or Abu Dhabi. The fact that CIC’s board was composed of representatives from rival government agencies meant that the board’s strategic decision-­making could resemble a po­liti­cal proxy b ­ attle between bureaucracies. It is perhaps natu­ral for CIC’s board members to retreat into their respective parochial corners of bureaucratic affiliations when debating at CIC’s board meetings how CIC as a sovereign 96

C hina I nves t men t C orporat ion

fund can best serve the interests of the Party-­State. The dominance of former MoF officials at the vice minister level and above over CIC’s board of directors suggests that voting at the board would most often ­favor maintaining the MoF’s influence rather than setting out an in­de­ pen­dent strategic vision for CIC. High-­level MoF alumni occupied four seats on CIC’s board, and two of the three executive directors of the board ­were former vice ministers of finance. The dominance of the MoF over the CIC board also indicated that the MoF gained the upper hand in the po­liti­cal strug­gle over who has more direct influence over the newly established CIC and, by extension, the $200 billion in foreign exchange capital. This also reveals that although CIC is nominally in­ de­pen­dent and enjoys the status of a ministry in China’s political-­ institutional hierarchy as a sovereign fund, it is mainly subject to the MoF’s direct influence. In its early days CIC did not have enough talent at the portfolio man­ag­er level to manage its capital. A former CIC equity investment man­ag­er observed that CIC had only a dozen investment officers in its inaugural year. This former insider acknowledged that as a small team, they strug­gled to quickly identify the most promising investment opportunities in global markets and they were under pressure to deploy capital as soon as pos­si­ble and reduce the cash drag on the fund. They had too much money to invest but too l­ ittle time and manpower to do so effectively.9 In a separate conversation, a public relations man­ag­er working at CIC also reflected that a lack of expertise combined with the time pressure to invest quickly contributed to CIC’s initial significant investment in US financial institutions in the run-up to the 2008 global financial crisis.10 As CIC grew, the fund promptly addressed its talent shortage prob­lem by actively recruiting professionals with prior international asset management experience (­Table 3.1). In November 2020, CIC established a postdoctoral research program to attract and develop first-­class financial researchers and serve as a talent pipeline for the com­pany. The goal was to diversify the com­pany’s talent development model and promote greater synergy across education, research, and business. For most of its history, CIC’s corporate structure has evolved as a troika: (1) Central Huijin, acquired by CIC in 2007, is responsible for 97

SOVEREIGN FUNDS

­TABLE 3.1  Composition of CIC Global investment team (2009–2021) CIC Global Investment Team2 CIC Total Staff 1 2

Report Release Date

2

Team Headcount

May 2009 Dec. 2009 June 2011 June 2012 June 2013 June 2014 June 2015 June 2016 June 2017

194 246 497 542 583 606 588 592 626

N  /  A3 N  /  A3 378 405 443 467 455 466 195

June 2018 June 2019

644 660

191 205

June 2020

689

204

June 2021

N  /  A5

With With Overseas With With Advanced Work Foreign Foreign Degrees Experience Education Citizenship 184  73  85 18 199 115 132 31 313 154 217 43 334 165 224 44 363 174 250 41 381 177 271 41 375 171 264 36 389 179 280 37 “More than 83% of the global investment team have overseas education or professional experience.”4 183  98 149 18 “More than 81% of the global investment team have overseas education or professional experience.”4 “More than 80% of the global investment team have overseas education or professional experience.”4

CIC’s international investment team accounted for 28.1% of the com­pany’s total workforce, with 80% of its members possessing overseas study or work experience.

Source: Author-collected data from CIC annual reports, 2009–2020. 1

Includes staff working for Central Huijin. Does not include staff working for Central Huijin. 3 Publicly available reports did not disclose total team headcount, only breakouts. 4 No numeric breakouts of team headcount ­were disclosed. 5 CIC total staffing level not disclosed in publicly available reports. 2

domestic financial sector investment; (2) CIC International, established in 2011, ­handles overseas portfolio investments; and (3) CIC Capital, founded in 2015, specializes in overseas direct investments. This troika features “one CIC, two systems,” with a firewall separating Central Huijin from the overseas operations conducted by CIC International and CIC Capital. A public relations man­ag­er at CIC explained that this separation aims to alleviate foreign concerns over nonmarket motivations when CIC makes investments in foreign countries while allowing 98

C hina I nves t men t C orporat ion

Central Huijin to concentrate on overseeing the management of domestic financial institutions.11 When asked about the relationship among CIC’s subsidiaries, a se­nior investment man­ag­er of CIC explained that Central Huijin “is a unique and relatively in­de­pen­dent subsidiary among the three” in that “it is a quasi-­government agency.” Central Huijin “does not make in­de­pen­dent investment decisions.” Instead, its investments “are subject to the approval of the State Council.” In addition, the strict firewall between Central Huijin and CIC’s global activities means that “CIC’s voluntary participation in the International Forum of Sovereign Wealth Funds (IFSWF) and the Santiago Princi­ples applies only to CIC International and CIC Capital.”12 Reading between the lines of the explanations of Central Huijin’s function given by a CIC insider, the implied message is that Central Huijin does not need to abide by the Santiago Princi­ples as the rest of the CIC does. If Central Huijin’s investment activities indeed require the approval of the State Council as the CIC investment man­ag­er described, then this man­ag­er’s characterization of CIC as a “quasi-­government agency” would be inaccurate. The Santiago Princi­ples aim to have signatory members refrain from making nonmarket or strategically motivated investments in global markets. The fact that Central Huijin’s domestic investment is not subject to restrictions of the Santiago Princi­ples and that its investment decisions need the approval stamp of the State Council suggests that Central Huijin is an extension of the state in the market. Its interaction with the Chinese domestic market is not through administrative rules but through capital allocation. CIC has faced a steep learning curve and has suffered substantial financial losses on some investments during the past fourteen years. However, it has adapted both its corporate structure and its investment focus to better complement the policies and national strategies of the Party-­State. Immediately a­ fter its establishment, CIC purchased and incorporated Central Huijin as a subsidiary. Over the past fourteen years Central Huijin has evolved into the vis­i­ble hand of the Party-­State in China’s financial markets. It is referred to unofficially as the State-­Owned Financial Assets Supervision and Administration Commission (金融国资委). Central Huijin is now the most impor­tant shareholder of major Chinese 99

SOVEREIGN FUNDS

financial institutions and exercises shareholder rights on behalf of the Party-­State. As CIC has increased its global exposure and matures as an investment fund, it has formed a division of l­ abor between CIC International and CIC Capital to manage its global portfolio. The emergence of ­these two subsidiaries operating in global markets can best be described as “crossing the river by feeling the stones,” the same strategy Deng Xiaoping prescribed for China’s reform and opening up. Apart from pursuing tangible financial returns, they have curated portfolio companies with the goal of serving the development needs and strategic interests of the Party-­State.

CIC’s Debut in Global Markets CIC experienced a bumpy start investing abroad, and its initial negative per­for­mance invited much criticism at home. Its international debut coincided with the peak of the asset price b ­ ubble that ruptured during the global financial crisis. During the one year before the collapse of Lehman ­Brothers, CIC made overly concentrated investments in the US financial sector and suffered outsized losses following the fall of Lehman ­Brothers (­Table 3.2). The two most notable examples w ­ ere CIC’s investments in Blackstone and Morgan Stanley, which experienced severe drops in value during the global financial crisis. CIC was still reeling from the losses sustained by ­t hose investments when it shifted its investment focus to natu­ral resources and other industrial sectors. The fund’s investment portfolio remained geo­graph­i­cally concentrated in North Amer­i­ca (Figure 3.2). CIC’s pre-­IPO subscription of Blackstone shares was the fund’s first venture onto the turf of Western financial markets. This was also the first time China invested its foreign exchange reserves in something other than US Trea­sury bills. Blackstone’s CEO Stephen Schwarzman described this as “a paradigm shift in global capital flows.”13 Technically, the purchase predated the formal launch of CIC as a sovereign fund. It was the National Foreign Exchange Investment Corporation (国家外汇投资公司) that committed the investment in May  2007, one 100

C hina I nves t men t C orporat ion

­TABLE 3.2  CIC Investment before the Lehman shock (May 2007 to April 2008) Date

Investment Type

May 2007

Listed equity

United States

Blackstone Private Group equity LP

Dec. 2007

Mandatory convertible securities

United States

Morgan Stanley

Capital markets

March 2008 Listed equity

United States

Visa Inc.

Consumer finance

April 2008

United JC Flowers Private States equity

Fund investment

Country

Target Name

Industry

Description CIC agreed to buy 9.9% of Blackstone’s nonvoting common units for $3 billion in a pre-­IPO subscription. CIC acquired 9.9% of Morgan Stanley for $5.6 billion. CIC invested more than $100 million in VISA in a pre-­IPO subscription. CIC agreed to provide an estimated 80% of the funding for a new $4 billion fund with JC Flowers.

Source: Author-collected data from publicly available information.

month before Blackstone’s IPO and about four months before the official launch of CIC. In January 2007, Blackstone hired Antony Leung (梁锦松) to serve as the chairman of Blackstone in Greater China, a position Leung held ­until November  2013.14 Leung had previously been the financial secretary of Hong Kong, from 2001 to 2003, and was the head of Greater China at Citibank and JPMorgan. U ­ nder Leung’s direction, Blackstone and CIC struck a deal for CIC to pay $3 billion for a 9.9 ­percent stake of Blackstone’s nonvoting common shares with a four-­year lockup period.15 According to Blackstone’s 2007 Securities and Exchange Commission (SEC) annual filing, CIC’s investment was made through a com­pany named 101

SOVEREIGN FUNDS

United States China United Kingdom Canada Australia Hong Kong Russia France Brazil Singapore Japan Vietnam Turkey Switzerland South Africa Marshall Islands Luxembourg Kazakhstan Italy Ireland Indonesia Germany BVI

65 21 12 9 9 7 6 5 4 2 2 1 1 1 1 1 1 1 1 1 1 1 1

FIGURE 3.2  CIC Investment by region

(September 2007 to October 2016).

“Beijing Wonderful Investments.”16 For Antony Leung, who oversaw the multibillion-­dollar investment barely four months into his tenure at Blackstone, the deal marked a triumph in his ­career up to that point. CIC’s purchase of a $3 billion stake in Blackstone raised eyebrows in Washington. In June 2007 Senator James Webb raised national security concerns in a letter to SEC Chairman Christopher Cox, Trea­sury Secretary Henry Paulson, and Homeland Security Secretary Michael Chertoff. In his letter, he argued that the sale raised national security concerns ­because Blackstone’s portfolio included businesses that develop technology for military use. Senator Webb argued that “if true, it is incumbent upon the SEC and the Committee for Foreign Investment in the United States to ensure that this technology not be acquired by the government of China.”17 102

C hina I nves t men t C orporat ion

The timing of CIC’s investment in Blackstone was questionable well before the onset of the financial crisis. A ­ fter CIC bought its stake in Blackstone, found­ers Stephen Schwarzman and Peter Peterson sold a combined $10.6 billion worth of shares as part of the firm’s IPO. As Steven Kaplan once commented, “smart ­people ­don’t sell when they think they are undervalued.” Blackstone’s preparation for an IPO and cash-­ out by se­ nior executives made for media speculation about ­whether it was a harbinger of the end of the boom in asset prices and especially in private equity firms. Moreover, the US Senate Finance Committee was working on a legislative change to levy higher taxes on the private equity industry, specifically targeting firms like Blackstone.18 The prospect of a greater tax burden discouraged many US investors, particularly US mutual funds, from investing in Blackstone’s IPO. Moreover, sentiment on Wall Street at that time had already shifted to one of worry over an end to the benign credit market. Any deterioration in credit markets would negatively impact Blackstone, which relied upon debt to finance its buyout strategy. CIC invested in Blackstone despite the complex and looming regulatory and market risks. With the global financial crisis unfolding, Blackstone’s share price dropped from its IPO price of $31 per share to as low as $3.55 per share in 2009, an 88 ­percent decline from the price paid by CIC. CIC’s losses on overseas investments invited harsh criticism at home, particularly among China’s netizens. CIC’s man­ag­ers and staff who worked on the overseas deals became the subject of public anger. They ­were accused of wasting Chinese ­people’s hard-­earned money and ­were maligned as “traitors” and being like “Judas.”19 Critics chided CIC by saying that its debut on global financial markets revealed its se­nior management not only to be lacking professional investing experience but also to be generally naive. However, insiders at CIC have their explanation for CIC’s poor per­for­mance. A former CIC portfolio man­ag­er commented that the fund’s ill-­timed investments in the US financial sector could be seen as evidence that CIC’s staff was inexperienced, unsophisticated, and even amateurish. However, CIC’s staff still deserves some credit for being motivated more by long-­run prospects than the short-­term outlook. Additionally, investing in Blackstone allowed CIC 103

SOVEREIGN FUNDS

to team up with some of the most prestigious and globally influential financiers, which was in the long-­term interest of the young and understaffed CIC.20 Another former CIC se­nior investment officer recalled that CIC had too few employees with proven investing talent and was ­under too much pressure to deploy its capital quickly.21 The longer CIC’s cash remained uninvested, the further it would fall ­behind its benchmark, a situation known as cash drag. The greater the cash drag, the more difficult it was for CIC to make annual interest payments on its debt. A public relations man­ag­er at CIC explained that although CIC suffered an enormous loss on investment when the financial crisis happened, it still had purchased quality assets that turned a profit in the long run. CIC’s equity losses in the short term ­were only paper losses that remained unrealized ­because it did not liquidate the holdings during the crisis.22 As CIC insiders stress, subsequent events demonstrated the long-­ term merits of CIC’s investment in Blackstone. When CIC sold its holdings of Blackstone in 2018, the shares ­were trading about 11  ­percent higher than the 2007 IPO price. According to Blackstone, investors that bought and held shares at the IPO earned a total return (including dividends) of about 117 ­percent. It is hard to estimate CIC’s total return on its investment in Blackstone, given that CIC bought and sold stakes in Blackstone several times in the years following its original 2007 investment to recoup its early losses. Considering that CIC held the stake for almost eleven years, a CIC executive conceded the investment was “not as compelling as any market benchmark . . . ​on a net basis, we made money if you take into account price changes and dividends.”23 Po­liti­cally, the long-­term return on investment has been significant. The CIC-­Blackstone deal was based on personal relationships and has since formed the foundation for a long-­term partnership between CIC and Blackstone in several markets. Blackstone CEO Stephen Schwarzman’s recollections best reveal the personality-­d riven aspects of the investment. In a June 2017 interview with Bloomberg, Schwarzman discussed some details about CIC’s investment, including the critical role played by Antony Leung. According to Schwarzman, two former Chinese officials, one a former deputy finance minister and the other a former deputy governor of the PBoC, approached Leung in 2007 and 104

C hina I nves t men t C orporat ion

proposed that the Chinese government buy $3 billion worth of shares in Blackstone’s forthcoming $4 billion IPO. They preferred nonvoting shares ­because voting shares would have entailed a seat on the board of directors, which the officials termed “cumbersome,” referring to the likely po­liti­cal backlash in the United States over Chinese influence in such a strategic sector. Leung advised Schwarzman to accept the offer, retreat from his initial bargaining condition of a five-­year lockup period on the shares and agree to four years, a face-­saving gesture to the Chinese side that wanted only three years. Leung cautioned that insistence on the five-­year lockup period was folly: “[The Chinese] ­won’t like you ­because ­you’ve taken away their face . . . ​the point is to have a long-­term relationship with ­people who have mutual re­spect.” On the Chinese side, the investment required approval from the State Council and the premier himself. This bureaucratic pro­cess was resolved in a speedy eight days, clearly demonstrating the high-­level po­liti­cal connections of Blackstone’s new partners.24 Schwarzman credited Leung for widening the door to China for Blackstone: “Blackstone is in a very strong position in China, with deep relationships across the firm on the mainland and in Hong Kong . . . ​[Leung] played a major role in helping to build t­ hese relationships.”25 Although CIC’s investment in Blackstone on the eve of the financial crisis may have been a misstep in terms of timing, the partnership’s success in the ­later years has been mostly redeeming. In contrast, several of CIC’s other investments in US financial institutions from that time yielded unmitigated losses. For instance, CIC came u ­ nder intense po­liti­cal pressure when it was hit hard by losses on its investments with JC Flowers, a New York–­based private equity fund run by Goldman Sachs veteran Christopher Flowers. In April 2008, CIC partnered with JC Flowers to launch a $4 billion private equity fund, Financial Ser­v ice Opportunities LP, to buy distressed assets. Despite the unfurling credit crisis in the US and sharp declines in its ­earlier investments in Blackstone and Morgan Stanley, CIC still went ahead with the investment. CIC agreed to provide about 80  ­percent of the new fund’s equity ($3.2 billion), while JC Flowers contributed 10 ­percent, a much higher share than the 1–2 ­percent that was standard for fund man­ag­ers.26 CIC would only be a 105

SOVEREIGN FUNDS

l­ imited partner in the fund, allowing it to invest discreetly and hopefully avoid the po­liti­cal backlash that would other­w ise be expected when a foreign government invests in distressed financial institutions.27 CIC also hoped that by partnering with JC Flowers and relying upon its expertise in picking distressed targets, CIC would be less susceptible to domestic criticism if the investments ­were to lose value. In April  2008 an investment group, including CIC and led by JC Flowers, bought a 29.5 ­percent stake (€1.1 billion) in Hypo Real Estate (HRE), Germany’s second-­largest commercial property lender. Typically, German companies hesitate to take investments from government-­ related entities like CIC, but in this case, ­because CIC was only a ­limited partner with JC Flowers, the deal was able to proceed.28 The investment soon soured, declining more than 90 ­percent in value as the bank became insolvent and was nationalized by the German government in April 2009. The amount CIC lost on this one investment is unknown, but according to 2015 regulatory filings the total value of CIC’s investment was $2.95 billion when it effectively ended its partnership with JC Flowers, implying a loss of $350 million.29 Having CIC as an investor and a partner provides Blackstone with a preferred admission pass to China’s relatively closed domestic financial markets. Blackstone first established its on-­the-­ground presence in China in 2008 by opening a representative office in Beijing. To lead its Beijing office, Blackstone chose Shang Fu, a government mandarin turned investment banker who was a former se­nior official at several policymaking bodies, including the NDRC, the State Economic and Trade Commission, the State Council’s Office of Economic and Trade, and the State Council’s Office of Production.30 Schwarzman acknowledged that the CIC deal has served as the basis for Blackstone’s business network in China: “As a result of that investment, t­ hey’ve included me on the board of Tsing­hua’s school of economics and business, which was started as a feeder into the se­nior levels of Chinese government . . . ​It was a very easy introduction to China, and Chinese institutions have given us a lot of money to invest in private equity and alternative products.”31 In April 2011 Blackstone announced the close of its RMB fund, the Shanghai Blackstone Equity Investment Partnership, with RMB 5 billion as the target 106

C hina I nves t men t C orporat ion

size. Blackstone received commitments from Chinese government entities, SOEs, and large Chinese corporations.32 The CIC-­Blackstone partnership also advanced China’s national interests. CIC has gained experience and familiarity with global financial markets by partnering and investing alongside Blackstone (­Table  3.3). The partnership also gives CIC, and by extension the Party, direct access to back channels for discussion and dialogue with US policymakers. For example, some Chinese leaders considered Mr. Schwarzman to be one of a handful of individuals capable of directly communicating a message to se­nior US po­liti­cal leaders during the Trump administration.33 In September  2016 Schwarzman launched a scholarship program at Tsing­hua University, the Schwarzman Scholars Program, intending to build a global network of 10,000 elite scholars who “understand” China.34 In February  2017, Chinese president Xi Jinping shared lunch with Schwarzman on the sidelines of the World Economic Forum in Davos. Such people-­to-­people relationships and networks are of g­reat long-­term value to the political-­economic relationship between China and the United States. Blackstone and CIC have each benefited from their partnership, and by extension, so has the CPC, but it has not been a collaboration f­ ree of controversy. In June 2011, CIC established CIC Development LLC (中投 发展有限责任公司) as a joint venture with registered capital of RMB 2 billion ($308 million) to focus on domestic investment in land development and real estate, infrastructure, and the health-­care industry.35 Blackstone owned a 10 ­percent equity stake in this joint venture, and China Jianyin (Huijin’s wholly owned subsidiary) held 60  ­percent. By that time CIC had already increased its owner­ship stake in Blackstone from 9.9 ­percent to 12.5 ­percent.36 An investment portfolio with a domestic focus was beyond CIC’s mandate to leverage China’s foreign exchange reserves and invest abroad, not at home. The National Audit Office found that CIC Development had invested RMB 8.2 billion ($1.3 billion) in China’s real estate development by March 2013. China’s National Audit Office criticized CIC for exceeding the scope of its mandate and ordered it to rectify its investment be­hav­ior. In November 2016 CIC exited the real estate business entirely.37 107

SOVEREIGN FUNDS

­TABLE 3.3  Timeline of CIC and Blackstone relations (2007–2018) Date

Description

May 2007

CIC bought 9.9% of Blackstone’s nonvoting shares for $3 billion, shortly before Blackstone was publicly listed, and agreed to hold the shares for at least four years. CIC increased its stake in Blackstone to 12.5%. Blackstone opened its Beijing representative office to expand its business in China. CIC invested $500 million in a fund of hedge funds managed by Blackstone. CIC teamed up with Blackstone to buy a Japa­nese loan portfolio from Morgan Stanley at a deep discount. They paid 35 cents on the dollar for the portfolio, which had a face value of $1.1 billion. Reportedly most of the funding for the deal was contributed by CIC. Blackstone completed the first close for its RMB fund, the Shanghai Blackstone Equity Investment Partnership. CIC joined Blackstone to buy a stake in Royal Bank of Scotland’s commercial real estate portfolio. Reportedly, CIC and Blackstone would each buy a 12.5% equity stake in the portfolio worth a combined £100 million. Blackstone would manage the portfolio. CIC and Blackstone set up a joint venture with Greentown China, a property developer in mainland China, to invest in retirement and holiday homes and infrastructure. CIC owned a 60% stake in the joint venture through its subsidiary China Jianyin Investment Securities Co. Blackstone owned a 10% stake. CIC co-­invested with Blackstone in Cheniere Energy. Blackstone sold the London office park Chiswick Park to CIC and continued to act as the asset man­ag­er for CIC on the site. Blackstone’s chairman Schwarzman launched the Schwarzman Scholars Program at Tsing­hua University. Over the years, Mr. Schwarzman himself has also been working on building a network of 10,000 elite scholars who understand China. CIC agreed to buy Logicor, a pan-­European logistics com­pany, from Blackstone for €12.25 billion. At that time this was the second-­ largest real estate transaction on rec­ord in Eu­rope and the fourth-­largest international Chinese takeover.

Oct. 2008 Aug. 2008 June 2009 Feb. 2011

April 2011 Oct. 2011

Nov. 2011

Aug. 2012 Nov. 2013 Sept. 2016

June 2017

Feb. 2018

CIC via Beijing Wonderful Investment exited its investment in Blackstone.

Source: Author-collected data from publicly available information.

108

C hina I nves t men t C orporat ion

CIC’s debut in global markets was made difficult by its concentrated positions in US financial institutions amid tumultuous market conditions. The concentrated portfolio allocation approach, the ill-­timed investments, and the subsequent heavy losses suggested that the newly established CIC did not have sophisticated risk management strategies and lacked investment experience. However, CIC deserves the benefit of the doubt in that its investments in US financial institutions w ­ ere motivated by a long-­term strategy. CIC introduced itself to the world’s top financiers in the largest sophisticated financial markets despite heavy losses in the short run. Its long-­term-­oriented relationship with respected firms like Blackstone and Morgan Stanley has allowed CIC access to well-­connected ­people who could potentially open new channels for China-­US dialogue. Critically, CIC learned to reduce foreign suspicion and protectionism by investing indirectly through participation in foreign private equity funds. Investing in ­t hese funds was a means by which CIC could gain exposure to a much broader range of foreign assets than if it ­were to invest on its own. Its lack of expertise, rising geopo­liti­cal tensions, and the national security concerns of foreign politicians w ­ ere all roadblocks to more vis­i­ble foreign investment. Since 2018, CIC has faced growing antagonism in Western countries t­oward Chinese state-­led investment. In response, it has actively pursued a strategy of establishing cooperation funds with leading institutional investors in host countries to mitigate more stringent screenings against Chinese investment.

CIC’s Institutional Evolution as a Global Investor CIC has grown from an inexperienced loss-­making institutional investor to an influential market shaper. The rise of CIC in global markets has gone through distinct periods. From May 2007 to December 2008 CIC had no subsidiary specializing in overseas investment, only a firewall separating Central Huijin from the rest of CIC. Shortly before the global financial crisis onset, CIC had established a concentrated position 109

SOVEREIGN FUNDS

in US financial institutions and subsequently experienced heavy losses. From January 2009 to June 2013, heavy initial losses on its investment in US financial institutions caused CIC to adjust its investment priority and orga­nizational structure. CIC shifted its investment portfolio focus to natu­ral resources, a sign that the fund closely aligned its overseas investments with the economic strategy of the Party-­State. CIC chairman Lou Jiwei disclosed in 2009 that commodities ­were a significant focus of the fund’s investing strategy and asset allocation.38 CIC’s billions of dollars of investment in commodities fit within the broader context of China’s global hunt for natu­ral resources to fuel its roaring economy. In 2009 alone, Chinese SOEs spent a rec­ord $32 billion acquiring overseas natu­ral resources.39 CIC’s natu­ral resource investment suffered significant losses following the collapse of global commodities prices, which led to a new round of internal soul searching among CIC leadership. CIC undertook its first reor­ga­ni­za­tion to enact a shift in its investment priorities to natu­ral resources. In February 2009 CIC started a recruitment drive to hire investment professionals with experience in natu­ral resources, real estate, private equity, and fixed income assets, indicating its imminent diversification t­oward nonfinancial sectors.40 In late April 2009 CIC set up four new investment divisions along strategic lines: Public Market Investments (相对收益投资部), Tactical Investments (策略投资部), Private Market Investments (私募投资部), and Special Investments (专项投资部). Th ­ ese four new divisions replaced three e­ arlier divisions or­ga­nized according to asset classes.41 Furthermore, CIC established its first overseas representative office in Toronto in January 2011, reflecting the fund’s substantial interests in Canada’s natu­ral resource sector. Felix Chee (徐秉清), a Chinese-­born Canadian, was appointed as the first chief representative. Before joining CIC, Chee had served as the CIO of Manulife, a leading Canadian financial ser­v ices group. He was also the head of the Ontario Hydro Pension Plan and the University of Toronto Asset Management Corporation.42 At CIC, Chee coordinated several of the fund’s investments in Canada’s natu­ral resource sector. In August 2009 CIC received some relief from the burden of making annual interest payments when it reached an agreement with the MoF to convert its debt of $200 billion into equity.43 This was a boon to CIC 110

C hina I nves t men t C orporat ion

and a personal win for Chairman Lou Jiwei. U ­ nder this agreement, CIC was no longer required to make interest payments on the special trea­sury bonds that had provided its seed capital. Instead, CIC would pay an annual dividend to the MoF. Chairman Lou publicly expressed the heavy burden that interest payments had become for CIC, disclosing that interest alone cost CIC nearly RMB 300 million ($40 million) daily.44 CIC’s average annual interest charge was approximately RMB 66.5 billion ($8.9 billion). This debt-­to-­equity conversion meant that by 2010 CIC was “essentially fully invested.”45 The removal of the heavy interest burden ended the imperative for CIC to earn high returns through concentrated risky positions and allowed it to focus on restructuring. To better reflect CIC’s nature as a long-­term investor, in January 2011 its board of directors extended its per­for­mance evaluation horizon from five to ten years, matching the illiquid characteristics of its investment portfolio. In September  2011 CIC launched a wholly owned subsidiary, CIC International, which assumed control of CIC’s portfolio of overseas assets. The establishment of CIC International formally separated CIC’s domestic investments managed by Central Huijin from its overseas investments, reinforcing the firewall that had supposedly always existed between domestic acquisitions and overseas ventures. In December 2011 CIC International received a $30 billion equity injection from SAFE. According to Chairman Lou Jiwei, CIC received this additional capital a­ fter investing almost all its cash in 2010.46 The money was earmarked for overseas investment as part of a scheme to further diversify China’s foreign exchange holdings.47 CIC International a­ dopted the Yale endowment model of investing abroad, focusing on nonmarketable securities and alternative investments, which include illiquid natu­ral resources.48 CIC’s per­sis­tent loss-­making ventures overseas invited severe criticism at home, turning the top job at CIC into a hot seat desired by no one. In March 2013 Lou Jiwei left his position as CIC chairman for promotion as China’s minister of finance. ­After Lou’s departure, CIC was without a chairman for nearly four months. The extended vacancy was partly the result of hesitancy from the body in charge of personnel appointments within the Party, the power­ful Orga­nizational Department 111

SOVEREIGN FUNDS

of the CPC Central Committee (中共中央组织部). It was not easy for the Department to decide who should take over leadership of CIC, as that person’s first task would be executing another reor­ga­ni­za­tion and investment strategy turnaround. Several high-­level bureaucrats w ­ ere rumored to be among the nominees for the position, including the vice mayor of Shanghai, Tu Guangshao (屠光绍); the mayor of Chongqing, Huang Qifan (黄奇帆); the deputy governor of the PBoC, Yi Gang (易纲); the chairman of the Industrial and Commercial Bank of China, Jiang Jianqing (姜建清); the vice chairman of CIC, Gao Xiqing (高西庆); and the chairman of China National Cereals, Oils and Foodstuffs Corporation (COFCO), Ning Gaoning (宁高宁).49 But none of t­hese men wanted the job out of fear that they would be saddled with legacy investments on CIC’s books that would soon turn problematic.50 Given CIC’s track rec­ord of struggling to turn a sufficient profit, no po­liti­cally shrewd bureaucrat with greater aspirations was willing to assume the title of chairman and risk shouldering the blame if CIC’s situation deteriorated further. In July 2013, four months ­after Lou’s departure, the Party appointed Ding Xuedong (丁学东) as the new chairman of CIC. 51 Ding was formerly the vice minister of finance and deputy secretary-­general of the State Council. Following his pre­de­ces­sor’s ascension to the finance minister, Ding’s appointment reaffirmed the close po­liti­cal relationship between CIC and the MoF. As a former member of the State Council, Ding was very familiar with China’s highest policymaking circles. Ding’s leadership marked the beginning of a new period in CIC’s evolution, which continues ­today as CIC remains integral to the strategic overseas initiatives of Xi Jinping. ­Under Ding, CIC underwent a transformation that was a culture shock to current and former staff. Ding required that se­n ior executives and more than 400 employees of CIC submit “self-­criticism” reports, a method of discipline reminiscent of the po­ liti­c al purges during the Cultural Revolution. Anyone who refused to participate was at risk of being immediately fired. Th ­ ose who complied had to detail all of their errors, apologize, and promise never to repeat them. 52 112

C hina I nves t men t C orporat ion

­ nder Ding’s leadership, CIC underwent a period of restructuring U and redoubling enforcement of internal discipline. Two months a­ fter Ding assumed the title of CIC chairman, the National Audit Office completed a comprehensive audit of CIC’s overseas investment subsidiaries and business operations. The audit had begun while Lou Jiwei, Ding’s pre­de­ces­sor, was still in charge, and it was rightfully considered more of a reflection of his leadership than of Ding’s.53 The audit found that among CIC’s overseas investments between 2008 and 2013, six ­were realized losses, four ­were unrealized losses, and two ­were potential losses. It concluded that the loss-­making investments w ­ ere primarily due to a dereliction of duty by key CIC personnel, inadequate due diligence and post-­investment management, and a general lack of professionalism, among other prob­lems at CIC and its subsidiaries.54 The audit’s findings ­were cited in 2015 when CIC launched an internal corruption investigation, with oversight from the Party’s Central Commission for Discipline Inspection, amid a nationwide anticorruption campaign led by President Xi Jinping. At the investigation’s conclusion, 495 ­people from across CIC and its subsidiaries received disciplinary sanctions, and 37 ­people ­were formally punished for using money from the fund to pay for golf.55 Apart from internal orga­nizational changes, CIC’s investment stra­ tegy also changed when it became clear that CIC’s investments in Canadian natu­ral resources had failed to generate the expected financial returns. Global commodity prices had declined more than 10 ­percent from their peak in early 2011. In this context and ­under Ding’s chairmanship, CIC increased its investments in the agriculture sector and global food supplies. In June 2014 Ding penned an article published in the Financial Times asserting that “food security is already an urgent challenge.” Ding described CIC’s investment strategy as focusing on the agricultural sector “across the entire value chain,” including industries such as irrigation, land transformation, and animal feed that other large institutional investors had overlooked. In addition to agriculture, CIC’s global portfolio would focus on technology, real estate, and infrastructure investments with an eye ­toward long-­term stable returns.56 113

SOVEREIGN FUNDS

During Ding’s tenure as CIC chairman, the investment priorities more explic­itly matched China’s national strategies, especially ­after the ­Belt and Road Initiative (BRI) launch in 2013. According to Laurence Brahm, a Beijing-­based ­lawyer and an adviser to the Chinese government, “Chairman Ding is loyal to the central leadership and representative of an era of being conservative in all ­t hings, including investments, consolidation rather than expansion, and po­liti­cal correctness over risk or entrepreneurial flamboyance.”57 To better implement direct equity investment and support BRI, CIC elevated the Special Investments Division (专项投资部), previously under­neath the chief investment officer of CIC, to a separate subsidiary, inaugurated as CIC Capital in January 2015, with initial funding of RMB 31 billion ($5 billion). The mandate of this new wholly owned subsidiary was to conduct overseas direct investment. A secondary goal was improving CIC’s support of overseas mergers and acquisitions by Chinese SOEs in state-­prioritized sectors.58 In an interview, CIC spokeswoman Liu Fangyu (刘芳玉) acknowledged that the creation of CIC Capital was a calculated strategic response to the state’s launch of BRI. She disclosed that CIC Capital would make more overseas direct investments, particularly in tangible assets that offered steady and predictable returns, while prioritizing agriculture, high-­tech, and the real estate sectors.59 A se­nior official at the NDRC confirmed that having CIC Capital specialize in private-­equity-­style overseas direct investment was a part of the Party-­State’s broader effort to give financial support to SOEs’s “­going out” and conducting foreign direct investment.60 Gu Dawei (顾大伟), head of the Department of Foreign Capital and Overseas Investment of the NDRC, explained that CIC Capital would “support domestic enterprises to invest abroad and encourage the export of the country’s advanced industrial capacity.”61 During interviews, two investment officers and a public relations man­ag­er at CIC shared their perspectives on why CIC Capital had been created. The first reason was market timing: CIC was well-­positioned to take advantage of the resurgent demand for capital as the global economy fi­nally recovered in 2015 from the global financial crisis. The second reason was that se­nior management at CIC had closely studied the practices of several other sovereign funds, such as Singapore’s Temasek, 114

C hina I nves t men t C orporat ion

and wanted CIC to emulate the structure of t­hose funds, which had global reputations as savvy investors. Th ­ ose funds and most other large institutional investors had a separate entity dedicated to making direct investments in companies and proj­ects. The establishment of CIC Capital was another step in the maturation of CIC along the lines of a genuinely professional global investment institution. CIC’s change in investment strategy to focus more on the agricultural and infrastructure sectors necessitated a specialized entity, CIC Capital, that could not only identify proj­ects but also successfully manage them throughout the investment period. CIC Capital would also act as the interface between CIC and large institutional investors with which CIC would partner in long-­term investment proj­ects. Previously, close working partnerships with foreign investors ­were made difficult by concerns over a conflict of interest among CIC staff responsible for investments in Chinese financial institutions that often competed directly with CIC’s prospective partners. The formation of CIC Capital allowed for a new firewall between the business lines of CIC, with dedicated staff responsible only for CIC Capital’s investments and maintaining its relationships with other institutional investors.62 Regardless of the rationale for its creation, the establishment of CIC Capital and its separation from CIC International marked significant pro­gress in the maturation of CIC and the expansion of China’s overseas direct investment. Before the founding of CIC Capital, most of CIC International’s investments w ­ ere indirect and passive equity investments funneled through foreign private-­equity funds and marketable securities.63 The separation of CIC Capital as a distinct entity focused on overseas direct investment signaled that nearly eight years a­ fter its inception, CIC had fi­nally assembled a staff with enough experience to take on a more active role in investing. ­Under Chairmen Ding’s leadership, CIC returned to the US market. CIC closed its only overseas office in Toronto and relocated the team to New York. Ding said at the time, “We are not satisfied with the composition of our investments in the US.” He hoped the move would allow CIC to “increase our direct and private equity investments in the US.”64 The Party’s leadership perceived Ding’s turn at the helm of CIC as a success 115

SOVEREIGN FUNDS

and rewarded him with a promotion to deputy secretary-­general of the State Council in February 2017. Following Ding’s departure, the position of CIC chairman remained vacant for more than two years. During this period, CIC vice chairman and general man­ag­er Tu Guangshao oversaw CIC’s operations and continued aligning the fund’s investment with BRI. U ­ nder Tu’s leadership, CIC issued its first five-­year plan for 2018–2022 in December 2018, the first of its sort since the fund was established. In an interview, Tu provided some context for the five-­year plan: “The period of 2018–2022 is an impor­tant period for fully implementing the agenda of the 19th Party Congress. . . . ​It is also a new era for CIC.” The plan aimed to have CIC actively serve the need of China’s economic and financial diplomacy, play a significant role in financing BRI proj­ects, and promote international production capacity cooperation.65 In response to growing hostility ­toward Chinese state-­led investment in Western countries, Tu led CIC to change its tactics by establishing “cooperation funds” formed in partnership with established Western financial institutions like Goldman Sachs to sidestep barriers such as stringent foreign direct investment (FDI) screening regimes to promote BRI in Western markets.66 Tu argued that bilateral cooperation funds ­were a strategy to “achieve a more favorable foreign investment regulatory environment” and “remove some barriers in cross-­border investment.”67 Since 2017 CIC has partnered with several foreign financial institutions to launch bilateral investment funds in select countries. In March 2019 Tu proposed broadening the model of a bilateral cooperation fund to form a multinational ­Belt and Road Cooperation Fund.68 The goal of this fund would be to improve international cooperation in BRI investment and c­ ounter increased opposition to globalization and international trade. Tu was careful to distinguish a potential ­Belt and Road Cooperation Fund from the already existent Silk Road Fund, of which CIC holds a 15 ­percent stake. He specified that sponsors for the ­Belt and Road Cooperation Fund would be international partners, which is dif­fer­ent from the Silk Road Fund, which has only domestic shareholders.69 During Tu’s tenure, CIC made a few high-­profile investments in Eu­rope, including Logicor, a Eu­ro­pean logistics com­ 116

C hina I nves t men t C orporat ion

pany, and a partnership with MidEuropa Partners, one of the oldest private equity firms focused on Central Eu­rope. In Asia, CIC invested in infrastructure proj­ ects like the Tongjiang-­ Nizhneleninskoye railway bridge, the first cross-­river railway bridge between China and Rus­sia, and the Nam Dinh 1 BOT Thermal Power Plant Proj­ect in Vietnam. CIC remained without a chairman u ­ ntil April  2019, when Peng Chun (彭纯) became CIC chairman ­after previously serving as general man­ag­er and executive director of Central Huijin and chairman of the Bank of Communications. Ju Weimin (居伟民), then deputy general man­ ag­er for CIC, replaced Tu Guangshao as CIC’s new general man­ag­er ­after his retirement at age sixty.70 The appointment of Peng Chun has significant po­liti­cal implications in the current environment, as China ­faces a myriad of challenges at home and abroad. On the home front, China’s economic growth is slowing, local government debts are mounting, pension shortfalls are increasing, and food prices are rising faster than ­house­hold incomes, among other prob­lems. Overseas, the Party-­State must deal with mounting issues surrounding the BRI, not the least of which is growing skepticism from the West about the sustainability of Chinese lending practices to already indebted countries. Before taking over the leadership of CIC, Peng Chun spent more than two de­cades rising through the ranks at the Bank of Communications. From April 2010 to September 2013, Peng was the general man­ag­er and executive director of Central Huijin. Peng’s resume is that of a ­career bureaucrat with tremendous experience in China’s domestic economic and financial reforms but without international investment management experience. The appointment of Peng as CIC chairman indicates that, as China’s flagship sovereign leveraged fund, CIC is now firmly embedded in China’s domestic political-­economy establishment. CIC investment decisions are likely to be driven more by the Party’s strategic agenda than a pure motive to maximize profit in the coming years. This means CIC ­will also likely become more involved in the BRI. Moreover, since Peng took over, CIC has had to overcome the swelling challenge of a less hospitable investment environment in Western markets resulting from US-­China geopo­liti­cal tensions and international criticism of China’s h ­ andling of the COVID-19 pandemic. Peng has led 117

SOVEREIGN FUNDS

CIC to soldier on with the “cooperation fund” strategy developed ­under Tu Guangshao’s leadership, launching bilateral joint ventures with prominent institutional investors in foreign countries to mitigate harsher barriers against Chinese state-­led investment. The first two years of Peng’s tenure saw the creation of several new joint investment funds with strategic partners abroad. For example, in September 2019 CIC and Rus­sia’s sovereign wealth fund, the Rus­sian Direct Investment Fund, jointly pledged to launch a $1 billion China-­Russia Research and Technology Innovation Fund.71 In 2020 CIC completed several new bilateral investment funds, including the France-­China Cooperation Fund, China-­ Italy Industrial Cooperation Fund, UK-­China Cooperation Fund, and Japan-­China Industrial Cooperation Fund.72 In early 2020 CIC set up an asset allocation and investment policy committee to oversee its entire overseas portfolio amid growing international pushback against China’s state-­led FDI. China’s strained relationship with the West and CIC’s continued search for alternative means to expand investment in Western markets have directly impacted CIC’s institutional structure. Most remarkably, CIC merged CIC Capital with CIC International, unwinding its decision in 2015 to make CIC Capital a separate subsidiary specializing in direct investment.73 This reor­ga­ni­za­tion ended CIC’s troika structure—­ consisting of Central Huijin, CIC International, and CIC Capital—­ without touching the strict firewall separating the domestic-­focused Central Huijin and CIC’s international operations. The less hospitable po­liti­cal environment ­toward Chinese investment in the United States and the Eu­ro­pean Union means CIC Capital can no longer execute direct investment in t­ hese desired markets in areas the Party prioritizes, such as semiconductors, robotics, and industrial automation technologies. CIC’s turn to cooperation funds further reduced the institutional necessity of a specialized entity for direct investment, putting another nail in the coffin of CIC Capital. The institutional evolution of CIC as a global investor has been a story of adaptation in response to the needs of the Party-­State and a changing foreign market environment. The evolving structure of CIC’s international subsidiaries demonstrates CIC’s flexibility and determination to manage a global asset portfolio that serves 118

C hina I nves t men t C orporat ion

the Chinese economy and the Party’s agenda in the face of growing opposition to Chinese investment in the West.

Patterns of CIC’s Global Investment CIC’s mandate does not explic­itly specify its mission as developing China’s long-­term geoeconomic competitiveness. However, CIC’s institutional adaptation and changes in portfolio management have been aimed at improving its capacity to invest in firms and industries that support the Chinese economy and the major geoeconomic initiatives of the CPC. Between 2007 and 2021, CIC’s global asset allocation reflected China’s quest for natu­ral resources and President Xi’s BRI proj­ects. CIC has also provided a deep pocket of capital support for China’s indigenous technology development. CIC’s global investment per­for­mance has achieved varying degrees of financial success over the years, but its investment activities in global markets have always remained in close alignment with the interests of the Party-­State. CIC’s Investment in Natu­ral Resources

CIC’s natu­ral resource investments followed a similar pattern to its investments in US financial institutions by pursuing high-­profile companies. Felix Chee, the first chief representative of CIC’s first overseas office in Toronto, was the key person who facilitated CIC’s investment in Teck Resources, the largest diversified mining com­pany in Canada. In July 2009, CIC, through the special purpose vehicle Fullbloom Investment Corporation, bought a 17.2 ­percent stake in Teck Resources for $1.5 billion, at the time the highest value private placement ever in Canada.74 CIC’s purchase of Teck Resources made the fund the single largest shareholder of the Canadian com­pany. Like its deal with Blackstone, CIC intended its investment in Teck Resources to be the basis for a strategic partnership with the Canadian mining com­pany rather than a one-­off transaction. The deal’s timing was especially beneficial for Teck Resources as CIC was the strategic 119

SOVEREIGN FUNDS

partner it needed. The cash injection from CIC solved Teck’s pressing debt issues and opened up new business opportunities in China, the world’s largest consumer of natu­ral resources. Don Lindsay, the CEO of Teck Resources, acknowledged that CIC’s purchase had an immediate positive impact on Teck’s financial situation, saving the com­pany from liquidating 20 ­percent of its holdings in coal resources.75 Lindsay summarized the partnership’s benefits as “an attractive opportunity for Teck to establish a relationship with a major Chinese financial investor, with a deep understanding of China, the world’s largest consumer of our principal products.”76 Lindsay considered CIC a “long-­term strategic investor that could bring in Chinese clients and Chinese financial support.”77 Teck’s bet on continued rapid growth in China’s demand for natu­ral resources quickly paid off. In 2012 China accounted for over 25 ­percent of Teck’s total revenues and was its largest export market.78 In April  2013 Teck Resources opened a new office in Shanghai.79 In 2013, at a mineral exploration conference in Vancouver, Lindsay expressed his firm’s confidence in the partnership with China: “We at Teck keep a ­really close relationship with China, and that’s for one reason. It’s that no m ­ atter where we are investing, ­whether it’s ­here in [British Columbia] or in Chile, where w ­ e’re building two large copper proj­ects, that money may be g­ oing into [British Columbia] or Chile, but r­ eally, it’s an investment in China. U ­ nless we had good confidence in China, we ­wouldn’t be making the investment.”80 In short, CIC’s investment came when Teck Resources most needed it. The partnership quickly paid off for Teck Resources and granted the com­pany prized access to the world’s largest market for natu­ral resource imports. CIC’s deal with Teck Resources introduced it to a wide range of natu­ral resource investment opportunities available in Canada, the United States, and other countries. ­After the Teck Resources acquisition, CIC made more investments in Canada’s oil sands as well as in US energy companies. Besides Canada and the United States, CIC’s natu­ral resource investments spread across other resource-­rich countries, such as Kazakhstan and Rus­sia (­Table 3.4). Besides oil and gas companies, CIC invested in minerals and mining companies (­Table 3.5), power producers, energy traders, and utilities (­Table 3.6). CIC participated in 120

C hina I nves t men t C orporat ion

­TABLE 3.4  CIC Investment in oil and gas companies (2007–2021) Approximate Date Deal Closed July 2009 Sept. 2009 2010 2010 Sept. 2009 Oct. 2009 Dec. 2009 Dec. 2009 Dec. 2009 Dec. 2009 Dec. 2009 Dec. 2009 May 2010

May 2010 June 2010 May 2011 Aug. 2011

Aug. 2011 March 2012 May 2012 Aug. 2012 Dec. 2014 Dec. 2014 May 2017

Name of Com­pany

Country

Investment Amount

Teck Resources Ltd. Triana Energy Investments, LLC Athabasca Oil Corp. MEG Energy Corp. JSC KazMunaiGas Exploration Production Nobel Oil Group Valero Energy Corp. Smith International Inc. Weatherford International Ltd Chesapeake Energy Corp. Anadarko Petroleum Corp. Tesoro Corp. Penn West Energy Trust, Peace River Oil Partnership Penn West Energy Trust Chesapeake Energy Corp. Enogex Holdings, LLC LNG Atlantic liquefaction plant in Trinidad and Tobago Exploration & production division of GDF SUEZ Sunshine Oilsands Ltd. EP Energy LLC Cheniere Energy’s Export LNG Plant Penn West Petroleum Ltd. EP Energy Corporation

Canada United States

$1.5 billion $150 million

Canada Canada Kazakhstan

C$500 million C$100 million $939 million

Rus­sia United States United States Switzerland

$300 million $1.68 million $5.43 million $3.58 million

United States United States United States Canada

$5.18 million $6.24 million $2.71 million $329 million

Canada United States United States France

$416 million $200 million Unknown $853.98 million

France

$3.27 billion

Canada United States United States

$150 million $300 million $500 million

Canada United States

$0.2 million $194.28 million

France

$1.039 billion

ENGIE E&P International SA

Source: Author-compiled data from publicly available reports. Investments included both public and private equity deals.

121

SOVEREIGN FUNDS

­TABLE 3.5  CIC Investment in mining and metals companies (2007–2021) Approximate Date Deal Closed

Name of Com­pany

Country

Investment Amount

PT Bumi Resources Tbk SouthGobi Resources Iron Mining International Ltd. Vale SA

Indonesia Canada Hong Kong

$1.9 billion $500 million $500 million

Brazil Canada United States

Dec. 2009

Kinross Gold Corp Freeport-­McMoRan Copper & Gold Inc. AngloGold Ashanti Ltd.

$200.21 million $4.6 million $4.74 million

Dec. 2009

Gold Fields Ltd.

April 2012

Jenington International Inc. PJSC Polyus Uralkali OAO Windfield Holdings Pty Ltd. Paladin Energy Ltd. Suzhou Lopsking Aluminum Co. Ltd.

Sept. 2009 Oct. 2009 Oct. 2009 Dec. 2009 Dec. 2009 Dec. 2009

May 2012 Nov. 2012 March 2013 March 2015 Sept. 2016 Sept. 2016

Xinjiang International Industry Co. Ltd.

United Kingdom United Kingdom British Virgin Islands Rus­sia Rus­sia Australia

$4.02 million $4.59 million $424.5 million

Australia China

$425 million Unknown $286.373 million $50 million $2.58 million

China

$1.52 million

Source: Author-collected data from publicly available information.

overseas natu­ral resources acquisitions alongside the most prominent Chinese SOEs. This joint investment strategy increased the Chinese owner­ship share in some of t­ hese companies to over 50 ­percent. Although ­these ­were foreign companies, they had a Chinese board. In February 2012 CIC teamed up with Sinopec, China’s state-­owned oil refiner, to purchase a combined $300 million of the $700 million Hong Kong IPO by Sunshine Oilsands, a Canadian com­pany controlling 1.14 million acres of oil sand leases in Alberta, Canada. In March 2011 Sunshine Oilsands 122

C hina I nves t men t C orporat ion

­TABLE 3.6  CIC Investment in power producers, energy traders, and utilities

(2007–2021) Approximate Date Deal Closed

Name of Com­pany

Country

March 2010

AES Corp.

May 2011 Aug. 2011

Huaneng Renewables Corp Ltd. LNG Atlantic liquefaction plant in Trinidad and Tobago Exploration & production division of GDF SUEZ China Longyuan Power Group Corp. Ltd. Binhai Investment Co. Ltd. Guangdong Electric Power Development Co. Ltd. Huadian Fuxin Energy Corp. Ltd. China Everbright Greentech Ltd. Beijing Jingneng Clean Energy Co. Ltd.

United States China France

$60 million $854 million

France

$3.28 billion

China

$5.86 million

Bermuda China

$12.66 million $9.47 million

China Hong Kong China

$116.5 million $1.11 billion

Aug. 2011 Dec. 2012 Sept. 2013 Sept. 2016 May 2017 May 2017 June 2017 Oct. 2017

Equis Energy Ltd.

Singapore

Investment Amount $1.58 billion

$28.45 million Unknown

Source: Author-collected data from publicly available information.

raised about $230 million from the Bank of China, China Life Insurance, and Cross-­Strait Common Development Fund, a Hong Kong private equity fund.81 It did not take long before CIC’s multibillion-­dollar investment in natu­ral resources began to falter with the slowdown in China’s economy and the resulting decline in global commodity prices. This put an end to CIC’s heavy investments in natu­ral resources causing CIC to pivot its strategy once again. This was a significant reason for relocating its overseas representative office from Toronto to New York in December 2015. By the time of the relocation, CIC’s stake in Teck Resources had already lost 72 ­percent of its value, a loss of $1.08 billion.82 123

SOVEREIGN FUNDS

CIC’s investment in global oil and gas resources fit with the domestic debate about transforming China’s foreign exchange reserves into natu­ral resource assets that had been ­going on for several years before CIC’s establishment. Besides oil and gas resources, CIC also invested in mining and minerals companies through direct investment and by financing the overseas mergers and acquisitions of Chinese firms. For example, CIC provided financial support for Chengdu Tianqi to make several strategic acquisitions in Australia. Chengdu Tianqi was a Chinese lithium products manufacturer and the world’s largest hard-­rock lithium pro­cessor. The com­pany was a critical raw material provider to the clean energy industry in China. Although Tianqi and its subsidiaries conducted their operations from China, their customers, business partners, and suppliers ­were global, located in Eu­rope, Australia, the United States, and Japan. In 2013, acting through its subsidiary Leader Investment Corporation, CIC bought a 35 ­percent noncontrolling equity stake in Tianqi’s subsidiary Windfield Holdings in connection with Windfield’s $836 million acquisition of Australian miner Talison Lithium, a global leader in lithium concentrate production.83 Lithium is a critical industrial input to the batteries that power electronic devices and electric vehicles, fast-­growing industries within China’s manufacturing sector. CIC’s financing of the acquisition of overseas lithium resources by Chinese firms supports the CPC’s strategic development agenda and advances China’s national interests in securing the supply of strategic resources in critical industries. CIC’s Support to the BRI

CIC has indirectly supported the BRI through its domestic arm Central Huijin by supporting the Chinese financial institutions that have bankrolled BRI proj­ects, including state-­owned commercial banks, policy banks, and insurance companies. CIC has also provided direct support by investing in infrastructure proj­ects, participating in BRI-­related development funds, and assisting Chinese companies in their overseas mergers and acquisitions. Executive vice president of CIC Zhao Haiying 124

C hina I nves t men t C orporat ion

(­赵海英) estimated that by the end of 2019, CIC had invested approximately $28.1 billion in the BRI countries.84 CIC has made equity contributions to BRI-­focused financial institutions since the initiative’s launch. In 2014, CIC contributed $1.5 billion of the total $10 billion in initial capital for the Silk Road Fund, an infrastructure financing fund. The other contributors to the fund w ­ ere other state-­ owned investment institutions, including SAFE ($6.5 billion), Export-­Import Bank of China ($1.5 billion), and China Development Bank ($500 million).85 The latter two have Central Huijin as their largest shareholder. The role played by SAFE in the capitalization of the Silk Road Fund is described in Chapter 4. During the BRI Forum for International Cooperation in May  2017, President Xi pledged an additional RMB 100 billion ($14.5 billion) in capital to boost the activity of the Silk Road Fund.86 CIC chairman Ding Xuedong was keen on the CIC benefiting from the momentum of the BRI and the new investment opportunities it presented. In January 2015 CIC launched a new subsidiary, CIC Capital, to focus on overseas direct investment in long-­term assets, especially infrastructure and agriculture. CIC Capital was established at about the same time as the Asian Infrastructure Investment Bank and the Silk Road Fund, which President Xi promoted in connection with the BRI. Some observers interpreted the near-­simultaneous launch of several financial institutions with somewhat overlapping mandates as a sign that the Party was promoting internal competition among China’s vari­ous BRI-­related organ­izations. But Chairman Ding argued other­wise. From his perspective, CIC and the other financial institutions that directly finance BRI proj­ects ­were not competing with one another. Ding stressed that the institutions w ­ ere “cooperative and mutually complementary.” Ding believed ­there ­were potential synergies between CIC and the Silk Road Fund, in which CIC was already a significant stakeholder.87 Shortly ­after its establishment, CIC Capital partnered with Chinese SOEs to invest in critical infrastructure in foreign countries. One example was the Kumport Terminal, Turkey’s third-­largest container terminal. In September 2015, CIC Capital teamed up with China’s two 125

SOVEREIGN FUNDS

largest port operators, COSCO Pacific and China Merchants Holdings International (CMHI), to acquire a 65 ­percent stake in Kumport container terminal for $940 million.88 The investment neatly fits the BRI plan for developing new sea routes to carry China’s international trade. Potential synergies existed between the Kumport Terminal and COSCO’s previous investment in the Piraeus Terminal, the largest port in Greece. The ports ­were capable of serving as China’s gateway into Eu­rope and parts of the ­Middle East. The substantial investment made by the consortium of CIC Capital, COSCO, and CMHI demonstrated the financial muscle b ­ ehind the BRI and China’s overall drive to secure its presence and long-­term interests in territories beyond its borders. A year ­after investing in Turkey’s Kumport Terminal, CIC Capital made another significant infrastructure investment. In September 2016 CIC paid $900 million for a 20 ­percent stake in a consortium that leased for fifty years the Port of Melbourne, Australia’s principal container and cargo port.89 CIC was joined in the consortium by Queensland Investment Corporation, Global Infrastructure Partners (GIP), Australia’s ­Future Fund, and Canada’s Ontario Municipal Employees Retirement System. CIC is the primary investor in GIP, owning about half of the fund’s shares.90 Before this deal, GIP and CIC ­were part of the investor team that acquired Asciano, one of Australia’s largest freight logistics businesses. CIC’s press release confirmed CIC Capital’s participation in the privatization of Asciano.91 CIC Capital’s interest in the Port of Melbourne lease attracted some attention but considerably less than the purchase of a ninety-­nine-­year lease on the Port of Darwin by another Chinese com­pany, the Landbridge Group. In 2015 the Landbridge Group paid $361 million for 100 ­percent of the lease on the Port of Darwin. The deal drew the US government’s interest, not least ­because US and Australian naval vessels sometimes visit the port but also ­because the Landbridge Group has close ties to CPC and the Chinese military through its founder Ye Cheng. The US State Department concluded in an internal document leaked to the Australian press that the Chinese presence could facilitate intelligence collection on the US and Australian military forces stationed nearby.92 Following this deal, the Australian government strengthened 126

C hina I nves t men t C orporat ion

its rules for selling critical infrastructure to private foreign investors. Before proceeding, such sales require a formal review by the Australian Foreign Investment Review Board (FIRB).93 In 2016 the Australian FIRB vetoed the sale of 50.4  ­percent of Ausgrid, an electrical grid operator that supplies Sydney, to China’s State Grid and Hong Kong–­based Cheung Kong Infrastructure. The veto sparked protest from China’s Ministry of Commerce, which said the decision to block the sale was “protectionist and seriously impacts the willingness of Chinese companies to invest in Australia.”94 About three months a­ fter the scuttling of the Ausgrid transaction, the deal to lease the Port of Melbourne to a consortium of companies, including CIC Capital, successfully closed. Increasingly stringent FDI screening from governments in Western countries forced CIC to be innovative in structuring deals in such a way as to pass scrutiny and receive approval that other­wise would be nearly impossible to obtain. The success of the Port of Melbourne deal using a consortium provided a model for CIC’s ­future investment in overseas infrastructure proj­ects in Western countries. Starting in 2017, CIC entered into more partnerships with leading institutional investors in Western countries and launched several bilateral cooperation investment funds (­Table 3.7). One such example is the China-­US Industrial Cooperation Partnership, one of several deals announced during President Trump’s visit to Beijing in November 2017. This fund is a joint venture between CIC and Goldman Sachs, with a target size of $5 billion.95 The fund aims to “enhance commercial linkages and promote market access for US firms in China and ­w ill seek to improve the balance of the US-­China trade relationship.”96 The creation of the joint fund had po­ liti­cal utility for both sides, providing an example of cooperation amid an escalating trade war between the two countries. CIC chairman Peng Chun disclosed that the fund had raised $3 billion a­ fter three fund­ rais­ing rounds. According to Goldman Sachs, “CIC is not involved in the investment management of the fund nor the operation of the fund’s portfolio companies . . . ​CIC’s role is to help Goldman Sachs, as the investment man­ag­er, identify and pursue opportunities for portfolio companies to do more business in China.”97 The Cooperation Fund has a broad mandate to invest in the manufacturing, industrial, consumer, 127

SOVEREIGN FUNDS

­TABLE 3.7  CIC joint cooperation funds Fund’s Capitalization (CIC’s Stake)

Inception Date

Name of Fund

June 2012 Jan. 2014

Dec. 2019

Russia-­China Investment Fund China-­Ireland Technology Growth Fund Asia-­Germany Industry 4.0 Promotion Cross-­Border Fund China-­US Industrial Cooperation Partnership, LP China-­Ireland Growth Technology Fund II Japan-­China Industrial Cooperation Fund China-­Russia Science and Technology Innovation Fund CIC-­HSBC Fund

June 2020

France-­China Cooperation Fund

Oct. 2020

China-­Italy Industrial Cooperation Fund

Aug. 2015 Nov. 2017 March 2018 Oct. 2018 Sept. 2019

$2 billion $100 million ($50 million) Unknown $5 billion ($2.5 billion) €150 million (€75 million) Target ¥100–200 billion $1 billion £1 billion (£500 million) €400 million €600 million

Source: Author-collected data from publicly available information.

and healthcare sectors in the United States in specific companies that have the potential to develop material business connections to China. Goldman Sachs is the sponsor for the Cooperation Fund and CIC is its anchor investor. As an investor, CIC is not supposed to provide investment advice to Goldman Sachs but instead support the fund by identifying potential value-­added opportunities in China.98 CIC expected that partnering up with one of the most illustrious names on Wall Street, Goldman Sachs, would decrease the likelihood of the US government blocking its investments in American companies. The CIC–­Goldman Sachs partnership demonstrated its po­liti­cal efficacy several times in the following years. In September 2019 the Collaboration Fund invested $3 billion in California-­ based Boyd Corp., a leading maker of engineered materials and thermal management tech128

C hina I nves t men t C orporat ion

nologies. The Committee on Foreign Investment in the United States (CFIUS), the US government panel that scrutinizes corporate acquisitions for national security risks, asked CIC to divest from the deal, citing data privacy concerns. However, Goldman Sachs successfully convinced CFIUS to allow the purchase to proceed with CIC remaining as a minority investor through the Cooperation Fund.99 This experience convinced CIC of the importance of partnering with a local institutional investor that can act as a “clean glove,” assuaging the concerns of US authorities and ultimately winning their approval. In June  2021, despite US-­China relations sinking to their lowest depth in five de­ cades, the Cooperation Fund was still able to lead a $202 million investment in Project44, a Chicago-­based supply-­chain visibility technology provider.100 CIC’s Provision to China’s Technology Edge

CIC has done more than just transform foreign exchange reserves into strategic assets overseas. It has also directly financed the development of China’s domestic high-­tech sector by investing heavi­ly in the semiconductor industry and nurturing China’s so-­called tech unicorns, closely held tech startup companies valued at over $1 billion. CIC has been described as a “unicorn maker,” fueling the rapid growth of several highly valued Chinese tech companies. CIC has supported the rise of several Chinese tech g­ iants and internet companies that have become icons of China’s tech sector. Some of t­ hese companies have globally recognized brands and had IPOs in the United States on the New York Stock Exchange (NYSE) or the Nasdaq. Two examples are Alibaba, China’s leading online retailer, and Didi Chuxing, China’s largest online ride-­hailing platform. CIC’s capital was critical to ­these companies’ early-­stage growth and success. However, both Alibaba and Didi Chuxing have become subject to greater regulatory scrutiny from the Chinese government as their businesses have expanded and they have taken on additional investors. CIC provided critical financial support for Alibaba’s record-­setting IPO on the NYSE in September 2014, valuing the com­pany at more than 129

SOVEREIGN FUNDS

$231 billion. Before selling his com­pany on the NYSE, Alibaba’s founder Jack Ma wanted to consolidate the com­pany’s owner­ship structure. In 2012, CIC led a consortium of Chinese investors that financed the buyout of the 40 ­percent stake in Alibaba owned by Yahoo, an American tech com­pany, and the buying back of all shares of Alibaba that had traded on the Hong Kong stock exchange in 2007. Buying out Yahoo’s stake would cost about $6 billion, and buying up all the Alibaba shares traded in Hong Kong would cost another $3 billion. Alibaba had only slightly more than $4 billion available in cash, which meant that Jack Ma needed to raise about $5 billion, and CIC was the financier ready and willing to help him do it. CIC led a group of Chinese institutional investors, primarily state-­owned, that invested at least $2 billion in Alibaba in exchange for a 5.6 ­percent stake in the com­pany.101 At the time of Alibaba’s IPO, SEC filings showed that Fengmao Investment Corporation, a subsidiary of CIC International, held a 2.8 ­percent stake in Alibaba.102 Other investors with a significant owner­ship interest in Alibaba included CITIC Capital, which was 40 ­percent owned by CIC, and CDB Capital, whose parent com­pany CDB is 35 ­percent owned by CIC’s domestic arm Central Huijin.103 CDB provided an additional $1 billion in se­nior loans to finance Alibaba’s planned privatization and share buyback.104 Such timely cash injections into Alibaba by the CIC-­led Chinese state-­owned investors allowed Jack Ma to consolidate his control over the com­pany and prepare the way for Alibaba Group’s IPO two years ­later, in 2014. Alibaba raised $25 billion in its IPO, securing its place as one of the world’s most valuable companies. This came three years ­after the NYSE had delisted more than one hundred Chinese companies for fraud and accounting malpractice.105 Alibaba’s successful IPO earned the CIC-­led consortium billions of dollars in returns, helping CIC to redeem its reputation as a savvy investor and to cement a new one as a patron of China’s indigenous tech industry. Many staff at CIC regard the fund’s investment in Alibaba as its most brilliant move ever.106 By 2020 CIC’s position had yielded a $4 billion return as Alibaba’s share price hit an all-­time high. Alibaba’s shares subsequently gave up much of their gain, trading near their original IPO price for much of 130

C hina I nves t men t C orporat ion

2022 amid concern that the com­pany may be forced to delist from the NYSE as a consequence of audit oversight rules contained in the Holding Foreign Companies Accountable Act passed by the US Congress in December 2020. CIC’s patronage of Alibaba extended to its financial affiliate Ant Financial, which split from Alibaba before its IPO. In April 2016, CIC’s subsidiary CIC Capital (中投海外) led a group of strategic investors that made a private placement of $4.5 billion in Ant Financial, the largest ever for an internet com­pany.107 Several major state-­owned investment institutions invested in this deal alongside CIC Capital, including China’s National Social Security Fund, CCB Trust (a subsidiary of China Construction Bank), CDB Capital (the investment arm of CDB), and China Post Capital (the investment unit of the state-­owned postal ser­v ice China Post Group Corporation). The participation of China Post Capital in the deal opened the door to a financial alliance between Ant Financial and the Postal Savings Bank of China, the deposit-­taking and lending arm of China’s postal ser­v ice. In June 2016, Ant Financial invested an undisclosed amount in the Postal Savings Bank of China as one of ten strategic investors before the bank held its $7.4 billion IPO in Hong Kong. This alliance between Ant Financial and the Postal Savings Bank of China was compatible with Ant Financial’s plan at that time to create an online financial ser­v ice behemoth.108 Ant’s planned $34 billion IPO in the Shanghai and Hong Kong stock exchanges was scuttled in October 2020 when Chinese banking and securities regulators pulled their authorization. In an interview conducted two months ­later, PBoC deputy governor Pan Gongsheng (潘功勝) described a lack of sound corporate governance as a prob­lem at Ant Financial.109 Jack Ma subsequently withdrew as the public face of the com­pany. The CIC-­led investment in Alibaba has provided a win­dow into the alliance of po­liti­cal power and capital in China. Alibaba’s po­liti­cal connections with China’s core leadership have been no secret. Before he fell out of ­favor, Jack Ma accompanied President Xi Jinping on several high-­profile state visits, such as to South ­Korea in 2014 and the United States in 2015. On the sidelines of t­ hese carefully choreographed public 131

SOVEREIGN FUNDS

appearances are the shrewd operators with well-­placed connections that substantiate the alliance between the Chinese state and Chinese business. ­These operators hold top-­ranking positions at deep-­pocketed private equity funds or state-­owned investment institutions, and some are so-­called “princelings” of the Party. This unofficial title reflects the considerable po­liti­cal influence they derive from a f­ amily tree that includes a member of the Party’s top leadership. For example, one of the private equity funds that invested alongside CIC in Alibaba was Boyu Capital, whose co-­founder, Alvin Zhicheng Jiang (江志成), is the grand­son of former Chinese president Jiang Zemin. CITIC Capital and CDB, the two other major investors in Alibaba, also have princelings installed in certain key positions. For example, Jeffrey Zhijie Zeng (曾志杰), a se­nior managing director at CITIC Capital, is the son of Zeng Peiyan (曾培炎), formerly China’s vice premier and member of the Politburo. Liu Lefei (­刘乐飞), the vice chairman of CITIC Securities from 2013 to 2015, is the son of Liu Yunshan (刘云山), a former member of China’s highest po­liti­cal body, the Politburo Standing Committee.110 Chen Yuan, the chairman of CBD from 1998 to 2013, is the son of Chen Yun, formerly China’s top economic planner and a member of the Politburo Standing Committee. He Jinlei (贺锦磊), vice president at CDB at the time of its investment in Alibaba, is the son of He Guoqiang (贺国强), formerly China’s top anticorruption cop and member of the Politburo Standing Committee. Whereas in the West, money influences politics, in China, politics controls the money. The relationship between Alibaba and China’s sovereign funds deepened in 2019 when Alibaba became a co-­investor alongside CIC in China International Capital Corporation (CICC), a state-­owned investment bank. In February  2019 Alibaba increased its stake in CICC to 4.8  ­percent, making Alibaba the third-­largest stakeholder in CICC, ­behind only Central Huijin, the domestic arm of CIC, and Tencent, Alibaba’s archrival.111 As one of China’s most prominent financial asset man­ag­ers, CICC is an attractive strategic partner for Tencent and Alibaba, which could leverage their extensive data on more than 1 billion users to offer highly customized financial products. This prospect has driven Alibaba and Tencent to compete for influence over CICC by in132

C hina I nves t men t C orporat ion

creasing their owner­ship in the bank and directing business ­toward it. Four months ­after investing in CICC, Alibaba picked the bank to co-­lead its relisting on the Hong Kong Stock Exchange. This arrangement represents a broader alliance between the Chinese state and the domestic tech sector. Like Alibaba, the ride-­hailing tech com­pany Didi Chuxing has become a global tech brand partly owing to a lifeline of cash it received from CIC at a critical juncture. In 2014, Didi was locked in a destructive price war with a formidable competitor, the original ride-­hailing unicorn tech com­pany Uber. When Uber launched in China in 2014, Didi responded with an aggressive expansion, spending more money on subsidies for its ­drivers so that it could secure a dominant position in China’s ride-­hailing market. If Didi was ­going to fend off Uber successfully, it needed to raise more capital. In August 2015 CIC Capital led a group of Chinese state-­owned institutional investors that collectively invested more than $2 billion in Didi.112 CIC Capital’s timely investment gave Didi the financial ammunition necessary to outlast Uber in a price war. Admitting defeat, Uber exited China in August 2016 and sold its operations to Didi. Didi’s acquisition of Uber China cleared the way for Didi’s ascendency to market dominance. CIC Capital’s investment in Didi in August 2015 was among its first. The fund had only been operational for a few months. Given that CIC Capital’s primary investment target is overseas direct equity investment, the investment in Didi did not entirely fit the fund’s mandate. The fact that CIC Capital could make the deal happen shows the flexibility with which its management viewed the fund’s broad mission to seek an optimal return on risk. At the time, the ultimate success of Didi was far from assured. CIC Capital invested when Didi was unprofitable and fighting to remain a g­ oing concern. The riskiness of its first investment indicates that as the youn­gest member of the CIC ­family, CIC Capital has the features of a venture capital fund and is willing to invest in frontier Chinese tech companies to support their growth. Like Alibaba, Didi has also become the subject of increased Chinese regulatory scrutiny ­after it took on new investors in its $4.4 billion IPO on the NYSE in 133

SOVEREIGN FUNDS

­TABLE 3.8  CIC Investment in companies along semiconductor supply chains Approximate Investment Date

Name of Com­pany

Country

Investment Amount

United States United States China

$1.36 million $2.52 million $250 million

China

$11.5 million

China

$200 million

April 2015

MEMC Electronic Materials Inc. KLA-­Tencor Corp. Semiconductor Manufacturing International Corp. CIC RMB Entrust Loan, Semiconductor Manufacturing International Corp. Semiconductor Manufacturing International Corp. Movidius

United States

Unknown

June 2018

Arm Technology (China) Co. Ltd.

China

$79 million

Dec. 2009 Dec. 2009 April 2011 June 2013

Dec. 2013

Source: Author-collected data from publicly available information.

June 2021. The following month the Cyberspace Administration of China ordered that the Didi app be removed from all app stores in China, citing the com­pany’s violation of data privacy regulations. Less than a year ­after its IPO, Didi’s shareholders voted to reverse course and delist the com­pany, citing its full cooperation with the Chinese government cybersecurity review.113 Despite ­these setbacks, Didi remains the dominant ride-­hailing com­pany in China and one of the country’s most valuable tech companies. Besides supporting China’s internet tech companies, CIC has made critical equity investments in China’s leading semiconductor manufacturers to develop China’s domestic chip-­making industry (­Table 3.8). In 2011 CIC invested $250 million for an 11.6  ­percent stake in the Shanghai-­based Semiconductor Manufacturing International Corporation (SMIC), with warrants for investing an additional $50 million.114 SMIC is one of the leading semiconductor foundries globally and the largest, most advanced foundry in Mainland China. Jiang Shangzhou, chairman of SMIC, said the investment provided “a source of capital that allows us to take full advantage of our proj­ect pipeline . . . ​partnering with CIC is conducive to realizing our development objectives and 134

C hina I nves t men t C orporat ion

enhancing our competitive advantage in the international arena.”115 A Shanghai-­based chip industry expert observed that CIC’s investment helped SMIC with its production capacity expansion and technology upgrade, which could help SMIC catch up with industry leaders like the Taiwan Semiconductor Manufacturing Com­pany.116 CIC also joined forces with other sovereign investors and private equity funds to launch specialized venture-­capital style investment vehicles and finance the development of the semiconductor industry in China and other strategically impor­tant industries. For example, in 2017, CIC, Silk Road Fund, Temasek, Shenye Group, and HOPU jointly established the HOPU-­A rm Innovation Fund (厚安创新基金). The fund is jointly managed by HOPU Investment, a China-­focused private equity fund, and UK-­based Arm Holdings, a SoftBank-­owned semiconductor tech com­pany. The fund invests in artificial intelligence, deep technology, IT infrastructure, the Internet of ­Th ings, and the global tech industrial ecosystem.117 In June  2018 the fund led a consortium of investors that acquired 51 ­percent of Arm Technology China, the Chinese division of Arm Holdings, for $775 million. According to SoftBank’s statement, the acquiring consortium and Arm Holdings are supposed to form a joint venture that w ­ ill license Arm semiconductor technology to Chinese companies and develop Arm technology locally.118 In May 2020, the fund invested in a Chinese autonomous driving solution provider Idriverplus, founded in 2015.119 CIC Capital’s venture-­ capital style investments in China’s emerging tech companies support the CPC’s industrial policies by providing much-­needed equity capital to prioritized sectors. Since 2015 the CPC has launched several industrial plans emphasizing innovation-­d riven development and striving to transform China into a global power­house in high-­tech industries and digital industrialization. ­These industrial policies include the “Made in China 2025” masterplan launched in 2015, the “Action Outline for Promoting the Development of Big Data” issued in 2015, the “Three-­year Action Plan to Promote the Development of a New Generation of Artificial Intelligence Industry” implemented in 2017, the Thirteenth Five-­Year Plan, and the F ­ ourteenth Five-­Year Plan. 135

SOVEREIGN FUNDS

The Vis­i­ble Hand of the Party-­State: The Evolution of Central Huijin as CIC’s Domestic Arm In 2007 CIC acquired Central Huijin from SAFE using $67 billion of its $200 billion initial capital. The incorporation of Central Huijin as a subsidiary of CIC was completed in July 2008 with the finalization of Central Huijin’s new board of directors. The new board comprised several notable c­ areer bureaucrats: Lou Jiwei (楼继伟) served as chairman, Li Jiange (李剑阁) as vice chairman, Xie Ping (谢平) as executive director, and Wu Xiaoling (吴晓灵) and Jin Lianshu (金莲淑) as two in­de­pen­dent directors. The new board’s formation ended Central Huijin’s institutional affiliation with SAFE and, by extension, the PBoC. Thereafter, Central Huijin was fully incorporated into the management structure of CIC. As a subsidiary of CIC, Central Huijin initially had an awkward position within China’s political-­economic apparatus. If Central Huijin ­were to keep playing its original role as a special purpose vehicle of the Party-­State, this would contradict CIC’s mission of for-­profit investment. However, redefining itself as a commercial entity would be at odds with its responsibility to intervene when necessary in China’s financial markets. This awkward position of Central Huijin was of no benefit to CIC ­either, as Huijin’s quasi-­government agency status weakened CIC’s claim to be a market-­oriented institutional investor. Chairman Lou Jiwei acknowledged that the differences between Central Huijin and other parts of CIC w ­ ere irreconcilable. Despite being a subsidiary of CIC, Central Huijin is a capital injection and management platform that does not aim to make commercial profits. In contrast, CIC is clearly supposed to be a for-­profit investment fund.120 To resolve this issue, Chairman Lou Jiwei announced the implementation of an internal firewall between Central Huijin and the rest of CIC. According to Lou, Central Huijin’s profits count ­toward CIC’s profits, but Central Huijin’s assets are not managed or controlled by CIC.121 With the firewall, Central Huijin is in­de­pen­dent of the rest of CIC in terms of its management and mandate. Central Huijin reports directly to the State Council and exercises shareholder rights on behalf of the 136

C hina I nves t men t C orporat ion

Party-State, not CIC. It has its own board of directors and board of supervisors. The State Council, not CIC, appoints members to the two boards.122 The rest of CIC operates its investment business irrespective of Central Huijin and its domestic interests. Unlike CIC Capital and CIC International, both of which position themselves as market-­oriented commercial entities, Central Huijin does not conduct any commercial activities besides investing in major state-­owned financial enterprises and preserving the value of state-­owned financial assets. However, Central Huijin does provide vital financial support to the rest of CIC. As the largest shareholder of major state-­owned commercial banks, brokerage firms, and insurance companies, Central Huijin receives a steady stream of dividend payments and transfers them to CIC, which then plows that capital into the overseas activities of CIC Capital and CIC International. Central Huijin’s stable domestic revenue streams give CIC more flexibility in pursuing more volatile and illiquid investment strategies in global markets. Lou Jiwei acknowledged that the stable domestic revenues of Central Huijin allow CIC to be more active and take a longer time horizon in its overseas asset allocation than would be pos­si­ble if it made only conservative investments in sovereign and investment-­grade corporate bonds.123 Carving out Central Huijin from the rest of CIC allows Central Huijin to maintain its quasi-­government agency status and specialize in restructuring China’s financial institutions by capital injection and equity acquisition. ­After being reincorporated into CIC, Central Huijin has applied its prior successful experience rescuing Chinese banks to continue restructuring China’s commercial banks and nonbanking financial institutions, including policy banks and insurance companies. It has become a state-­owned bailout fund that has saved banks burdened by nonperforming loans and rescued China’s tumbling stock market during times of extreme volatility. Moreover, it has played a crucial role in recapitalizing China’s policy banks and one of China’s export credit insurance companies, paving the way for their growth into leading financial institutions in international development finance. Although Central Huijin does not declare itself a bailout fund, it has injected equity capital into several Chinese banks to prevent bank 137

SOVEREIGN FUNDS

failures. In November  2007, Central Huijin spent approximately $2.7 billion (RMB 20 billion) to buy a 70.92  ­percent stake in China Everbright Bank, China’s eighth-­largest lender at the time.124 This gave Central Huijin an absolute majority of the bank’s board of directors by naming seven of the board’s thirteen members.125 The capital injection revived Everbright’s IPO plan that had been stalled for years. As the first commercial bank in China to have foreign shareholders, Everbright announced in October 2000 its intention to go public in the second half of 2001 or 2002. Everbright prioritized the execution of the IPO plan since then but had been unable to achieve the goal by 2007 prior to receiving a capital injection from Central Huijin. A critical obstacle that had blocked Everbright’s IPO was its high level of nonperforming loans, mainly from the bank’s takeover of the nearly bankrupted China Investment Bank (CIB) in 1999 when CIB’s bad loans w ­ ere 69.4 ­percent of its book. Everbright took over from China Development Bank the assets, liabilities, and equity shares of CIB at book value, together with CIB’s 29 branches and 137 intra-­city business operations. As a result of this takeover, Everbright’s toxic assets ratio increased from 14 ­percent to 36.8 ­percent.126 Central Huijin’s capital injection lifted Everbright’s core capital adequacy ratio to above 5 ­percent, allowing the bank to hold an IPO in Hong Kong and the mainland A-­share market.127 In November 2008 Central Huijin injected $19 billion (RMB 130 billion) into the Agricultural Bank of China (ABC) and acquired a 50 ­percent stake in the bank. At that time ABC was the only one of the Big Four state-­owned commercial banks that had not been restructured, a legacy mission of Central Huijin when the PBoC still controlled it. The Ministry of Finance held the remaining stake, following the same model as used in the restructuring of the Industrial and Commercial Bank of China (ICBC).128 Like Everbright, ABC had a high nonperforming loan ratio of 20 ­percent of its book in June 2008, preventing it from holding an IPO.129 Central Huijin’s capital injection cleared the way for ABC’s IPO and made it pos­si­ble for the bank to go public on the Shanghai A-­ share market and the Hong Kong Stock Exchange in July  2010. This marked Central Huijin’s successful completion of its 138

C hina I nves t men t C orporat ion

mission of assisting all four major state-­owned commercial banks to become public companies. Central Huijin’s most recent bank bailout occurred in 2019 a­ fter the Party-­State tightened supervision over the financial sector in response to the stock market meltdown in 2018 amid global monetary tightening and an escalating US-­China trade war. In early 2019 several medium­and small-­sized regional banks in China had high exposure to concentrated risks, notably Baoshang Bank in Inner Mongolia. In May  2019 the PBoC and the China Banking and Insurance Regulatory Commission took control of Baoshang Bank ­because of growing concerns over its solvency, the first bank seizure by the state in nearly two de­cades.130 The takeover of Baoshang Bank was followed by Central Huijin’s bailout of Hengfeng Bank in December 2019. Hengfeng Bank is one of 12 national joint-­stock commercial banks and one of only two such banks that had not gone public at the time. In 2018, Hengfeng’s nonperforming loan ratio reached 28.44 ­percent due to a series of corruption and embezzlement scandals.131 Central Huijin purchased 60 billion shares of Hengfeng Bank at the price of RMB 1 per share and became the largest shareholder, controlling 53.95 ­percent of the bank’s equity shares.132 The bailout allowed the bank to write off bad assets and reduce the nonperforming loan ratio to 2.92 ­percent in June 2020.133 Although this ratio was still higher than the industry average, the significant improvement encouraged the bank’s management to plan for the com­pany to go public again five years ­later.134 In recent years, Central Huijin’s rescue of Chinese banks highlights its critical role in maintaining financial market stability and strengthening financial security in China. It also demonstrates the effort of the Party-­State to restore confidence in China’s network of domestic lenders amid an environment of slowing economic growth and rising trade tensions with the United States. Central Huijin has become an essential tool of the Party-­State to mitigate financial risk, implement financial reform, and improve corporate governance in China’s commercial banks, which have varying owner­ship structures. Central Huijin has taken a calibrated approach to problem-­solving by injecting equity capital into 139

SOVEREIGN FUNDS

banks facing challenges of capital inadequacy to assist them in eventually ­going public. This allows Central Huijin to exercise shareholder rights on behalf of the Party-­State to restructure China’s banking system without resorting to heavy-­handed administrative directives. Apart from managing China’s commercial banks, Central Huijin has been indispensable in restructuring China’s nonbanking financial institutions. Central Huijin was critical to restructuring China’s insurance companies, starting with the ­People’s Insurance Com­pany of China (PICC). In October 2007 Central Huijin and the MoF partnered to restructure PICC into China Reinsurance Corporation. The new com­pany had registered capital of RMB 42.48 billion, with Central Huijin holding a controlling interest of 72 ­percent and the MoF taking a 13 ­percent stake.135 In November 2009 Central Huijin bought all of the 39 ­percent stake in New China Insurance held by the Insurance Securities Fund.136 Central Huijin was b ­ ehind the recapitalization of China’s premier policy-­oriented financial institutions that have emerged as global leaders in development finance. In December 2007 Central Huijin provided a $20 billion equity capital injection into China Development Bank (CDB). According to a se­nior CDB official, this was a crucial step to improve CDB’s financial capacity and finalize the bank’s restructuring, paving the way for its rise to become the world’s largest development finance institution.137 By 2020 Central Huijin had accumulated a 35  ­percent stake in CDB.138 In June  2011 Central Huijin injected $3.1 billion into China Export and Credit Insurance Corporation (SINOSURE).139 SINOSURE is China’s only policy-­oriented insurance com­pany for exports, overseas investment, reinsurance, bond guarantees, and other insurance-­based financial ser­vices. It has actively supported the development of the ­Belt and Road Initiative (BRI) since its launch in 2013. By the end of 2020 it had provided more than $970 billion in export and investment insurance to about 3,000 proj­ects in BRI countries and paid over $3 billion in claims.140 By 2020 Central Huijin had accumulated a 72 ­percent stake in SINOSURE.141 Although Central Huijin does not directly participate in strategic investments overseas, it nonetheless advances the global ambitions of the Party-­State by injecting capital into China’s financial system so Chinese financial insti140

C hina I nves t men t C orporat ion

­TABLE 3.9  Central Huijin’s holdings in major Chinese financial institutions (as of August 2019) No.

Name of Financial Institution

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16

China Development Bank Industrial and Commercial Bank of China Ltd. ★✩ Agricultural Bank of China Ltd. ★✩ Bank of China Ltd. ★✩ China Construction Bank Corp. ★✩ China Everbright Group Ltd. China Everbright Bank Co. Ltd. ★✩ China Export & Credit Insurance Corp. China Reinsurance (Group) Corp.★✩ New China Life Insurance Co. Ltd. ★✩ China Jianyin Investment Ltd. China Galaxy Financial Holdings Co. Ltd. Shenwan Hongyuan Group Co. Ltd. ★✩ China International Capital Corp. Ltd. ✩ China Securities Co. Ltd ★✩ Jiantou Zhongxin Assets Management Co. Ltd.

Owner­ship Share (%)    34.68    34.71    40.03    64.02    57.11    55.67    19.53    73.63    71.56    31.34 100    69.07    22.28    55.68    31.21  70

17

Guotai Junan Investment Management Co. Ltd.

   14.54

Source: Author-collected data from Central Huijin Annual Report 2020. ★ = the com­pany is listed on Shanghai Stock Exchange ✩ = the com­pany is listed on Hong Kong Stock Exchange

tutions can continue to expand internationally (­Table 3.9). In this way, Central Huijin creates the opportunity for the Party-­State to shape the structure of the global financial system and potentially influence the policies of foreign countries through the practices of Chinese financial institutions. While Central Huijin participated in restructuring China’s troubled financial institutions without much attention, far more controversial has been its role as the buyer of last resort in China’s A-­share stock markets during market volatility. Between 2008 and 2015, Central Huijin intervened six times in China’s stock market. In ­these six interventions, Central Huijin purchased shares of the four major state-­owned commercial banks, which had relatively short histories as public stocks. 141

SOVEREIGN FUNDS

According to Lou Jiwei, Central Huijin had pumped RMB 964.46 billion ($151 billion) into the Chinese stock market on behalf of the Party-­ State by the end of June  2012. This put Central Huijin’s total equity holdings at RMB 2.1 trillion ($330 billion), accounting for more than 60 ­percent of the corporate equity owned by the central government.142 ­These market interventions earned Central Huijin the reputation of “shareholder-­in-­chief” in China’s financial markets while at the same time setting it up to be a scapegoat when the stock market tumbled. In May 2015 Central Huijin sold part of its holdings in CCB and ICBC worth RMB 3.5 billion ($564.5 million). Market commentators cited this event as the trigger for a market sell-­off, causing a single-­day 6 ­percent plunge in the stock market’s value. Central Huijin’s president Xie Zhichun (解植春) stepped down three days ­later.143 Incidents like this suggest that the management team of Central Huijin is vulnerable to the vagaries of domestic financial markets and w ­ ill be held responsible in times of market turmoil.

Conclusion The establishment of CIC is remarkable, not ­because of its complex financial engineering, which is relatively commonplace in finance, but ­because it was a masterstroke of po­liti­cal engineering. CIC’s capitalization mechanism—­the MoF issuing debt and using the proceeds to purchase foreign exchange reserves from the PBoC—­epitomizes a state-­ engineered attempt to diversify the foreign exchange reserves away from US Trea­sury bonds and transform them into overseas strategic assets. According to IMF guidelines, the establishment of CIC decreased China’s official foreign exchange reserves ­because foreign exchange reserves w ­ ere transferred out of the purview of the PBoC to CIC, which invested them in riskier and more illiquid assets than conventional reserve assets like US Trea­suries. Technically, the MoF bought the foreign exchange reserves from the PBoC for the equivalent value in Chinese renminbi at a fixed exchange rate. The MoF financed this purchase by issuing new special bonds to raise capital in renminbi through desig142

C hina I nves t men t C orporat ion

­TABLE 3.10  CIC Per­for­mance: Cumulative annualized

net return on capital and global portfolio return Year 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Annualized Cumulative Net Return Since Inception (%) −2.1 4.1 6.4 3.8 5.02 5.7 5.66 4.58 4.76 5.94 5.18 6.13

Global Portfolio Return (%)1 −2.1 11.7 11.7 −4.3 10.6 9.33 5.47 −2.96 6.22 17.59 −2.35 17.41

2020

6.71

14.07

Source: Author-compiled data from CIC annual reports, 2008–2020. 1 Global portfolio returns mea­sure the total return of CIC’s global portfolio, including realized returns from interest and dividends and unrealized returns from changes in the fair market value of investments.

nated state-­owned commercial banks. The accounting effect of this entire transaction was an increase in the government’s outstanding debt and a decrease in China’s foreign exchange reserves, which ­were removed from the PBoC’s management and placed with the newly established CIC. By definition, increasing the debt-­to-­assets ratio increases the leverage ratio. The establishment of CIC has thus been the product of the Party-­State taking on explicit leverage. A close review of CIC’s annual reports from 2008–2020 reveals that the fund’s global portfolio return has been less than satisfactory (­Table 3.10). Since CIC was founded, its global portfolio return has consistently been lower than the benchmark S&P 500 Index return (Figure 3.3). Even worse, the fund’s return often failed to exceed its cost of capital. CIC’s breakeven rate on investments was estimated to be approximately 10 ­percent ­after adjusting for inflation and the negative effect of exchange 143

SOVEREIGN FUNDS

CIC Global Portfolio Return S&P 500 Index Annual Return

40 30 20 10 0 -10 -20 -30

2020

2019

2018

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

-40

Data sources: CIC annual reports (2008–2020) and public rec­ords of S&P Index annual returns for 2008–2020.

FIGURE 3.3  Comparing CIC’s returns with S&P500

Index annual returns (2008–2020).

rates due to the fund’s assets being predominantly in US dollars while its debts ­were in renminbi.144 Since its founding, CIC’s global portfolio has fallen short of its breakeven rate about half the time. The global portfolio’s return surpassed 10 ­percent only six times between 2008 and 2020. When comparing CIC’s global portfolio returns with other major sovereign funds, CIC has half of the time performed below the average return of its peers (­Table 3.11 and Figure 3.4). CIC’s domestic activities and international ventures show that CIC is a modern version of Gerschenkron’s “capital mobilizers,” freeing up China’s foreign exchange reserves by transforming them into risk-­ bearing capital that can be used to finance the state’s prioritized interests in securing overseas natu­ral resources, in growing strategic industries at home, and in advancing ambitious global initiatives such as the BRI. In practice, recharacterizing foreign exchange reserves as risk-­bearing cap144

2008

(2) (23) (15) (22) (25) 7 (18) (8) (42) —

—

Name of Fund

Turkey Wealth Fund

—

12 26 18 21 21 (30) 15 14 36 —

2009

—

12 10 35 13 14 43 7 11 11 —

2010

Source: Author-compiled data from the funds’ annual reports. Note: Darker shade indicates lower annual return.

2

China Investment Corp. Norway NBIM Abu Dhabi Investment Authority Kuwait Investment Authority Qatar Investment Authority Singapore Temasek Korean Investment Corp. Rus­sia National Wealth Fund Bpifrance Italy CDP Equity

11 13 26 13 13 1 12 11 19 17 —

—

2012

(4) (3) (3) (2) (2) 5 (4) 3 (16) —

2011

—

9 16 2 13 13 9 9 6 27 18

2013

—

5 8 15 6 7 2 4 6 (1) 0

2014

—

(3) 3 (7) (2) (3) 19 (3) (4) (5) (5)

2015

Annual Return (%)

­TABLE 3.11  CIC per­for­mance relative to other major sovereign funds in the world

—

6 7 2 6 5 (9) 4 7 8 8

2016

—

18 14 19 15 15 13 16 11 20 17

2017

(15)

(2) (6) (10) (8) (3) 12 (4) (10) (14) (14)

2018

33

17 20 (2) 23 24 2 15 18 33 34

2019

1

14 11 21 9 6 (2) 14 8 5 2

2020

28

21 15 16 16 22 25 12 6 29 30

2021

SOVEREIGN FUNDS

50% 37% 40% 26%

30%

19%

18%

17%

20%

21% 14%

6%

10%

1%

0% 3%

-10%

- 3%

-20%

- 2%

- 15%

-30% -40%

- 27%

2021

2020

2019

2018

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

-50%

Data sources: CIC annual reports (2008–2021).

FIGURE 3.4  CIC global portfolio per­for­mance relative to other funds

(2008–2021). Shaded area indicates range and average among ten other sovereign wealth funds listed in T ­ able 3.11.

ital turned China’s official foreign exchange reserves into “shadow reserves” that no longer counted in official statistics. The assets of CIC represent a significant portion of China’s shadow reserves, distinguished from the official reserves managed by the PBoC ­because CIC is legally permitted to invest in risky assets. CIC has not always been the best steward of China’s shadow reserves. It lost billions of dollars in failed investments during its first few years. CIC gained experience from ­these failures and ultimately plugged itself into the network of prestigious global institutional investors. CIC’s investment in natu­ral resources, such as oil, gas, and strategic minerals, supports China’s economic growth needs and fits the consensus supported by the core Party leadership on transforming foreign 146

C hina I nves t men t C orporat ion

exchange reserves into strategic overseas assets. CIC’s financial support to BRI closely follows the Party’s strategic priorities. CIC has provided timely cash infusions to the leading companies in China’s internet and semiconductor industries. Th ­ ese investments reflect the Party’s desire to foster strong companies in t­ hese industries with the scale necessary to compete globally with large foreign corporates. Since 2013 CIC has deployed increasing financial resources into venture-­ capital style deals, using direct investments and joint funds. ­These investments have primarily been in Chinese tech startups and China’s indigenous semiconductor industry. ­ These investments are inherently much higher risk than investing in US Trea­suries and other fixed-­income assets. CIC’s participation in financing t­ hese risky tech ventures suggests that the fund has become a vehicle of the CPC to finance and implement its industrial policies. CIC and its subsidiaries have financed the Party’s strategic initiatives and advanced China’s national interests by acquiring assets and portfolio companies that can best advance the interests of the Party. The Chinese state has become a shareholder state through CIC that can influence corporate governance and shape global markets without resorting to heavy-­ handed administrative rules. At home, Central Huijin is the “shareholder-­ in-­chief” of the Chinese financial system and the vis­i­ble hand of the state that maintains stability in markets and backstops the state-­owned investment institutions that directly finance BRI proj­ects. CIC International and CIC Capital have been the global face of CIC. They invest in international markets, sometimes partnering with private equity funds and increasingly conducting direct investments themselves. Their global activities have focused on securing natu­ral resources for China’s economy. CIC International and CIC Capital have assisted the Chinese government and SOEs in cultivating relationships with international elites in industries identified as strategic to implementing Chinese national strategies. From Chairman Lou Jiwei to Chairman Peng Chun, CIC’s leaders have been careful to ensure that CIC’s investments at home and abroad closely align with the Party’s interests and vision. The experiment of CIC and its growing sophistication have caused some uneasiness for the PBoC and SAFE, the arm of the PBoC legally 147

SOVEREIGN FUNDS

mandated to manage China’s official reserves. In several ways, CIC has challenged the role of the PBoC, encroaching upon its traditional responsibilities. Before CIC, Central Huijin was ­under the control of the PBoC. During 2003–2006 the growing influence of Central Huijin in China’s financial system meant that the PBoC’s power was also growing. CIC’s acquisition of Central Huijin in 2007 was a public po­liti­cal defeat for the PBoC b ­ ecause it lost control over China’s “shareholder-­i n-­chief.” Meanwhile, CIC’s initial capitalization using China’s foreign exchange reserves was a public challenge to SAFE’s long-­established role as the only ­legal administrator of China’s foreign exchange reserves. As the size of China’s foreign exchange reserves continued to grow, the PBoC and SAFE responded to the challenges posed by CIC. SAFE has changed its traditional conservative approach to managing reserves and has ­adopted unconventional and aggressive diversification strategies. In this pro­ cess, SAFE and SAFE-­a ffiliated investment funds have become part of China’s sovereign leveraged fund complex, deploying China’s foreign exchange reserves to finance the realization of the Party’s ambitions in global markets.

148

4

State Administration of Foreign Exchange

By 2011 the internal debate over how China should manage its growing foreign exchange reserves had coalesced around the consensus that China Investment Corporation (CIC) should have a central role in transforming China’s foreign exchange reserves into strategic assets. As discussed in Chapter 1, even China’s conservative central bankers, who had long opposed using reserves to make risky investments, gradually changed their minds. A crucial turning point came in April 2011 when China’s foreign exchange reserves passed $3.1 billion. The well-­respected PBoC governor Zhou Xiaochuan said that “diversifying the nation’s reserves through new investment agencies and new investment fields should be considered” and that “CIC is one example.”1 Zhou’s statement signaled that the PBoC, a cautious institution that historically prioritized financial stability over risk taking, firmly supported a new model of reserve management that leveraged China’s reserves to make investments at home and abroad. In his speech Governor Zhou subtly suggested that the government consider establishing additional investment agencies in the mold of CIC. Using reserves to capitalize investment funds would reduce China’s official reserves and increase the overall financial risk exposure of the state’s investment portfolio. In other words, Zhou was suggesting that China’s sovereign funds employ implicit leverage. Zhou’s suggestion was realized when the State Administration of Foreign Exchange (SAFE), the PBoC’s foreign exchange management arm, used reserves to capitalize

SOVEREIGN FUNDS

several investment funds. ­These SAFE-­a ffiliated investment funds fit neatly into the framework of sovereign leveraged funds. The assets managed by the SAFE-­a ffiliated funds are not counted ­toward official reserves ­because they are more illiquid and carry more risk than traditional reserve assets. SAFE has established several investment offices, domestic and abroad, that invest China’s foreign exchange reserves and manage a portfolio of assets. SAFE seeks both tangible financial returns and intangible strategic gains from its investments. As the absolute majority shareholder of China’s Silk Road Fund, SAFE has provided direct financial support for China’s ambitious ­Belt and Road Initiative (BRI). Apart from establishing new investment offices, SAFE has also enhanced its in-­house investment capabilities by making foreign exchange entrusted loans, a type of corporate loan arranged and administered by a third-­ party bank. In recent years foreign exchange entrusted loans have become the primary way SAFE finances overseas policy-­oriented investment proj­ects. This shift in approach can unlock more foreign exchange reserves to finance Chinese SOEs’ overseas mergers and acquisitions at low cost, allowing the SOEs to make bids at higher valuations and outcompete foreign rival offers. SAFE is the PBoC subsidiary responsible for managing China’s foreign exchange reserves. A SAFE official explained that SAFE’s reserve management strategy has historically prioritized safety and liquidity, which is also the requirement of China’s foreign exchange management law. Per the law’s requirement, the preponderance of China’s foreign exchange reserves is in highly liquid and low-­r isk assets like US Trea­suries.2 According to one longtime observer of Chinese financial markets who is also a managing director at a Beijing private equity fund, many market participants w ­ ere caught off-­guard by SAFE’s decision to invest in equity markets. In 2008 SAFE bought a nearly 1 ­percent equity stake in BP (formerly British Petroleum) and equity interests of similar size in the Australia and New Zealand Bank, Commonwealth Bank of Australia, and National Australia Bank. 3 ­A fter that initial foray into the equity markets, SAFE established several subsidiary investment funds that use foreign exchange reserves to invest in relatively 150

S tat e A dminis t rat ion of F oreign E x change

illiquid but higher-­yielding assets like private equity, infrastructure proj­ ects, and foreign exchange entrusted loans. Although SAFE retains control over the assets in its subsidiary investment funds, the assets managed by ­these funds do not count ­toward official reserves ­because they are primarily illiquid and of greater risk than conventional reserve assets. Moreover, the purpose of t­ hese assets is not to ser­vice balance of payments needs but to transform foreign exchange reserves into strategic assets. When a SAFE-­affiliated fund invests in a portfolio com­pany, it makes a long-­term capital commitment. Some of ­t hese portfolio companies are indebted, making SAFE’s equity investment subordinate to the claims of the debt holders. In effect, SAFE’s capital serves as collateral for the com­pany’s existing debt and supports new debt issuance by the portfolio com­pany at a lower cost. Generally, higher debt at a lower cost increases a com­pany’s profitability but exposes the equity holders to more risk. The higher the debt load, the closer a com­pany is to a potential bankruptcy in which the investments of the equity holders, including SAFE, could potentially be wiped out. Eco­nom­ically, SAFE has the same marginal exposure to the debt of its portfolio companies as if SAFE had issued the debt itself. However, according to accounting rules the debt of the portfolio companies is not consolidated onto SAFE’s balance sheet. Instead, the fair value of SAFE’s equity in the portfolio companies is recorded as an asset, effectively hiding SAFE’s exposure to the debt of ­t hese companies. By shifting debt onto portfolio companies, SAFE effectively takes on leverage without appearing to do so; this is implicit leverage, which I introduced in the framework of sovereign leveraged funds. In contrast to explicit leverage, which arises from the debts issued by the state, implicit leverage arises from the state’s investment in portfolio companies. Explicit leverage increases when the state issues more debt; implicit leverage increases when the state changes the mix of assets in its investment portfolio to decrease reserve assets and increase investment in risky assets like portfolio com­pany equity. Close observers of Chinese politics have noted the growing competition between the PBoC and the Ministry of Finance (MoF) to influence China’s economic and financial policy. Some have argued that seeking control and influence over the management of China’s foreign exchange 151

SOVEREIGN FUNDS

reserves has become the most contested ground in the long-­r unning institutional rivalry between SAFE and CIC, which are respective proxies for the PBoC and the MoF.4 The hostility of the competition spilled over to the agencies that deal with market participants. A Eu­ro­pean banker who in 2008 frequently met with CIC’s former chairman Lou Jiwei (楼继伟) and the chief investment officer Gao Xiqing (高西庆) said that he could detect the “intense rivalry between SAFE and CIC.” He added, “SAFE feels that it can do every­t hing that CIC does.”5 This bureaucratic competition has critically influenced the role of SAFE in China’s foreign exchange reserves diversification and how it finances the Party’s ambitions.

The Development of SAFE-­Affiliated Investment Funds SAFE’s role in managing China’s foreign exchange reserves dates back to the historical transition of China in the late 1970s from a centrally planned economy to a slightly more market-­oriented economy. China’s ­limited foreign currency was co-­managed by three government agencies: the Ministry of International Trade (reor­ga­nized into the Ministry of Commerce in 2003), the MoF, and the PBoC. In 1979, as part of a broader drive t­oward economic liberalization, the State Council approved the PBoC’s Proposal on the Reform of China’s Banking System. The approval led to the establishment of what was then called the State Central Administration of Foreign Exchange (SCAFE, 国家外汇管理 总局). SCAFE was in charge of managing China’s small cache of $167 million in foreign exchange reserves. Initially SCAFE was ­under the direct supervision of the State Council but administered by the PBoC. A ­ fter the 1983 State Council restructuring, SCAFE became a subsidiary of the PBoC and assumed its current name, State Administration of Foreign Exchange or SAFE. In 1988 SAFE was elevated within the po­liti­cal hierarchy to report directly to the State Council but remained u ­ nder the PBoC’s administration. The po­liti­cal prestige associated with SAFE grew as China’s foreign exchange reserves grew. In 2008 the State Council revised the Adminis152

S tat e A dminis t rat ion of F oreign E x change

trative Regulations of the P ­ eople’s Republic of China on Foreign Exchange to clarify the mandate of SAFE: “to hold, manage and operate the foreign exchange reserves of the state and adhere to the princi­ples of security, liquidity, and increase in value.”6 Although the PBoC technically administers it, SAFE enjoys a vice-­m inistry ranking within China’s po­liti­cal hierarchy. Except during 1988–1993 and 1998, the head of SAFE has always held the title of vice governor of the PBoC. As discussed in Chapter 1, China’s leaders, including ­t hose at the central banks, changed their perspective on foreign exchange reserve management as China’s reserves steadily grew from the 1980s. In March 2011 the reserves topped $3 trillion for the first time, by far the most held by a central bank in modern history. Domestic calls to use the reserves to support economic and social development grew louder. The most convincing argument was that the best way to reduce the opportunity costs of holding excess reserves in US Trea­suries would be to invest instead in overseas strategic assets. China’s top policymakers publicly expressed concerns over China’s excess reserves and the rising opportunity costs of traditional management strategies. China’s central bankers, such as Governor Zhou, no longer stood by the conventional wisdom that buying US Trea­suries was the best way to invest reserves. Governor Zhou publicly acknowledged that China’s reserves had already surpassed their optimal level, that reserves diversification was imperative, and that CIC was an apt example to follow. SAFE subsequently allocated a portion of China’s foreign exchange reserves to capitalize five investment offices outside of mainland China, including SAFE’s “Four Golden Flowers” and its Frankfurt Exchange Office. The “Four Golden Flowers” refers to offshore investment companies wholly owned by SAFE: SAFE Investment Com­pany in Hong Kong (also known as SAFE-­IC, or Hua’an 华安), Investment Com­pany of the PRC in Singapore (Huaxin 华新), Hua’ou (华欧) in London, and Huamei (华美) in New York. TF Securities (天风证券), a leading securities research firm based in Wuhan, estimated that the “Four Golden Flowers” and their subsidiaries collectively managed around $1 trillion in assets as of 2015, the last year for which estimates are available. At the time this equated to about one-­third of China’s official foreign exchange 153

SOVEREIGN FUNDS

reserves not being counted in the official reserves statistics.7 The “Four Golden Flowers” and SAFE’s Frankfurt Office are the only five SAFE-­ affiliated investment funds that appear on SAFE’s annual reports. SAFE’s rising activism in investing China’s reserves in assets other than US government securities became apparent when its subsidiary investment funds began to move beyond the mission of defending currency stability and into the realm of investing in risky assets for higher returns. SAFE-­IC is one such example. Established in June 1997, one month before the handover of Hong Kong to the ­People’s Republic of China, SAFE-­IC was SAFE’s first-­ever subsidiary. It received initial capital of approximately $20 billion to “support and promote the development of Hong Kong’s financial market.”8 Operating as a minor outpost of SAFE in its early life, it employed the same conservative approach to investing as SAFE’s headquarters in Beijing. However, it served a vital role in defending the renminbi, China’s currency, and the Hong Kong dollar against depreciative market speculation in l­ater years. During the 1997 Asian financial crisis, both currencies came into speculators’ crosshairs ­because they w ­ ere pegged to the US dollar.9 In the late 2000s the role of SAFE-­IC expanded to include investing in risky foreign assets. Brad Setser estimated that SAFE-­IC began buying risky US assets in Spring 2007 and continued u ­ ntil the onset of the financial crisis in July 2008. In 2007–2008, SAFE-­IC invested between $150 and $200 billion in corporate equities in the United States, Eu­rope, and Australia. ­These investments included minority interests in three Australian banks for a total of $185 million and a $2.85 billion (1.6 ­percent) owner­ship stake in Total SA, France’s largest oil and gas com­pany and one of the oil supermajors. Between January and July 2008, SAFE-­IC purchased minority interest stakes in over forty major companies in the UK, including BP, Barclays, Royal Bank of Scotland, and HBOS.10 SAFE launched several new investment funds ­after 2008, all capitalized by leveraging China’s foreign exchange reserves (­Table 4.1). Unlike the five overseas agencies listed on SAFE’s annual reports, SAFE’s annual reports do not rec­ord ­t hese new funds. Compared with CIC, ­t hese SAFE-­affiliated funds are much less transparent, and few public disclo154

S tat e A dminis t rat ion of F oreign E x change

­TABLE 4.1  Additional SAFE-­owned investment companies established during

2009–2014

Name of Fund Gingko Tree Investment Ltd.(银杏树投资有限责 任公司) Beryl Datura Investment Ltd.(绿玉曼陀罗) CNIC Corporation Ltd. (国新国际投资有限公司)

Buttonwood Investment Platform(梧桐树投资有 限责任公司)

Location of Registration

Year

Description

London

2009

British Virgin Islands Hong Kong

2012

A subsidiary of SAFE managed by the London office of the ­People’s Bank of China. Focus on infrastructure investment. CNIC has an official mandate to support Chinese enterprises’ overseas mergers and acquisitions. Unlike Gingko Tree and Beryl Datura, SAFE established CNIC in partnership with the State-­Owned Assets Supervision and Administration Commission of the State Council. The initial capital was $11 billion. SAFE holds a controlling interest of 90 ­percent.

Beijing

2014

2012

The initial capital was RMB 100 million ($15.6 million).

Source: Author-collected data from publicly available information.

sures of their portfolio holdings exist. Among ­t hese funds, the most notable is Buttonwood Investment Platform (梧桐树投资有限责任公司). Unlike other SAFE-­affiliated funds, Buttonwood was registered domestically in Beijing on November 5, 2014, with an initial capital of RMB 100 million ($15.6 million). Three days ­later, on November 8, 2014, President Xi pledged to an international audience $40 billion to establish the Silk Road Fund as a dedicated financing institution to support China’s BRI.11 The timing strongly suggests that the establishment of Buttonwood was part of China’s plan to finance the BRI. Subsequent events suggested further that Buttonwood is a crucial conduit for SAFE to 155

SOVEREIGN FUNDS

capitalize policy-­oriented financial institutions and support the Party’s overseas strategic vision, including but not l­imited to the BRI. For example, acting through Buttonwood, in December  2014 SAFE injected $6.5 billion into the Silk Road Fund, becoming the largest shareholder in the dedicated BRI financing vehicle. CIC and the Export-­Import Bank of China each committed an additional $1.5 billion, while China Development Bank Finance (a subsidiary of China Development Bank) committed $500 million to the Silk Road Fund.12 This owner­ship structure means $6.5 billion of the Silk Road Fund’s initial capital of $10 billion came from China’s foreign exchange reserves. Buttonwood outgrew its original mission to capitalize the Silk Road Fund and con­ve­niently played a similar role in SAFE’s capital infusion into China’s policy banks and BRI-­ related funds (Figure  5.1). In July  2015, on behalf of SAFE, Buttonwood injected additional capital into the China Development Bank and the Export-­Import Bank of China. ­These two policy banks directly participate in China’s overseas development financing operations and bankroll BRI proj­ects. As a result, SAFE (and the PBoC, by extension) became the largest shareholder of t­ hese two policy banks, followed by the MoF. Over the years Buttonwood has also capitalized several BRI funds whose mandates are to finance BRI-­related proj­ects and promote China’s diplomatic relations with participating countries. As a result, Buttonwood has been able to leverage China’s foreign exchange reserves to fund new policy-­oriented investment institutions and support existing ones. They collectively serve as intermediaries between the Party-­State and global markets, mobilizing China’s foreign exchange reserves to finance the Party’s strategic initiatives and proj­ect the Party’s influence both at home and abroad. Apart from capitalizing a number of funds whose primary function is to invest overseas, Buttonwood has also established a few domestic subsidiaries (Figure 4.1) and invested in the domestic stock market. Public rec­ords from the Administration of Industry and Commerce (工商局) show that Buttonwood established two subsidiaries in 2015—­namely, Beijing Fengshan Investment Com­pany (北京凤山投资有限责任公司) and Beijing Kunteng Investment Com­ pany (北京坤藤投资有限责任公司). 156

S tat e A dminis t rat ion of F oreign E x change

Beijing Fengshan Investment State Administration of Foreign Exchange (SAFE) November 2014 Registered capital RMB 100 million

Specialized Companies CIC International 36% NetsUnion Clearing Corporation 10%

Beijing Kunteng Investment

Buttonwood Investment Holding

Zhonghui Reserve Investment Beijing Jiyuan Investment

BRI-Related Funds

Policy Banks

China-Africa Industrial Capacity Cooperation Fund 80%

China Development Bank 27% ($48 billion)

China-LAC Cooperation Fund 85% China-Africa Development Fund 15%

Exim Bank of China $45 billion

Silk Road Fund 65% Note: BRI = ­Belt and Road Initiative.

FIGURE 4.1  The network of Buttonwood as a SAFE-­a ffiliated

investment com­pany.

­ ese two Beijing-­registered subsidiaries each had initial capital of RMB Th 50 million. In December 2018 Buttonwood launched a third subsidiary, Zhonghui Reserve Investment Com­ pany (中汇储投资有限责任公司), with registered capital of RMB 500 million ($72.7 million). Li Hongyan (李红燕), director of SAFE’s Reserve Management Department, led this new subsidiary. The stated purposes of the three subsidiaries are the same, “proj­ect investment, asset management, and investment management.”13 During the last quarter of 2015, Buttonwood and two of its subsidiaries bought shares in thirteen listed companies worth over RMB 27 billion ($4.18 billion) on the Shanghai A-­share market. Such substantial 157

SOVEREIGN FUNDS

share purchases by Buttonwood and its two subsidiaries earned the group the nickname “The Three Musketeers.” ­These purchases pumped up China’s stock market by buying bank shares. Banks’ annual reports and corporate filings revealed that the stock purchases made Buttonwood one of the top ten largest shareholders of the four major state-­owned commercial banks.14 According to Shanghai Securities News, investing in Chinese bank stocks was part of SAFE’s strategy to diversify investment channels for China’s massive foreign exchange reserves. Buttonwood’s dipping into China’s stock market and using foreign exchange reserves to purchase stocks of state-­owned banks makes it a prime candidate to serve as China’s stock market stabilization fund, which can be deployed to buy Chinese stocks when the market tanks. Its purchase of shares of major Chinese banks mirrors the critical role that two other state-­ owned financial institutions—­ Central Huijin and China Securities Finance Corporation, a state-­owned margin lender and securities lender to brokers—­have played in stabilizing the stock market. All three institutions are at the disposal of the Party in times of severe market turmoil to limit the downside risk of China’s equity prices. However, this does raise the issue of moral ­hazard and may risk inducing market participants to become more dependent on government rescues. Despite the apparent risk of moral ­hazard, Chinese academics and market analysts have largely applauded Buttonwood’s approach of investing reserves in bank shares. A Beijing University of International Business and Economics professor explained two benefits of Buttonwood’s approach. On the one hand, Buttonwood has a long-­term investment horizon and can invest in blue chip stocks to harvest long-­term gains. Bank stocks are the backbone of China’s stock markets, have high liquidity, and are worth holding for the long run. On the other hand, the presence of Buttonwood on behalf of SAFE sends a positive signal to the market and thus can strengthen market confidence.15 A research fellow at the CITIC Reform and Development Research Foundation argued that bank stocks ­were undervalued in 2015, so it was a good time to “buy and hold.”16 158

S tat e A dminis t rat ion of F oreign E x change

United Kingdom Hong Kong Norway Italy Netherlands Germany United States Portugal France Guernsey Belgium China Jersey Sweden Austria

114 29 7 6 4 3 2 2 2 1 1 1 1 1 1

FIGURE 4.2  SAFE investment by country. 30

25

25

23

20 13

5

12 8

6 2

6

4

3

0

0 2019

10

12

2018

15

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

2007

0

FIGURE 4.3  SAFE investment in the UK by year (2007–2019).

By 2016 SAFE’s global investment portfolio included investments in sectors ranging from financials and energy to real estate and industrials, and materials to information technology. SAFE’s investments have been relatively concentrated in the UK market (Figures  4.2, 4.3, 4.4, and 4.5). An expert on China-­UK relations at Shanghai International 159

SOVEREIGN FUNDS

China Investment Corporation

SAFE Investment Funds

Financials Real Estate Energy Hedge Funds & Private Equity Information Technology Industrials Materials Consumer Discretionary Infrastructure Healthcare Utilities Consumer Staples Telecommunications Agriculture 0

10

20

30

40 50 Count

FIGURE 4.4  CIC and SAFE investment by target sector (number of investments, 2007–2016).

Studies University observed that the UK government had been particularly enthusiastic about courting Chinese investment, a policy sometimes called the “Osborne Doctrine,” named ­a fter former UK chancellor George Osborne.17

SAFE’s Direct Support for the BRI: The Silk Road Fund The Silk Road Fund (SRF) is unique among China’s sovereign funds ­because President Xi Jinping created it specifically to finance his BRI global campaign. The fund has closely followed the priorities of the BRI, 160

S tat e A dminis t rat ion of F oreign E x change

China Investment Corporation

SAFE Investment Company

Financials Real Estate Energy Infrastructure Hedge Funds & Private Equity Materials Information Technology Industrials Utilities Consumer Discretionary Consumer Staples Telecommunications Healthcare Agriculture 0

10

20

30 $ billions

Note: There are 21 CIC transactions whose values are undisclosed and are not reflected ­here.

FIGURE 4.5  CIC and SAFE investment by target sector (value

of investments). ­

focusing on infrastructure, connectivity, resource development, and industrial capacity cooperation. SAFE is the majority shareholder of this signature BRI financing vehicle, owning a 65  ­percent interest in the fund. The PBoC governor Zhou Xiaochuan described the SRF as a “private equity investor with a longer investment return.”18 He compared SRF to the World Bank’s International Finance Corp, the African Development Bank’s Mutual Development Fund, and the China-­A frica Development Fund. According to Jin Qi (金琦), chairwoman of the Silk Road Fund Com­pany, the fund focuses on investing in emerging 161

SOVEREIGN FUNDS

high-­tech industries and supporting Chinese enterprises as they expand overseas. Apart from the initial $10 billion investment discussed ­earlier, President Xi committed an additional RMB 100 billion to SRF at the opening ceremony of the B ­ elt and Road Forum for International Cooperation in 19 May 2017. Notably, this capital injection was in China’s currency, the renminbi, not in foreign exchange. Deputy governor of the PBoC Yi Gang (易纲) endorsed the plan the day a­ fter President Xi’s announcement, calling it “quite necessary and timely to expand SRF’s capital.” Yi explained that abundant capital would help SRF mobilize additional resources in BRI countries and crowd-in investment from other financial institutions.20 With ample capital, SRF proceeded to finance proj­ects ­u nder the BRI umbrella. Bloomberg data show that during SFR’s first three years of operating, it invested $10.5 billion in Eu­rope,21 more than one-­quarter of the $40 billion that President Xi promised when he announced the fund’s establishment. SRF chairman Xie Duo (谢多) disclosed that SRF had signed forty-­seven proj­ects and committed more than $17.8 billion in investment as of October 2020.22 SRF’s investment track rec­ord suggests that it indeed has an investment horizon similar to that of a medium-­to-­long-­term private equity fund, just as Governor Zhou said it would at the fund’s inception. The fund’s average investment period is seven to ten years, with some investments projected to be fifteen years or longer. Chairwoman Jin Qi disclosed that more than 70 ­percent of SRF’s committed investments are in the form of equity, with the rest being debt investment and proj­ect financing.23 The infusion of an additional RMB 100 billion in cash into SRF was motivated by more than just ensuring the fund had adequate capital; it also served to advance cross-­border payment and settlement using renminbi within the framework of the BRI. In a ­People’s Daily article commemorating the fifth anniversary of the BRI and reviewing the achievements of SRF, Chairwoman Jin Qi said that the renminbi capital injection meant that SRF could “provide financial support to ­Belt and Road proj­ects in multiple currencies.” She added that this would allow SFR to “satisfy dif­fer­ent needs of ­Belt and Road countries for cross-­ border payment and settlement.” Qui said that SRF was “exploring and 162

S tat e A dminis t rat ion of F oreign E x change

promoting effective ways of investment in renminbi” and was aiming to take advantage of more “renminbi-­denominated investment.”24 Using SRF as a vehicle to promote the use of the renminbi in international finance has clear benefits for China. First, it decreases currency risks for Chinese investors. Second, the renminbi’s internationalization is essential if China ever develops a financial network in­de­pen­dent of the US dollar. Using the BRI to promote renminbi internationalization gives the Party more control over the pro­cess. This allows it to decide how and at what pace renminbi internationalization ­will proceed, providing confidence that financial instability can be avoided. Since its establishment, SRF has supported leading Chinese SOEs in their overseas proj­ect financing (­Table 4.2). SRF’s debut was its commitment to cooperate with China Three Gorges Corporation (CTG) and to finance the Karot Hydropower Proj­ ect. The Karot Hydropower Proj­ect is a high-­profile piece of the China-­Pakistan Economic Corridor proposed by Premier Li Keqiang in May  2013. During President Xi’s visit to Islamabad in April  2015, SRF, CTG, and the Pakistan Private Power and Infrastructure board signed a memorandum of understanding to develop Pakistan’s hydropower proj­ect. According to SRF’s official statement, the total planned investment for the proj­ect is $1.65 billion. SRF’s financial support for this proj­ect took the form of both equity investment and debt participation. SRF bought an equity stake in CTG’s investment and operation platform for clean energy proj­ects in South Asia, CTG South Asia Investment Ltd (CTGSAIL). SRF also agreed to participate in a consortium led by the Export-­Import Bank of China to provide loans to the proj­ect.25 Besides providing proj­ect financing using equity investment and loan provisions, SRF has financed major asset acquisitions by Chinese SOEs. In 2015 SFR provided financing to China National Chemical Corporation (ChemChina), China’s largest chemical com­pany, to buy the Italian com­pany Pirelli, the world’s fifth-­largest tire maker, for $7.7 billion. The deal was structured in multiple steps: a voluntary tender offer, mandatory tender offer, sell-­out procedure, and squeeze-­out procedure.26 To finance the purchase, SRF signed an equity investment agreement with ChemChina in June 2015, agreeing to purchase a 25 ­percent stake in 163

Pakistan

Rus­sia

UAE

April 2015

Dec. 2015

Jan. 2017

Hassyan Clean Coal Power Plant

Yamal LNG Proj­ect

Karot Hydropower Proj­ect

Proj­ect

Dubai Electricity & ­Water Authority (DEWA)

Novatek

In Phase I, the Silk Road Fund (SRF) joined a consortium of four Chinese and international banks that collectively provided $2.43 billion. SRF also joined DEWA, ACWA Power, and China Harbin Electric, providing $650 million in equity investment.

Equity + Debt

Equity + Debt

China National Petroleum Corp.

China Harbin Electric International

Details The Silk Road Fund agreed to take an equity stake in CTG South Asia Investment Ltd. and provide loans by participating in a consortium led by the Export-­Import Bank of China. The Silk Road Fund agreed to buy a 9.9% stake in the proj­ect and provide a 15-­year loan of around €730 million ($790 million).

China Three Gorges Corp. (CTG)

Private Power and Infrastructure Board

Silk Road Fund Financing Equity + Debt

Participating Chinese Firm

Hosting Counterpart

Source: Author-collected data from publicly available information.

Country

Date

­TABLE 4.2  Silk Road Fund proj­ect financing (2014–2021)

S tat e A dminis t rat ion of F oreign E x change

CNRC International Holding (HK) ­Limited, a special purpose vehicle used to acquire the Pirelli ordinary shares owned by Camfin, an Italian holding com­pany. ChemChina took out a syndicated loan from CDB, China Construction Bank, and the Export-­Import Bank of China, all of which previously received cash injections from CIC at dif­fer­ent times.27 The deal was completed in 2017, resulting in a combined entity with a 10 ­percent global market share in tire manufacturing. The Pirelli acquisition gave ChemChina access to technology to make premium tires that sold at higher margins and gave the Italian manufacturer preferential access to China, the world’s largest automotive market. At the time of ChemChina’s Pirelli acquisition, Italian prime minister Matteo Renzi was uncharacteristically s­ilent about the deal. The Italian government made no protectionist noise against ChemChina’s acquisition.28 The deal led some Italian business leaders, including Pirelli’s CEO Marco Tronchetti Provera, to lobby the Italian government and steer Italian foreign policy in a pro-­China direction.29 The lobbying may have influenced Italian prime minister Giuseppe Conte to sign a preliminary accord for Italy to join the BRI during a visit by President Xi in March 2019. Italy was the first and is the only G7 country, so far, to have signed on to support the BRI. Alongside this signing, Italy and China made about thirty deals that w ­ ere cumulatively worth an initial €2.5 billion ($2.8 billion) but potentially a total of €20 billion.30 One of ­t hese deals was a memorandum of understanding to cooperate on international investments in China and BRI countries signed by SRF, Italian investment bank Cassa Depositi e Prestiti SpA (83 ­percent owned by the Italian Ministry of Economy and Finance), and Snam, Italy’s leading natu­ral gas com­pany. In recent years SRF has acquired strategic infrastructure assets like pipelines and ports in the countries along the proposed ­Belt and Road of the BRI. In June 2021 SFR participated in a consortium that bought a 49 ­percent equity stake in Aramco Oil Pipelines for $12.4 billion, one of the highest-­value energy infrastructure transactions globally. Aramco Oil Pipelines is a new subsidiary of Saudi Aramco, Saudi Arabia’s national oil com­pany and the world’s single largest oil producer. Aramco Oil Pipelines has the right to collect tariff payments for oil transported 165

SOVEREIGN FUNDS

through Aramco’s crude oil pipeline network for twenty-­five years. The consortium included Mubadala Investment Corporation (Abu Dhabi’s sovereign wealth fund), Samsung Asset Management, and Hassana Investment Com­pany, a financial institution controlled by the Saudi government.31 SRF’s participation in such a large infrastructure deal shows that less than five years a­ fter its inception, it has already ascended to the ranks of the world’s largest and most respected sovereign funds and private institutional investors. SRF partnered with COSCO Shipping Ports (CSP), one of the world’s largest port terminal operators, to acquire port assets and advance China’s maritime strategies as part of the Twenty-­First C ­ entury Maritime Silk Road. In July 2019, SRF and CSP launched Navigator Investco in Hong Kong as an investment platform for equity investment in port assets and related businesses upstream and downstream. SRF owns 49 ­percent of Navigator Investco through its wholly owned subsidiary TRD Investco, and CSP holds the remaining 51 ­percent of shares. 32 In October 2021, Navigator Investco agreed to acquire 100 ­percent of the shares of COSCO Shipping Ports (Rotterdam) ­Limited (also known as Rotterdam Com­pany), a wholly owned subsidiary of CSP that owns a 35 ­percent stake in the Netherlands’ Euromax Terminal. Navigator’s acquisition of Rotterdam Com­pany has two direct effects. First, upon completing this transaction, Navigator—­and SRF, by extension—­will become an indirect shareholder of Euromax Terminal through its full owner­ship of Rotterdam Com­pany. Holding a minority share in Euromax Terminal firmly fits with SRF’s mission to support the BRI and contributes to SRF’s portfolio diversification. Second, CSP ­will replenish its capital base by selling its subsidiary to Navigator and receiving cash. In effect, SRF is providing a capital injection to CSP via Navigator. The essence of SRF’s partnership with CSP and their joint investment platform Navigator is to leverage SRF’s access to China’s foreign exchange reserves and support CSP’s endeavor to establish a global terminal network and advance China’s maritime strategic interests. Besides working alongside Chinese corporations and directly supporting their overseas investment, SRF has entered into many cooperation agreements and memoranda of understanding to establish partnerships 166

­TABLE 4.3  Silk Road Fund cooperation with foreign institutional investors

(2015–2021) Date

Country  /   Entity

Sept. 2015

Rus­sia

Dec. 2015

Kazakhstan

Dec. 2015

Kazakhstan

Jan. 2016

Saudi Arabia

June 2016

EBRD

June 2017

Eu­ro­pean Investment Fund (EIF)

Details MoU with Vnesheconombank and MoU with Vnesheconombank and Rus­sian Direct Investment Fund (RDF) for investment cooperation. Vnesheconombank is a state investment agency of the government of the Rus­sian Federation, and RDF is an equity investment fund wholly owned by Vnesheconombank. MoU with Kazakhstan’s Baiterkek JSC to cooperate in priority areas, including industrial capacity, innovation, and information technology ­under the Chinese-­Kazakhstan Production Capacity Cooperation Fund. The Silk Road Fund and Kaznex Invest JSC, a major development institution ­under Kazakhstan’s Ministry for Investment and Development, signed an agreement to establish the China-­Kazatkstan Production Capacity Cooperation Fund, with SRF committing $2 billion as the sole sponsor. MoU with the International Com­pany for W ­ ater and Power Proj­ects (ACWA Power) to jointly develop and invest in power proj­ects in the UAE, Egypt, and the region. ACWA Power is owned by eight Saudi conglomerates, Sanabil Direct Investment Com­pany (owned by the Public Investment Fund of Saudi Arabia), the Saudi Public Pensions Agency, and the International Finance Corporation (a member of the World Bank Group). This is the Silk Road Fund’s first step ­toward investment cooperation in the ­Middle East and North Africa region. MoU with Eu­ro­pean Bank for Reconstruction and Development (EBRD) for strategic and operational cooperation. MoU with EIF to establish the China-­EU Co-­Investment Fund (CECIF) and develop synergies between China’s ­Belt and Road Initiative (BRI) and the Investment Plan for Eu­rope (the “Juncker Plan”), the EU’s strategy to mobilize €315 billion of new public and private investment across Eu­rope. The CECIF was launched in July 2018 with a total initial capital commitment of €500 million. The Silk Road Fund and EIF contributed equally to the fund. (Continued )

­TABLE 4.3  Silk Road Fund cooperation with foreign institutional investors

(2015–2021) (Continued) Date

Country  /   Entity

June 2017

SCO Interbank Consortium

Nov. 2017

United States

June 2018

France

Feb. 2019

Saudi Arabia

March 2019

Italy

Details MOU with Interbank Consortium of Shanghai Cooperation Organ­ization (SCO) to jointly promote diversified investment in the SCO region. MoU with GE Energy Financial (a subsidiary of General Electric) to establish an energy infrastructure co-­investment platform to invest in the power grid, new energy, and oil and gas in countries and regions along BRI. The announcement came on the sidelines of a state visit to Beijing by US president Donald Trump. The Silk Road Fund and Trail Capital (a French private equity investor formerly known as Foundations Capital) launched the Value Trail Fund to invest in Eu­ro­pean companies. This fund came as a result of a prior agreement in November 2016. At the time, the Silk Road Fund, FC Global Group, China International Capital Corporation (CICC), and Amundi Asset Management signed a shares subscription agreement regarding their cooperation on the FC Value Trail Fund Proj­ect. The fund plans to raise €400 million to invest in French and other Eu­ro­pean companies focused on emerging industries such as tech, medical care, and environmental protection. MoU with ACWA Power on co-­investing in a renewable energy investment platform. MoU with Cassa depositi e prestiti S.p.A. (CDP) and Snam S.p.A (Snam) on investment cooperation to potentially develop joint initiatives in vari­ous countries, including China, Italy, and ­those participating in BRI. CDP is a joint-­stock com­pany ­under public control, 83 ­percent owned by the Ministry of Economy and Finance of Italy. Snam is a Milan Stock Exchange–­listed com­pany and a Eu­ro­pean leader in the construction and management of integrated natu­ral gas infrastructures. This MoU is part of Italy’s signing of a preliminary accord with China that made it the first country of the G7 industrialized nations to join the BRI.

S tat e A dminis t rat ion of F oreign E x change

­TABLE 4.3  Silk Road Fund cooperation with foreign institutional investors

(2015–2021) Date

Country  /   Entity

June 2019

Singapore

The Silk Road Fund and Surbana Jurong agreed to implement the China-­Singapore Co-­Investment Platform, which ­will focus on infrastructure proj­ects primarily in Southeast Asia and greenfield infrastructure proj­ects. The partners expect to invest about $500 million over the next few years, with each partner investing equally in the proj­ects.

June 2019

Rus­sia

The Silk Road Fund and SIBUR Holding signed an agreement for potential joint investments in petrochemical proj­ects, cooperation in third-­party markets, and promotion of trade and economic relations between China and Rus­sia. SIBUR is a vertically integrated gas-­processing and petrochemical com­pany. It owns and operates Rus­sia’s largest gas-­processing business in terms of associated petroleum gas-­processing volumes and is a leader in the Rus­sian petrochemical industry.

May 2020

Saudi Arabia

The Silk Road Fund acquired a 49 ­percent stake in Saudi’s ACWA Power Renewable Energy Holding. The deal, first announced in June 2019, establishes the Silk Road Fund as a partner in the com­pany.

Details

Source: Author-compiled data from publicly available reports. MoU = Memorandum of understanding SRF = Silk Road Fund EBRD = Eu­ro­pean Bank for Reconstruction and Development SCO = Shanghai Cooperation Organ­i zation BRI = ­Belt and Road Initiative

with foreign sovereign funds, state-­owned asset management firms, and leading private institutional investors (­Table 4.3). A few of ­these agreements have already materialized into joint investment funds or cooperation funds. For example, SRF is the sole sponsor of the $2 billion China-­Kazakhstan Production Capacity Cooperation Fund,33 with the Kazakhstan government agreeing to provide tax exemptions to the fund’s investments. 34 This is the first cooperation fund where SFR has participated as the sole sponsor. For its first investment, the fund bought 169

SOVEREIGN FUNDS

common shares of stocks on the Astana International Exchange. Another example is the China-­EU Co-­Investment Fund, first proposed in June 2017 and launched in July 2018. The fund made its first investment in Cathay Midcap  II and is committed to fostering synergies and advancing collaboration among businesses and enterprises in China and Eu­rope. As discussed in Chapter 3, CIC has also ­adopted joint investment funds as a strategy to more expeditiously invest abroad amid heightened scrutiny of Chinese FDI in foreign countries. For CIC, the primary purpose of investing through joint funds is to mitigate the risk that a foreign government w ­ ill block an overseas investment. While this is certainly applicable for SRF, SRF’s cooperation funds also have China’s broader strategic agenda in mind concerning acquiring assets overseas and developing China’s long-­term geoeconomic capacity.

SAFE’s In-­House Sovereign Leveraged Fund: SAFE Co-­Financing As China’s leadership began to embrace the idea of using foreign exchange reserves for investment, SAFE restructured itself to match its expanded mission. In May 2010, SAFE upgraded the office that handled entrusted loans to a C-­suite level position as the Entrusted Investment Department with two offices, the Public Equity Office and the Direct Investment Office.35 The formation of a new department dedicated to entrusted assets signaled that SAFE planned to use entrusted investments more actively as part of its diversification strategy. It was apparent that SAFE needed to continue to change when, in April 2011, PBoC governor Zhou Xiaochuan said that China’s reserves exceeded the optimal level and that China needed another new investment agency in the same mold as CIC. A short while ­later, SAFE quietly launched a new agency called SAFE Co-­Financing (外汇储备委托贷款办公室), an event that largely escaped media attention. SAFE’s 2011 Annual Report was the first public mention of SAFE Co-­Financing. The report described SAFE Co-­Financing as a new investment division ­under SAFE’s Central Foreign Exchange Business Center with the responsibility to “find in170

S tat e A dminis t rat ion of F oreign E x change

novative ways to manage China’s foreign exchange reserves.”36 In practice the role of SAFE Co-­Financing was to provide entrusted loans using China’s foreign exchange reserves to support the overseas mergers and acquisitions of Chinese companies and finance the “­going out” strategy. In January 2013 SAFE publicly announced the official launch of SAFE Co-­Financing as a new investment unit.37 Against this backdrop, the idea of transforming China’s foreign exchange reserves into strategic overseas assets received widespread support from the Chinese state, SOEs, and academics. As China became the largest consumer and importer of several natu­r al resources and drove up global commodities prices, executives of Chinese natu­ral resource companies called for using the reserves to purchase natu­ral resources. For example, in 2009 several se­nior executives at major Chinese state-­owned natu­ral resource companies proposed that China use $1.5 trillion in foreign exchange reserves to establish a natu­r al resource fund to finance the exploration and acquisition of natu­r al resources at home and abroad. One enthusiastic advocate of this proposal was Zhou Zhongshu (周中枢), CEO of China Minmetals Corporation (中 国五矿集团有限公司). Zhou argued that China’s foreign exchange reserves should be transferred to CIC and used to create a specialized national mineral fund in which major Chinese mineral companies could also invest. Zhou’s proposal received strong support from se­ nior executives in the financial sector, who lobbied for the idea at the Chinese P ­ eople’s Po­l iti­c al Consultative Conference, the leading policy advisory body of the Party and the Chinese government. Wang Yongzhong (王永忠), general man­a g­er of Hebei Construction and Investment Corporation, and Zhang Hongli (张红力), CEO of Deutsche Bank Asia, advised the government to use China’s foreign exchange reserves to support Chinese corporations in overseas resource acquisitions “as soon as pos­si­ble” to strengthen China’s natu­r al resource security. Liu Jipeng (刘纪鹏), dean of the Business School at China University of Po­liti­c al Science and Law, advocated for China to establish two funds. Liu proposed that one fund would specialize in acquiring equity in resource companies, and the other would focus on direct purchases of energy and raw mineral resources. 38 171

SOVEREIGN FUNDS

Officials at SAFE knew that Chinese corporations would need large amounts of foreign exchange if they w ­ ere to make overseas acquisitions. As early as March 2009, SAFE officials expressed SAFE’s willingness to support Chinese firms’ overseas natu­ral resources acquisitions. Zou Lin (邹林), head of SAFE’s General Affairs Department, said in an interview that SAFE “would provide timely currency exchange and other ser­ vices” to assist Chinese corporations with overseas acquisitions.39 In this context a significant policy innovation by SAFE was the implementation of foreign exchange entrusted loans. The idea is to have China’s policy banks and commercial banks act on behalf of SAFE to provide loans using foreign exchange reserves, most notably for natu­ral resources proj­ects. Only eligible Chinese corporations in strategic industries, such as energy and mineral sectors, can obtain foreign exchange entrusted loans from designated SAFE agents. Strategically impor­tant SOEs directly managed by the State-­Owned Assets Supervision and Administration Commission (SASAC), sometimes called yangqi (央企), ­were given preferential access to loans. The aim was to provide ­t hese enterprises with cheap foreign currency financing to support their policy-­ oriented overseas acquisitions of strategic assets and natu­ral resources. SAFE manages the foreign exchange reserves used to finance t­hese investment proj­ects, but it does not directly provide t­ hese strategically motivated loans; it instead delegates Chinese banks as its loan agents. This allows SAFE to use the reserves to finance China’s strategic investments without recording the loans on its balance sheet b ­ ecause its entrusted agents are the direct loan providers to Chinese corporations (Figure 4.6). SAFE Co-­Financing provides liquidity and credit guarantees to facilitate Chinese banks’ foreign currency loans to support Chinese companies’ overseas investments. China Development Bank (CDB) became SAFE’s first entrusted loan agent in May  2010, when SAFE delegated CDB to provide foreign exchange loans to finance China’s policy-­oriented overseas investment. CDB launched a “SAFE entrusted loans program” to execute the operations. According to the agreement, from 2010 CDB has acted as an entrusted agent of SAFE to provide long-­term foreign exchange loans to policy-­oriented overseas investments and to finance China’s national 172

S tat e A dminis t rat ion of F oreign E x change

FX flow

Loan repayment flow 1

State Administration for Foreign Exchange (SAFE)

Policy Banks and State-Owned Commercial Banks 2 4

International trade payments Overseas mergers and acquisitions

Qualified Chinese Enterprises 3

Notes: FX = foreign exchange. (1) SAFE provides FX to an agent bank through an entrusted loan. (2) The agent bank lends FX to qualified enterprises and charges an arrangement fee to the borrower. (3) Borrowers use FX to facilitate foreign trade or investment. (4) FX earned abroad repays the loan and is collected by the agent bank.

FIGURE 4.6  How SAFE Co-­Financing works.

strategies. CDB can charge a fee of 1–2 ­percent.40 SAFE l­ater expanded its roster of foreign exchange entrusted loans agents to include major state-­owned financial intermediaries that directly fund Chinese firms’ “­going out.” For example, the Export-­Import Bank of China and several state-­owned commercial banks have established their foreign exchange entrusted loan ser­v ices.41 Expanding entrusted loans from SAFE amid an emerging domestic consensus on using foreign exchange reserves for overseas investment led to the quiet launch of SAFE Co-­Financing in 2011 as a dedicated ser­v ice platform. A CDB se­nior official commented that before SAFE Co-­Financing, foreign exchange entrusted loans ­were mostly for financing intergovernmental cooperation proj­ects, most of which ­were energy and infrastructure proj­ects. The establishment of SAFE Co-­Financing as a unit dedicated to making foreign exchange entrusted loans was SAFE’s attempt to open up new investment channels for China’s reserves. In practice, Gingko Tree Investment, an offshore investment fund affiliated with SAFE, has also handled some of ­these entrusted loans.42 173

SOVEREIGN FUNDS

A distinctive feature of SAFE Co-­Financing that differentiates it from other SAFE-­affiliated investment funds is that it allocates foreign exchange reserves only to Chinese financial institutions, not foreign investment funds. Although SAFE provides the capital, it does not directly control loan approvals and ongoing risk management of approved loans, which are the responsibilities of SAFE’s entrusted agents. SAFE does not set the interest rate on loans, relying instead upon entrusted agents to select qualified borrowers and determine the interest rate, terms, and loan amount based upon their assessment of each borrower. SAFE does have a minimum return target for the foreign exchange entrusted loans of about 2.5 ­percent, calculated as a spread of several basis points above the international benchmark bank-­lending rate, LIBOR. In 2012 and 2013, an interest rate of 2.5 ­percent was not particularly low in an environment of quantitative easing in the EU and the United States; at the end of 2012 the US ten-­year Trea­sury note, a proxy for the risk-­f ree rate, was only 1.5 ­percent. This means Chinese corporations eligible for entrusted loans only needed to pay 1 percentage point higher in interest than the US Trea­sury to get US dollar funding for their overseas investment ventures. Relative to the risk-­free rate, and considering the risky nature of Chinese firms’ investment, this 1  percentage point risk premium is well below the market rate. For SAFE, the lack of direct oversight over risk management is not ideal, and 2.5 ­percent may not have been a high enough interest charge to justify the risk of nonrepayment. However, for Chinese corporations needing foreign exchange for their overseas expansions, the entrusted loans program is almost equal to a government-­ subsidized foreign currency lending program that allows them to borrow cheaply from the country’s foreign exchange reserves. Two years ­after the low-­key launch of SAFE Co-­Financing, its foreign exchange entrusted loans program received more robust po­liti­cal support from China’s se­nior leadership, signaled by a formal endorsement from the state. In June 2013 Premier Li Keqiang presided over the State Council executive meeting where the decision was made to increase the use of foreign exchange entrusted loans as an impor­tant financial instrument to support Chinese corporations’ “­going out.”43 The following 174

S tat e A dminis t rat ion of F oreign E x change

month the State Council formally authorized and endorsed SAFE Co-­ Financing and the foreign exchange entrusted loans program in the Guiding Opinions on Financial Support for Economic Structural Adjustment, Transition and Upgrade (国务院办公厅关于金融支持经济结构调整和 转型升级的指导意见). In the Guiding Opinions, the State Council encouraged the central bank and other financial institutions to employ multiple means to support Chinese corporations needing foreign exchange. Specifically, the State Council called for expanding SAFE’s foreign exchange entrusted loans and broadening commercial banks’ lending channels.44 The Guiding Opinions provided ten guidelines constituting the operating manual for SAFE Co-­Financing. Its publication marked the formalization of a consensus among the highest-­ranking Chinese policymakers that China’s foreign exchange reserves should be diversified and put to good use, directly supporting China’s national strategies. With the blessing of the State Council, the use of foreign exchange to provide entrusted loans by a designated agency named SAFE Co-­Financing formally became a tool of the Party-­State to finance large-­scale policy-­ oriented mergers and acquisitions conducted by Chinese corporations in global markets.

SAFE’s Rivalry with CIC Peer pressure from CIC has been one of the primary ­drivers of SAFE’s rapid development of its SAFE-­a ffiliated investment funds that, like CIC, leverage China’s foreign reserves to finance the Party’s national strategies. A growing body of academic lit­er­a­ture suggests that ­there has been intense competition for control over China’s foreign exchange reserves between SAFE and CIC (and, by extension, between the PBoC and the MoF) as China’s substantial foreign exchange reserves have grown. Some scholars even concluded that China’s leadership encouraged this rivalry, using it to balance one organ­ization against the other to promote a competitive discipline among the staff of CIC and SAFE.45 Arthur Kroeber, managing director of Dragonomics, an in­de­pen­dent research firm, commented on SAFE’s rising activism: “It might be that 175

SOVEREIGN FUNDS

having been forced to surrender control of Huijin to CIC, SAFE and the central bank are now lobbying for authority to make alternative investments on their own account.”46 While ­these descriptions of bureaucratic politics are insightful, the competition between the PBoC and the MoF is not simply for control over China’s foreign exchange reserves but also for broader influence over economic and financial policy. The core of the foreign exchange reserve management debate in China has been about how to use the reserves effectively to finance China’s national strategies and advance China’s strategic interests in global markets. Having control over the reserves means gaining direct control over the financial ammunition to implement and materialize China’s national strategies. Discretion over how to leverage China’s reserves is a source of po­liti­cal strength in the bureaucratic competition and a critical edge in shaping policy. The rivalry between SAFE and CIC stretches back to the latter’s creation. CIC received an additional $30 billion equity injection from SAFE ­after investing almost all of its $200 billion in initial capital raised from debt issued by the MoF. The details of this transaction are discussed in Chapter 3. CIC’s 2011 annual report showed that CIC International, one of CIC’s subsidiaries, was responsible for investing the $30 billion received from SAFE in global markets as part of China’s master plan to diversify its foreign exchange reserves.47 Within only three years of CIC’s launch, the total foreign exchange reserves injected into CIC through two equity injections w ­ ere equal to 8.2 ­percent of China’s total foreign exchange reserves at the end of 2010.48 This inevitably stepped on the toes of the PBoC and SAFE, which is supposed to be the sole foreign exchange reserve management agency. SAFE may have felt more than a l­ittle pressure to find a way to diversify its management of foreign exchange reserves rather than risk surrendering even more reserves to the control of a rival agency. The growing complaints from China’s business class about the opportunity cost of investing predominantly in US government securities further motivated SAFE to adopt an alternative strategy to reserve management. The PBoC and SAFE may have been the unexpected winner from CIC’s money-­losing investment in the run-up to the 2008 global financial 176

S tat e A dminis t rat ion of F oreign E x change

crisis, at least in the short run. The domestic criticism of CIC for its unfortunately timed loss-­making overseas investments a­ fter 2007, an issue discussed in Chapter  3, presented the PBoC and SAFE with a prime opportunity to gain an advantage in the bureaucratic rivalry against the MoF and CIC. The public backlash against CIC’s poor per­ for­mance may have stimulated SAFE to demonstrate its superior ability to manage China’s reserves. If nothing ­else, SAFE certainly has much deeper pockets than CIC ­because it is the legally designated custodian of foreign exchange reserves, which means it does not face the chronic funding issues that CIC does. CIC rarely receives cash injections from the state. CIC has not received any since the initial capitalization of $200 billion in 2007 and an additional $30 billion equity injection in 2010. Any additional equity contribution to CIC requires a po­liti­cal discussion and formal approval by the state. If SAFE can outperform CIC in terms of investment per­for­mance, that would give the PBoC the upper hand in its power strug­gle with the MoF and maybe even head off any f­ uture discussion of additional reserves allocation to CIC. In other words, a better investment per­for­mance by SAFE could allow the PBoC and SAFE to maintain their mono­poly on control over China’s reserves and complete discretion over overseas investment to advance China’s national interests. In 2010, ­there seemed to be a clear pathway for the PBoC to win its po­liti­cal strug­gle with the MoF. But the initial financial per­for­mance of SAFE’s overseas investment was as disappointing as CIC’s per­for­mance in its early years. In the first months of the financial crisis, SAFE made its first placement with a foreign private equity fund and, with breathtaking speed, found itself with billions of dollars in losses. In early 2008 SAFE agreed to invest more than $2.5 billion with TPG Fund (Texas Pacific Group), a Texas-­based private equity firm run by the widely respected investor David Bonderman.49 The fund was raising capital to lead a $7 billion investment in the troubled bank Washington Mutual, which was the largest thrift in the United States and teetering on the edge of bankruptcy. R ­ euters reported that TPG initially approached CIC about investing, but CIC declined the offer, citing concerns about the risks and the weakness of US markets. However, it is more likely that CIC refused the offer ­because it 177

SOVEREIGN FUNDS

had already committed $3.2 billion in a similar investment with JC Flowers, a New York-­based private equity firm. SAFE’s commitment of $2.5 billion was made on the condition that TPG also invested a significant amount of its own capital in the deal. 50 In April  2008 TPG purchased $1.35 billion worth of shares in Washington Mutual. Five months ­later, in September 2008, Washington Mutual was seized by regulators in “the biggest bank failure in American history.”51 Its assets ­were sold off at auction, and the investments of investors like SAFE ­were utterly wiped out. It’s unclear how much of SAFE’s $2.5 billion commitment went ­toward TPG’s investment in Washington Mutual or other ill-­fated deals. SAFE may have lost most of its $2.5 billion initial investment.52 A direct consequence of SAFE’s initial investment loss was that it undermined the po­liti­cal position of the PBoC and SAFE in the rivalry with the MoF and CIC vying for control over China’s reserves. The poor per­for­mance of SAFE may have silenced the opposition voices and cleared the obstacles for the $30 billion foreign exchange equity injection to CIC from SAFE in 2010. The PBoC’s remediation plan started with a management shake-up. In July 2009 Yi Gang (易纲) replaced Hu Xiaolian (胡晓炼) as the new SAFE administrator. ­Under Yi’s leadership, SAFE put more effort into recruiting overseas Chinese with experience in financial ser­vices. Yi Gang was particularly suited to implement this recruitment drive. He lived in the United States for over a de­cade and received a tenured faculty position in Economics at Indiana University. Many of his Chinese students became experienced Wall Street financial professionals. In 2009 alone SAFE held several recruiting events in London, New York, and Hong Kong. This recruiting drive coincided with massive layoffs at other financial institutions from Wall Street to Lombard Street, allowing SAFE to hire experienced professionals that had just gone through layoffs. Zhu Changhong (朱长虹) was one such example. In February 2010 SAFE hired Zhu as the new chief investment officer (CIO). Before joining SAFE, Zhu had worked as a fund man­ag­er and derivatives specialist at Pacific Investment Management Com­pany (PIMCO), one of the world’s largest and most prominent investment

178

S tat e A dminis t rat ion of F oreign E x change

­ ouses. At PIMCO, Zhu was considered the right-­hand man to the h legendary bond investor Bill Gross.53 ­After joining SAFE, Zhu’s extreme reluctance to make public appearances earned him the reputation of “the invisible man” ­behind SAFE’s investment operations.54 SAFE improved its investment per­for­mance with Zhu as the new CIO. He ­adopted a more aggressive investment approach, leading SAFE to overtake CIC in terms of its overseas investment portfolio size. 55 In June  2010, about four months ­a fter Zhu began his tenure, about 45 ­percent of China’s reserves ($1.11 trillion) w ­ ere estimated to be invested in US Trea­suries. Zhu slowed the pace of SAFE’s Trea­sury purchases and increased US corporate debt and other private debt purchases. In September 2013 China’s holdings of US Trea­suries ­were estimated to have risen by $180 billion to $1.29 trillion, but exposure had dropped to about 35 ­percent as a percentage of reserves.56 Several of Zhu’s investments w ­ ere highly successful despite being deemed unconventional and even aggressive for foreign exchange reserve management. A former employee who worked at SAFE for nearly a de­cade commented in an interview that it was not unusual for SAFE to execute trades of up to $1 billion at a time.57 In separate conversations with six other SAFE employees, Zhu received praise for having persuaded SAFE’s investment committee to increase exposure to Japa­nese equities just before the second half of 2012, when prices r­ ose sharply. Zhu was also responsible for SAFE’s investments in Eu­ro­pean debt, a move that some deemed too risky but that ultimately yielded g­ reat investment returns. Zhu also led SAFE in several overseas investments that ­were highly profitable but also highly unconventional. For example, in August 2011 SAFE became one of the largest single shareholders of Munich Re, the world’s largest reinsurance provider, amassing a 3 ­percent stake. 58 In July 2012 SAFE agreed to pay General Motors’ pension plan up to $2 billion for its interest in private equity funds managed by Carlyle Group, Blackstone, and CVC Capital Partners. As a result of this deal, SAFE became a significant backer of private equity in the United States and Eu­rope. The direct po­liti­cal implication of SAFE’s positive investment per­for­mance was that it sheltered the PBoC and SAFE from overbearing

179

SOVEREIGN FUNDS

po­liti­cal demands and harsh domestic public criticism.59 SAFE’s improving investment track rec­ord allowed it to defend against po­liti­cal pressure to transfer additional foreign exchange to CIC ­after 2012. During Zhu’s tenure, which ended in 2014 when he resigned for undisclosed reasons, SAFE also significantly expanded the geographic breadth of its global operations on top of diversifying its investment portfolio.60 In May 2013 SAFE opened a New York office on Fifth Ave­nue. The new office targeted real estate and private equity, another significant step t­oward diversifying China’s foreign exchange reserves away from US government securities. The launch of SAFE’s New York office intensified the direct competition between SAFE and CIC.

Conclusion A defining feature of SAFE-­affiliated foreign exchange investment funds is the $1–­$1.5 trillion in assets they collectively manage. Th ­ ese assets are excluded from China’s official foreign exchange reserves statistics ­because they do not fit the IMF’s definition of foreign exchange reserves. More specifically, they are invested in part in risky and illiquid assets that are ill-­suited to meeting the country’s balance of payment needs. In addition, as discussed ­earlier, many SAFE-­affiliated foreign exchange investment funds do not show up on the PBoC’s orga­nizational chart, and the assets they manage do not show up on the PBoC’s balance sheet. The fact that ­these funds are off-­balance-­sheet, and that their investments expose SAFE and the PBoC to significant risk compared to conventional reserves assets, indicates that the true purpose of t­ hese funds is not managing the balance of payments. Instead, as we have seen elsewhere, their true purpose is to leverage China’s foreign exchange reserves to finance China’s national strategies. The expansion of Buttonwood and the proliferation of SAFE’s offshore investment funds have led to a substantial international network for SAFE to transform China’s foreign exchange reserves into strategic assets that can contribute to China’s economic growth and advance the strategic interests of the Party (Figure 4.7). 180

S tat e A dminis t rat ion of F oreign E x change

Beijing Fengshan Investment State Administration of Foreign Exchange (SAFE)

Buttonwood Investment Holding Co., Ltd

Beijing Kunteng Investment Beijing Jiyuan Investment Zhonghui Reserve Investment

Onshore Offshore

Huaxin (Singapore)

Hua’an (Hong Kong)

Frankfurt Exchange Office

Hua’ou (London)

Huamei (New York)

Gingko Tree Investment Ltd Beryl Datura Investment Ltd

CNIC Corporation Ltd

FIGURE 4.7  The international network of SAFE-­owned investment funds.

The PBoC and SAFE developed three primary approaches to investing China’s foreign exchange reserves and bankrolling the Party’s prioritized agenda both directly and indirectly. The first approach has been establishing several wholly owned investment funds in major global financial centers. Th ­ ese overseas funds have a specific market focus and provide geographic and asset class diversification to SAFE’s foreign exchange investment portfolio. Like CIC and its subsidiaries, the SAFE-­affiliated investment funds invest in global markets on behalf of the Chinese state and the Party. Another alternative investment strategy employed by SAFE to invest China’s foreign exchange reserves has been to use the special purpose vehicle Buttonwood Investment. Buttonwood, so far, has performed three functions. The first was the capitalization of the Silk Road Fund 181

SOVEREIGN FUNDS

(SRF), a flagship policy-­oriented investment fund to support the BRI. The second was replenishing the capital base of China’s major policy banks and capital-­oriented financial institutions. The third was boosting investor confidence by buying up depressed stocks during times of tumult in China’s equity markets. Through Buttonwood, the PBoC and SAFE became the largest shareholder of the SRF. The SRF has directly provided proj­ect finance to Chinese SOEs and supported their overseas mergers and acquisitions of natu­ral resources and pieces of infrastructure. SFR has also directly purchased strategic infrastructure assets in countries along the BRI. Although SAFE and the CIC are partners in SFR, they do not share equally in its success. SAFE owns about 65  ­percent of SRF; CIC has a 15 ­percent owner­ship interest. In the bureaucratic rivalry between the PBoC and SAFE versus the MoF and CIC, the rising importance of SRF as a tool of China’s economic statecraft has tilted the balance of power ­toward the PBoC and SAFE. Using SAFE Co-­Financing to leverage reserves, SAFE has also sought to diversify reserves by providing off-­balance-­sheet foreign exchange entrusted loans to Chinese companies through entrusted agent banks. Eligible Chinese corporations in need of foreign currency take out foreign exchange loans from SAFE’s entrusted agent banks at low cost. Entrusted loans are another channel by which SAFE finances China’s corporations as they “go out” and advance China’s strategic interests overseas. In the course of its rising activism in global markets, SAFE has never had qualms about publicly acknowledging that its investment strategies are in furtherance of China’s national interests. For example, SAFE’s annual reports consistently state that its mission is “to optimize and diversify the use of foreign exchange reserves to serve national strategies.”61 ­These reports describe its investment portfolio in terms of a checklist of its adherence to the state’s strategic priorities, which raises questions about SAFE’s commitment to market princi­ples in its investment decisions. At no time was foreign criticism of SAFE’s be­hav­ior greater than when reports surfaced that China’s leaders ­were using potential investments from SAFE as po­liti­cal leverage to isolate Taiwan diplomatically. 182

S tat e A dminis t rat ion of F oreign E x change

In January 2008 a memorandum released on Costa Rica’s Foreign Ministry website publicly stated that China had agreed to buy $300 million of Costa Rican government bonds as part of an incentive package to persuade Costa Rica to end its diplomatic recognition of Taiwan. According to the document, SAFE purchased $150 million in bonds at a 2 ­percent annual interest rate and agreed to buy the rest in January 2009.62 Additionally, China would give Costa Rica another $130 million in direct economic aid without any need for repayment. It would also provide twenty scholarships for Costa Rican students to study in China.63 In a letter dated January 2, 2008, Fang Shangpu, a SAFE official, wrote to the Costa Rican Finance Ministry setting out the terms of the deal, including a request that Costa Rica “­shall take necessary mea­sures to prevent the disclosure of the financial terms of this operation and of SAFE as a purchaser of the bonds.” On January 7, Finance Minister Guillermo Zuniga replied, “It is a plea­sure for me to confirm that ­t hese suggestions are acceptable to us.” Also released was a letter by Costa Rican Foreign Ministry official Edgar Ugalde, confirming that SAFE’s first investment of $150 million took place on January 23, 2008.64 SAFE’s involvement in the Costa Rica incentive package deal was considered prime evidence that SAFE has become an integral part of China’s economic statecraft. The US-­China Economic and Security Review Commission, a US government panel, argued that China’s foreign exchange reserves had become a tool to achieve China’s foreign policy goals.65 Foreign media and think tanks have also harshly criticized SAFE. The New York Times wrote, “China used the muscle of its enormous foreign exchange reserves . . . ​to further its po­liti­cal goals despite promises that it would not do so.”66 Kerry Brown, a se­nior fellow at Chatham House, told the Financial Times that the Costa Rican affair was “the first smoking gun that proves China uses its foreign exchange reserves for po­liti­cal purposes.”67 This po­liti­cally motivated deal severely damaged SAFE’s credibility as a po­liti­cally impartial market participant. The controversy also put CIC at risk of becoming collateral damage. The willingness of SAFE to participate in an overt geopo­liti­cal power play confirmed for many critics the notion that Chinese state-­led 183

SOVEREIGN FUNDS

investors always have ulterior motives. This perception was a potential threat to CIC, which strived to portray itself as a transparent and market-­oriented institutional investor in its early years. CIC’s desire to bolster its reputation as a professional investor was why it voluntarily signed on to the Santiago Princi­ples, a series of best practices designed to promote good governance and prudence among sovereign funds worldwide.

184

5

Sovereign Funds in a Changing Global Geoeconomic Landscape

The Party-­State’s creation of several sovereign funds has taken place

against the backdrop of China’s growing foreign exchange reserves and a consensus among the core leadership of the Communist Party of China (CPC) that reserves o ­ ught to be used strategically to support the Chinese economy and advance the national interest. The case studies presented in the previous chapters of this book show how China’s sovereign leveraged funds (SLFs) differ from commodity-­based sovereign wealth funds (SWFs). China’s SLFs have two primary distinctive features: first, the funds w ­ ere seeded with capital raised from the Chinese state taking on “leverage” in the form of ­either explicit or implicit liabilities; second, the funds ­were generally founded without an explic­itly defined geoeconomic mandate but have tended to adopt an under­lying geoeconomic agenda as they have expanded in global markets, advancing the strategic interests of the Party-­State beyond China’s territorial borders. China’s SLFs empower the Party-­State to shape markets without heavy-­handed coercion and to proj­ect its geoeconomic power abroad. They transform China’s comparative manufacturing advantage and strong international trade position into strategic assets that can grow China’s geoeconomic capacity in the long run. SLFs make it more financially and po­liti­cally affordable for the state to implement industrial policy and exert geoeconomic power by taking an active role in global markets and becoming shareholders in companies with strategic value.

SOVEREIGN FUNDS

This model contradicts the classic characterization of the state described by John Zysman: “To be a player in the market, a government bureaucracy must be able to make its administrative or regulatory decisions contingent on par­tic­u ­lar actions taken by the firms it administers or regulates.” SLFs neither administer nor regulate the companies in which they invest. They provide the state with a new way to engage with markets that is less reliant on directives. China’s SLFs and their overseas assets do not represent an uncompromised geoeconomic strength. ­Under some circumstances ­these funds could become strategic vulnerabilities. The more reserves China invests overseas, the more assets t­ here are for the US government and its allies to seize or other­wise hold hostage in the event a conflict erupts between China and the West, such as a clash over the sovereignty of Taiwan. This geoeconomic weakness was demonstrated to China’s leaders when Western governments responded to Rus­sia’s invasion of Ukraine by freezing the assets of Rus­sia’s central bank while also sanctioning Rus­sia’s sovereign wealth fund. ­There is no straightforward way for China to invest state-­owned assets and foreign exchange reserves in the US-­led global financial system while also sheltering itself from the coercive geoeconomic power of the US government. Although SLFs pre­sent many benefits, China’s leaders have learned that ­t hese funds are most effective at advancing China’s strategic interests when used subtly rather than as part of an overt geopo­liti­cal power play. In times of major geopo­liti­cal conflict, China’s assets held abroad could become a strategic vulnerability as foreign governments target t­hese assets by freezing them or sanctioning the entities that control them. Fi­nally, it is worth remembering that China’s state-­led strategic investments have encountered growing pushback in the form of enhanced foreign direct investment (FDI) from the governments of the countries in which they seek to invest. Chinese institutional investors’ reputation for having ulterior strategic motivations in their overseas mergers and acquisitions has ultimately increased the difficulty of securing investment opportunities in foreign markets. In some ways, the past success of China’s SLFs has made them less effective ­going for186

S overeign F unds in a C hanging G lo b al L andscape

ward, as each new investment engenders more scrutiny. The acquisition of prominent companies by China’s SLFs has stoked a public debate in the West about the strategic risk posed by state-­owned investors. The policy response of Western governments so far has been disjointed, tightening their individual respective national screening regimes for foreign direct investment. A more effective response would be based on the risk-­ management princi­ples of avoidance and hedging and involve coordination between the United States and its allies.

Sovereign Leveraged Funds and Geoeconomics Many scholarly works treat China’s sovereign funds as outliers among the global collection of SWFs, as unusual but not distinct. This tendency to ignore the diversity of sovereign funds by simply labeling them all as SWFs has been described by University of ­Virginia professor Herman Schwartz as being like putting apples, lobsters, and bliss potatoes into the same pot just ­because they are all red.1 In this book, China’s sovereign funds receive a closer inspection that sets them apart entirely from other SWFs. By applying an analytical framework summarized as “follow the money, find the politics,” this book shows that China’s sovereign funds represent an entirely new class of funds: sovereign leveraged funds (SLFs). In introducing the notion of sovereign leveraged funds, I aim to underline the varied purposes and structures of the world’s sovereign funds. SLFs are capitalized by leveraging idle reserves, whereas SWFs are typically capitalized by cash flow from the monetization of natu­ral resources. The distinctive feature of a SLF is the source of its seed capital, which the state raises through a complicated and opaque pro­cess of debt issuances, capital transfers, and policy changes that ultimately result in the state taking on financial leverage to create the fund. Any state with strong enough po­liti­cal leadership to overcome bureaucratic inertia can follow the SLF model to adapt or create new institutions with a mandate to leverage the state’s ­limited capital resources and manage the associated financial risks. Whereas the SWF 187

SOVEREIGN FUNDS

model mainly applies only to ­t hose few countries that are lucky enough to have a substantial natu­ral resource endowment, e­ very country has the potential to launch a SLF. At the macro level, China’s experience with SLFs further demonstrates that state participation in the market does not necessarily unduly distort an other­wise perfect market. China’s sovereign funds have in the past saved China’s failing banks, rescued struggling brokerage firms, and supported the development of the major Chinese policy banks. China’s sovereign funds have financed the growth and expansion of some of the most valuable Chinese tech companies, like internet ­giants Alibaba and Didi. They have also bankrolled overseas mergers and acquisitions by China’s state-­owned enterprises (SOEs). Over the years, Chinese SLFs have selectively invested in companies in state-­ prioritized industries with several objectives. Th ­ ese include promoting the comparative advantage of Chinese firms in international markets, gaining access to advanced technologies developed by foreign firms, and taking owner­ship of critical infrastructure proj­ects. The growth of ­these funds’ assets corresponds to the growing strength of China in geoeconomic terms. SLFs are similar to what Alexander Gerschenkron described as “capital mobilizers” in the way they maximize the utility of the resources available to the state. Gerschenkron explained that dif­fer­ent institutions or­ga­nized the pro­cess of industrialization depending on when an economy joined the competitive industrialized world. He credited the success of late industrializing states like Germany in catching up to early industrializers, like ­Great Britain, to the influence of capital mobilizers. Late industrializers had to build up substantial industrial strength to overcome the significant advantages of early industrializers in both trade and military power. The state and banks ­were the capital mobilizers that financed the industrialization pro­cess of laggards like France, Germany, and Rus­sia, whereas individual cap­i­tal­ist entrepreneurs w ­ ere the d ­ rivers of Britain’s industrial leadership.2 By this logic, to quickly amass industrial strength in a con­temporary context, a late industrializer must have sufficient capital to ­either sponsor the rapid development of a domestic industrial research and development (R&D) 188

S overeign F unds in a C hanging G lo b al L andscape

capacity or acquire advanced foreign technology. China’s SLFs have provided the capital necessary for the Chinese economy to take both approaches. They directly finance China’s indigenous technology companies whose development proj­ects align with and best serve the Party-­ State’s strategic development agenda. The funds have also bought equity stakes in foreign technology companies with cutting-­edge R&D capacity to fill the gaps in China’s industrial development and leapfrog the incremental pro­gress of the early industrializers. Gerschenkron concluded that the more backward a country’s economy, the more central the role of “special institutional f­actors” in the economy and the more coercive and comprehensive t­hose ­factors became.3 The experience of China’s SLFs suggests this is partially true. Institutional f­actors play an indispensable role in amassing the production capacity and po­liti­cal ­w ill necessary for an eco­nom­ically backward country to implement an industrial catch-up policy. However, such institutional ­factors need not be coercive or antimarket. China’s SLFs allow the state to be an active market participant that can exercise shareholder rights in portfolio companies without resorting to coercive regulatory mea­sures. China’s sovereign funds are able to finance the Party’s ambitions b ­ ecause of their unique features. As Angela Cummine observed, both CIC and SAFE are outliers within their respective cohort of peer funds.4 The previous chapters’ case studies illustrate how China’s sovereign funds are exceptional in the po­liti­cal economy of their funding structures. As discussed in Chapter 2, China’s experiment with leveraging its reserves started with the transfer to Central Huijin of $66.4 billion in foreign exchange reserves in 2003. Central Huijin acted on behalf of the Chinese government to recapitalize China’s failing banks and reform China’s nonbanking financial institutions. ­Later, Central Huijin was purchased by CIC and became CIC’s domestic subsidiary. Central Huijin started as a special purpose vehicle without a long-­term purpose, but it has since developed into the “shareholder-­in-­chief” of the Chinese financial system. Although Central Huijin does not invest overseas directly, it provides equity capital to support the overseas investments of Chinese SOEs and China’s policy-­oriented financial institutions. .

189

SOVEREIGN FUNDS

Central Huijin was China’s first attempt at leveraging foreign exchange reserves to solve an urgent domestic crisis. Central Huijin succeeded and subsequently outgrew its original task. Central Huijin holds equity stakes in its portfolio companies and exercises shareholder rights on behalf of the CPC and the Chinese state. The success of Central Huijin demonstrated the efficacy of deploying foreign exchange reserves to support domestic economic and financial development. This encouraged Chinese policymakers to further leverage China’s foreign exchange reserves for strategic investment. As described in Chapter 3, the creation of CIC is an example of the state taking on explicit leverage by issuing debt. The Ministry of Finance (MoF) issued special treasury bonds whose proceeds w ­ ere used to purchase foreign exchange reserves from the ­People’s Bank of China (PBoC) to capitalize CIC. Although this pro­cess did not require especially sophisticated financial engineering, it did require a tremendous amount of po­liti­cal engineering to coerce several government agencies to ultimately move the foreign exchange reserves out from ­under the control of the PBoC to CIC for investing purposes. It also required leveraging state-­owned financial assets and the po­liti­cal power and authority of the Party. In short, sovereign leveraged funds such as CIC are deeply embedded in the domestic political-­economic pro­cess and inevitably take on missions closely aligned with the state’s strategic interests. Besides taking on explicit leverage and establishing CIC, China’s Party-­State has also taken implicit off-­balance-­sheet leverage through the PBoC’s foreign exchange management arm, the State Administration of Foreign Exchange (SAFE). SAFE has established a network of global investment offices that invest part of China’s foreign exchange reserves in riskier and less liquid asset classes other than foreign government securities. The fact that SAFE’s annual reports do not disclose some of t­ hese SAFE-­a ffiliated investment funds indicates the lack of transparency that is part and parcel of ­these funds’ implicit leverage. Economists have recently questioned why China’s trade surplus has continued to grow without a commensurate rise in China’s official foreign exchange reserves in statistical accounts. One pos­si­ble explanation 190

S overeign F unds in a C hanging G lo b al L andscape

is hidden capital flight, which would be difficult in this era of tightened capital controls. Another explanation is that foreign exchange earned from China’s trade surplus does not go into the central bank’s reserve management account but is instead siphoned off into sovereign leveraged funds for investment overseas. The defining characteristic of China’s complex of SLFs is the use of foreign exchange reserves to pursue both tangible financial returns and intangible strategic gains. The assets managed by China’s sovereign leveraged funds are off the balance sheet of the PBoC and do not count ­toward official reserves. The creation of CIC and SAFE-­affiliated investment funds reduced China’s official foreign exchange reserves by converting reserve assets into risk-­bearing capital for investment. The Chinese government has used t­hese reserves to achieve its prioritized agenda: first, to recapitalize failing Chinese banks through Central Huijin; second, to secure access to natu­ral resources; and third, to support the overseas expansion of Chinese corporations, and most recently by financing the ­Belt and Road Initiative (BRI). Since 2007, CIC and SAFE-­affiliated investment funds have become more sophisticated in their overseas investment activities. They have grown to become significant market participants in terms of both their assets and their prestige. Each has developed its own distinct culture and approach to investing. CIC has taken pains to pre­sent itself to the global financial community as a traditional institutional investor by being relatively transparent and pledging to be impartial to politics. Soon a­ fter its founding, CIC signed on to the Santiago Princi­ples, a set of guidelines on transparency and governance designed by the IMF and meant explic­itly for government-­owned investment funds. In CIC’s early days, Chairman Lou Jiwei made g­ reat efforts to pre­sent CIC as a market-­oriented, stabilizing force in global markets. Not every­one shared this view of CIC, and Chairman Lou publicly expressed frustration that some Western countries used “national security” as an excuse to block CIC’s investments. ­After Lou left CIC and was succeeded as chairman by Ding Xuedong in 2013, CIC began to align its investment strategy much closer to China’s national economic strategy while still maintaining its previous transparency. 191

SOVEREIGN FUNDS

Compared to CIC, SAFE remains an opaque institution that has largely been able to avoid public scrutiny. Neither SAFE nor its affiliated investment funds disclose their portfolio holdings or gains and losses. At times this penchant for secrecy has protected SAFE from criticism. For example, CIC received heavy public criticism when its first investments made during the 2008 financial crisis turned out to be loss-­ making. By contrast, SAFE’s public reputation was unaffected even though its investment losses in 2008 w ­ ere likely much greater than CIC’s. The Financial Times reported that while CIC was savaged domestically for losing more than $4 billion in its misjudged investments in Blackstone and Morgan Stanley, the secretive SAFE faced hardly any criticism even though its losses during the same period were estimated to be as much as twenty-­fold greater than ­those of CIC. CIC may have learned a po­liti­cal lesson from SAFE that transparency is not always worthwhile. One longtime observer of CIC said the fund “has turned to stealth mode; it is d ­ oing transactions and is looking at lots of resource-­related deals all over the world, but it is trying to hide its involvement.”5 Undoubtedly, ­there is some truth to t­ hese comments. CIC may be motivated by a desire to avoid potential domestic criticism of its actions and to head off reactionary protectionism in the countries in which it invests. Notwithstanding the rivalry between the two institutions, both CIC and SAFE have consistently been led by men who share an intense loyalty and close connections to the highest ranks of China’s Community Party. The Party closely guards the path to the top positions inside China’s sovereign leveraged funds. The leaders of CIC and SAFE have always been handpicked and prepared by the Party’s Orga­nizational Department, guaranteeing the Party’s supreme leadership over ­these two institutions. Although CIC and SAFE have expanded their recruiting to become more professional and international, their se­nior positions have always been occupied by Party loyalists with de­cades of experience as po­liti­cal mandarins. For ­t hese men, Chinese politics is never far from the mind. It is not unusual for the same generation of Chinese bureaucrats to spend de­cades repeatedly interacting with each other in many dif­fer­ent roles across the agencies of the Chinese government. ­W hether at CIC or SAFE, no ­matter where they go, they are all the Party’s men. 192

S overeign F unds in a C hanging G lo b al L andscape

The cases of Central Huijin, CIC, and SAFE-­a ffiliated investment funds show how China’s SLFs finance the CPC’s global ambitions in three primary ways. The first is converting China’s foreign exchange reserves into strategic overseas assets and acquiring portfolio companies that can best serve the developmental needs of the state. In this way, China’s sovereign funds transform the Party-­State into a “shareholder state” that can mobilize public and private firms to build China’s comparative advantage in sectors prioritized by the Party-­State. China’s sovereign leveraged funds use the power of capital allocation and international investments to advance China’s industrial policies. The second is by serving as intermediaries between the Party-­State and global markets, providing equity capital or entrusted loans to other policy-­ oriented financial institutions and Chinese enterprises to support their overseas investments. CIC, SAFE-­affiliated investment funds, and their subsidiaries have recapitalized state-­owned policy banks, commercial banks, insurance companies, and other financial institutions. Th ­ ese institutions have directly financed the global activities of Chinese companies and bankrolled China’s major strategic initiatives, such as the BRI. Fi­nally, SLFs partner with other sovereign investors and private investment institutions to establish cooperation funds. The practical function of t­hese cooperation funds is twofold. First, by partnering with prominent Western private institutional investors, China’s SLFs aim to alleviate mounting national security concerns against China’s state-­led investment in Western markets, especially in sensitive sectors such as technology and critical infrastructure. Second, by partnering with other sovereign wealth funds and state-­owned investors, China’s SLFs become an integrated part of China’s economic statecraft, advancing the Party’s strategic interests and foreign policy goals. ­These three channels of activity allow the CPC and the Chinese state to shape markets without resorting to administrative directives. This enables the state to actively participate in markets at home and abroad and have skin in the game as an equity shareholder in curated portfolio companies in the industries prioritized by the state. By investing equity capital in promising firms rather than imposing coercive regulations, China’s SLFs finance the Party-­State’s industrial strategies to catch up 193

SOVEREIGN FUNDS

with the global leaders in strategic sectors and improve China’s industrial competitiveness. The funds are the interface between the state and private firms, allowing the state to flexibly use noncoercive mea­sures to support markets or correct market failures whenever necessary and to step back other­w ise. The evolution of Central Huijin, CIC, and SAFE-­a ffiliated investment funds as sovereign leveraged funds epitomizes China’s unconventional capitalism in the age of financial globalization. This evolution has been a state-­engineered endeavor in financial risk-­taking—­leveraging the country’s reserves to participate in international financial markets with the goal of both tangible financial returns and intangible strategic gains. The case study of China’s SLFs complex shows that their overseas investment activities and acquisitions have largely followed the pattern of China’s evolving domestic needs and the Party’s national strategies. At home, China’s SLFs have acted as the vis­i­ble hand of the state. Central Huijin is the largest shareholder of many Chinese financial institutions. At the same time, SAFE-­a ffiliated investment companies maintain a lower profile, but both are prepared to provide liquidity to support China’s domestic financial market in times of crisis. In global markets, China’s sovereign leveraged funds are profit-­seeking investors and agents representing the Chinese state to pursue intangible po­liti­cal gains. They can be tools of financial statecraft used to shape other countries’ foreign policy choices and finance China’s strategic proj­ects. China’s Geoeconomic Capacity

Stephen Krasner argued that the ability of po­liti­cal leaders to mobilize domestic resources depends on two key variables: the structure of the domestic po­liti­cal system and the convergence between public and private interests. According to Krasner, the characteristics of a po­liti­cal system are defined by the state’s power in relation to society. He envisioned the state’s power sitting along a continuum ranging from weak to strong. The weakest kind of state is one that is “completely permeated by pressure groups.” In contrast, the strongest is one that is “able to remake the society and culture in which it exists: that is, to change economic 194

S overeign F unds in a C hanging G lo b al L andscape

institutions, values, and patterns of interactions among private groups.”6 Krasner also offered three questions that help gauge the domestic strength of the state: (1) Can the state formulate policy goals in­de­pen­dent of par­tic­ u­lar groups within its own society? (2) Can the state change the be­hav­ior of specific groups? (3) Can the state directly change the structure of the society in which it operates? According to this model, the US government is weak b ­ ecause its executive authority is dispersed and vulnerable to interest-­group pressure. China’s Party-­State seems strong ­because it is relatively insulated from interest-­group pressure. In par­tic­u ­lar, the Party changed its conservative approach to managing China’s foreign exchange reserves irrespective of entrenched interests. The Party also mobilized central bankers and other policymakers around the new consensus of using reserves to make strategic investments. In light of ­t hese accomplishments, it is easy to overestimate the capacity of the Chinese Party-­State, especially regarding its capacity abroad. As John Zysman correctly pointed out, the strong state–­weak state continuum refers to a generalized capacity, not to specific abilities to carry out par­tic­u­lar tasks.7 Moreover, a strong state can exercise strength in the domestic arena but may not necessarily be able to proj­ect its power overseas. The US government is weak domestically due to pressure from many domestic interest groups, but it is the only credible hegemonic power in the global system. Despite its domestic strength, China’s Party-­State is a rising aspirational power at most, with ­limited global influence. The Party-­State may be strong at home, but it has a terrible historical track rec­ord of using its administrative power to allocate credit for economic development. SLFs improve the financial management competence of the Party-­State by reallocating capital from low-­return reserve assets to strategic assets or direct investments in firms with the desired R&D capacity. For China’s Party-­State, having SLFs at its disposal allows it to exercise asymmetric geoeconomic power to secure strategic assets in global markets, bankroll industrial policies, and grow China’s geoeconomic capacity in the long run. Unlike during the Cold War, the front line of the g­ reat power competition between the United States and China is not the military battlefield but instead nontraditional security domains like cyberspace, financial 195

SOVEREIGN FUNDS

markets, and corporate governance. In the latter two, China’s sovereign funds possess an asymmetric capability that could become a decisive advantage. While the dollar’s dominance as a funding currency grants the US government significant influence over the plumbing of the global financial system, China’s sovereign funds enable the Chinese state to act at the firm level to shape market incentives from within the US-­led financial system. Compared to the United States, China lacks the soft power to shape the agenda at the vari­ous international forums and bodies that set the rules of international finance, like the International Monetary Fund (IMF) and the Financial Stability Board (FSB). Rather than attempting to dislodge the United States as the leader of ­these clubs, China offsets its relatively weak position by participating in financial markets through direct equity investments, pushing competitive market forces ­toward alignment with its strategic interests. By acting at the firm level, the Chinese state can efficiently secure access to the overseas markets, resources, and technologies necessary to propel its economy without engaging in direct conflict with the United States. For this reason, China’s sovereign funds are essential geoeconomic tools for the Communist Party of China and the Chinese state (the Party-­ State) to advance its strategic interests beyond China’s territorial borders without resorting to coercion. The United States is at risk of surrendering its leadership in financial markets e­ arlier than anticipated and in unexpected parts of the world if its leaders fail to understand the unique model of China’s sovereign funds and its implications for state-­led investment globally. SLFs have become an essential geoeconomic tool of China’s Party-­State to advance its strategic interests beyond China’s territorial borders without resorting to military coercion. ­These funds allow Chinese policymakers to wrap markets in the amorphous po­liti­cal power of the Party-­State. Of course, China’s Party-­ State did not invent state-­ sponsored tools of geoeconomics, such as overseas investment, sovereign lending, or economic aid. However, it has pioneered the use of both po­liti­cal and financial leverage to redeploy what used to be idle foreign exchange reserves as risk-­ bearing investment capital in global markets. Sovereign leveraged funds are more than tools through which the Party-­State exercises China’s eco196

S overeign F unds in a C hanging G lo b al L andscape

nomic power to advance geopo­liti­cal goals by making investments. The funds have transformed China’s comparative advantage in international trade into strategic investments that have grown China’s national competitive advantage and geoeconomic capacity. Most Chinese SLFs ­were not established with explicit geoeconomic motivations, nor w ­ ere they initially created as platforms of global power projection. Chinese leaders’ decision to create ­t hese funds using China’s foreign exchange reserves was motivated primarily by domestic considerations rather than an intention to weaponize China’s reserves. Th ­ ese domestic considerations include improving China’s financial security, securing access to strategic resources, bankrolling mergers and acquisitions by Chinese SOEs, and ultimately supporting China’s economic development. Crises at home and abroad have s­ haped and expedited the Party-­State’s policy change from focusing on reserve accumulation to considering reserve diversification and investment in strategic assets. The 1997 Asian financial crisis led Chinese leaders to embrace the issue of financial security as an indispensable part of national security for the first time. In the early 2000s, Chinese banks strug­gled ­under the weight of nonperforming loans that posed a systemic threat to China’s financial security. Chinese leaders responded by leveraging China’s foreign exchange reserves to capitalize Central Huijin and tasked it with rescuing the banks. This action was not motivated by an explicit ­grand geopo­liti­cal strategy but by the urgent need to recapitalize China’s failing banks and head off a full-­blown domestic banking crisis. Similarly, the lack of a clearly defined mandate in the early years of CIC reveals that Chinese leaders created CIC not with a specific geopo­liti­cal agenda but with the general notion of using CIC as a vehicle to efficiently allocate China’s reserves. Among the funds analyzed in this book, only the Silk Road Fund was established as a dedicated policy-­financing institution. The fund was created with the mission to finance the BRI, President Xi’s signature proj­ect that is widely viewed as aiming to proj­ect Beijing’s influence across the Eurasia continent and reduce China’s vulnerability to global strategic chokepoints in the international sea lanes dominated by the United States. The other SLFs discussed in this book did not have an 197

SOVEREIGN FUNDS

explicit geopo­liti­cal agenda when they ­were established, but they have nonetheless become the financiers of the Party’s geopo­liti­cal ambitions—­ including, but not ­limited to, the BRI. As Central Huijin outgrew its original mission of bailing out crippled state-­owned banks and brokerages, it became the single most impor­tant shareholder of nearly ­every major Chinese financial institution and exercises shareholder rights on behalf of the Party-­State. Although it does not have direct overseas exposure, Central Huijin has acted ­behind the scenes to financially support Chinese commercial banks and policy banks that invest in overseas strategic assets and infrastructure proj­ects. CIC was not created with a specific geopo­liti­cal mission but has evolved to incorporate specialized subsidiaries and overseas joint investment funds that proj­ect and grow China’s geoeconomic power. Although SAFE has mainly been successful in its global image campaign to portray itself as a commercial investor, its activities belie a constant effort to expand China’s geoeconomic capacity. SAFE is the principal man­ag­er of China’s massive foreign exchange reserves, a job that is supposed to be far removed from geopo­liti­cal influences. However, SAFE and its affiliated investment funds have served as a critical source of financial support for China’s most impor­tant geopo­liti­cal proj­ects. SAFE is the most significant capital contributor to the Silk Road Fund, which has the expansion of the BRI as part of its mandate. For the most part Chinese leaders have exercised caution and have often resisted the temptation of explic­itly using China’s sovereign funds to distribute geoeconomic rewards or to mete out financial punishment. In many ways, the experience of using SAFE to win a quick geopo­liti­cal victory against Taiwan vis-­à-­v is Costa Rica was such an effective tool of persuasion that it backfired. Major global news outlets highlighted the controversial role of SAFE and the use of China’s foreign exchange reserves in this deal. For example, in an article with the headline “Beijing Uses Forex Reserves to Target Taiwan,” the Financial Times described this as “the clearest proof yet” that Beijing regards its foreign reserves “as a tool to advance its foreign policy goals, as well as a potential source of income.”8 The Wall Street Journal ran an article headlined “China Used Reserves to Sway Costa Rica.”9 This news coverage demonstrated 198

S overeign F unds in a C hanging G lo b al L andscape

the geoeconomic potential of China’s massive foreign exchange reserves while also exposing its limits. Such a high-­profile controversy eroded the credibility of SAFE and ultimately caused collateral damage to the reputation of CIC. Since this debacle, it is likely that Chinese policymakers have learned their lesson or have other­wise been advised that a more subtle approach that does not directly involve China’s sovereign funds is the most effective way to proj­ect China’s geoeconomic power. This recognition was likely the motivation ­behind launching a designated policy financing instrument, the Silk Road Fund, to finance the BRI rather than having SAFE finance the proj­ect directly. Learning from SAFE’s ill-­fated foray into international politics with regard to Costa Rica, the leadership at CIC was keenly aware from the fund’s inception of the potential long-­term credibility damage and reputational cost if CIC w ­ ere to become the subject of similar controversy. At the time of SAFE’s debacle, CIC had been operating for barely a year and was striving to build its image as a “professionally managed fund” with widespread credibility as a “normal profit-­driven market participant in global markets,” according to CIC’s public relations chief during an interview.10 CIC’s state-­owned nature greatly complicates and sometimes impedes its investments in Western markets, where its bids have often received intense scrutiny and, in some cases, been blocked by foreign governments citing national security concerns. If CIC in its early days was perceived as directly serving the Party-­State’s geopo­liti­cal interests, then the fund might have suffered irreversible reputational damage, and many of its investments prob­ably would have encountered prohibitively onerous scrutiny from Western governments. In other words, if the Party-­State had used CIC to carry out a geopo­liti­cally charged transaction, it would have killed the goose that laid the golden eggs. While CIC was still being or­ga­nized, and a ­little more than a month ­after SAFE’s contentious deal with Costa Rica, CIC leaped at the opportunity to demonstrate that its investment decisions w ­ ere not driven by geopo­liti­cal interests by becoming a voluntary signatory to the Santiago Princi­ples. To further improve its credibility and professionalism, CIC assembled an impressive international advisory council of influential figures from Western countries. Th ­ ese actions demonstrated that CIC’s 199

SOVEREIGN FUNDS

se­nior leadership and some Chinese policymakers intuitively understood what Robert Blackwill and Jennifer Harris would observe: China’s geoeconomic power “may well be most effective when implied rather than exercised outright.”11 In recent years Chinese sovereign leveraged funds have rarely been reported as involved in crass geoeconomic power plays. This is indicative of the considered steps taken to structure and obfuscate the funds’ activities to provide plausible deniability of their role in advancing the Party-­State’s strategic interests. Cultivating a sense of being detached from China’s geopo­liti­cal interests helps Chinese sovereign funds reduce market access barriers and transaction costs when they invest in Western markets, where China’s state-­led investment bids have frequently been red-­flagged as geopo­liti­cally motivated. As foreign animosity ­toward Chinese state-­backed investments has risen, CIC has increasingly turned to joint ventures with influential institutional investors in host countries to shelter its assets from undue scrutiny by foreign governments or to sidestep administrative blocks on investing. CIC has seen some success with this method, as evidenced by the China-­US Industrial Cooperation Partnership, a private equity fund jointly launched by CIC and Goldman Sachs. The Partnership has bought several US firms despite escalating US-­China trade tensions and intense scrutiny from Washington, as discussed in Chapter  3. The effectiveness of the joint venture strategy is most vividly illustrated by Goldman Sachs’s successful advocacy in front of the Committee on Foreign Investment in the United States (CFIUS) that the joint venture’s plan to buy Boyd Corp., a manufacturer of rubber gaskets and seals, be allowed to proceed. President Xi Jinping’s strengthening of the Party’s leadership over China’s financial security and his emphasis on financial security as a core part of national security has eroded the autonomy of Chinese sovereign leveraged funds and increased their geoeconomic involvements. Since April  2017, President Xi has strengthened the Party’s leadership and supervision over China’s financial security. Speaking before the Politburo of the CPC Central Committee in April 2017, President Xi emphasized that “Financial security is an impor­tant part of national security and a key foundation for the stable and healthy development of the 200

S overeign F unds in a C hanging G lo b al L andscape

economy.” He called for “strengthening the Party’s leadership over financial work and adhering to the centralized and unified leadership of the Party Central Committee.”12 President Xi also stressed that “finance is an impor­tant core competitiveness of a country” at the 2017 National Finance Work Conference.13 Xi’s emphasis on financial security as an essential part of national security has been followed by his direct involvement in using China’s sovereign leveraged funds, especially CIC, to advance China’s bilateral relationships and industrial policies. Since 2017 CIC has increasingly financed China’s technology cooperation and investment through joint investment funds. One such case is the US-­China Industrial Cooperation Fund, which was announced on the sidelines of President Trump’s state visit to Beijing in November  2017. In other cases CIC has even footed the bill for initiatives undertaken by other government agencies. For example, in September 2019, Maxim Oreshkin, Rus­sia’s economic development minister, and Wang Zhigang, China’s science and technology minister, signed a memorandum of understanding (MoU) laying out the creation of a $1 billion China-­Russia Science and Technology Innovation Fund.14 CIC’s press release confirmed that it would co-­sponsor the fund alongside the Rus­sian Direct Investment Fund (RDIF).15 The announcement of this joint fund came three months ­after Xi and Putin declared 2020–2021 as the “Sino-­Russian Year of Science and Technology Innovation,” the first of its sort in China-­Russia relations.16 President Xi also highlighted the successful launch of the joint fund in his congratulatory letter to the closing ceremony of the China-­Russia Year of Scientific and Technological Innovation.17 In June 2020 CIC, BNP Paribas, and Eurazeo launched the France-­China Cooperation Fund with an initial capitalization of €400 million ($472 million). This joint fund was established following plans agreed to by President Xi Jinping and President Emmanuel Macron in 2019.18 Sovereign Assets as Strategic Vulnerabilities

China’s SLFs and their assets held overseas are not uncompromised geoeconomic strengths. Chinese sovereign funds and their portfolio assets 201

SOVEREIGN FUNDS

in US-­led global markets could be strategic vulnerabilities in times of economic warfare. This geoeconomic weakness became apparent to the Chinese leadership in the wake of Rus­sian President Vladimir Putin’s decision to invade Ukraine against warnings from Western governments. In addition to levying conventional sanctions on trade, the United States and its allies took the extraordinary step of cutting off several of Rus­sia’s largest banks from the Society for Worldwide Interbank Financial Telecommunication (SWIFT), a financial messaging system that acts as essential plumbing to the existing global financial system. The United States and its allies also froze about $300 billion of the $640 billion that the Rus­sian central bank held in reserves abroad and sanctioned the Rus­sian Direct Investment Fund (RDIF) and its CEO Kirill Dmitriev, a personal po­liti­cal ally of President Putin.19 The coordinated and unpre­ce­dentedly severe financial sanctions against Rus­sia by Western governments sent a chill down the spine of China’s leadership in Zhongnanhai. China’s SLFs and the PBoC have much greater overseas assets than comparable Rus­sian institutions. Officially, Chinese persons and institutions held about $9 trillion in foreign assets at the end of 2021, of which at least $2 trillion w ­ ere US securities.20 Chinese leaders have been alarmed by how readily the West froze Rus­sian central bank reserves and isolated the RDIF. The Financial Times reported that Chinese financial regulators held an emergency meeting with domestic and foreign banks to discuss how they could protect China’s overseas assets from US-­led sanctions similar to t­ hose imposed on Rus­sia.21 Several Chinese academics have already expressed alarm at Chinese reserves and other investments held overseas and the ease with which Western governments could potentially seize ­t hese assets in a conflict over a contentious issue such as Taiwan. Jin Canrong (金灿荣), an influential Chinese ­grand strategist, argues that China must be wary of the United States turning its back on and even seizing China’s foreign exchange reserves, especially amid escalating tensions over Taiwan.22 He argues, “The current Russian-­Ukrainian conflict reveals that the financial sanctions imposed by the United States and its allies are effective to some extent . . . ​W hat deserves most of our vigilance is the safety of our overseas assets. China has more than 202

S overeign F unds in a C hanging G lo b al L andscape

$3 trillion in foreign exchange reserves. The government’s overseas assets alone exceed $8 trillion. What if one day, the United States is drunk and overturns the ­table? This has become a hidden vulnerability. China needs to do more to protect the safety of its overseas assets.”23 Jin’s concerns reflect the dawning realization among Chinese scholars that China’s extensive holdings of US government securities are more of a potential liability than a point of leverage over the US government. If China ­were to retaliate against perceived US aggression by dumping its holdings of US Treasuries onto the global market, that would mostly be a self-­i nflicted wound as China’s substantial remaining dollar-­denominated assets would likely depreciate as well. Furthermore, if Trea­sury interest rates ­were to become unanchored due to China’s actions, the subsequent turmoil in global financial markets would prob­ably splash back onto Chinese financial markets, precipitating precisely the financial instability that China’s Party-­State wishes to avoid. Yu Yongding (余永定), a widely respected voice in China’s economic policy debates and a member of the Advisory Committee of National Planning of the National Development and Reform Commission (NDRC) since 2004, has warned that “If all foreign assets—­public as well as private—­can be frozen in a split second by reserve-­currency countries, policymakers should not even waste their time with hedging mea­sures like diversification.”24 He advised that China should adjust the structure of its overseas assets and liabilities and maintain a degree of capital control to improve investment returns and strengthen the security of China’s overseas assets, especially with regard to reserve assets.25 Yu argued that the US government has already “­stopped playing by the monetary rules.” Yu explained ­there are two primary reasons why China should reduce its reserves. First, China’s disproportionally large holdings of low-­yield US Trea­suries are a “grotesque misallocation of resources” ­because the real net investment income to China from t­ hese holdings has been negative for nearly twenty years. Second, the US dollar is depreciating in real terms ­because of the rapidly increasing national debt and an expansionary monetary policy at the US Federal Reserve that adds to inflationary pressures.26 Yu subsequently proposed that China should move its foreign exchange reserves away from dollar-­denominated assets to 203

SOVEREIGN FUNDS

preempt pos­si­ble asset seizure and instead invest directly in acquiring energy and raw materials.27 It is worth pointing out that some of the recommendations that Yu proposed, such as investing China’s reserves in natu­ral resources, are not new. Many Chinese policymakers and scholars have previously provided a wide range of recommendations regarding how to diversify China’s reserves into strategic natu­ral resource assets. As early as 2010, a Chinese columnist writing for ­Reuters argued that China should reduce its dollar assets by 30  ­percent and diversify its reserves into strategic assets.28 However, what is new in Yu’s proposals is the under­lying motivation. The purpose of moving reserves out of low-­yield US Trea­suries would not be merely to pursue higher returns and reduce opportunity costs but, more urgently, to strengthen the security of China’s reserves assets and preemptively avoid Chinese overseas assets being frozen or confiscated by the West. Learning from the West’s punitive sanctions against Rus­sia following its invasion of Ukraine, Chinese policymakers and scholars have become keenly aware of the danger of investing Chinese assets overseas and then having Western governments seize ­those assets in response to an extreme event, like if the mainland uses military force against Taiwan. Turning conventional wisdom on its head, one could argue that China’s world-­leading stash of reserve assets held overseas may actually be a significant strategic vulnerability of the Party-­State. While the Chinese state cannot feasibly prevent the West from freezing or seizing its overseas assets during a major conflict, it can retaliate by denying Western firms access to Chinese markets or seizing Western investments in China. US-­based investors alone held an estimated $1.2 trillion in Chinese securities at the end of 2020.29 China could also disrupt global supply chains through its control over major global ports along the global maritime commercial sea lanes.30

Mitigating the Risks of Foreign Investments Prior to the global financial crisis, US policymakers ­were aware of the proliferation of SWFs and their growing clout in the global financial 204

S overeign F unds in a C hanging G lo b al L andscape

system. They ­were also mindful that SWFs could have other than market-­driven motivations while making investment decisions and the necessity of preventing such transactions. In October 2007, a month ­after the bankruptcy of Lehman ­Brothers, Trea­sury Secretary Henry Paulson hosted an “outreach dinner” at the Trea­sury Department. The purpose of the meeting was to initiate high-­level discussions on the impact of SWFs and develop a consensus on best practices for SWFs. The attendee list included finance ministers from the G7 group of countries, the respective heads of the International Monetary Fund (IMF), Organ­ization for Economic Co-­operation and Development (OECD), and the World Bank, as well as officials from the sovereign funds of China, Rus­sia, United Arab Emirates, Saudi Arabia, Kuwait, Norway, Singapore, and South ­Korea. The outcome of the meeting was the expression of a shared interest in maintaining an open global investment environment and improving transparency around SWFs.31 This eventually led to the creation of the International Forum of Sovereign Wealth Funds and the Santiago Princi­ples to promote transparency and good governance among SWFs. Since then, voluntary adherence to the princi­ples has been a hallmark of sovereign investors intending to proj­ect an image of themselves as good global citizens in financial markets. However, the princi­ples increasingly appear inadequate for dealing with the concerns that arise when state-­led investment occurs in sensitive sectors with implications for technological supremacy and national security. The investments of China’s SLFs have been the cause of much concern in the West. The global expansion of China’s SLFs reflects the Party-­State’s economic policy shift from emphasizing “reform and opening up” to instead focusing on “­going global.” The investment activities of China’s SLFs and other state-­owned entities have turned the Party-­State into a global investor. The flows of state-­owned capital into private companies have roused national security concerns among Western governments. Plenty of scholarly research has suggested that the rise of the Chinese state as a global investor has caused Western policymakers to become increasingly skeptical about state capital.32 Whereas in the de­cades ­after the Cold War, foreign investment flows w ­ ere generally viewed as beneficial 205

SOVEREIGN FUNDS

and largely benign, the perception that they represent a potential national security threat has recently gained ground. For example, the Eu­ro­ pean Commission on foreign direct investment (FDI) screening into the EU noted a “clear change in investor profiles and investment patterns, i.e., increasingly non-­OECD investors, occasionally with government backing or direction, whose motivation for a par­tic­u­lar investment might not always be exclusively commercial.”33 In Eu­rope and elsewhere, policymakers, academics, and business leaders are concerned that leaving the door open to investment from Chinese state-­owned capital could undermine the long-­term strategic interests of the West. Protecting their strategic industries and national interests from China’s influence is now a top priority for many Western officials. In January 2022, FBI director Christopher Wray described the tactics of Chinese economic influence as “Sometimes they just wave enough money to get what they want, but often they also conceal which companies they actually control or use companies they d ­ on’t literally own but instead can control . . . ​using elaborate shell games to disguise their efforts both from our companies and from our government investment screening program.”34 Six months l­ater the FBI and MI5, the domestic intelligence ser­ v ices of the United States and the United Kingdom, jointly warned of the growing threat posed by the Communist Party of China to UK and US interests and announced a deepening of their partnership explic­itly aimed at combating the influence of the Chinese government on domestic companies and institutions.35 The scope and scale of state-­led investment globally pose a strategic risk that requires a collaborative and concerted response from the United States and its major allies and partners. The classic risk management approach offers four pos­si­ble options to deal with such risk: avoidance, hedging, insurance, and taking no action. The last option is the least appealing, as turning a blind eye to China’s state-­owned capital inflows would be po­liti­cal suicide for any policymaker accused of deliberately ignoring or failing to properly contemplate the national security implications of “red money.” Insurance in this context is not a v­ iable option for vari­ous reasons, not the least of which is that ­t here is no practical way to assess and compensate the sum losses from losing control of 206

S overeign F unds in a C hanging G lo b al L andscape

assets that are of vital national interest. Avoidance practiced in the extreme is an unenviable option. The complete self-­quarantining of the economy against Chinese money and rejection of all Chinese investment might be po­liti­cally expedient but would also jeopardize the open market ideal of capital mobility in the West and provoke retaliatory mea­sures from China. Closing the door to Chinese investment would also deprive Western companies of access to one of the world’s fastest-­ growing pools of capital, in essence throwing the baby out with the bathwater. An effective policy aimed at defending against geopo­liti­cally motivated foreign investments would have to combine ele­ments of both avoidance and hedging to protect the national interest and minimize distortions to the ­free market. An effective avoidance strategy calls for the coordination of comprehensive FDI screening regimes between the US government and the governments of US allies and partners. Enforcing a comprehensive FDI screening regime as the first line of defense is particularly critical during crises when domestic industries are ­under severe stress and vulnerable to hostile takeover or foreign acquisition. During the depths of the COVID-19 pandemic in 2020, at least eleven countries responded to the prospect of opportunistic foreign investors looking to take advantage of depressed domestic com­pany valuations by tightening their FDI screening regimes.36 In addition to practicing risk avoidance through FDI screening, Western governments should also have a hedge in place by way of establishing their own sovereign leverage funds that can act as a second line of defense capable of providing financial support to distressed companies in strategic sectors that other­w ise may become the target of state-­backed acquisition. Avoidance: Coordinated FDI Screening by the United States and Its Allies

The United States has the world’s most sophisticated FDI screening regime, but it cannot guard entirely against multi-­jurisdictional acquisitions of strategically valuable companies by undesired foreign entities all on its own. This is ­because industrial supply chains and service-­provider 207

SOVEREIGN FUNDS

relationships are distributed worldwide and stretch across national borders. The acquisition of a firm in a foreign country may directly impact the business operations and prospects of US domestic firms and the broader US economy. Hence, US officials need to harmonize the FDI screening procedure with American allies and partners with whom US firms closely cooperate in sensitive sectors. This is especially true in the Eu­ro­pean Union, where officials have traditionally been much more welcoming to Chinese state-­led investment in its relatively open infrastructure and energy industries. From 2014 to 2017, investments by state-­owned entities made up more than half of the total Chinese investment in Eu­rope. 37 The top destination in Eu­rope for Chinese investment was Germany, which has close R&D cooperation with the United States in sensitive sectors such as defense, aerospace, and artificial intelligence. In 2015 Chinese entities acquired thirty-­six German companies, up from two in 2009.38 Germany’s experience with Chinese investment can inform the implementation of multi-­jurisdiction coordinated FDI screening regimes. From Chancellor Schröder to Chancellor Merkel, German policymakers have pursued closer economic ties with China through bilateral engagement to boost Germany’s exports, especially a­ fter the 2008 global financial crisis. Germany’s willingness to cultivate economic ties with China ­didn’t mean they w ­ ere willing to watch idly as state-­backed foreign institutional investors took over distressed German companies. Legislation passed in 2007 gave the German government more flexibility to decide how to shield German companies from takeover. The legislation targeted foreign sovereign funds, especially from China, Rus­sia, and the M ­ iddle East, out of concern that they ­were more po­liti­cally than eco­nom­ically motivated.39 ­Until recently Germany had maintained a soft position on restricting FDI despite introducing investment auditing in 2004. Amendments to the German Foreign Trade and Payments Act have tightened regulations regarding foreign owner­ship of defense-­related enterprises. Foreign acquisition of more than 25  ­percent of the voting rights of a German com­pany producing armaments, ammunition, cryptographic equipment, or engines and gear systems for tanks or other armored 208

S overeign F unds in a C hanging G lo b al L andscape

military tracked vehicles are subject to review.40 Since investment screening began in 2004, the first time the government blocked an acquisition was in 2017, and no Chinese acquisition was blocked u ­ ntil 2018, according to the German Ministry of Economics. Between July 2017 and May 2018, the German government audited about thirty acquisitions, representing about half of all foreign acquisitions by gross revenue over that period.41 Germany’s turn ­toward more stringent FDI screening came in 2016, triggered by national security concerns over Chinese investment. That year alone, Chinese investors took over more companies in Eu­rope than in the previous four years combined, most of them in Germany, where Chinese investors announced or completed purchases of German firms collectively worth €11.3 billion.42 In an interview, a Berlin-­ based leading industry advocate for tightening Germany’s FDI screening regime explained that the trigger for Germany’s FDI policy change was not merely the sharp increase in the transaction value of Chinese investment. More impor­tant was a series of geopo­liti­c ally motivated acquisitions in strategic industries that would displace domestic stakeholders and hurt Germany’s national interests. A particularly notable case involved Chinese appliance maker Midea Group’s acquisition of German robotics maker Kuka, one of Germany’s most innovative robotics engineering companies.43 During an interview, an official at the German Federal Foreign Office described this case as the “triggering event” for Germany’s implementation of FDI screening.44 The target com­pany, Kuka, is one of the world’s leading suppliers of industrial robotics, a partner to German carmakers Audi and BMW as well as the US aircraft manufacturer Boeing, and one of the companies highlighted in the German government’s “Industrie 4.0” strategic initiative to strengthen Germany’s manufacturing base through smart and digital transformation. In May 2016 Midea made a €4.5 billion bid offer to acquire at least 30 ­percent of Kuka’s outstanding shares.45 Freshfield, an international law firm based in London, advised Midea on its bid for Kuka.46 Kuka CEO Till Reuter welcomed Midea’s bid, telling shareholders at the com­pany’s annual meeting that the tie-up could support the com­pany’s strategy.47 209

SOVEREIGN FUNDS

Midea’s bid for Kuka followed a string of Chinese acquisitions of German companies as China sought out Western technology, aiming to not only catch up with the West but to outpace it in the digital revolution. Midea’s offer fanned a furious debate among German politicians over Chinese takeovers. Some officials in Brussels and Berlin ­were reported to have also opposed the deal. Midea’s bid was initially not met with any comment from Chancellor Merkel, and Michael Fuchs, deputy leader of the co­ali­tion group in Germany’s lower ­house of parliament, indicated that the government would not intervene to stop it.48 However, many concerned German politicians called for tougher restrictions and pressured Merkel to cancel the deal ahead of her trip to China in June 2016. While in Beijing, Merkel signaled that she would not intervene to prevent Midea’s takeover of Kuka at a joint news conference with Premier Li Keqiang, saying, “I still think ­t here is an opportunity to come to a good solution . . . ​Germany has always offered itself as an open investment market for businesses, including for Chinese companies.” She also suggested an alternative solution, cajoling German companies to submit c­ ounter bids: “by the way, nobody in Germany is forbidden from getting involved with Kuka.”49 No German com­pany stepped up to make a bid that would keep Kuka in German hands. Günther Oettinger, the EU’s digital commissioner and a close po­liti­cal ally of Chancellor Merkel, called on other Eu­ro­pean companies to make a counteroffer b ­ ecause “Kuka is a successful com­pany in a strategic sector that is impor­tant for the digital ­future of Eu­ro­pean industry.”50 German economy minister Sigmar Gabriel also led a charge to find an alternative bid from a Eu­ro­pean suitor.51 None of t­ hese attempts produced any offers from EU companies, most saying that they disagreed with Kuka’s high valuation. Given the absence of a competing offer, shareholders of German engineering group Voith unanimously voted to offload its 25.1 ­percent holding in Kuka to Midea at a €4.6 billion valuation in July 2016, making the Chinese investor the largest shareholder in the German com­pany.52 Although the German government ultimately gave the green light to the deal, a spokesman for the German Economics Ministry said that Minister Sigmar Gabriel would seek to initiate a public debate about how “Eu­rope’s open socie­ 210

S overeign F unds in a C hanging G lo b al L andscape

ties” would deal with f­ uture unfair competition.53 In the United States, the Committee on Foreign Investment in the United States forced Kuka to spin off its US subsidiary before allowing the deal to proceed. The acquisition of Kuka was a watershed moment for foreign investment in Germany. The existing foreign investment controls ­were demonstrated to be not as much of a safeguard as many had previously ­imagined. Shortly ­after the deal closed, the German government changed its FDI screening rules. In 2017 Germany ­adopted an amendment to the German Foreign Trade Regulation that allowed Berlin to screen and block a broader range of foreign takeovers. Chancellor Merkel’s cabinet further tightened FDI screening in December  2018, blocking purchases of stakes in German firms by non-­Europeans as part of a move to fend off undesired takeovers by Chinese investors in strategic areas. U ­ nder the new rules, the German government can intervene on the grounds of public interest if a non-­European investor buys a 10  ­percent stake in a com­pany, sharply lowering the threshold from 25 ­percent.54 In 2020 Germany approved the Seventeenth Amendment of the German Foreign Trade and Payments Ordinance, which entails a stricter FDI screening regime and further strengthens the government’s ability to scrutinize and veto FDI in Germany. Apart from strengthening its own FDI screening regime, Germany has advocated together with France for an EU-­w ide FDI screening regime. EU members that had long ­adopted a policy of supporting an open international investment environment and unreservedly embraced state-­led investment from countries like China have begun to erect fences defending against undesired FDI. As Valdis Dombrovskis, executive vice president of the Eu­ro­pean Commission, pointed out: “The EU is and ­will remain open to foreign investment. But this openness is not unconditional. To respond to ­today’s economic challenges, safeguard key Eu­ro­pean assets and protect collective security, EU Member States and the Commission need to be working closely together. If we want to achieve an open strategic autonomy, having an efficient EU-­ wide investment screening cooperation is essential.”55 In February 2019, EU members agreed to coordinate scrutiny of FDI in Eu­rope, notably from China. 56 Two years ­later, the EU implemented a fully fledged, 211

SOVEREIGN FUNDS

EU-­w ide FDI screening mechanism to preserve the members’ strategic interests due to serious concerns about foreign acquisitions of strategically impor­tant companies, especially by China’s state-­backed investors.57 Following a March 2020 guidance document from the European Commission, 58 EU members have agreed to cooperate informally on FDI screening where a foreign investment could affect the EU single market.59 The economic difficulties triggered by the COVID-19 pandemic have driven policymakers in many countries to strengthen FDI reviews to head off opportunistic acquisitions by geopo­liti­cally motivated investors. The supply chain disruptions stemming from the pandemic have brought home to many government officials the dependence of the domestic economy on international suppliers. As multinationals reconfigure their global industrial supply chains, the United States and its allies must strengthen and coordinate their FDI screening mea­sures to ensure that hostile foreign governments are not allowed to gain control over companies that are critical to the global supply chain. The US government and the EU should take the initiative to lead a concerted effort to protect companies in critical sectors from undesired foreign takeovers that may hurt the national interests of FDI recipient countries. The launch of the EU-­US Trade and Technology Council in June 2021 is a step t­oward an integrated transatlantic approach to foreign investment. The now-­defunct Coordinating Committee for Multinational Export Controls (COCOM) provides a template for how the United States and its allies can harmonize standards and enforcement policy through a multilateral voluntary framework.60 While high-­level consultations are necessary, well-­designed procedures for implementation are critical. An essential first step is identifying hidden sources of state-­owned or state-­sponsored investors by enforcing the rule of “follow the money” in a multi-­jurisdictional FDI reviewing pro­cess. As discussed in this book, China’s SLFs often operate through an offshore subsidy or joint investment fund, partnering with reputable Western investment brands to mask the source of capital for their investments and ultimately obscuring their connections to the Chinese state. This hidden state-­owned capital requires that regulators 212

S overeign F unds in a C hanging G lo b al L andscape

conduct a forensic audit during the FDI review pro­cess. US authorities have followed the money in the financial ser­vices sector and should consider integrating the practice into its FDI review pro­cess. ­There ­ought to be more formal cooperation between CFIUS and authorities from other countries g­ oing forward. Since the passage of the Foreign Investment Risk Review Modernization Act (FIRRMA) in 2018, the US Trea­ sury has engaged with dozens of countries on FDI screening. FIRRMA provisions make sharing information with national counter­ parts easier. The EU should also consider implementing similar rules to investigate the source of FDI funding and identify hidden stakeholders that may influence corporate be­hav­ior. Hedging: Sovereign Leveraged Funds as White Knight Investors

In business parlance, a white knight is a friendly investor that acquires a distressed com­pany with the support of the com­pany’s board or the po­ liti­cal support of the government in order to prevent another investor from executing a hostile takeover. If a white knight could have been found to ­counter Midea’s bid, then Kuka would prob­ably still be a German-­owned com­pany ­today, and Germany’s digital transformation initiative would not have lost an industry leader. The lack of a Western alternative to Chinese state-­led capital in the Midea case points to the necessity of establishing sovereign leveraged funds in the West that stand at the ready to deploy capital to outcompete foreign investors in the market. Some Western countries have already established SLFs as a specific response to foreign state-­backed takeover bids on domestic corporations, although none matches the scale of the Chinese funds. Two prominent examples are France and Germany, leading members of the Eu­ro­pean Union that vigorously promote the openness of the Eu­ro­pean market for international investment. France has already established a SLF with a mandate to defend against foreign takeovers of strategic industries. In February 2019, German Economic Minister Peter Altmaier proposed a SLF as a defensive strategy in reaction to outcries of concern over the national security implications of foreign owner­ship of companies in strategic sectors.61 213

SOVEREIGN FUNDS

France’s move ­toward using sovereign funds to protect domestic strategic industries had its origins in the wake of the 2008 global financial crisis when French companies came ­under widespread distress. During the crisis, French president Nicholas Sarkozy, a longtime advocate of government intervention to support domestic industry whenever necessary, proposed that Eu­ro­pean nations create sovereign wealth funds to protect crisis-­stricken national companies from foreign predators. Sarkozy told members of the Eu­ro­pean Parliament that “All of us ­here should think about the opportunity to set up sovereign wealth funds in each of our countries. And maybe ­these national sovereign wealth funds could eventually coordinate to form a business response to the crisis.” Sarkozy’s proposal described how Eu­ro­pean sovereign funds could access cheap financing available to governments and sell back industrial stakes in the market at a profit ­later, not unlike how the US government bailed out troubled banks during the financial crisis. Sarkozy’s proposal played on the fear that companies considered to be strategic assets might be vulnerable to foreign takeover ­because the stock market carnage sparked by the financial crisis had driven their share prices so low. As Sarkozy said, “I ­don’t want Eu­ro­pean citizens to wake up in several months and find Eu­ro­pean companies belonging to non-­ European capital, which bought at the share price’s lowest point.”62 In October 2008 Sarkozy announced that France would establish a sovereign wealth fund that would support companies deemed to be of national strategic importance. Sarkozy vowed to “not be the French president who wakes up in six months to see that French industrial groups have passed into other hands.”63 In his vision, “what oil producers do, what China does, what Rus­sia does, ­there’s no reason that France should not do, in the ser­v ice of an industrial policy worthy of the name.”64 A month ­ later Sarkozy launched Fonds Stratégique d’Investissement (FSI), a €20 billion strategic investment fund. The fund is managed by France’s state-­owned lender Caisse des Dépôts et Consignations (CDC), which owns a 51 ­percent interest in the fund together with the French state’s 49  ­percent interest.65 According to Sarkozy, the fund was designed to be “more active, more offensive, more mobile” in defense of French industrial assets than CDC.66 The fund’s 214

S overeign F unds in a C hanging G lo b al L andscape

first €80 million investment went to industrial supplier Daher, which works in the aerospace, defense, nuclear, and automotive industries.67 In July  2009 the French government unveiled a list of state-­owned stakes in companies worth €14 billion ($19 billion) to be transferred to the strategic investment fund. This move makes it easier for the French government to manage the stakes more actively. It also allows the state to reinvest dividends or sell shares. The French government merged FSI with CDC Enterprises and OSEO to form Banque publique d’investissement (Bpifrance) in 2013. Bpifrance has two shareholders, the French state and the CDC. Since its launch, Bpifrance has taken explicit leverage and issued conventional and green bonds to support entrepreneurship and strategic industries deemed essential for the French economy’s long-­term competitiveness. Bpifrance also tapped global capital markets to raise capital in response to the economic crisis triggered by the COVID-19 crisis. France experienced an 8  ­percent economic contraction in 2020, one of the deepest among advanced economies. In April  2020 Bpifrance issued its first COVID-19 Response Bond for €1.5 billion with a seven-­year maturity and 0.125 ­percent coupon rate. The bond proceeds w ­ ere used entirely to help French companies cope with cash flow difficulties, thereby safeguarding jobs and mitigating the negative social consequences of the pandemic.68 In January  2020 Bpifrance raised several billion euros from private and sovereign investors for a new fund called Silverlake that can act to fend off activist investors targeting French companies. The fund’s goal is to raise more than €10 billion eventually. Silverlake would bring in outside capital to help shore up the equity structure of French companies that ­were destabilized by activist investor campaigns or are in the midst of shareholder transitions requiring long-­term investors’ commitments.69 Apart from establishing the FSI and the Bpifrance, the Sarkozy administration and succeeding French governments took on additional explicit leverage by issuing more government bonds and using the bond proceeds to make a series of investments in sectors ranging from green technology to higher education. In December 2009 Sarkozy unveiled a €35 billion ($52 billion) “­great loan plan” in response to the global financial 215

SOVEREIGN FUNDS

crisis and to prepare France for f­ uture challenges. Of the €35 billion, €22 billion came from government borrowing, with the remaining €13 billion coming from repayments by French banks on government loans made during the peak of the global financial crisis.70 Sarkozy argued that the French state could generate €60 billion worth of state and private investments by implementing the borrow and spend plan.71 Sarkozy said the plan would kick-­start the French economy into the next de­cade “so that France can fully profit from the recovery so that it is stronger, more competitive, and creates more jobs.”72 Sarkozy’s successor François Hollande followed suit in 2013 by launching a second stage to the plan with a €12 billion investment, followed two years l­ater by the third stage with a €10 billion investment that was never financed.73 Germany’s policymakers initially resisted the idea proposed by French President Sarkozy of a smorgasbord of sovereign funds in Eu­ ro­pean countries. German Economy Minister Michael Glos dismissed the plan, saying, “The French proposal that the state should take stakes in Eu­ro­pean industry to protect it from foreign state takeover goes against the successful princi­ples of our economic policy.” German government spokesman Ulrich Wilhelm stated that “The German government believes that . . . ​g reater protection mea­sures are not needed in Germany.” He added that the German government’s position was that “foreign takeovers must be compatible with (EU) internal market rules.”74 During the Eurozone debt crisis (2009–2012), several scholars and think tank analysts called for a German sovereign fund. However, their reasoning differed considerably from the protectionist argument that is sometimes employed by German politicians t­oday that support the idea.75 The German financial sector has supported proposals for a German sovereign fund to finance the country’s infrastructure needs and defend the country’s strategic industries. The German Federation of Financial Analysts and Asset Management (DVFA) found that 69 ­percent of its members backed creating a sovereign fund that could help with “targeted, direct investments.”76 Proposals for establishing a German sovereign fund reemerged in 2018. This time, several prominent German politicians proposed a fund to “beat predatory Chinese and Gulf investors to German assets and keep valuable technology in 216

S overeign F unds in a C hanging G lo b al L andscape

German hands.”77 The premise of the proposals was that if the German government rejected a foreign direct investment, the fund could step in as an alternative buyer to avert a pos­si­ble decline in market value. ­These proposals w ­ ere informed by the controversial takeover of Kuka by Midea Group in 2016, discussed e­ arlier. However, more instructive was the successful thwarting of China’s State Grid’s bid to buy German power grid operator 50Hertz in 2018. In that case, a white knight investor, German state-­owned bank KfW, stepped in to prevent the Chinese com­pany State Grid from acquiring a controlling interest in 50Hertz. The fact that Berlin almost failed to find an alternative Eu­ro­pean buyer to 50Hertz caused many in the German government to seriously consider creating a German sovereign fund to defend against undesired foreign takeovers in the same manner as KfW had acted to keep the Chinese state from controlling the German power grid.

Growing Relevance of Sovereign Funds in Post-­COVID Global Geoeconomics That France and Germany may soon have SLFs to defend against foreign state-­led takeovers of domestic companies may be an uncomfortable thought for liberal market purists who maintain that the state should have only a minimal role in markets. However, it would be incorrect to interpret the rise of state-­led investment using vehicles like SLFs as signaling the decline of market liberalism. Western policymakers have tended to be apprehensive ­toward the idea of state-­led investment institutions, a line of thinking that is due for a change. The experience of China’s SLFs shows that ­there is an effective role to be played by the state as a direct participant in the market to embed the national interests into markets. The advent of China’s SLFs speaks to the rise of state-­led investment and finance globally. Governments in liberal market economies can design and establish their own SLFs that with supervision can act as white knight investors to defend strategic industries against undesired foreign takeovers. Like China, Western countries could use SLFs to selectively inject capital into companies that 217

SOVEREIGN FUNDS

are best positioned to improve the overall international competitiveness of domestic industries. The model of China’s SLFs applies to many states at dif­fer­ent stages of development and with varying levels of natu­ral resource endowment. China’s experience with SLFs demonstrates how any government with enough po­liti­cal w ­ ill to overcome bureaucratic inertia can use financial leverage to raise capital to launch a fund without relying on revenues from natu­ral resource exports. SLFs allow governments to leverage their ­limited available capital resources making it more affordable to support economic development initiatives. An example is the creation of the ­Korea Investment Corporation, founded to promote the development of ­Korea’s financial markets and turn Seoul into a regional finance hub. Another example is the Ireland Strategic Investment Fund. It was founded in 2014 with the remaining capital from a 2008 national bank bailout fund, and its con­temporary purpose is to make investments that develop Ireland’s domestic economy and promote employment.78 In 2020 the Dutch government announced that it would take advantage of ultra-­low interest rates to borrow €20 billion to endow an economic growth fund to invest in education, infrastructure, and advanced research and development.79 ­These countries are following the model of China’s SLFs by using financial leverage to create funds to strengthen their domestic industries’ international competitiveness and defend against foreign takeovers of critical corporations in t­ hose industries. In recent years several ostensibly commodity-­based SWFs have begun to transform themselves into SLFs. Some of ­these funds have taken on financial leverage by issuing debts to raise cash that they transfer to national governments facing fiscal deficits from higher spending related to the COVID-19 pandemic. This is likely only the beginning of a long-­ term trend in which commodity-­based SWFs increasingly use financial leverage and more closely resemble SLFs in terms of capital structure. As the governments in fossil-­fuel exporting countries launch initiatives to diversify their economies, they w ­ ill look to their SWFs to provide financing. Th ­ ese proj­ects’ enormous scale and timing w ­ ill pre­sent a cash flow prob­lem that many funds w ­ ill solve by issuing debt. An apt example is Saudi Vision 2030, a ­grand plan to wean Saudi Arabia’s economy off its 218

S overeign F unds in a C hanging G lo b al L andscape

de­pen­dency on oil and the brainchild of Crown Prince Mohammed bin Salman. The plan is backed by Saudi Arabia’s Public Investment Fund (PIF), a commodity-­based SWF with $400 billion in assets, which since 2018 has taken out bank loans to augment its cash flow. PIF’s first loan in 2018 was for $11 billion, followed by a $10 billion loan in 2019 (repaid in 2020) and another $15 billion multicurrency revolving loan in 2021.80 All of PIF’s debts have remained off the balance sheet of the Saudi government and therefore are instances of implicit leverage. In 2020, PIF also received a $40 billion transfer of foreign exchange reserves from the Saudi central bank, another example of implicit leverage. Since the outbreak of the COVID-19 pandemic, several sovereign funds have faced large withdrawals of capital by their notational governments to assist in paying for pandemic relief plans. One such example is Norway. Norway’s Finance Ministry disclosed that annual withdrawals from the country’s Government Pension Fund Global reached an all-­time high of 346.5 billion kroner ($37 billion) in 2020, followed by 273 billion kroner ($28 billion) in 2021. The withdrawals exceeded the cash flow generated by the fund’s portfolio, creating an estimated cash shortfall in 2021 of about $10.5 billion.81 Similarly, Chile drew down from its sovereign fund during the pandemic. In June  2021 alone, Chile’s Ministry of Finance reported nearly $3.5 billion in withdrawals from the country’s two sovereign funds, the Pension Reserve Fund and the Economic and Social Stabilization Fund.82 In the case of oil-­rich Kuwait, the cabinet submitted legislation to the parliament to allow annual withdrawals starting in 2021 of up to $16.53 billion from the country’s F ­uture Generation Fund 83 (FGF). The Kuwaiti government tapped FGF only once before during the first Gulf War.84 Th ­ ese examples illustrate how sovereign funds can act as a fiscal buffer during crises. However, large-­scale withdrawals like ­these can severely stress a fund’s cash flow and cause substantial losses if assets must be liquidated at low prices to satisfy the withdrawal. For example, in June 2020, Kazakhstan National Fund liquidated $1.1 billion in assets to raise cash that it transferred to the government to help stabilize Kazakhstan’s currency.85 As governments continue to mitigate the economic fallout of the COVID-19 pandemic, more sovereign funds have used debt financing to 219

SOVEREIGN FUNDS

increase their cash position in anticipation of large withdrawals by their national governments. In 2020 the Qatar Investment Authority sought to borrow €7 billion ($7.6 billion) against some of its Eu­ro­pean equity holdings a­ fter the government committed 75 billion riyals ($25 billion) in new domestic stimulus spending.86 However, meeting fiscal demand is not the only reason why sovereign funds resort to leverage. Even before the pandemic, some sovereign funds with a mandate for economic development de­cided to take advantage of low interest rates by issuing cheap debt and reinvesting the proceeds in higher-­yielding long-­term proj­ects. This arbitrage strategy can be realized only by funds with long investment horizons, like Mubadala in Abu Dhabi, Temasek in Singapore, Khazanah Nasional in Malaysia, Samruk Kazyna in Kazakhstan, and Mumtalakat in Bahrain. However, like all forms of leverage, raising capital via debt financing increases financial risk. Amid the rising global urgency to address climate change, “green” bonds have become a way for sovereign funds to raise capital to support specific climate-­related or environmental proj­ects. Saudi Arabia aspires to be the first sovereign fund in the world to issue green bonds. In July 2021 Saudi’s Public Investment Fund (PIF) solicited proposals from banks to set up an Environmental, Social, and Governance (ESG) framework. Within a month, PIF put together an ESG panel tasked with developing its medium-­term capital-­raising strategy. By September 2021, PIF Governor Yasir al-­Rumayyan disclosed that the fund had partnered with BlackRock to be the first sovereign fund to issue green bonds, part of a broader plan to shift t­ oward green investments.87 Sovereign funds w ­ ill continue to gain ground in the global financial system for the foreseeable f­uture. As sovereign funds face greater demands to support government spending, a growing number w ­ ill employ financial leverage to plug the cash flow gap and, therefore, more closely resemble SLFs. Following the example of China, many more states are poised to use SLFs to become active market participants in financial markets at home and abroad in the coming years. Although t­ hese funds may not have a geoeconomic mandate, the experience of China’s SLFs suggests that SLFs can be power­ful tools for the practice of financial statecraft. ­These funds are designed by the state, capitalized by the state, 220

S overeign F unds in a C hanging G lo b al L andscape

staffed by the state, and ultimately carry the implicit goal of achieving a state-­prioritized economic agenda. The success of China’s SLFs in the past two de­cades proves the strength of their model, and the relative ease of copying that model in a wide range of other countries means that state-­led investment is on an almost inexorable upward trajectory. SLFs have played a critical role in China’s transformation from one of the poorest and most isolated economies into a leading global economic engine deeply integrated into global supply chains. As Chinese capital has gone global, so has China’s influence, engendering some pushback from Western governments. ­There is much uncertainty at pre­ sent about how tensions between China and the West ­will ultimately play out. However, what is already evident is that China’s SLFs ­will have a critical role in securing China’s ­future as part of any ­future ­g reat power competition. Indeed, sovereign leverage funds may prove to be such a geoeconomic advantage for the Communist Party of China that we may soon see their like appear throughout the West as a response.

221

Notes

Introduction 1. “The Invasion of the Sovereign-­Wealth Funds,” The Economist, January 19, 2008. 2. International Monetary Fund, Policy Responses to COVID-19, 2021, https://­w ww​.­i mf​.­org​/­en​/­Topics​/­i mf​-­a nd​-­covid19​/­Policy​-­Responses​-­to​ -­COVID​-­19. 3. Ipsos, Social Cohesion in the Pandemic Age: A Global Perspective, October 2020. 4. Global SWF, 2022 Annual Report, January 2022, https://­globalswf​.­com​ /­reports​/­2022annual#year​-2­ 021​-­i n​-­review​-­2 . 5. Jonathan Kirshner, American Power ­after the Financial Crisis (Ithaca, NY: Cornell University Press, 2014). 6. For example, Fareed Zakaria, “The Self-­Destruction of American Power,” Foreign Affairs, July  /  August 2019. 7. Andrew Rozanov, “Who Holds the Wealth of Nations?,” Central Banking Journal, May 2005, 4. 8. Stephen Jen, “Sovereign Wealth Funds: A New and Growing Class of Funds,” Morgan Stanley Investment Management Journal 3, no. 2 (December 2007). 9. “$3.11tn: US Money Market Funds AUM 12 / 31 / 2007,” data from Bloom­ berg Terminal. 10. “E.U. Seeks Solidarity as Nations Restrict Medical Exports,” New York Times, March 7, 2020. 11. In December 1998 the Standing Committee of the National ­People’s Congress passed a supplement to the Criminal Law, imposing criminal

N O T E S T O PA G E S 1 5 –16

penalties on illegal activities in the realm of foreign exchange transactions, including life sentence. Cited from Hongying Wang, “The Asian Financial Crisis and Financial Reforms in China,” Pacific Review 12, no. 4 (1999): 537–556, n4. 12. China’s state-­owned assets include two primary categories: financial assets and industrial and commercial assets. Central government controlled financial assets include centrally owned financial enterprises and institutions, which are managed by the Ministry of Finance. Central Huijin also invests in some of t­ hese enterprises and enjoys shareholder rights. At the central level, industrial and commercial assets include three types of state-­owned industrial and commercial enterprises: (1) more than one hundred large enterprise groups u ­ nder the jurisdiction of the state-­owned Assets Supervision and Administration Commission; (2) China Post Group, China Railway Corporation, China National Tobacco Corporation, and approximately 104 state-­owned cultural enterprises ­u nder the jurisdiction of the Ministry of Finance; (3) enterprises directly managed by about seventy-­five central government departments or administrative units, of which t­ here w ­ ere about 5,200 first-­level ­legal person enterprises. The data is from reformdata​.­org. 13. China​.­org​.­c n, “Communiqué of the Third Plenary Session of the 18th Central Committee of the CPC,” http://­w ww​.­china​.­org​.­c n​/­chinese​ /­2 014​-­01​/­16​/­content ​_ ­31213800​.­htm. 14. As of June 2022 the SOEs restructured into state-­owned capital investment companies include: Aviation Industry Corporation of China, China COSCO Shipping Corporation, China Energy, State Power, China Minmetals, China National Machinery Industry Corporation, Aluminum Corporation of China, China National Cereals, Oils and Foodstuffs Corporation (or COFCO Group), China General Technology Group, China Communications Construction, China Poly Group, China General Nuclear Power Group, Baowu Group, State Development & Investment Corporation, China Merchants Group, China Resources, and China National Building Material. 15. Ibid. 16. Interview with an expert at China Enterprise Reform and Development Society, June 2022. 17. 中国政府网 (official website of the State Council of the P ­ eople’s Republic of China), “Guo wu yuan guo zi wei yi guan zi ben wei zhu tui jin zhi neng zhuan bian fang an” (The State-­owned Assets Supervision and Administration Commission of the State Council on Accelerating the Transformation of State-­owned Assets Supervision Functions with a Focus

224

N O T E S T O PA G E S 17–1 9

on Capital Management), http://­w ww​.­gov​.­cn​/­z hengce​/­content​/­2017​-­05​/­10​ /­content ​_ ­5192390​.­htm. 18. “Goldman Estimates China’s ‘National Team’ Stock Rescue at $144bn,” Financial Times, August 6, 2015. 19. Steven K. Vogel, Marketcraft: How Governments Make Markets Work (New York: Oxford University Press, 2018). 20. For example, Ian Bremmer, “State Capitalism Comes of Age—­The End of the ­Free Market,” Foreign Affairs, April 1, 2009, 40; Josh Kurlantzick, State Capitalism: How the Return of Statism Is Transforming the World (New York: Oxford University Press, 2016). 21. The lit­er­a­ture on state capitalism incudes empirical studies on both advanced economies and developing countries. See, for example, Paul K. Crosser, State Capitalism in the Economy of the United States (New York: Bookman Associates, 1960); Jeanne K. Laux and Maureen A. Molot, State Capitalism: Public Enterprise in Canada (Ithaca, NY: Cornell University Press, 1988); Barry Naughton and Kellee S. Tsai, State Capitalism, Institutional Adaptation, and the Chinese Miracle (New York: Cambridge University Press, 2015); Benjamin L. Liebman and Curtis J. Milhaupt, Regulating the Vis­i­ble Hand? The Institutional Implications of Chinese State Capitalism (Oxford: Oxford University Press, 2015). Scholars also researched on actors of China’s state capitalism and local governments. For example, Jing Gu et al., “Chinese State Capitalism? Rethinking the Role of the State and Business in Chinese Development Cooperation in Africa,” World Development 81 (May 2016): 24–34; Juann H. Hung and Yang Chen, The State of China’s State Capitalism: Evidence of Its Successes and Pitfalls (Singapore: Springer, 2018). On the global geopo­l iti­cal implications of state capitalism, see, for example, Geoffrey Gertz and Miles M. Evers, “Geoeconomic Competition: W ­ ill State Capitalism Win?,” Washington Quarterly 43, no. 2 (2020): 117–136. 22. See, for example, Aldo Musacchio and Sergio G. Lazzarini, Reinventing State Capitalism (Cambridge, MA: Harvard University Press, 2014). 23. William L. Megginson, Privatization, State Capitalism, and State Owner­ship of Business in the 21st ­Century (Hanover, MA: Now, 2017). 24. See, for example, Kenneth Lieberthal and Michel Oksenberg, Policy Making in China: Leaders, Structures, and Pro­cesses (Prince­ton, NJ: Prince­ton University Press, 1988); Kenneth G. Lieberthal and David M. Lampton, Bureaucracy, Politics, and Decision Making in Post-­Mao China (Berkeley: University of California Press, 1992); Yasheng Huang, Inflation and Investment Controls in China: The Po­liti­cal Economy of Central-­Local Relations

225

N O T E S T O PA G E S 1 9 – 2 0

during the Reform Era (Cambridge: Cambridge University Press, 1996); Victor C. Shih, Factions and Finance in China: Elite Conflict and Inflation (Cambridge: Cambridge University Press, 2008); Andrew Mertha, “ ‘Fragmented Authoritarianism 2.0’: Po­l iti­c al Pluralization in the Chinese Policy Pro­cess.” China Quarterly 200 (2009): 995–1012; Chae-ho Chŏng, Centrifugal Empire: Central-­Local Relations in China (New York: Columbia University Press, 2016). 25. For example, in Chal­mers Johnson’s pioneering work on the developmental state paradigm, he credited the Japa­nese state’s policies for Japan’s economic success and praised the Japa­nese state, especially the Ministry of International Trade and Industry (MITI), as the catalyst for Japan’s industrialization. Johnson’s work on MITI was groundbreaking and is of ­great value to ­t hose trying to understand Japan’s formula for rapid and successful industrialization. However, it had a narrow empirical basis, only considering MITI in a po­liti­cal vacuum. Johnson also did not consider how MITI and Japa­nese government policies more broadly ­were s­ haped by the prevailing international system. Chal­mers A. Johnson, MITI and the Japa­nese Miracle: The Growth of Industrial Policy, 1925–1975 (Stanford, CA: Stanford University Press, 1982). 26. For example, Manuel Castells defined the cap­i­tal­ist developmental state as a state that establishes as its princi­ple of legitimacy its ability to promote and sustain development, understanding by development the combination of steady high rates of economic growth and structural change in the productive system, both domestically and in relation to the international economy. Manuel Castells, “Four Asian Tigers with a Dragon Head: A Comparative Analy­sis of the State, Economy and Society in the Asian Pacific Rim,” in States and Development in the Asian Pacific Rim, ed. Richard P. Appelbaum and Jeffrey Henderson (Newbury Park, CA: Sage, 1992). 27. For example, Gordan White introduced the concept of socialist developmental states and identified China as a primary example of a socialist developmental state with a socialist guided market. Blecher and Shue used the term “developmental state” to describe county-­level Chinese officials’ commitment to generate economic growth at their own local county through preferential allocation of resources. Pranab Bardhan contended that China is qualitatively dif­fer­ent from the standard East Asian developmental state model b ­ ecause of China’s regional variations, the lack of a private sector, and the unique combination of top-­down state-­led development and “guanxi” capitalism from the ground up. Roselyn Hsueh argued that China is not a developmental state but instead a regulatory state. Marc J. Blecher

226

N O T E S T O PA G E S 2 0 – 2 3

and Vivienne Shue, Tethered Deer: Government and Economy in a Chinese County (Stanford, CA: Stanford University Press, 1996); Pranab Bardhan, “The Paradigm of Capitalism ­u nder a Developmental State: Does It Fit China and India?,” Singapore Economic Review 55, no. 2 (2010): 243–251; Roselyn Hsueh, China’s Regulatory State: A New Strategy for Globalization (Ithaca, NY: Cornell University Press, 2011). 28. For example, David A. Baldwin, Economic Statecraft (Prince­ton, NJ: Prince­ton University Press, 1985); Daniel W. Drezner, The Sanctions Paradox: Economic Statecraft and International Relations (Cambridge: Cambridge University Press, 1999); Jean-­Marc F. Blanchard and Norrin M. Ripsman, Economic Statecraft and Foreign Policy: Sanctions, Incentives, and Target State Calculations (Hoboken, NJ: Taylor and Francis, 2013). 29. For example, Henry Farrell and Abraham L. Newman, “Weaponized Interdependence: How Global Economic Networks Shape State Coercion,” International Security 44, no. 1 (Summer 2019): 42–79; Chia-­Chien Chang and Alan H. Yang, “Weaponized Interdependence: China’s Economic Statecraft and Social Penetration against Taiwan,” Orbis 64, no. 2 (2020): 312–333; Maria Adele Carrai, “The Rise of Screening Mechanisms in the Global North: Weaponizing the Law against China’s Weaponized Investments?,” Chinese Journal of Comparative Law 8, no. 2 (2020): 351–383. 30. For example, Kenneth A. Rodman, Sanctions beyond Borders: Multinational Corporations and U.S. Economic Statecraft (Lanham, MD: Rowman and Littlefield, 2001). 31. William J. Norris, Chinese Economic Statecraft: Commercial Actors, ­Grand Strategy, and State Control (Ithaca, NY: Cornell University Press, 2016). 32. Michael Porter conducted a cross-­country study of the comparative advantage of nations and demonstrated that financial systems that ­were dominated by securities markets ­were better at providing risk capital and therefore more readily provided funding for radical technological innovation. By contrast, bank-­dominated financial systems w ­ ere better at supporting long-­term investment and investment in intangible assets that could not be easily priced by the market, such as research and development expenditure or employee training. See Michael E. Porter, The Competitive Advantage of Nations (New York: ­Free Press, 1990). For a brief summary, see Michael E. Porter, “The Competitive Advantage of Nations,” Harvard Business Review 68, no. 2 (March 1990): 73–93. 33. International Forum of Sovereign Wealth Funds (ISFWF), “Irish Strategic Investment Fund” (member profile), https://­w ww​.­i fswf​.­org​ /­member​-­profiles​/­i reland​-­strategic​-­i nvestment​-­f und​-­isif.

227

N O T E S T O PA G E S 2 3 – 2 7

34. This relates to the lit­er­a­t ure on va­r i­e­t ies of capitalism. Peter Hall and David Soskice made groundbreaking contributions to this lit­er­a­ture. Their collective volume, Va­r i­e­ties of Capitalism: The Institutional Foundations of Comparative Advantage (Oxford: Oxford University Press, 2001), is seminal. Also Peter A. Hall, “Va­r i­e­t ies of Capitalism and the Euro Crisis,” West Eu­ro­pean Politics 37, no. 6 (2014): 1223–1243. 35. “Germany Mulls Sovereign Fund to Fend Off Foreign Investors: FAZ,” ­Reuters, September 12, 2018; “German Minister Calls for Fund to ­Counter Foreign Takeovers,” Financial Times, February 5, 2019. 36. For instance, Kurt Huebner, “How a German Sovereign Wealth Fund Could Help to Rebalance the Eurozone,” Social Eu­rope, February 28, 2014; Daniel Gros and Thomas Mayer, “A Sovereign Wealth Fund to Lift Germany’s Curse of Excess Savings,” CEPS Policy Brief, August 28, 2012. 37. Jonathan Williams, “German Investment Professionals Back Launch of Sovereign Wealth Fund,” IPE, August 3, 2015. 38. Scholars of ­earlier generations did not use the exact words of economic or financial statecraft, but the idea was clearly pre­sent. For example, Herbert Feis analyzed how pre–­World War I powers used investment and finance to facilitate their own security policies. See Herbert Feis, Eu­rope, the World’s Banker, 1870–1914: An Account of Eu­ro­pean Foreign Investment and the Connection of World Finance with Diplomacy before the War (New Haven, CT: Yale University Press, 1930). Albert Hirschman used the term “New Machiavellism” exercised by a “modern prince” to describe the use of “quotas, exchange controls, capital investment, and other instruments” as instruments of economic warfare. See Albert O. Hirschman, National Power and the Structure of Foreign Trade (Berkeley: University of California Press, 1945), xv–­x vi. David Baldwin defined economic statecraft as “influence attempts relying primarily on resources that have a reasonable semblance of a market price in terms of money.” See in David A. Baldwin, Economic Statecraft (Prince­ton, NJ: Prince­ton University Press, 1985), chap. 3. Following Baldwin, economic statecraft has been discussed in the context of coercion, such as economic sanctions. Benn Steil and Robert Litan narrowed down economic statecraft and defined financial statecraft as “­those aspects of economic statecraft that are directed at influencing capital flows.” See Benn Steil and Robert E. Litan, Financial Statecraft: The Role of Financial Markets in American Foreign Policy (New Haven, CT: Yale University Press, 2006). Subsequent scholars have fine-­t uned the definition of financial statecraft as “the use of financial and monetary policies by sovereign governments for the purpose of achieving larger foreign policy goals.” See, for example, Robert D.

228

N O T E S T O PA G E S 2 7– 3 4

Blackwill and Jennifer M. Harris, War by Other Means: Geoeconomics and Statecraft (Cambridge, MA: Belknap Press of Harvard University Press, 2016). 39. Robert B. Strassler, ed., The Landmark Thucydides: A Comprehensive Guide to the Peloponnesian War (New York: Simon and Schuster, 1996), 7.

1. China’s Evolving Perspectives on Foreign Exchange Reserves 1. The concept of financial repression was introduced in 1973 by Edward S. Shaw and Ronald I. McKinnon to define the effect of the creation of captive domestic markets for government debt. Financial repression can be disguised as “macro prudential regulations”—­that is, government efforts to mitigate systemic risks in the financial system. In the case of China’s financial repression, see Morris Goldstein and Nicholas R. Lardy, “China’s Role in the Revived Bretton Woods System: A Case of Mistaken Identity” (Washington, DC: Peterson Institute for International Economics, 2005); Nicholas R. Lardy, “Financial Repression in China” (Washington, DC: Peterson Institute for International Economics, 2008). 2. Michael Dooley, Peter Garber, and David Folkerts-­L andau, “The Two Crises of International Economics” (Cambridge, MA: National Bureau of Economic Research, 2007). 3. ECB International Relations Committee Task Force, “The Accumulation of Foreign Reserves” (Eu­ro­pean Central Bank, February 2006). 4. Eswar Prasad and Shang-­Jin Wei, “The Chinese Approach to Capital Inflows: Carrots and Sticks, or Deeper Forces at Work?,” IMF Working Paper WP/05/79 (April), Washington, DC, 2005. 5. For example, Karen Yeung, “China’s Forex Reserves Grew Marginally in 2020, Despite Near-­Record Trade Surplus. Where Did the Money Go?,” South China Morning Post, February 3, 2021. Also, Enda Curran, “Mystery of China’s Huge Dollar Surplus Baffles World Markets,” Bloomberg, November 4, 2021. 6. “Currency Composition of Official Foreign Exchange Reserves (COFER),” IMF Data, last updated June 30, 2022, https://­data​.­i mf​.­org ​/­​?­sk​ =­E 6A5F467​- ­C14B​- ­4 AA8​-9­ F6D​-­5A09EC4E62A4. 7. “Clarifying the Concept of Reserve Assets and Reserve Currency,” Twenty-­Eighth Meeting of the IMF Committee on Balance of Payments Statistics, October 2015.

229

N O T E S T O PA G E S 3 5 – 3 8

8. 中国政府网 (official website of the State Council of the P ­ eople’s Republic of China), “Wai hui ju jie shao 2016 nian wai hui shou zhi shu ju you guan qing kuang” (SAFE Introduces 2016 Foreign Exchange Receipts and Payments Data), January 19, 2017, http://­w ww​.­gov​.­cn​/­x inwen​/­2017​- ­01​ /­19​/­content ​_ ­5161267​.­htm#allContent. 9. Shigeo Kobayashi, Jia Baaobo, and Junya Sano, “The ‘Three Reforms’ in China: Pro­g ress and Outlook,” RIM Pacific Business and Industries 45 (1999): 2–41. 10. Dwight Perkins, “Reforming China’s Economic System,” Journal of Economic Lit­er­a­ture 26, no. 2 (June 1988): 601–645. 11. Mao Tse-­t ung, “On New Democracy,” January 1940. 12. 上海金融志 (Shanghai Financial Chronicle), “Zong Shu” (Overview), March 13, 2007, https://­w ww​.­shtong​.­gov​.­cn​/­d ifangzhi​-­f ront​/­book ​/­detailNew​ ?­oneId​=1­ &bookId​=­75491&parentNodeId​=­75491&nodeId​=­75494&type​=1­ 47. 13. For a history of the Shanghai Stock Exchange, see W. A. Thomas, Western Capitalism in China: A History of the Shanghai Stock Exchange (Aldershot: Ashgate, 2001). Also, Wenzhong Fan, “Construction Methods for the Shanghai Stock Exchange Indexes: 1870–1940,” https://­som​.­yale​.­edu​/­sites​ /­default​/­fi les​/­fi les​/­SSE​-­CC ​.­pdf. 14. 上海金融志 (Shanghai Financial Chronicle), “Di san jie zhong guo yin hang shang hai shi fen hang” (Chapter 2, Section 3, Bank of China Shanghai Branch), March 26, 2007, https://­w ww​.­shtong​.­gov​.­cn​/­d ifangzhi​-­f ront​/­book​ /­detailNew​?­oneId​=1­ &bookId​=­75491&parentNodeId​=­75592&nodeId​ =­92393&type​= ​-­ ­1. 15. 上海金融志 (Shanghai Financial Chronicle), “Di yi jie zhong zi bao xian gong si” (Chapter 6, Section 1, Chinese Insurance Com­pany), March 26, 2007, https://­w ww​.­shtong​.­gov​.­cn​/­d ifangzhi​-­f ront ​/ ­book ​/­detailNew​?­oneId​ =­1&bookId​=­75491&parentNodeId​=­75588&nodeId​= ­92424&type​= ­​-­1. 16. Zhang Jishun, Shanghai, a City Displaced: Shanghai in the 1950s (Beijing: Social Sciences Academic Press, 2015). 17. “The Culture and Politics of the Red Guard Breaking the Old Four,” in Con­temporary Chinese Institutions and Culture, ed., Shi Gang (Hong Kong: Social Science Press, 2004). 18. 上海青年志 (Shanghai Youth Chronicle), “Zhuan ji yi: ‘wen hua da ge ming zhong de shang hai hong wei bing yun dong’ ” (Special Essay No.1: Shanghai Red Guard Movement during the Cultural Revolution), November 10, 2003, https://­w ww​.­shtong​.­gov​.­cn​/­d ifangzhi​-­f ront​/­book​ /­detailNew​?­oneId​=1­ &bookId​= 6­ 6268&parentNodeId​= 6­ 6390&nodeId​ =­62336&type​= ​-­ ­1.

230

N O T E S T O PA G E S 3 9 – 41

19. 中国共产党历次全国代表大会数据库 (database of the National Congresses of the Communist Party of China), “Zhong guo gong chan dang di shi yi jie zhong yang wei yuan hui di san ci quan ti hui yi gong bao” (Communiqué of the Third Plenary Session of the Eleventh Central Committee of the Communist Party of China), December 22, 1978. The CPC de­cided during this plenary session that the Party should shift its focus to socialist modernization. http://­c pc​.­people​.­com​.­cn​/­GB​/­6 4162​/6­ 4168​/­6 4563​ /­65371​/­4 441902​.h ­ tml. 20. 中国政府网 (official website of the State Council of the P ­ eople’s Republic of China), “1981 nian zheng fu gong zuo bao gao” (State Council 1981 Work Report), delivered by Premier Zhao Ziyang on November 30, 1981, http://­w ww​.­gov​.­cn​/­test​/­2006​-­02​/­16​/­content ​_ ­200802​.­htm. 21. Chen Jinhua, Recollections on State Affairs (Beijing: History of Chinese Communist Party Publishing House, 2005), 214–215. 22. Qian Yingyi, “The Pro­cess of China’s Market Transition (1978–1998): The Evolutionary, Historical, and Comparative Perspectives,” Journal of Institutional and Theoretical Economics (JITE)  /  Zeitschrift Für Die Gesamte Staatswissenschaft 156, no. 1 (March 2000): 151–171. 23. 中国改革信息库 (reformdata​.­org), “Zhong gong zhong yang guan yu jing ji ti zhi gai ge de jue ding” (CPC Central Committee Decision on the Reform of the Economic System), October 20, 1984, http://­w ww​.­reformdata​ .­org ​/­1984​/­1020​/­21123​.­shtml. 24. Chen Xian, Handbook on Planning Works (Beijing: China Financial and Economic Publishing House,1984); Susumu Yabuki and Stephen M. Harner, China’s New Po­liti­cal Economy, rev. ed. (Boulder, CO: Westview Press, 1999). 25. Nicholas Lardy and Kenneth Lieberthal, Chen Yun’s Strategy for China’s Development: A Non-­Maoist Alternative (Armonk, NY: M. E. Sharpe, 1983); Eping Zhang and Kim Lem, “Chen Yun’s Role a­ fter the Cultural Revolution,” Asian Affairs 12, no. 1 (1985): 41–58; David Bachman, “Differing Visions of China’s Post-­Mao Economy: The Ideas of Chen Yun, Deng Xiaoping, and Zhao Ziyang,” Asian Survey 26, no. 3 (1986): 292–321; Ezra F. Vogel, “Chen Yun: His Life,” Journal of Con­temporary China 14, no. 45 (2005): 741–759. 26. “Guan yu dang qian jing ji wen ti de wu dian yi jian (1978 nian 12 yue 10 ri)” (Five Takeaways on Current Economic Issues, December 10, 1978) in Chen Yun wen xuan (Selected Works of Chen Yun), edited by the Central Committee of the Communist Party of China (Beijing: P ­ eople’s Press,1995), volume 3: 235–238. 27. According to the PBoC’s proposal, SAFE as a newly established

231

N O T E S T O PA G E S 41 – 4 6

agency was in fact the same organ­ization as BOC. See “Establishment of State Administration of Foreign Exchange as System Reform of Bank of China (1979–1980),” BoC website, https://­w ww​.­boc​.­cn​/­en​/­aboutboc​/­ab7​/­200809​ /­t20080926​_­1601851​.­html. 28. 中国银行网站 (Bank of China website), “Zhong hang li cheng” (Evolution of Bank of China), https://­w ww​.­boc​.­cn​/­A BOUTBOC​/­ab7​/­. 29. Ibid. 30. 中国改革信息库 (reformdata​.­org), “Guo wu yuan guan yu zhong guo ren min yin hang zhuan men xing shi zhong yang yin hang zhi neng de jue ding” (Decision of the State Council on the PBoC to Exclusively Exercise the Functions of China’s Central Bank), September 17, 1983, http://­w ww​.­reformdata​ .­org​/­1983​/­0917​/­7406​.­shtml. 31. Yingyi Qian, “The Pro­cess of China’s Market Transition (1978–1998): The Evolutionary, Historical, and Comparative Perspectives,” Journal of Institutional and Theoretical Economics (JITE) 156, no. 1 (2000): 151–171. 32. Ibid., 149, 152, 169. 33. Ibid. 34. Full text available on Qiushi website, December 31, 2011, https://­news​ .­12371​.c­ n​/­2016​/­01​/­2New1​/­A RTI1453342674674143​.­shtml. 35. Full text available in Jin rong shi bao (Financial News), January 21, 1993. 36. Zhu Rongji, Zhu Rongji on the Rec­ord: The Road to Reform, 1991–1997, trans. June Y. Mei (Washington, DC: Brookings Institution Press, 2013): 137, 138. 37. Qian Yingyi, “The Pro­cess of China’s Market Transition (1978–1998): The Evolutionary, Historical, and Comparative Perspectives,” Journal of Institutional and Theoretical Economics (JITE)  /  Zeitschrift Für Die Gesamte Staatswissenschaft 156, no. 1 (2000): 151–171. 38. 人民网 (­people​.c­ om​.c­ n), “Zhong gong zhong yang guan u jian li she hui zhu yi shi chang jing ji ti zhi ruo gan wen ti de jue ding” (Decisions on the Establishment of a Socialist Market Economic System by the Central Committee of the Communist Party of China), November 14, 1993, http://­w ww​.­people​.­com​.­cn​/­item​/­20years​/­newfiles​/ ­b1080​.­html. 39. For example, see Yingyi Qian, “The Pro­cess of China’s Market Transition (1978–1998): The Evolutionary, Historical, and Comparative Perspectives,” Journal of Institutional and Theoretical Economics (JITE)  /  Zeitschrift Für Die Gesamte Staatswissenschaft 156, no. 1 (2000): 151–171. 40. Sebastian Heilmann and Oliver Melton, “The Reinvention of

232

N O T E S T O PA G E S 4 6 – 51

Development Planning in China, 1993–2012,” Modern China 39, no. 6 (2013): 580–628. 41. ­People’s Republic of China State Statistical Bureau, China Statistical Yearbook (1994), China Statistical Yearbooks Database. 42. Barry Naughton, Growing Out of the Plan: Chinese Economic Reform, 1978–1993 (New York: Cambridge University Press, 1995), 305. 43. 中国政府网 (official website of the State Council of the P ­ eople’s Republic of China), “Guo wu yuan ban gong ting yin fa guan yu jia qiang hong guan tia kong you guan gui ding te tong zhi” (Notice of the General Office of the State Council on Relevant Provisions on Strengthening Macroeconomic Control), August 16, 1993, http://­w ww​.­gov​.­cn​/­zhengce​ /­content​/­2016​- 0­ 9​/­07​/­content​_ ­5101242​.­htm. 44. Zhu Rongji, Zhu Rongji on the Rec­ord: The Road to Reform, 1991–1997, 151–152. 45. Barry Naughton, “Zhu Rongji: The Twilight of a Brilliant C ­ areer,” China Leadership Monitor, no. 1 (2002). 46. Chen Jian, “From Mao to Deng: China’s Changing Relations with the United States,” Cold War International History Proj­ect Working Paper No. 92 (2019). 47. 中国改革信息库 (reformdata​.­org), “Zhong hua ren min gong he guo zhong wai he zi jing ying qi ye fa” (Law of the P ­ eople’s Republic of China on Chinese-­Foreign Equity Joint Ventures), http://­w ww​.­reformdata​.­org ​/­1979​ /­0708​/­7585​.­shtml. 48. Daniel Z. Ding, “Control, Conflict, and Per­for­mance: A Study of U.S.-­Chinese Joint Ventures,” Journal of International Marketing 5, no. 3 (1997): 31–45. 49. See China Securities Regulatory Commission, China Capital Markets Development Report (Beijing: China Financial Publishing House, 2008), 170. 50. Full text available in Jin rong shi bao (Financial News), January 21, 1993. 51. Technical Committee of the International Organ­i zation of Securities Commissions, “Report on Issues Raised for Securities and ­Futures Regulators by Under-­regulated and Uncooperative Jurisdictions,” October 1994, https://­w ww​.­iosco​.­org​/ ­l ibrary​/p ­ ubdocs​/­pdf​/­IOSCOPD41​.­pdf. 52. China Statistical Yearbook, China Statistical Yearbooks Database, 1986. 53. General Agreement on Tariffs and Trade, “China—­Request for Observer Status,” October 26, 1984, https://­docs​.­w to​.­org​/­gattdocs​/­q​/­G G​ /­L5799​/­5712​.­PDF. 54. Andrew Watson and Xin Luolin, “China’s Open-­Door Policy in Historical Perspective,” Australian Outlook 40, no. 2 (1986): 91–99.

233

N O T E S T O PA G E S 51 – 5 7

55. Zhu Rongji, “Taking a Critical Step Forward in Financial Reforms,” in Zhu Rongji on the Rec­o rd: The Road to Reform, 1991–1997, 241–255. 56. Wang Hongying, “The Asian Financial Crisis and Financial Reforms in China,” Pacific Review 12, no. 4 (1999): 537–556, n4. 57. 中国改革信息库 (reformdata​.­org), “Jiang Zemin: shen hua jin rong gai ge, fang fan jin rong feng xian” (Jiang Zemin on Deepening Financial Reform and Preventing Financial Risks), November 19, 1997, http://­w ww​.­reformdata​.­org​ /­1997​/­1119​/­5723​.­shtml. 58. Julian Gruin, Communists Constructing Capitalism: State, Market, and the Party in China’s Financial Reform (Manchester: Manchester University Press, 2019), 133. 59. The early 1990s saw a proliferation of investment funds backed by local governments and banks. A large portion of their portfolios w ­ ere illiquid real estate investments. Some of the listed funds w ­ ere targeted by speculators, causing significant market volatilities. In November 1997 the state promulgated the Provisional Mea­sures on Administration of Securities Investment Funds to regulate the development of securities investment funds, while the winding up of t­ hese “old funds” began. By the end of 1998, six new fund management companies ­were approved to set up closed-­end securities investment funds. The combined size of ­t hese funds reached about $1.5 billion. See China Securities Regulatory Commission, China Capital Markets, 169–170. 60. ­These are some of the remarks made by Zhu Rongji during an inspection tour of Guangdong ­a fter listening to work reports by the provincial Party committee and provincial government on October 24, 1998. See Zhu Rongji, “Closing Down Guangdong International Trust and Investment Com­pany Was the Right ­Thing to Do,” in Zhu Rongji, Helmut Schmidt, Henry Kissinger, and June Y. Mei, Zhu Rongji on the Rec­ord: The Road to Reform: 1998–2003 (Baltimore: Proj­ect Muse, 2015), 89–91. 61. Zhu Rongji, “­Toward a More Open and Prosperous Chinese Economy,” in Zhu Rongji on the Rec­ord: The Road to Reform: 1998–2003, 291–303. 62. Zhu Rongji, “A Memorable Two Years as Governor of the Central Bank,” in Zhu Rongji on the Rec­ord: the Road to Reform, 1991–1997, 286–291. 63. “Jiang Zemin participated in the deliberation of the Shanghai Del­e­ga­t ion and emphasized adapting to the new situation, meeting new challenges, increasing innovation advantage, and gaining new development,” ­People’s Daily, March 8, 2000. 64. Jiang Zemin, On Socialist Market Economy (Beijing: Central Party Lit­er­a­t ure Press, 2016), 385.

234

N O T E S T O PA G E S 5 7– 5 9

65. “Wang Jian: D ­ on’t Change the Exchange Rate and Interest Rate; Use Foreign Exchange Reserves to Exchange for Energy Stockpile,” China Business News, May 19, 2005. 66. 中华人民共和国商务部 (official website of the Ministry of Commence of the P ­ eople’s Republic of China), “Jing wai tou zi chan ye zhi dao zheng ce” (Industrial Guiding Policies for Outbound Investments), http://­ tradeinservices​.­mofcom​.­gov​.­cn​/­a rticle​/­zhengce​/­hyfg​/­201710​/­4 47​.­html. 67. For a detailed review of regulatory changes regarding FX reserve management to support the “­Going Out” strategy, see Economic Information Department of China Council for the Promotion of International Trade, Analy­sis of the Formation of China’s “­Going Out” Strategy and Its Implementation (2007), https://www.docin.com/p-629467904.html; Y. Cheng and Y. Lin, “An Analy­sis of China’s ‘Go Global Strategy’: China’s Economic Transformation in the 21st ­C entury,” Prospect & Exploration 6, no. 8 (2008). 68. Yi Xianrong, “Forex Reserves Need Effective Management,” China Daily, November 28, 2006. 69. 新浪财经 (Sina Finance), “Zhong guo ni yong wai chu zeng jia zhan lüe zi yuan chu bei” (China Plans to Use FX Reserves to Increase Strategic Resource Reserves), December 28, 2006, http://­fi nance​.­sina​.­com​.­cn​/­roll​ /­20061228​/­09131126395​.­shtml. 70. 搜狐财经 (Sohu Business), “Li Lianzhong: bian wai hui chu bei wei zi yuan neng yuan he gao ke ji chu bei” (Li Lianzhong Proposed to Transform FX Reserves into Resources, Energy and High-­Tech Reserves), November 26, 2007, https://­business​.­sohu​.­com​/­20071126​/­n 253466574​.­shtml. 71. Interviews with a research scholar at China Social Science Acad­emy, October 2016. 72. 网易新闻 (NetEase 163​.­com), “Wai hui chu bei zhuan ti” (Special Issue on Foreign Exchange), https://­web​.­archive​.­org​/­web​/2­ 0070313155626​/­http://­biz​ .­163​.c­ om​/­special​/­0 0021PRC​/z­ houxiachuan​_f­ oreign%20exchange​.­html. 73. 中国人民银行 (official website of the P ­ eople’s Bank of China), “Zhou Xiaochuan hang zhang zai ‘zhong guo fa zhan gao cen lun tan’ hui lü zhuan ti hui shang de fa yan” (Zhou Xiaochuan’s speech at the “China Development High-­level Forum”), March 28, 2006, http://­w ww​.­pbc​.­gov​.­cn​/­hanglingdao​ /­128697​/­128719​/­128766​/­2835490​/­i ndex​.­html. 74. 搜狐财经 (Sohu Business), “Yang hang fu hang zhang Wu Xiaoling: wai hui chu bei bu neng wu chang chong shi she bao” (Deputy Governor of the ­People’s Bank of China said FX Reserves Cannot be Used to Supplement Social Security for F ­ ree), October 18, 2006, https://­business​.­sohu​.­com​ /­20061018​/­n 245864680​.­shtml.

235

N O T E S T O PA G E S 6 0 – 6 3

75. Ibid. 76. Interview with a former Ministry of Finance official, Beijing, October 2016. 77. See for example, 国务院参事室 (Counselors’ Office of the State Council), Xu Dingming and Xu Xiaojie, “You xiao shi yong wai hui chu bei kai zhan jing wai neng yuan xiang mu tou zi de jian yi” (Suggestions on the Effective Use of FX Reserves to Invest in Overseas Energy Proj­ects), October 13, 2009, http://­w ww​.­counsellor​.­gov​.­cn​/­2009​-­10​/­13​/­c​_­1210771888​.­htm. 78. In September 2010, China Securities Journal, citing an anonymous SAFE official, disclosed that 65 ­percent of China’s foreign exchange reserves w ­ ere in dollar-­denominated assets and 26 ­percent ­were in euro-­denominated assets. 新浪财经 (Sina Finance), “Zhong guo wai chu zhong mei yuan zhan bi yue 65% ou yuan yue 26%” (The US Dollar Accounted for about 65 ­Percent of China’s FX Reserves and the Euro about 26 ­Percent), September 3, 2010, http://­finance​ .­sina​.­com​.­cn​/­roll​/­20100903​/­11088598922​.­shtml. Some analysts estimated that more than one-­third of Chinese foreign exchange reserves w ­ ere invested in US Trea­suries. See, for example, The US-­China Economic Relationship: Shifts and Twists in the Balance of Power, U.S.-­China Economic and Security Review Commission Hearing on “U.S. Debt to China: Implications and Repercussions,” 111th Congress, 4 (February 25, 2010) (statement of Eswar Prasad, Se­nior Fellow for Global Economy and Development at the Brookings Institution); Brad Setser and Arpana Pandey, “China’s $1.5 Trillion Bet,” Council on Foreign Relations Working Paper (2009). 79. 搜狐财经 (Sohu Business), “Mei yuan bian zhi bo ji wai hui chu bei gu suan zhong guo mei yue sun shi si hang mu” (The Depreciation of the US Dollar Affected Foreign Exchange Reserves, Costing China Four Aircraft Carriers Per Month by Estimation), April 14, 2008, https://­business​.­sohu​ .­com​/­20080414​/­n 256284440​.­shtml. 80. From a conversation with a taxi driver in Beijing, October 2016. 81. Premier Wen’s interview with Lionel Barber, editor of the Financial Times, February 1, 2009. 82. Interview with two experts at the Chinese Acad­emy of Social Sciences and the University of International Business and Economics, Beijing, October 2016. 83. 新浪网 (Sina​.­com), “Fen xi cheng zhong guo wai hui chu bei guan li shi yong fa sheng zhong yao bian hua” (Analy­sis Showed Impor­tant Changes Have Taken Place in China’s FX Reserve Management and Use), February 13, 2009, http://­news​.­sina​.­com​.­cn​/­c​/­2009​- ­02​-­13​/­194617210773​.­shtml. 236

N O T E S T O PA G E S 6 3 – 6 6

84. Erica Downs, “Inside China, Inc.: China Development Bank’s Cross-­Border Energy Deals,” Brookings Institution, John L. Thornton China Center Monograph Series, No. 3 (March 2011). 85. “China Looks at Using Foreign-­E xchange Reserves to Boost Overseas Investments,” Wall Street Journal, February 18, 2009. 86. 中国日报网 (China Daily), “Zhong guo ji xu tui xing xin xing ‘neng yuan jin rong yi ti hua’ zhan lüe” (China Urgently Needs to Implement a New “Energy and Finance Integration” Strategy), April 28, 2009, http://­w ww​ .­chinadaily​.­com​.­cn​/­zgrbjx​/­2009​-­0 4​/­28​/­content​_­9 088186​.­htm. 87. 中华人民共和国商务部 (Ministry of Commerce of the P ­ eople’s Republic of China), “ ‘Zou chuqu’ zhanlue dang da bu maijin” (The “­G oing Out” Strategy Should Take ­Great Strides), March 23, 2011, http://­fec​.­mofcom​.­gov​.­cn​/­a rticle​ /­y wzn​/­xgzx​/­z lyj​/­201511​/­20151101187164​.­shtml. 88. 新浪财经 (Sina Finance), “Zhou Xiaochuan tou xi wai chu guan li duan tui: yu guo nei shi ye jie jie chu bi jiao shao” (Zhou Xiaochuan Pointed Out the Lack of Contact with Domestic Industries as a Shortcoming in China’s Foreign Exchange Management), April 19, 2011, http://­fi nance​.­sina​ .­com​.­cn​/­roll​/­20110419​/­01289710685​.­shtml. Full Transcript of Zhou Xiaochuan’s speech is available at http://­wenku​.­baidu​.­com​/­link​?­url​=­jcICuFG8 6f3beKLccDh6TX3Oxvgn0zwXvm9tx9ouKKxTgGEQi4 ​_­T VEHo2IatlQwEa4 tNCs0lR0ndHycLGPYIg ​_ ­AetJBD8whZwPD7UPidgbi; “China Must Cut Foreign Exchange Reserves PBoC Zhou Says,” Bloomberg, April 18, 2011. 89. Interview with a PBoC official, Beijing, October 2016. 90. For example, Maurice Obstfeld, “Exchange Rates, Inflation, and the Sterilization Prob­lem: Germany, 1975–1981,” NBER Working Paper no. 0963 (1982); Akiko Terada-­Hagiwara, “Reserve Accumulation, Sterilization, and Policy Dilemma,” Asian Development Bank (2004); Chien-­Ping Chung, Jen-­Te Hwang, and Chieh-­Hsuan Wang, “The Effectiveness and Sustainability of the Sterilization Policy in China,” Economics Research International (2014): 509–643; Joshua Aizenman, “Sterilization, Monetary Policy, and Global Financial Integration” (Federal Reserve Bank of San Francisco, 2008); Pierre-­R ichard Agénor, Timothy P. Jackson, and Luiz Pereira da Silva, “Foreign Exchange Intervention and Financial Stability,” BIS Working Paper No. 889 (September 2020). 91. Examples of ­t hese proposals: “CEO of China Minmetals Corporation Suggests Using China’s Foreign Exchange Reserves to Establish a Mineral and Mining Development Fund,” R ­ euters, March 6, 2009; “Discussions by Experts over China’s $2 Trillion Reserves: Good Timing to Buy Strategic Resources,” 237

N O T E S T O PA G E S 6 7– 6 9

Global Magazine, March 20, 2009; “China Should Implement Energy Globalization Strategy,” China Energy News, June 2, 2009; “How to Make Better Use of Foreign Exchange Reserves to Help Chinese Enterprises Go Out,” Ministry of Commerce, December 8, 2010; “Suggestions on Broadening the Use of Foreign Exchange Reserves,” China Center for International Economic Exchanges, September 2, 2011. 92. 中国政府网 (official website of the State Council of the P ­ eople’s Republic of China), “Chen Deming jiu zhong guo mao yi tou zi cu jin tuan fang ou deng jie shou BBC zhuan fang” (Chen Deming Interviewed by BBC on China’s Trade and Investment Promotion Del­e­ga­tion’s Visit to Eu­rope), March 4, 2009, http://­w ww​.­gov​.­cn​/­govweb​/­gzdt​/­2009​-­03​/0­ 4​/­content​_­1250054​.­htm. 93. “Li Hongyan: Foreign Exchange Reserve Management Serves National Strategies and Prioritizes Risk Management,” China Finance, January 17, 2019. 94. “Yi Gang: The Marginal Cost of Additional FX Reserves Accumulation Outweighs the Benefit,” Caixin, November 21, 2013. 95. Qiao Yu, “Relocating China’s Foreign Reserves,” Brookings, November 21, 2013, https://­w ww​.­brookings​.­edu​/­research​/­relocating​-­chinas​ -­foreign​-­reserves​/­. 96. Zhang Ming, “New Approaches for China’s Foreign Exchange Reserves Reform,” China Development Gateway, July 17, 2013. 97. Zhuang Tailiang, He Qing, and Liang Chao, “Zhan zheng pei kuan yu zhong guo wai hui chu bei shi yong qi shi” (War Reparations and the Implications for the Use of China’s Foreign Exchange Reserves), China Development Bank Financial Research Center, research monograph no. 9, September 2013, https://­w ww​.­igef​.­cuhk​.­edu​.­h k ​/­igef​_ ­media​/­cdb%20 working%20paper%20no​.­%209%20simplified%20chinese%20version​.­pdf. 98. Hu Chaoyuan, “Overseas Oil and Gas Exploration and Development Proj­ects: One of the Key Investment Directions for National Foreign Currency Reserve,” Natu­ral Gas Industry 33, no. 11 (2013): 1–8. 99. Conceptually, this debt-­equity swap is a three-­step asset conversion instrument. The first step is that the PBoC moves US Trea­suries to other investment entities. This is followed by investors swapping the Trea­sury bonds to equity shares or equivalent claims in the private sector or committing them to greenfield proj­ects in foreign countries. Fi­nally, the bond recipients take the US Trea­sury bonds as collateral to obtain bank credits or issue asset-­backed securities for liquidities. Yu Qiao, Chinese Foreign Exchange Reserves and Global Industry investment (Shanghai: Commercial Press, 2013). 100. 搜狐财经 (Sohu Business), “Li Keqiang shou ti wai hui chu bei ju e wai chu yi cheng hen da fu dan” (Li Keqiang Discussed Foreign Exchange

238

N O T E S T O PA G E S 6 9 – 74

Reserves, Mentioning for the First Time China’s Massive Reserves Have Become a Huge Burden), May 14, 2014, https://­business​.­sohu​.­com​/­20140514​ /­n399531482​.s­ html. 101. 国家外汇管理局 (official website of the State Administration of Foreign Exchange), “Wai hui ju jie du wo guo wai hui chu bei jing ying guan li zai xian fang tan wen zi shi lu” (Transcript of the Online Interview on “the Interpretation of the Operation and Management of China’s Foreign Exchange Reserves by the State Administration of Foreign Exchange”), June 12, 2014, http://­m​.­safe​.­gov​.­cn​/­safe​/­2014​/­0 612​/­4 809​.­html. 102. “Zhou Xiaochuan, “Foreign Exchange Reserves Is to Be Used, Not to Be Looked At,” The Paper, March 10, 2017. 103. 中国政府网 (official website of the State Council of the P ­ eople’s Republic of China), “Li xing kan dai wo guo wai hui chu bei gui mo de bian hua” (Rational Perspective on Changes in the Scale of China’s Foreign Exchange Reserves), July 3, 2017, http://­w ww​.­gov​.c­ n​/­xinwen​/­2017​-­07​/0­ 3​ /­content​_ 5­ 207582​.­htm. The article was originally published in Quishi, the leading official theoretical journal of the CPC. 104. Kevin P. Gallagher et al., “Energizing Development Finance? The Benefits and Risks of China’s Development Finance in the Global Energy Sector,” Energy Policy 122, no. C (2018): 313–321. 105. 新浪财经 (Sina Finance), “Chen Yuan: yao jia qiang renminbi de guo ji di wei jia qiang hui lü de tan xing he ren xing” (Chen Yuan Called for Strengthening the International Status of the Renminbi and Strengthening the Flexibility and Resilience of Exchange Rates), August 10, 2019, https://­finance​ .­sina​.­com​.­cn​/­money​/­bank​/­bank​_­hydt​/­2019​-­08​-­10​/­doc​-­ihytcitm8187120​.­shtml. 106. 中国政府网 (official website of the State Council of the P ­ eople’s Republic of China), “Xi Jinping zhu chi zhong gong zhong yang zheng zhi ju di si shi ci ji ti xue xi”( Xi Jinping Presided Over the Fortieth Collective Study Seminar of the Politburo of the CPC Central Committee), April 26, 2017, http://­w ww​.­gov​.­cn​/­x inwen​/­2017​- ­0 4​/­26​/­content ​_ ­5189103​.­htm.

2. Central Huijin 1. Liu Chenming and Song Xuetao, “You duo shao wai chu hua kai bie chu: zhong guo ying zi wai chu de gui mo gu suan” (How Much FX Reserves Bloom Elsewhere: An Estimation of the Size of China’s Shadow FX Reserves), TF Securities research report, February 22, 2017, https://­w ww​.­djyb​.­com​/­v iew​?­id​ =­2205316106192465.

239

N O T E S T O PA G E S 7 5 – 7 6

2. PBoC, Annual Report 2003. 3. “Total Assets & Total Liabilities in 2004,” http://­w ww​.­cbrc​.­gov​.­cn​ /­english​/­i ndex​.­htm 4. Mr. Yi Gang quoted this sentence in an article he published in 2008, when he served as the deputy governor of the PBoC: http://­magazine​.c­ aixin​ .­com​/­2008​-­10​-­27​/­100086259​.­html​?­sourceEntityId​=1­ 00583141 or http://­bank​.­jrj​ .­com​.­cn​/­2009​/­08​/­0 611095710094​.­shtml. 5. Nicholas R. Lardy, China’s Unfinished Economic Revolution (Washington, DC: Brookings Institution Press, 1998), 130. 6. 新浪财经 (Sina Finance), “2004 Beijing guo ji jin rong lun tan shang wu shi lu” (Meeting Minutes of the 2004 Beijing International Financial Forum Morning Session), May 19, 2004, http://­fi nance​.­sina​.­com​.­cn​/­roll​ /­20040519​/­1016767522​.s­ html. 7. For details, see Lardy, China’s Unfinished Economic Revolution, 121. 8. Cited from Lardy, China’s Unfinished Economic Revolution. His original source is “Enterprises Need Personal Savings,” China Daily, May 23, 1995, 4. The original article states that the share of nonperforming loans is rising by 2 percentage points a year. Zhao Yining, “The Financial Situation and Financial Reform,” Oriental Outlook (Liaowang Institute), May 15, 1995, 1213. 9. Cited from Lardy, China’s Unfinished Economic Revolution. This study placed the share of past-­due loans, doubtful loans, and bad debt of the four largest banks at year-­end 1994 at, respectively, 11.3 ­percent, 7.7 ­percent, and 1 ­percent of the total loans outstanding. See Sun Shangrui, “An Investigation of a Number of Issues in the Commercialization Reform of the Specialized Banks,” Caimao jingji (Finance and Trade Economics), no. 3 (March 1996): 8. Nicolas Lardy referred to a dif­fer­ent article saying that the sum of ­t hese numbers, 20.4 ­percent, is 2 percentage points less than the year-­end 1995 data. The share of nonperforming loans of the Agricultural Development Bank, the largest of the three new policy banks created in 1994, was rising even more rapidly, from 20 ­percent at year-­end 1995, to 26 ­percent at year-­end 1996, and to 27 ­percent by February 1997. See Hu Chushou, “The ­Causes and Solutions to the Financial Risk of China’s Agricultural Policy Bank” Jingjixue dongtai (Economic Dynamics), October 18, 1997, 2225, full ­ w​/­Paper​/­62196#anchorList. text also available at http://­rdbk1​.­y nlib​.­cn:6251​/q 10. Dai Xianglong, “Hui gu 1997 nian quan guo jin rong gong zuo hui yi” (Review of the 1997 National Financial Work Conference), China Finance 19 (2010): 28–31. Full text also available at https://­chinadigitaltimes​.­net​/­chinese​ /­125182​.­html. 11. National Development Planning Commission Macroeconomic

240

N O T E S T O PA G E S 7 6 – 8 7

Research Institute, Analy­sis of Macroeconomic Condition, 1997–1998 (Beijing: China Jihua Press, 1998). 12. “China Banking System Outlook: China’s Banks Walk a Tight Rope” (Hong Kong: Moody’s Investors Ser­v ice, October 2002), 11. Forty ­percent was reported by some international private institutions, whereas 25 ­percent was published by the P ­ eople’s Bank of China. 13. ­These four conferences, respectively, ­were held: November 17–19, 1997; February 2–5, 2002; January 19–20, 2007; and January 6–7, 2012. Up u ­ ntil 2016, the National Financial Work Conference has been held only four times. 14. Guonan Ma, “Who Pays China’s Bank Restructuring Bill?,” Asian Economic Papers 6, no. 1 (2007): 46–71. 15. For example, Guonan Ma and Ben S. C. Fung, “China’s Asset Management Corporations,” BIS Working Paper No. 115 (August 2002). 16. “Standard & Poor’s Rates China Banks as Junk Grade,” Wall Street Journal, November 26, 2003. 17. “Po­l iti­cal Overlords Shackle China’s Monetary Mandarins,” Wall Street Journal, April 15, 2011. 18. Interview with an NDRC official, Beijing, September 2016. 19. “Bank of Amer­i­c a Exits China Bank Stake,” Wall Street Journal, September 3, 2013. 20. Interview with a former PBoC official, who is currently ­r unning a private equity fund, Beijing, September 2016. 21. “Changes in ICBC Recapitalization Model,” China Business News, April 23, 2005. 22. “114 Brokerages Lost 15 Billion Last Year,” Business​.­sohu​.­com, June 15, 2005. 23. Wu Xiaoqiu, Chinese Securities Companies: An Analy­sis of Economic Growth, Financial Structure Transformation, and F ­ uture Development (Hoboken, NJ: John Wiley, 2014), 113–115. 24. Jianyin was established in September 2004 to hold the noncommercial banking assets of CCB. 25. Interview, se­n ior man­ag­er at China Construction Bank, Beijing, November 2016. 26. ­These ten brokerage firms are Zhongtou Securities, Jianyin Investment, Hongyuan Investment, Ruiyin Securities, Guotai Junan, Shenyin Wanguo, China Galaxy Financial Holdings, Galaxy Securities, Zhongjin, and CSC Financial. 27. “Central Huijin Transformation Controversy,” Capital Market, March 19, 2007. 28. Interview, former se­n ior official at Huijin, Beijing, October 2016.

241

N O T E S T O PA G E S 8 8 – 9 6

29. Ibid. 30. Interview with Ba Shusong, Beijing, October 2016. 31. Interview with a special advisor to Chen Yuan, who at the time of the interview worked for China Development Bank, Beijing, November 2016. The information is also consistent with Central Huijin’s website. 32. Interview, a finance professor at the University of International Business and Economics, Beijing, November 2016. 33. Interviews, a professor at Renmin University, Po­liti­cal Science Department, and a former se­n ior man­ag­er at SAFE, October 2016.

3. China Investment Corporation 1. For example, Sarah Eaton and Zhang Ming, “A Principal-­Agent Analy­sis of China’s Sovereign Wealth System: Byzantine by Design,” Review of International Po­liti­cal Economy 17, no. 3 (August 2010). 2. For example, Stephen Thomas and Ji Chen, “China’s Sovereign Wealth Funds: Origins, Development, and ­Future Roles,” Journal of Con­temporary China 20, no. 70 (2011); also in Key Papers on Chinese Economic History since 1949, ed. Michael Dillon (Leiden: Brill, 2016), 1116–1129. 3. For example, Ai Yao, “Sovereign Wealth Fund: The Background and Current Investment Situation of China Investment Corporation,” Northern Economy, no. 1 (2009); Wang Yang, “Sovereign Wealth Funds, Foreign Exchange Reserve Management, and the Effectiveness of Monetary Policy,” Con­temporary Finance and Economics, no. 8 (2009): 49–55; Gao Jie and Zhai Bo, “Ji ji wait hui chu bei guan li yu zhu quan cai fu ji jin de fa zhan” (Active Foreign Exchange Reserve Management and the Development of Sovereign Wealth Funds), Zhong guo jin rong (China Finance), no. 6 (2009). 4. Article 28 of the PBoC Law prohibits China’s central bank from providing overdraft credit to the Ministry of Finance, and  /  or directly purchasing or underwriting sovereign bonds or other types of government debts. 5. Interview with a former PBoC official, October 2016, Beijing. 6. CIC Articles of Association (Abstract), http://­w ww​.­china​-­i nv​.­cn​ /­chinainven​/­Governance​/­A rticles ​_­of ​_ ­Association​.­shtml. 7. Interview with a former se­nior man­ag­er at CIC who is currently an in­de­pen­dent hedge fund man­ag­er, Beijing, October 2016. 8. Interview with a se­nior official at the State Development and Investment 242

N O T E S T O PA G E S 9 7–10 4

Corporation, in the presence of this official’s assistant, in Beijing, November 2016. 9. Interview with a former CIC equity investment man­ag­er, Beijing, October 2016. 10. Interview with a CIC public relations man­ag­er who at the time of the interview was working at CIC, Beijing, October 2016. 11. Interview with a CIC public relations man­ag­er who at the time of the interview was working at CIC, Beijing, October 2016. 12. Interview, a se­nior investment man­ag­er at CIC, Beijing, October 2016. 13. “China Sells Stake in Blackstone as Deal Scene Turns Sour,” New York Times, March 14, 2018. 14. 中国日报 (China Daily), “Liang Jinsong de hei shi ‘jiang hu’ ” (Liang Jinsong’s Blackstone Experience), August 1, 2007, http://­w ww​.­chinadaily​ .­com​.­cn​/­hqzx ​/­2007​- ­08​/­01​/­content ​_ ­6006358​.­htm. 15. “China to Buy $3 Billion Stake in Blackstone,” New York Times, May 20, 2007. 16. The Blackstone Group L.P., Annual Report Pursuant to Section 13 or 15(d) of 1934 for the Fiscal Year ended December 31, 2007, https://­w ww​.s­ ec​ .­gov​/­A rchives​/­edgar​/­d ata​/­1393818​/­0 00119312508053079​/­d10k​.­htm. 17. “Senator Raises China Concerns on Blackstone,” ­Reuters, June 20, 2007. 18. “Blackstone’s Costly Float,” Financial Times, June 21, 2007. 19. See, for example, Ye Tan, “Zhong tou de tou zi feng xian” (CIC Investment Risk), FT中文网 (FTChinese​.c­ om), June 4, 2012, http://­w ww​ .­ftchinese​.­com​/­story​/­0 01044886; 铁血社区 (bbs​.­t iexue​.­net), “Zhong tou mai guo, hu yu tie xue mi yi qi kang yi” (CIC is Traitorous, Calling on Fans of Tiexue BBS to Protest), http://­bbs​.­t iexue​.­net​/­post​_­2886270​_­1​.­html; 中国报道 周刊(China​-­week​.­com), “Lao Zhong: zhong guo jin rong jie te da mai guo chou wen” (Lao Zhong: A Notorious Treason Scandal in China’s Financial ­ tm; 博讯 (news​.­boxun​ Industry), https://­w ww​.c­ hina​-­week​.­com​/ ­html​/3­ 950​.h .­com), “Yang Fangzhou: hai wai tou zi shi wu shi shui ping wen ti hai shi mai guo wen ti?” (Yang Fangzhou: Are ­M istakes in Overseas Investment an Issue of Incompetency or a Crime of Treason?), https://­news​.­boxun​.­com​/­news​/­gb​ /­pubvp​/­2008​/­08​/­200808050226​.­shtml. 20. Interview, former CIC portfolio man­ag­er, Beijing, October 2016. 21. Interview, former CIC se­nior investment officer, Beijing, October 2016. 22. Interview with a CIC public relations man­ag­er, Beijing, November 2016. 23. “China’s Sovereign Wealth Fund Sells Stake in Blackstone,” Financial Times, March 13, 2018. 243

N O T E S T O PA G E S 10 5 –110

24. “Q&A with Steve Schwarzman: ‘­There Are No Brave Old P ­ eople in Finance,’ ” Bloomberg Markets, June 6, 2017. 25. “Former Financial Secretary Antony Leung to Join Nan Fung Group as CEO,” South China Morning Post, November 20, 2013. 26. “China’s CIC to Launch $4 Billion Fund with JC Flowers,” ­Reuters, April 3, 2008. 27. “CIC Close to Fund Deal with JC Flowers,” Financial Times, February 8, 2008. 28. “PE Losses Sting Chinese Investment Arms,” Caijing, January 5, 2009. 29. “Flowers Hands Back Most of $3.2 Billion China Investment Unspent,” Bloomberg, September 5, 2015. 30. “Blackstone Opens Beijing Office,” Blackstone press release, August 3, 2008. 31. “Q&A with Steve Schwarzman.” 32. “Blackstone Completes First Close for Its RMB Fund,” Blackstone press release, April 8, 2011. 33. “Xi Jinping’s Back Channel to Donald Trump,” Nikkei Asian Review, February 3, 2017. 34. See Steve Schwarzman’s “Why I’m Building a Network of 10,000 Elite Scholars Who Understand China,” CNBC, June 23, 2017. 35. 环球网 (Huanqiu​.­com), “Zhong tou fa zhan tui chu fang di cha nye wu ceng bei shen ji shu dian ming wei gui” (CIC Development Withdrawal from Real Estate Business ­a fter Being Exposed for Regulatory Violations by the National Audit Office), November 21, 2016, http://­fi nance​.­huanqiu​.­com​/­ssgs​ /­2016​-­11​/­9706983​.­html. 36. Ye Tan, “Zhong tou de tou zi feng xian” (CIC Investment Risk), FT中 文网 (FTChinese​.­com), June 4, 2012, http://­w ww​.­ftchinese​.­com​/­story​ /­0 01044886. 37. 环球网 (Huanqiu​.­com), “Zhong tou fa zhan tui chu fang di cha nye wu ceng bei shen ji shu dian ming wei gui”(CIC Development Real Estate Model Survey: Why is the Joint Development of Primary and Secondary Land Illegal?), June 19, 2014, http://­fi nance​.­sina​.­com​.­cn​/­chanjing ​/­gsnews​/­20140619​ /­023019454702​.s­ html. 38. “CIC, Mongolia Miner Reach Deal,” Wall Street Journal, October 29, 2009. 39. “Asian Sovereign Wealth Funds Invest in Chesapeake,” Bloomberg, June 21, 2010. 40. Monitor Group, Weathering the Storm: Sovereign Wealth Funds in the Global Economic Crisis of 2008—­SWF Annual Report 2008, April 2019.

244

N O T E S T O PA G E S 110 –11 2

41. “CIC’s Investment Departments Reor­ga­nized,” CIC Press Releases, April 29, 2009, http://­www​.­china​-­inv​.c­ n​/c­ hinainven​/­Media​/­2009​-­04​/­1000475​.­shtml. 42. “The Man ­behind the Teck-­CIC Deal,” Globe and Mail, March 26, 2017; 新浪财经 (Sina Finance), “Zhong tou zui cheng gong tou zi: qian shou tai ke zi yuan fu ying 25 yi mei yuan” (CIC’s Most Successful Investment: Holding Hands with Teck Resources and Making an (unrealized) Profit of US$2.5 billion), http://­fi nance​.­sina​.­com​.­cn​/­china​/­hgjj​/­20101025​/­19278839875​.­shtml; 新浪财经 (Sina Finance), “Zhong tou 15 yi mei yuan ru gu jia na da kuang ye ju tou” (CIC Buys $1.5 billion Stake in a Canadian Mining ­Giant), http://­ finance​.­sina​.­com​.­cn​/­chanjing​/­gsnews​/­2 0090704​/­0 8456439686​.­shtml; 中国证券报网站 (China Securities News), “Zhong tou gong si Xu Bingqing: Zhong tou zai jia na da dui zi yuan ling yu zui gan xing qu” (CIC Xu Bingqing: CIC is Most Interested in the Resource Sector in Canada), October 19, 2012, https://­w ww​.­cs​.­com​.­cn​/­xwzx​/­jr​/­201210​/­t20121019​_­3642286​.­html. 43. “CIC No Longer to Pay Interest to the State,” Economic Observer, August 26, 2009, http://­w ww​.­eeo​.­com​.­cn​/­ens​/­homepage​/ ­briefs​/­2009​/­08​/­26​ /­149395​.­shtml; 新浪财经 (Sina Finance), “Cai zheng bu zan wei kao lu shou jiao jin rong yang qi hong li” (The Ministry of Finance Has Not Yet Considered Collecting Dividends from Central Financial SOEs), August 21, 2009, http://­ finance​.­sina​.­com​.­cn​/­roll​/­20090821​/­22436650690​.­shtml; Sarah Y. Tong and Catherine Chong Siew Keng, “China’s Sovereign Wealth Fund: An Update,” East Asian Institute, National University of Singapore (October 2010). 44. 新浪财经 (Sina Finance), “Lou Jiwei tan cheng ya li hen da zhong tou mei tian zhi shao xu yao ying li 3 yi” (Lou Jiwei Admits that ­There Is a Lot of Pressure, as CIC Needs to Make at Least RMB 300 million a Day), http://­ finance​.­sina​.­com​.­cn​/­roll​/­20071130​/­01051824976​.­shtml. 45. CIC 2010 Annual Report, https://www.ifswf.org​/​content​/cic​-2010​-annual​ -report. 46. “China Sovereign Fund Received $30 Billion New Capital Last Year,” Bloomberg, March 4, 2012. 47. CIC 2011 Annual Report, https://www.ifswf.org​/​content​/cic​-2011​-annual​ -report. 48. David Lee Kuo Chuen and Greg N. Gregoriou, Handbook of Asian Finance: Financial Markets and Sovereign Wealth Funds (Burlington, VT: Academic Press, 2014), 320. 49. 新浪财经 (Sina Finance), “Zhong tou dong shi zhang nan chan fei yin hou xuan ren bu yuan yi geng gao ceng zai chi yi” (CIC Chairman Position Has Not Been De­cided, Not ­Because of the Reluctance of Candidates but ­Because of the Hesitancy of Higher-­level Decisionmakers), July 2, 2013,

245

N O T E S T O PA G E S 11 2 –114

http://­fi nance​.­sina​.­com​.­cn​/­chanjing​/­gsnews​/­20130702​/­0 01015978965​.­shtml; 新浪财经 (Sina Finance), “Wai mei cheng Yi Gang Tu Guangshao ju jue jie shou zhong tou dong shi zhang yi zhi kong que” (Foreign Media Reported that Yi Gang and Tu Guansha Refused to Take Over CIC, Leaving the Chairman Position Vacant), May 27, 2013, http://­finance​.­sina​.­com​.­cn​/­world​ /­20130527​/­111915597280​.­shtml; 新浪财经 (Sina Finance), “Zhong tou wei he cheng wei tang shou shan yu?” (Why CIC Became a Hot Potato), Zhuiwen (Asknow), no.16, http://­finance​.­sina​.­com​.­cn​/­focus​/­a sknow16​/­. 50. Ibid. 51. 新浪财经 (Sina Finance), “Xiao xi ren shi: zhong zu bu jin tian xuan bu Ding Xuedong jie ren zhong tou dong shi zhang” (Sources: The Orga­nizational Department of the CPC Central Committee Announced T ­ oday that Ding Xuedong Has Been Appointed as Chairman of CIC), June 28, 2013, http://­ finance​.­sina​.­com​.­cn​/­china​/­20130628​/­192115956844​.­shtml. 52. Interview with former and current CIC employees, Beijing, December 2016. 53. Interview, an official of China Ministry of Finance and an official of China Development Bank, Beijing, October 2016. 54. 中华人民共和国审计署 (National Audit Office of The ­People’s Republic of China), “2014 nian di 5 hao gong gao:zhong guo tou zi you xian gong si 2012 nian du zi chan fu zhai sun yi shen ji jie guo” (Announcement No. 5 of 2014: 2012 Balance Sheet Audit Results of China Investment Co., Ltd.), June 18, 2014, http://­w ww​.­audit​.­gov​.­cn​/­n5​/­n 25​/­c63648​/­content​.­html; 兴证全 球基金(Aegon-­I ndustrial Fund website), “Zhong tou jing wai tou zi 6 sun si fu kui 2 feng xian cai wu guanli cang mao ni”(CIC Overseas Investments Incurred 6 Realized Losses, 4 Unrealized Losses, and 2 Risking Losses), June 19, 2014, http://­w ww​.­xqfunds​.c­ om​/i­ nfo​.­dohscontentid​=1­ 08557​.­htm; “Chinese Fund CIC ­under Fire over Overseas Losses,” Financial Times, June 18, 2014. 55. Interview with a public relations representative of CIC, October 2016; also “Circular of the CIC Committee on Inspection and Rectification,” CPC Central Commission for Discipline Inspection and Supervision Department, April 25, 2016; “CIC Announced Inspection and Rectification: 37 P ­ eople W ­ ere Punished for Playing Golf with Public Funds,” ­People’s Daily, April 25, 2016. 56. “China ­Will Profit from Feeding the World’s Appetite,” Financial Times, June 17, 2014; “China’s Sovereign Wealth Fund Shifts Focus to Agriculture,” Financial Times, June 17, 2014. 57. “China’s CIC Boosts Direct Investments in Search of Returns,” Institutional Investor, September 5, 2016.

246

N O T E S T O PA G E S 114 –1 2 0

58. Interview with a former CIC man­ag­er, Beijing, November 2016. 59. 财经国家周刊 (China Financial Weekly), “Zhong tou wai guan ju dao di gei guo jia zhuan le duo shao qian?” (How Much Money Have CIC and SAFE ­ uoyunjn​.c­ om​ Made for the Country?), June 2, 2022, http://­w ww​.h /­l ianmengxinxi​/­3​/­33712988​.­htm. 60. Interview with a se­n ior official at the NDRC, Beijing, November 2016. 61. “CIC Subsidiary to Focus on Overseas Targets, Official Says,” China Daily, May 22, 2015. 62. Interview with two current CIC investment officers and one CIC public relations representative, Beijing, October 2016. 63. Interview with a public relations representative of CIC, Beijing, October 2016. 64. “China’s CIC Boosts Direct Investments in Search of Returns,” Institutional Investor, September 5, 2016. 65. “CIC Made Five-­Year Plan to Create More Wealth and Value for the State,” China Financial News Network, December 6, 2018. 66. 中国经济新闻网 (China Economic News), “Tu Guangshao: Shuang bian ji jin shi dui ‘yi dai yi lu’ chang yi de you yi tan suo he chang shi” (Tu Guangshao: Bilateral Funds Are a Beneficial Exploration of and Attempt at Implementing the ­Belt and Road Initiative), December 10, 2018, http://­w ww​ .­cet​.­com​.­cn​/­ycpd​/­sdyd​/­2108646​.­shtml. 67. “Goldman’s China-­Backed Fund Bucks Trade Tensions to Buy U.S. Firm,” ­Reuters, March 29, 2019. 68. “Fund Mulled to Support ­Belt, Road Proj­ects,” State Council of the ­People’s Republic of China, March 18, 2019, http://­english​.­w ww​.­gov​.­cn​/­news​ /­top​_ ­news​/­2019​/­03​/­18​/­content ​_ ­281476567446916​.­htm. 69. 中国经济新闻网 (China Economic News), “Tu Guangshao: Shuang bian ji jin shi dui ‘yi dai yi lu’ chang yi de you yi tan suo he chang shi.” 70. “The CPC Appoints Peng Chun as CIC Chairman and Secretary of the Party Committee,” CIC news release, April 9, 2019. 71. “CIC and RDIF Set Up Joint Technology Innovation Fund,” CIC website news center, September 20, 2019. 72. CIC Annual Report 2020, 4, https://www.ifswf.org/content​/cic​-annual​ -report​-2020. 73. “China’s $1.2 Trillion Wealth Fund Reorganizes Key Investment Arm,” Bloomberg News, July 20, 2022. 74. “The Man ­behind the Teck-­CIC Deal.” 75. 新浪财经 (Sina Finance), “Zhong tou zui cheng gong tou zi: qian shou tai ke zi yuan fu ying 25 yi mei yuan” (CIC’s Most Successful Investment:

247

N O T E S T O PA G E S 1 2 0 –1 2 6

Holding Hands with Teck Resources and Making an (Unrealized) Profit of US$2.5 billion), October 25, 2010, http://­fi nance​.­sina​.­com​.­cn​/­china​/­hgjj​ /­20101025​/­19278839875​.­shtml. 76. “The Man ­behind the Teck-­CIC Deal”; “Teck Resources’ Chinese DNA,” 21st ­Century Business Herald, July 11, 2009. 77. “Teck Comes to China to Dig Gold,” 21st ­Century Business Herald, October 12, 2010. 78. “A Canadian Success Story: Teck Resources Opens New Office in China,” Global Affairs Canada, April 16, 2013. 79. Teck established its China presence in 2006 with the opening of our Beijing office and expanded with an office in Shanghai in 2013. See “Member Spotlight: Teck Resources,” CanCham; “A Canadian Success Story: Teck Resources Opens New Office in China,” Global Affairs Canada, April 16, 2013. 80. “Teck’s Lindsay Sees Bright ­Future for the Careful,” Northern Miner 98, no. 52 (February 6, 2013): 11–17. 81. “CIC, Sinopec among Investors in Oil Sands IPO,” ­Reuters, February 7, 2012. 82. “Exclusive: China’s Sovereign Wealth Fund to Open First U.S. Office—­Sources,” ­Reuters, December 14, 2015. 83. “China Investment Corporation Subscribes for Shares of Windfield in Connection with the Acquisition of Talison Lithium,” Cision, March 22, 2013, https://­w ww​.­newswire​.­c a​/­news​-­releases​/­china​-­i nvestment​-­corporation​ -­subscribes​-­for​-­shares​-­of​-­w indfield​-­i n​-­connection​-­w ith​-­t he​-­acquisition​-­of​ -­talison​-­l ithium​-­512120901​.­html. 84. “Zhao Haiying, “Focusing on Improving Institutional Investment Capacity in Foreign Markets,” China Securities Journal, May 27, 2020. 85. “CIC Subsidiary to Focus.” 86. Xi Jinping Opening Remarks at the BRI Forum for International Cooperation, May 14, 2017, http://­2017​.­beltandroadforum​.­org​/­english​/­n100​ /­2018​/­0306​/­c25​-­1038​.­html. 87. “Ding Xuedong: CIC Established a Direct Investment Subsidiary to Complement the AIIB,” Phoenix Finance, March 30, 2015. 88. “Chinese Consortium to Invest in Turkey’s No. 3 Container Terminal,” South China Morning Post, September 17, 2015. 89. “CIC Participates in the Acquisition of Port of Melbourne and Holds One-­Fifth of the Shares,” Shanghai Securities News, September 20, 2016. 90. “CIC Plugs $900m into Port of Melbourne,” Infrastructure Investor, November 2, 2016. 91. 中国投资有限公司 (China Investment Corporation website), “Zhong tou hai wai can yu dui ao da li ya tie lu yun shu shang ji gang kou yun ying shang

248

N O T E S T O PA G E S 1 2 6 –1 3 0

Asciano gong si de si you hua shou gou” (CIC Capital Participates in the Privatization of Asciano, an Australian Rail Carrier and Port Operator), September 18, 2016, http://­w ww​.­china​-­i nv​.­cn​/­china ​_ ­i nv​/­Media ​/­2016 ​- ­09​ /­1000097​.­shtml. 92. “U.S. Casts Wary Eye on Australian Port Leased by Chinese,” New York Times, March 20, 2016. 93. “Australia’s Port of Melbourne Sold for $7.3 Bn,” Yahoo News, September 19, 2016. 94. “Chinese Fund Takes 20% of $7.3bn Melbourne Port,” Global Construction Review, September 20, 2016. 95. “Goldman’s China-­Backed Fund.” 96. “Goldman Sachs and China Investment Corporation Establish $5 Billion Fund to Invest in United States Companies,” Goldman Sachs press releases, November 9, 2017, https://­w ww​.­goldmansachs​.­com​/­media​-­relations​ /­press​-­releases​/­a rchived​/­2017​/­goldman​-­sachs​-­china​-­i nvestment​-­corporation​ -­f und​.­html. 97. “Goldman Sachs Announces $1.5.Billion First Close of the Cooperation Fund,” Goldman Sachs press releases, August 17, 2018, https://­w ww​ .­goldmansachs​.­com​/­media​-­relations​/­press​-­releases​/­current​/­a nnounce​-­fi rst​ -­close​-­cooperation​-­f und​-­17​-­aug​-­2018​.­html. 98. Ibid. 99. Even though Goldman received CFIUS clearance for the Boyd deal, it did not disclose publicly the Cooperation fund’s involvement in the acquisition, and most of Boyd’s 4,200 employees ­were not told about the Chinese money. A Moody’s Investors Ser­v ice Inc. credit rating note listed Boyd’s acquirer as Goldman’s flagship private equity fund West Street Capital Partners VII. A ­ fter the deal, that fund transferred a minority stake in Boyd to the Cooperation fund. “Goldman’s China-­Backed Fund.” 100. “Supply-­Chain Tech Firm Taps Goldman, China’s Sovereign-­Wealth Fund,” Wall Street Journal, June 1, 2021. 101. “Report: CIC Seeks $2 Billion Stake in Alibaba, Helping It Pay Off Yahoo,” Tech in Asia, May 24, 2012; “CIC Invested About $2 Billion in Alibaba,” Wall Street Journal, September 19, 2012. 102. Alibaba SEC Filed pursuant to Rule 424(b)(4) Registration No. 333195736, https://­w ww​.­sec​.­gov​/­A rchives​/­edgar​/­data​/­1577552​ /­0 00119312514347620​/­d709111d424b4​.­htm#toc709111​_ ­20. 103. “CIC Buys Stake in CITIC Capital,” Wall Street Journal, July 21, 2009. 104. “Alibaba Closes US$7.6 Billion Share Repurchase and Restructuring of Yahoo! Relationship,” Businesswire, September 18, 2012, https://­w ww​

249

N O T E S T O PA G E S 1 3 0 –1 3 5

.­businesswire​.­com​/­news​/­home​/­20120918006504​/­en​/­A libaba​-­Closes​-­US7​.­6​ -­Billion​-­Share​-­Repurchase​-­and​-­Restructuring​-o ­ f​-­Yahoo%21​-­Relationship; “Alibaba Said to Get Part One of China Development Bank Loan,” Bloomberg, June 20, 2012. 105. “Alibaba IPO Hits Rec­ord $25 Bn,” Financial Times, September 22, 2014; “Deals of the Year 2014: Alibaba Sets IPO Rec­ord with NYSE Debut,” Institutional Investor, December 10, 2014. 106. Interview with a former CIC man­ag­er, Beijing, October 2016. 107. “Ant Financial Raises $4.5 Bn in Rec­ord Fintech Private Placement,” Financial Times, April 26, 2016. 108. “Alibaba Affiliate Ant Financial Raises $4.5 Billion in Largest Private Tech Funding Round,” Wall Street Journal, April 25, 2016. 109. 中国人民银行 (­People’s Bank of China official website), “Zhong guo ren min yin hang fu hang zhang Pan Gongsheng jiu jin rong jian guan bu men yue tan ma yi ji tuan you guan qing kuang da ji zhe wen” (Deputy Governor of the P ­ eople’s Bank of China Pangongsheng Answered Journalists’ Questions Regarding the Financial Regulatory Agency’s Interview with Ant Group), December 27, 2020, http://­w ww​.­pbc​.­gov​.­cn​/­goutongjiaoliu ​/­113456​/­113469​ /­4153479​/­index​.­html. 110. “Alibaba’s I.P.O. Could Be a Bonanza for the Scions of Chinese Leaders,” New York Times, July 20, 2014. 111. “Alibaba Raises Stake in China Investment Bank CICC,” Financial Times, February 19, 2019; “Alibaba Boosts Stake in Investment Bank CICC for $231 Million,” ­Reuters, February 19, 2019. 112. “China State Fund CIC Invests in Taxi App Didi Kuaidi,” ­Reuters, August 3, 2015. 113. “DiDi Announces Results of Extraordinary General Meeting,” U.S. Securities and Exchange Commission archives, EX-99.1 2 tm2216577d1​ _­e x99​-­1​.­htm EXHIBIT 99.1, https://www.sec.gov/Archives/edgar/data/ 1764757/000110465922063652/tm2216577d1​_ ­e x99​-­1​.­htm. 114. “CIC Invests $300 Million in SMIC,” Wall Street Journal, April 19, 2011. 115. Ibid. 116. Interview with a Shanghai-­based semiconductor expert who designs chips at a Chinese semiconductor com­pany, September 2021. 117. 每经网 (www​.­nbd​.­com​.­cn), “Zhong tou gong si, si lu ji jin deng gong tong fa qi she li hou an chuang xin ji jin” (CIC, Silk Road Fund, and ­Others Jointly Initiated Houan Innovation Fund), January 26, 2017, http://­w ww​.­nbd​ .­com​.­cn​/­a rticles​/­2017​-­01​-­26​/­1073030​.­html.

250

N O T E S T O PA G E S 1 3 5 –1 3 9

118. “Corrected: SoftBank’s ARM Cedes Control of China Ops to Consortium for $775 Million,” ­Reuters, June 5, 2018. 119. “HOPU-­Arm Innovation Fund Invests in Chinese Autonomous Driving Technology Firm Idriverplus,” China Money Network, May 27, 2020. 120. Interview with former CIC portfolio man­ag­er, Beijing, November 2016. Also, 中国发展门户网 (www​.­chinagate​.­com​.­cn), “Lou Jiwei gong kai zhong tou tou zi zhan lue yu hui jin zhi jian jiang jian fang huo qiang” (Lou Jiwei Disclosed CIC Investment Strategies, Saying Would Build a Firewall between Huijin and CIC), November 30, 2007, http://­cn​.­chinagate​.­cn​/­enterprises​ /­2007​-­11​/3­ 0​/c­ ontent​_9­ 320653​.h ­ tm; 经济参考报 (Economic Information Daily), “Lou Jiwei shou ci gong kai zhong tou tou zi zhan lue” (Lou Jiwei Publicly Discussed CIC’s Investment Strategy for the First Time), November 30, 2007, http://­w ww​.­jjckb​.­cn​/w ­ zpd​/2­ 007​-1­ 1​/­30​/c­ ontent​_­76179​.­htm. 121. Ibid. 122. Ibid. Also see Huijin’s website. 123. Ibid. 124. “Central Huijin Bails Out Everbright Bank,” China Daily, November 8, 2007. 125. 新浪财经 (Sina Finance), “Hui jin zhu zi guang da yin hang 200 yi jin dao wei” (Huijin’s RMB 20 Billion Capital Injection into Everbright Bank Is in Place ­Today), November 29, 2007, http://­finance​.­sina​.­com​.­cn​/­stock​/­s​ /­20071129​/1­ 0084231049​.­shtml. 126. 新浪财经 (Sina Finance), “Guang da yin hang bai yi bo bei xie bao fu shou kun bu liang zi chan mou qiu zhuan xing” (Burdened by Distressed Nonperforming Assets, Everbright Bank Seeks Transformation with Tens of Billions of Provisions), April 30, 2005, http://­fi nance​.­sina​.­com​.­cn​/­money​ /­bank​/­bank​_­yhyj​/­20050430​/­07251564577​.­shtml; 新浪财经 (Sina Finance), “Guang dao yin hang nian nei jiang huo zheng fu zhu zi” (Everbright Bank to Receive Capital Injection from the Government within the Year), September 11, 2006, https://­fi nance​.­sina​.­cn​/­sa​/­2006​- ­09​-­11​/­detail​ -­i kftssap1114526​.­d ​.­html​?­f rom​=w ­ ap. 127. “Central Huijin Bails Out Everbright Bank,” China Daily, November 8, 2007. 128. “Govt Ploughs $19b into ABC,” China Daily, October 23, 2008; “ABC to Receive Capital Injection,” China Daily, November 7, 2008. 129. “China Gives Agricultural Bank $19 Billion Bailout,” New York Times, November 7, 2008. 130. “The First Bank To Be Taken Over in Two De­cades: Baoshang Bank Was Taken Over Due to Serious Credit Risks,” China Business Network, May 24, 2019.

251

N O T E S T O PA G E S 1 3 9 –14 2

131. “Hengfeng Bank: The Road to Transformation,” China Banking and Insurance News, October 30, 2020. 132. “Hengfeng Bank’s 100 Billion Fixed Recap: Can It Go Public in the Next Five Years?,” China Business Network, October 31, 2019; “CIC and Hengfeng’s Recapitalization,” Phoenix News, December 25, 2019. 133. “Hengfeng Bank Credit Rating Report,” China Lianhe Credit Rating, November 9, 2020. 134. 网易(163​.­com), “Heng feng yin hang chong sheng ji: xin ling dao ban zi xin tiao zhan, wu nian shang shi ji hua hai you duo yuan” (The Rebirth of Hengfeng Bank: New Challenges for the New Leadership, How Far Is the Five-­Year IPO Plan ), November 25, 2020, https://­w ww​.­163​.­com​/­dy​/­a rticle​ /­FSAFLMKJ0519DFFO​.­html. 135. China RE Annual Report 2014, http://­w ww​.­chinare​.­com​.­cn​/­z hzjt​ /­resource​/­cms​/­2015​/­08​/­2015082709085075513​.­pdf; Com­pany Overview of China RE, http://­eng​.­chinare​.­com​.­cn​/z­ hzjteng​/5­ 05528​/­505542​/­index​.­html; HK Stock Exchange news on China RE, http://­w ww​.­h kexnews​.­h k ​/­l istedco​ /­l istconews​/­SEHK​/­2015​/­1026​/­a 5724​/­ECHNARE​-­20150730​-­15​.­PDF. 136. Credit Suisse Equity Research on New China Life (A), January 9, 2012, https://­research​-­doc​.­credit​-­suisse​.­com​/­docView​?l­ anguage​=E ­ NG&source​=u ­ lg​&​ format​=­PDF&document​_­id​=­938727251&serialid​= ­4qPRCOl7f4YjAiQUHte6mbs​ Ob0RXDJjWYivLWwyeiig%3D. Also, “New China Life Insurance Co., Ltd 2011 Annual Results Announcement,” March 2012, http://­w ww​. ­newchinalife​.­com​ /­CMS5​_­G20306002ResourcePDF​?­info​=­747343;res​=1­ 3330714367461336168350. 137. Interview with a CDB se­n ior official, Beijing, October 2016. 138. Central Huijin 2020 Annual Report, 20, https://www.shclearing.com​.cn​ /xxpl​/cwbg​/nb​/202106​/t20210630_890783.html. 139. 搜狐财经 (Sohu Business), “Zhong guo xin bao yi huo zhong tou gong si 200 yi yuan zhu zi” (Sinosure Has Received a Capital Injection of RMB 20 Billion from China Investment Corporation), December 19, 2012, https://­ business​.­sohu​.­com​/­20121219​/­n360852834​.­shtml. 140. 中国出口信用保险公司(Sinosure website), “Guan yu xin bao: fu wu yi dai yi lu” (About Sinosure: Serving the ­Belt and Road Initiative), https://­w ww​.­sinosure​.­com​.­cn​/­g ywm​/­shzr​/­ydyl​/­i ndex​.­shtml. 141. Central Huijin 2020 Annual Report, 20. 142. 中国证券报网站 (China Securities News), “ Lou Jiwei: fa hui zhu zi gai zhi ping tai de zuo yong tan suo guan li xin mo shi” (Lou Jiwei: Empower the Role of Capital Injection Restructuring Platforms and Explore New Models of Management), November 5, 2012, https://­w ww​.­cs​.­com​.­cn​/­x wzx ​/­hg ​/­201211​ /­t 20121105​_ 3­ 715178​.­html.

252

N O T E S T O PA G E S 14 2 –1 5 4

143. “China State Investment Fund Central Huijin’s President Steps Down,” ­Reuters, May 31, 2015, 144. Interview with former CIC portfolio man­ag­er, Beijing, November 2016.

4. State Administration of Foreign Exchange 1. 新浪财经 (Sina Finance), “Zhou Xiaochuan tou xi wai chu guan li duan tui: yu guo nei shi ye jie chu bi jiao shao” (Zhou Xiaochuan Pointed Out the Lack of Contact with Domestic Industries as a Shortcoming in China’s Foreign Exchange Management), April 19, 2011, http://­fi nance​.­sina​ .­com​.­cn​/­roll​/­20110419​/­01289710685​.­shtml. Full transcript of Zhou Xiaochuan’s speech is available at http://­wenku​.­baidu​.­com​/­link​?­url​=­jcICuFG8 6f3beKLccDh6TX3Oxvgn0zwXvm9tx9ouKKxTgGEQi4 ​_­T VEHo2IatlQwEa4 tNCs0lR0ndHycLGPYIg ​_ ­AetJBD8whZwPD7UPidgbi; “China Must Cut Foreign Exchange Reserves PBoC Zhou Says,” Bloomberg, April 18, 2011. 2. Interview with a SAFE official, Beijing, November 2016. 3. Interview with a managing director of a Beijing-­based private equity fund, October 2016. 4. For example, Jeffrey M. Chwieroth, “Fashions and Fads in Finance: The Po­l iti­c al Foundation of Sovereign Wealth Fund Creation,” International Studies Quarterly 58, no. 4 (December 2014): 752–763; Sarah Eaton and Zhang Ming, “A Principal-­Agent Analy­sis of China’s Sovereign Wealth System: Byzantine by Design,” Review of International Po­liti­cal Economy 17, no. 3 (2010): 481–506. 5. “Inside China’s CIC,” Institutional Investor, September 10, 2008. 6. “Administrative Regulations of the ­People’s Republic of China on Foreign Exchange (Revised in 2008), Order of the State Council No. 532,” August 5, 2008. 7. Liu Chenming and Song Xuetao, “You duo shao wai chu hua kai bie chu: zhong guo ying zi wai chu de gui mo gu suan” (How Much FX Reserves Bloom Elsewhere: An Estimation of the Size of China’s Shadow FX Reserves), TF Securities research report, February 22, 2017, https://­w ww​.­djyb​.­com​/­v iew​?­id​ =­2205316106192465. 8. Christopher Balding and Ellen Campbell, “The Big Wallet of China: The China Investment Corporation and the State Administration of Foreign Exchange Reserves,” in Sovereign Wealth Fund Report 2013, ed. Javier Santiso. Cited in Khalid A. Alsweilem et al., A Comparative Study of Sovereign Investor Models: Sovereign Fund Profiles, Harvard University, 2015, 31.

253

N O T E S T O PA G E S 1 5 4 –16 2

9. Ibid.; also Jamil Anderlini, “China Investment Arm Emerges from Shadows,” Financial Times, January 4, 2008. 10. Eaton and Ming, “A Principal-­Agent Analy­sis,” 498. See also Brad Setser, “SAFE Seems to Have Started Buying US Equities in the Spring of 2007, and ­D idn’t Stop ­u ntil July 2008,” Council on Foreign Relations, Follow the Money blog, March 15, 2009, https://­w ww​.­c fr​.­org​/­blog​/­s afe​ -­s eems​-­have​-­s tarted​-­buying​-­u s​-­e quities​-­spring​-­2 007​-­a nd​-­d idnt​-­stop​-­u ntil​ -­july​-­2 008. 11. 人民网 (­People​.­com), “Xi Jinping zai ‘jia qiang hu lian hu tong huo ban guan xi’dong dao zhu huo ban dui hua hui shang de jiang hua (quan wen)” (Full Transcript of Xi Jinping’s Remarks at the “Strengthening Connectivity Partnership” Host-­Partner Dialogue), November 8, 2014, http://­politics​.­people​ .­c om​.­cn​/­n ​/­2014​/­1109​/­c1024​-2­ 5997257​.­html. 12. 丝路基金网站 (Silk Road Fund website), “Guan yu wo men” (“About Us” Introduction), http://­w ww​.­silkroadfund​.­com​.­cn​/­cnweb​/­19854​/­19858​ /­i ndex​.­html. 13. 天眼查企业信息咨询 (tianyancha​.­com), “Wu tong shu tou zi you xian ze ren gong si” (Buttonwood Investment Platform—­C om­pany Profile), http://­w ww​.­t ianyancha​.­com​/­company​/­2312874897. 14. In the fourth quarter of 2015, Buttonwood held 0.4 ­percent of the A-­shares of Industrial and Commercial Bank of China, 0.3 ­percent of Agricultural Bank of China, 1.07 ­percent of Bank of Communications, and 0.36 ­percent of Bank of China. It also held 3.15 ­percent of Shanghai Pudong Development Bank. https://­m​.­sohu​.­com​/­n​/­556742818​/­​?­wscrid​= 6­ 41​_ ­8. 15. Interview with a professor at the School of Public Administration, University of International Business and Economics, Beijing, November 2016. 16. Interview with a researcher at CITIC Reform and Development Research Foundation, Beijing, November 2016. 17. Interview with an expert specializing in China-­UK relations at Shanghai International Studies University, Shanghai, November 2016. 18. “The Silk Road Fund Begins Operations: An Interview with Zhou Xiaochuan,” Silk Road Fund press release, February 16, 2015, http://­w ww​ .­silkroadfund​.­com​.­cn​/­enweb​/­23809​/­23812​/­26884​/­i ndex​.­html. 19. 中国共产党新闻网 (cpcnews.cn), “Xi Jinping zai ‘yi dai yi lu’ guo ji he zuo gao feng lun tan kai mu shi shang de yan jiang”(Xi Jinping’s Speech at the Opening Ceremony of the B ­ elt and Road Forum for International Cooperation), May 14, 2017, http://­c pc​.­people​.­com​.­cn​/­n1​/­2017​/­0515​/­c64094​-­29274601​.­html. 20. 人民网 (­People​.­com), “Yang hang fu hang zhang Yi Gang: Xian jie

254

N O T E S T O PA G E S 16 2 –16 9

duan kuo da si lu ji jin gui mo fei chang bi yao” (Deputy Governor of the Central Bank Yi Gang: It Is Very Necessary to Expand the Scale of the Silk Road Fund at This Stage), May 15, 2017, http://­finance​.­people​.­com​.­cn​/­n1​/­2017​ /­0515​/c­ 1004​-­29275119​.h ­ tml. 21. “How China Is Buying Its Way into Eu­rope,” Bloomberg, April 23, 2018. 22. 新浪财经 (Sina Finance), “Si lu ji jin yi qian yue 47 ge xiang mu, cheng nuo tou zi jin e 178 yi mei yuan”(The Silk Road Fund Has Signed 47 Proj­ects with Committed Investments of $17.8 Billion), October 23, 2020, https://­ finance​.­sina​.­com​.­cn​/­roll​/­2020​-­10​-­23​/­doc​-­i iznezxr7711991​.­shtml. 23. Jin Qi, “Building a Golden Bridge and Pursuing Mutual Benefit,” Silk Road Fund com­pany news, April 18, 2018. This article was translated based on the article published in ­People’s Daily (Overseas Edition), March 27, 2018, http://­w ww​.­silkroadfund​.­com​.­cn​/­enweb​/­23809​/­23812​/­36341​/­i ndex​.­html. 24. Ibid. 25. “Q&A about the Silk Road Fund’s First Proj­ect Investment,” Silk Road Fund press release, April 20, 2015, 26. “ChemChina to Buy Into Italian Tire Maker Pirelli in $7.7 Billion Deal,” ­Reuters, March 23, 2015. 27. “Silk Road Fund Joins ChemChina in Industrial Investment in Pirelli,” SinoChem corporation news, June 5, 2015. 28. “ChemChina to Buy Into.” 29. Interview with an Italian scholar at Eu­ro­pean University Institute, September 2017. 30. “Italy Signs Deals Worth 2.5 Billion Euros with China,” R ­ euters, March 23, 2019. 31. “EIG-­L ed Consortium Closes $12.4 Bn Aramco Pipelines Deal,” ­Reuters, June 18, 2021. 32. “Silk Road Fund Acquires Minority Stakes in Euromax Terminal (Netherlands),” Silk Road Fund press release, October 26, 2021, http://­w ww​ .­silkroadfund​.­com​.­cn​/­enweb​/­23809​/­23812​/­42316​/­index​.­html; “COSCO SHIPPING Ports and Silk Road Fund Agreed to Establish Cooperative Strategic Relationship in Port Assets Investment and Related Upstream and Downstream Businesses; Sale of the Minority Stake in Euromax Terminal to Navigator Investco, an Investment Platform for the Com­pany and Silk Road Fund,” COSCO SHIPPING Ports L ­ imited press release, October 20, 2021, https://­doc​.­i rasia​.­com​/­l istco​/­h k​/­coscoship​/­press​/­p211020​.­pdf. 33. “Speech by Chairman Jin Qi at the Economic Summit of China Development Forum 2017,” Silk Road Fund com­pany news, March 18, 2017, http://­w ww​.­silkroadfund​.­com​.­cn​/­enweb​/­23809​/­23812​/­34267​/­i ndex​.­html.

255

N O T E S T O PA G E S 16 9 –17 5

34. “China and Kazakhstan Sign the Agreement on Tax Exemption with Regard to Certain Types of Income of China-­Kazakhstan Production Capacity Cooperation Fund Making Direct Investment in Kazakhstan,” Silk Road Fund com­pany news, June 9, 2016, http://­w ww​.­silkroadfund​.­com​.­cn​/­enweb​/­23809​ /­23812​/­35432​/­i ndex​.­html. 35. 每日经济新闻 (National Business Daily), “外管局加强委托投资在外汇储备 管理中力度” (State Administration of Foreign Exchange Further Strengthens the Role of Entrusted Investment in Foreign Exchange Reserve Management), June 22, 2010, https://­w ww​.­nbd​.­com​.­cn​/­a rticles​/­2010​-­0 6​-­22​ /­294794​.­html. 36. SAFE Annual Report 2011, 8, https://www.safe.gov.cn​/en​/​2 012​/0730​ /1277​.html. 37. SAFE Annual Report 2011. 38. Ibid. 39. 新浪财经 (Sina Finance), “Shangwu bu wai guan ju kai fangbian zhi men qiye haiwai shougou bu cha qian” (The Ministry of Commerce and the State Administration of Foreign Exchange Open the Door to Facilitate Overseas Acquisitions of Enterprises That Are Not Bad for Money), March 20, 2009, http://­f inance​. s­ ina​.­c om​.c­ n​/­roll​/2­ 0090320​/­21126005357​.­shtml. 40. “SAFE Plans to Change Policy-­B ased Foreign Exchange Loans to Entrusted Loans through Banks,” ­Reuters, May 17, 2010; 新浪财经 (Sina Finance), “Shi shui waihui weituo daikuan guo kai hang zhuanxing zhengyi zhong qian xing” (Test the ­Waters of Foreign Exchange Entrusted Loans, CDB Moves Forward in the Transformation Dispute), May 21, 2010, http://­fi nance​.­sina​ .­com​.­cn​/­money​/­bank​/­bank ​_­hydt​/­2 0100521​/­22247983276​.­shtml. 41. Zhang Yuzhe, Li Xiao Xiao, and Li Jing, “Wai chu tou zi xin pao dao” (A New Runway for FX Reserves), Xin shi ji zhou kan (­C entury Weekly), no. 2 (2013): 50–56, http://­w ww​.c­ qvip​.­com​/­qk​/8­ 9327x​/­201302​/­44458690​.­html; Hailiang Zhang, Theory, Prob­lems, and Solutions for China’s SWFs (Beijing: China Social Science Press, 2015), chap. 3. 42. Interview with a CDB se­n ior official, Beijing, October 2016. 43. “Li Keqiang Presided over a State Council Executive Meeting,” State Council website, June 19, 2013. 44. “Guiding Opinions of the General Office of the State Council on Financial Support for Economic Structural Adjustment, Transformation and Upgrading,” State Council, July 1, 2013. 45. For example, Victor Shih, “Tools of Survival: Sovereign Wealth Funds in Singapore and China,” Geopolitics 14, no. 2 (2009): 328–344; Eaton and Ming, “A Principal-­Agent Analy­sis.”

256

N O T E S T O PA G E S 17 5 –1 8 3

46. “China Investment Arm Emerges from Shadows,” Financial Times, January 4, 2008. 47. CIC 2011 Annual Report, https://www.ifswf.org/content​/cic​-2011​-annual​ -report. 48. China’s foreign exchange reserves reached $2.85 trillion by at end of 2010. Data available from SAFE website. 49. “China’s SAFE to Invest $2.5bn in TPG Fund,” Financial Times, June 11, 2008. 50. “China Forex Watchdog Burnt by WaMu Collapse,” ­Reuters, December 30, 2008. 51. Kirsten Grind, The Lost Bank: The Story of Washington Mutual—­The Biggest Bank Failure in American History (New York: Simon and Schuster, 2013). 52. “PE Losses Sting Chinese Investment Arms,” Caijing, January 5, 2009. 53. “Pimco’s Zhu Leaving for China Foreign-­E xchange Post,” Wall Street Journal, December 21, 2009; 搜狐新闻 (Sohu News), “Wai guan ju pin hua er jie zhuan jia guan li 2.3 wan yi wai chu tou zi” (The State Administration of Foreign Exchange Hired Wall Street Expert to Manage $2.3 Trillion Foreign Exchange Reserves), December 24, 2009, http://­w ww​.­eeo​.­com​.­cn​/­fi nance​ /­banking​/­2009​/­12​/­24​/­158819​.­shtml. 54. “China’s ‘Invisible Man’ Quits Forex Role,” Financial Times, January 28, 2014. 55. Ibid. 56. Interview, current SAFE official, Beijing, October 2016. Also “China Loses Man­ag­er of Its Cash Hoard,” Wall Street Journal, January 28, 2014. 57. Interview, former SAFE official, Beijing, October 2016. 58. “China’s SAFE Now a Main Munich Re Shareholder,” Financial Times, August 11, 2011; “Update 1—­Munich Re Says China Central Bank Arm Has 3 Pct Stake,” ­Reuters, August 11, 2011. 59. “The “Invisible Man” Managing China’s $3.8 Trillion in Reserves Just Stepped Down,” Quartz, January 28, 2014. 60. Interview, SAFE official, Beijing, October 2016. 61. See, for example, SAFE Annual Report 2018, 34–41; SAFE Annual Report 2019, 39–40, 43; SAFE Annual Report 2020, 39–43. All annual reports are available SAFE website. 62. “China Used Reserves to Sway Costa Rica,” Wall Street Journal, updated September 13, 2008.

257

N O T E S T O PA G E S 1 8 3 – 2 0 0

63. “Cash Helped China Win Costa Rica’s Recognition,” New York Times, September 12, 2008. 64. “China Used Reserves to Sway.” 65. US-­China Economic and Security Review Commission, “2008 Report to Congress of the of the U.S.-­China Economic and Security Review Commission,” November 2008, 53, https://­w ww​.­uscc​.­gov​/­sites​/­default ​/­fi les​ /­a nnual ​_ ­reports​/­2008​-­Report​-­to​-­C ongress​-­​_ ­0​.­pdf. 66. “Cash Helped China Win.” 67. “Beijing Uses Forex Reserves to Target Taiwan,” Financial Times, September 12, 2008.

5. Sovereign Funds in a Changing Global Geoeconomic Landscape 1. Herman Schwartz, “Po­l iti­c al Capitalism and the Rise of Sovereign Wealth Funds,” Globalizations 9, no. 4 (2012): 517–530. 2. Alexander Gerschenkron, Economic Backwardness in Historical Perspective (Cambridge, MA: Belknap Press of Harvard University Press, 1962). 3. Ibid., 354. 4. Angela Cummine, “China’s Sovereign Investment Funds in International Perspective: The Exceptionalism of CIC and SAFE,” EABER Working Paper Series Paper no. 110, Crawford School of Economics and Government, Australian National University (2015). 5. “China Forex Funds Find Security in Secrecy,” Financial Times, March 15, 2009. 6. Stephen Krasner, “US Commercial and Monetary Policy: Unravelling the Paradox of external Strength and Internal Weakness,” International Organ­ization 31, no. 4 (1977): 635–671. 7. John Zysman, Governments, Markets, and Growth: Financial Systems and the Politics of Industrial Change (Ithaca NY: Cornell University Press, 1983), 297. 8. “Beijing Uses Forex Reserves to Target Taiwan,” Financial Times, September 12, 2008. 9. “China Used Reserves to Sway Costa Rica,” Wall Street Journal, September 13, 2008. 10. Interview with the chief of CIC’s public relations department, Beijing, October 2016. 11. Robert D. Blackwill and Jennifer M. Harris, War by Other Means: 258

N O T E S T O PA G E S 2 01 – 2 0 2

Geoeconomics and Statecraft (Cambridge, MA: Belknap Press of Harvard University Press, 2016). 12. 中国政府网 (official website of the State Council of the P ­ eople’s Republic of China), “Xi Jinping zhu chi zhong gong zhong yang zheng zhi ju di si shi ci ji ti xue xi” (Xi Jinping Presided over the Fortieth Collective Study Session of the Politburo of the CPC Central Committee), April 26, 2017, http://­w ww​.­gov​.­cn​/­x inwen​/­2017​- ­0 4​/­26​/­content ​_ ­5189103​.­htm. 13. 新华网 (Xinhuanet​.­com), “Xi Jinping: shen hua jin rong gai ge cu jin jing ji he jin rong liang xing xun huan jian kang fa zhan” (Xi Jinping: Deepen Financial Reform and Promote a Healthy and Virtuous Circle of Economic and Financial Development), July 15, 2017, http://­w ww​.­x inhuanet​ .­com​/­politics​/­2017​- ­07​/­15​/­c ​_­1121324747​.­htm. 14. “Rus­sia, China, Set Up US$1 Billion Technology Innovation Fund,” Rus­sia Briefing, July 4, 2019. 15. 中国投资有限责任公司 (China Investment Corporation official website), “Zhong tou gong si yu e zhi tou gong tong fa qi she li zhong e lian he ke ji chuang xin ji jin” (CIC and Rus­sian Direct Investment Fund Jointly Initiated and Launched China-­Russia Science and Technology Innovation Fund), CIC press release, September 20, 2019, http://­w ww​.­china​-­i nv​.­cn​/­china ​_­i nv​/­Media​ /­2019​- ­09​/1­ 001681​.­shtml. 16. “Strengthen Strategic Collaboration and Promote Scientific and Technological Innovation,” ­People’s Daily, September 1, 2020. 17. “Xi, Putin Send Congratulations to Closing Ceremony of China-­Russia Year of Scientific and Technological Innovation,” Xin­hua, November 26, 2021. 18. “CIC, BNP Paribas, and Eurazeo Launch the France-­China Cooperation Fund,” CIC press release, June 3, 2020. 19. “Trea­sury Prohibits Transactions with Central Bank of Rus­sia and Imposes Sanctions on Key Sources of Rus­sia’s Wealth,” US Department of the Trea­sury press release, February 28, 2022; “How the World Is Seeking to Put Pressure on Rus­sia,” New York Times, May 26, 2022. 20. “SAFE Releases China’s International Investment Position at the End of September 2021,” State Administration of Foreign Exchange, December 31, 2021; “Preliminary Report on Foreign Holdings of U.S. Securities at End-­ June 2021,” US Department of the Treasury press release, February 28, 2022. 21. “China Meets Banks to Discuss Protecting Assets from US Sanctions,” Financial Times, April 30, 2022. 22. 腾讯网 (Tencent News), “Jin Canrong: e wu chong tu dui zhong guo yi wei zhe shen me?” (Jin Canrong: What Are the Implications of the Russia-­ 259

N O T E S T O PA G E S 2 0 3 – 2 0 6

Ukraine Conflict for China?), May 29, 2022, https://­new​.­qq​.­com​/­omn​ /­20220529​/­20220529A08TWO00​.­html. 23. 网易 (163​.­com), “Jin Canrong: zhong guo you 8 wan yi hai wai zi chan! bi xu jing ti mei guo xian zhuo zi”(Jin Canrong: China has $8 trillion Overseas Assets and Must be Wary of the United State Flipping the T ­ able), May 4, 2022, https://­w ww​.­163​.­com​/­dy​/­a rticle​/­H6H26HCF0515971M​.­html. 24. Yu Yongding, “Amer­i­c a Has ­Stopped Playing by the Monetary Rules,” Proj­ect Syndicate, April 27, 2022. 25. 新浪网 (Sina​.c­ om), “Yu Yongding: zhong guo hai wai zi chan fu zhai jie gou xu tiao zheng, yao bao chi yi ding de zi ben guan zhi” (Yu Yongding: China’s Overseas Assets and Liabilities Structure Needs to be Adjusted and Certain Degree of Capital Controls Must be Maintained), May 14, 2022, https://­news​.­sina​.­com​.­cn​/­o​/­2022​-­05​-­14​/­doc​-­i mcwiwst7393832​.­shtml. 26. Yu Yongding, “Amer­i­c a Has ­Stopped Playing.” 27. Yu Yongding, “China Should Move Reserves Out of US Trea­suries,” Asia Times, May 24, 2022. 28. “Sheng Hongqing Column: China Can Reduce 30% of Its Dollar Assets from Its Foreign Exchange Reserves,” R ­ euters, August 20, 2010. 29. US Congress, 2021 Annual Report of the US-­China Economic and Security Review Commission, November 2021. 30. Zongyuan Liu, “China Is Hardening Itself for Economic War,” Foreign Policy, June 16, 2022. 31. “G-7 Finance Ministers Concerned about Transparency, National Security Implications,” Associated Press, October 19, 2007; “US’s Paulson: Let IMF Set Sovereign Fund Guidelines,” ­Reuters, October 20, 2007. 32. For example, Milan Babić, M. Dixon, and Adam Dixon, “Is the China Effect Real? Ideational Change and the Po­liti­cal Contestation of Chinese State-­L ed Investment in Eu­rope,” Chinese Journal of International Politics 15, no. 2 (Summer 2022): 111–139. 33. “Report from the Commission to the Eu­ro­pean Parliament and the Council: First Annual Report on the Screening of Foreign Direct Investments into the Union,” Eu­ro­pean Commission, Brussels, November 23, 2021. 34. Christopher Wray, “Countering Threats Posed by the Chinese Government Inside the US” (speech), full text available at https://­w ww​.­fbi​ .­gov​/­news​/­speeches​/­countering​-­t hreats​-­posed​-­by​-­t he​-­chinese​-­government​ -­i nside​-­t he​-­us​-­w ray​-­013122. 35. “Joint Address by MI5 and FBI Heads,” July 6, 2022, full text at https://­w ww​.­mi5​.­gov​.­u k ​/­news​/­speech​-­by​-­mi5​-­and​-­fbi. Also see “FBI Director

260

N O T E S T O PA G E S 2 0 7– 2 10

Warns China Espionage Is Greatest Threat to US and Allies,” Financial Times, July 11, 2022. 36. UNCTAD, World Investment Report 2020 (Geneva: United Nations Conference on Trade and Development, 2020), 93. 37. “Reassessing the Landscape for Chinese Investment in North Amer­i­c a and Eu­rope,” Baker Mc­Ken­zie, April 2021. 38. “Germany’s Voith to Sell Kuka Stake to China’s Midea,” Financial Times, July 3, 2016. 39. “Germany Takes Soft Approach with Takeover Law,” R ­ euters, October 30, 2007. 40. “Foreign Investment: Laws and Policies Regulating Foreign Investment in 10 Countries,” GAO report, no. GAO-08-320 (February 28, 2008). 41. “Exit the Dragon? Chinese Investment in Germany,” DW, February 5, 2018. 42. Ibid.; “A Blueprint for Chinese Outbound Investment,” Freshfields com­pany website, Midea-­Kuka case study, https://­w ww​.­f reshfields​.­us​/­what​ -­we​-­do​/­case​-­studies​/­m idea​-­k uka​-­c ase​-­study​/­. 43. Interview with an industry advocate, Berlin, Germany, May 2022. 44. Interview with a German official at the Federal Foreign office, Berlin, Germany, May 2022. 45. 东方财富证券投资咨询 (dfcfw​.­com), “Mei di ji tuan gu fen you xian gong si yao yue shou gou KUKA Aktiengesellschaft bao gao shu” (A Report of Midea Group Co., Ltd.: Tender Offer to KUKA Aktiengesellschaft), prepared by CITIC Securities Co., LTD, May 2016, http://­pdf​.­d fcfw​.­com​/­pdf​ /­H 2​_ ­A N201605310015058190​_­1​.p ­ df. 46. “A Blueprint for Chinese Outbound Investment”; “Robots, Politics, and Cross-­border M&A,” Freshfields com­pany website, https://­w ww​.­f reshfields​ .­com​/­en​-­gb​/­what​-­we​-­do​/­c ase​-­studies​/­m idea​-­k uka​-­c ase​-­study2​/­. 47. “German Robot Maker Kuka’s CEO Welcomes Midea Bid,” R ­ euters, May 27, 2016. 48. “Chinese Firm’s Bid for German Robot Maker Poses Dilemma for Merkel,” R ­ euters, May 19, 2016. 49. “Merkel Leaves Door Open to German Counter-­Bid for Kuka,” ­Reuters, June 13, 2016. 50. “German Angst over Chinese M&A,” Financial Times, August 9, 2016. 51. “Midea Buys 25% Stake in Kuka for $1.3b,” China Daily, July 5, 2016. 52. “Germany’s Voith to Sell Kuka Stake to China’s Midea,” Financial Times, July 3, 2016.

261

N O T E S T O PA G E S 2 11 – 2 16

53. “Berlin Approves Kuka Sale to Midea,” DW, August 17, 2016. 54. “With Eye on China, Germany Tightens Foreign Investment Rules,” ­Reuters, December 19, 2018. 55. “EU Foreign Investment Screening Mechanism Becomes Fully Operational,” Eu­ro­pean Commission press release, October 9, 2020. 56. “With Eye on China.” 57. “EU Foreign Investment Screening Mechanism”; “Responding to the China Challenge: The State of Play on Investment Screening in Eu­rope,” Eu­ro­pean Council on Foreign Relations, November 27, 2020. 58. This guidance is the “Guidance to the Member States concerning foreign direct investment and f­ ree movement of capital from third countries, and the protection of Eu­rope’s strategic assets, ahead of the application of Regulation (EU) 2019  /  452 (FDI Screening Regulation).” 59. “EU Foreign Investment Screening Mechanism.” 60. John H. Henshaw, The Origins of COCOM: Lessons for Con­temporary Proliferation Control Regimes, Stimson Center, Stimson Report 7, May 1993, https://­w ww​.­stimson​.­org ​/­1993​/­origins​-­cocom​-­lessons​-­contemporary​ -­proliferation​-­control​-­regimes​/­. 61. “Exclusive: Germany to Create Fund to Foil Foreign Takeovers ­a fter China Moves,” ­Reuters, March 20, 2019. 62. “Sarkozy: EU Should Consider Sovereign Wealth Funds,” Seattle Times, October 21, 2008. 63. Ibid. 64. “France Announces Sovereign Wealth Fund to Protect Champions,” Economic Times, October 24, 2008. 65. “France in $19 Billion Strategic Fund Stake Transfer,” ­Reuters, July 6, 2009. 66. “Sarkozy Plans New French Wealth Fund,” Financial Times, October 23, 2008. 67. “Sarkozy Launches €20 Billion ‘Strategic’ Industries Fund,” EUobserver, November 21, 2008. 68. “Bpifrance Launched Its First Covid-19 Bond Issue,” Caisse des Depots et Consignations, April 27, 2020. 69. “French State Lender to Launch Multi-­Billion Euro Fund to Boost Firms,” R ­ euters, January 30, 2020. 70. “Sarkozy Unveils ‘Big Loan’ Scheme,” In­de­pen­dent.ie, December 14, 2009. 71. “France to Borrow 35 Billion Euros for Investment: Sarkozy,” Economic Times, December 14, 2009. 262

N O T E S T O PA G E S 2 16 – 2 1 9

72. “Sarkozy Unveils €35bn ‘Big Loan’ Boost for French Universities and Museums,” Guardian, December 14, 2009. 73. “France’s ­Great Investment Plan: Economic Policy or Po­liti­cal Communication?,” Hill+ Knowlton Strategies, October 2, 2017. 74. “French Float Wealth Fund,” DW, October 23, 2008. 75. For instance, Kurt Huebner, professor of Eu­ro­pean Studies and holder of the Jean Monnet Chair at the Institute for Eu­ro­pean Studies at the University of British Columbia, Canada, wrote papers to discuss how a German government-­owned investment fund combined with expansive fiscal policy could help rebalance the Eurozone. See Huebner, “How a German Sovereign Wealth Fund Could Help to Rebalance the Eurozone,” Social Eu­rope, February 28, 2014; Daniel Gros and Thomas Mayer, “A Sovereign Wealth Fund to Lift Germany’s Curse of Excess Savings,” CEPS Policy Brief, August 2012. 76. Jonathan Williams, “German Investment Professionals Back Launch of Sovereign Wealth Fund,” IPE​.­com, August 3, 2015. 77. “Germany Mulls Sovereign Fund to Fend Off Foreign Investors: FAZ,” ­Reuters, September 12, 2018; “German Minister Calls for Fund to ­Counter Foreign Takeovers,” Financial Times, February 5, 2019. 78. International Forum of Sovereign Wealth Funds on Ireland Strategic Investment Fund, https://­w ww​.­i fswf​.­org​/­member​-­profiles​/­i reland​-­strategic​ -­investment​-­fund​-­isif; “Ireland to Refocus Sovereign Wealth Fund on Government Priorities,” ­Reuters, July 5, 2018; Ireland National Trea­sury Management Agency pre­sen­ta­t ion on “Ireland Strategic Investment Fund,” November 2014, http://­w ww​.­u l​.­ie​/­business​/­sites​/­default​/­fi les​/­fi les​ /­Ireland%20Strategic%20Investment%20Fund%20 ​-­%20Opportunities%20 For%20The%20Tourism%20Sector​.­pdf. 79. “Dutch Government to Invest 20 Billion Euros in Economic Growth Fund,” ­Reuters, September 7, 2020. 80. “Saudi Arabia’s PIF Signs $15 Billion Loan,” ­Reuters, March 10, 2021. 81. “Norway Reveals Rec­ord Withdrawals from $1.1 Trillion Fund,” Bloomberg, October 7, 2020. 82. According to a press release by Chile’s Ministry of Finance, “During June 2021, a total of US$3,478 million ­were withdrawn from the Sovereign Wealth Funds. Of t­ hese, US$1,478 million ­were withdrawn from the Pension Reserve Fund (PRF) on June 8th, and US$2 billion from the Economic and Social Stabilization Fund (ESSF) on June 29th,” https://­hacienda​.­cl​/­english​ 263

N O T E S T O PA G E S 2 1 9 – 2 2 0

/­news​-­a nd​-­events​/­news​/­m inistry​-­of​-­fi nance​-­reports​-­w ithdrawals​-­of​-­us​-­3​ -­478​-­m illion​-­f rom​-­sovereign. 83. “Kuwait Requests Ability to Withdraw from Sovereign Wealth Fund,” ­Reuters, February 22, 2021. 84. The Kuwait Investment Office (KIO), upon which the modern Kuwait Investment Authority was established, played a pivotal role during the first Gulf War in 1990 and the liberation and reconstruction efforts that followed. KIO acted as the Ministry of Finance for the government in exile. As state assets w ­ ere frozen, KIO or­ga­n ized the transfer of funds globally and to the Kuwaiti government, in exile, in Saudi Arabia. 85. “Kazakhstan Sells $1.1 Bln of Reserves on Domestic Market in May,” ­Reuters, June 8, 2020. 86. “Qatar Wealth Fund Seeks $7.6 Billion Loan Backed by Stock,” Gulfnews, May 6, 2020; “Qatar Raising $7.6 Billion to Bolster Cash Reserves,” Bloomberg, May 6, 2020. 87. “Saudi Wealth Fund PIF to Issue Green Debt Soon, Says Governor,” ­Reuters, September 22, 2021.

264

Acknowl­edgments

This book is the product of nearly eight years of cumulative research, writing, and rewriting. I owe a debt of gratitude to all my mentors, advisors, ­family members, friends, and colleagues who have supported me on this journey. These acknowledgments aim to identify and thank ­t hose who have given me intellectual, informational, financial, and administrative assistance, without which this book would not have been pos­si­ble. I have had the privilege to work with Professor Kent E. Calder, Professor Erik Jones, Professor David M. Lampton, Dr. John Lipsky, and Professor Patrick Schena, who guided me through this research. Their encouragement and feedback have helped me improve my writing and grow intellectually as a scholar. They have been especially supportive in helping to arrange interviews during my field research trips by sharing their professional networks. My field research trips to China, Japan, the UAE, Italy, and Germany would not have been pos­si­ble without their attention and support. They carefully read through e­ very chapter of an early draft of my manuscript and sent me carefully marked comments and thought-­provoking questions. I would not have been able to complete this manuscript without their longtime support and encouragement. I must thank them for believing in me and devoting their time to helping me intellectually and professionally. My trusted mentors and advisors have taught me and inspired me to be a good person and a good scholar. I strive to live up to their standards and expectations.

A c k no w l­edgmen t s

I must recognize my longtime mentor Ambassador Philip S. Kaplan. He has been a rigorous professor and a dedicated educator. Ambassador Kaplan taught the first class I took as a gradu­ate student at George Washington University ­after arriving in the United States. He has supported me and offered me invaluable advice over the last de­cade. I owe him im­mensely for connecting me with attorneys and prac­ti­tion­ers who are subject ­matter experts on sovereign wealth funds and financial markets. I want to give special thanks to the Columbia-­Harvard China and the World Program (C&WP) ­u nder the leadership of Professor Thomas Christensen at Columbia University and Alastair Iain Johnston at Harvard University. I had the honor to join C&WP as a postdoctoral scholar for the academic year 2019–2020. For young scholars dedicated to researching and teaching China’s evolving relationship with the world, C&WP is a superb intellectual home with an extensive and generous support network. As a fellow at C&WP, I had the privilege to participate in the 2019 C&WP annual conference and a special workshop held at the Australian National University. My dear friend Daniel Suchenski at C&WP provided me with tremendous help—­organ­izing the workshop, making administrative and logistic arrangements, and providing moral support. I received valuable feedback and constructive suggestions from Tom, Iain, and many C&WP alums with whom I am proud to say I w ­ ill always share a connection. During the latter stages of researching this book, I was a Fellow for International Po­liti­cal Economy at the David Rocke­fel­ler Studies Program at the Council on Foreign Relations (CFR). I want to express my deep appreciation to my CFR colleagues for the dynamic intellectual environment they have fostered that permitted me to complete this book on time. I want to thank James Lindsay, who serves as the Se­nior Vice President and Director of the Studies Program, and Shannon O’Neil, who serves as the Vice President and Deputy Director of Studies, for their support and valuable feedback. I want to give special thanks to CFR President Richard Haass, Benn Steil, Sebastian Mallaby, and other colleagues in the David Rocke­fel­ler Studies Program at CFR for their encouragement and support. 266

A c k no w l­edgmen t s

My debts of gratitude extend beyond the institutions and individuals mentioned above. Throughout my research, individuals and organ­ izations in China, Japan, the UAE, Germany, and Italy assisted me by hosting meetings and workshops in person or virtually, making introductions for interviews, and facilitating onsite office visits. I have been blessed to have received the support of many institutions. I particularly wish to thank the Reischauer Center for East Asian Studies, SAIS DC and Bologna Center, SovereigNet at the Fletcher School at Tufts University, Institute for International Monetary Affairs in Tokyo, Global SWF in New York, Delma Institute in Abu Dhabi, Shanghai International Studies University, Renmin University, and East China Normal University. I must thank Professor Todd H. Hall at the University of Oxford, a C&WP alumnus, for inviting me to share my research at the China Centre. I also want to thank Professor Kelly Sims Gallagher for inviting me to discuss my research at the Fletcher School. A special thank-you also goes to Professor Robert Weiner, who invited me to speak at the George Washington University School of Business. I wish to thank Professor Andrew Mertha for his strong support and for giving me the opportunity to teach a class at SAIS. I have benefited from the suggestions and questions my audience and students raised, which I most sincerely appreciate. During the early stages of this proj­ect, I received generous financial support from the Edwin Reischauer Fellowship, the Robert Abernethy Fellowship, and SAIS research and travel funding. When revising this manuscript, I also had the privilege and honor of receiving financial support from the Smith Richardson Foundation. The foundation’s grant has been a par­tic­u­lar source of encouragement for me to continue to broaden my research. In par­tic­u ­lar, I thank Allan Song, the Se­n ior Program Officer for International Security and Foreign Policy at the foundation, for his support and help. My most profound appreciation goes to Dr. Joseph Pomp, Editor for Critical Theory, Politics, and Current Events at Harvard University Press. Dr. Pomp has firmly believed in this proj­ect from the beginning. He has helped to bring clarity to my writing, significantly improved this 267

A c k no w l­edgmen t s

book’s quality, and done a remarkable job keeping publication on schedule. Dr. Pomp demonstrated superb professionalism and expertise in supporting a writer, for which I am very grateful. I also benefited im­ mensely from the anonymous reviewers’ constructive critiques and suggestions. I am grateful for their careful reading of my manuscript and instructive guidance. This book’s production would not have been pos­si­ble without the effort of the production editor, Alex Morgan, and his team. Jillian Quigley also coordinated the final manuscript submission and the production pro­cess exceptionally well. During the production stage, Angela Piliouras, my production editor, and Wendy Nelson, my copyeditor, have both given me an incalculable amount of help and assistance. Throughout the entire pro­cess I have received help from Neave Denny at SAIS and my CFR colleagues Shira Schwartz, Amy Baker, Dominic Bocci, and Jean-Michel Oriol. The timely contributions of Nadia Clark, my brilliant research associate, ­were critical to finalizing the manuscript on time. Apart from the individuals identified ­here, I must also thank ­t hose who have shared their insights and knowledge with me, but prudence dictates their anonymity. I am indebted to ­those individuals and re­spect their preference to remain unidentified. Any errors of fact or interpretation in this book are solely my responsibility. Daniel Stemp has played an indispensable role in the development of this research. He gave me not only moral and emotional support. To help me conduct research, we moved ­house several times between 2016 and 2019, from Washington, D.C., to Bologna, Italy, and then to New York City. Daniel is a critical thinker and a keen observer of international politics and finance. He has provided insightful commentary, expert editing, and graphic design, all of which have improved this book. Daniel has been my strongest advocate and confidant. He challenged me to write more clearly and has constantly reminded me not to take my readers for granted. He has never complained or hesitated in lending me a hand, for which I am most grateful.

268

Index

Abu Dhabi Investment Authority, 9, 145 administrative rules, 99, 147 Africa, 5, 57, 69, 70, 167 African Development Bank Mutual Development Fund, 161 aircraft carriers, 62 Alibaba, 91, 129, 130, 131, 132, 133, 188 Ant Financial, 131 anticorruption campaign, 113 Anti-economy Liaison Headquarters, 38 Aramco: Aramco Oil Pipelines, 165; Saudi Aramco, 165, 166 Arm Holdings: Arm Technology China, 134, 135; HOPU–Arm Innovation Fund, 135 artificial intelligence, 135, 208 Asian financial crisis, 11, 12, 17, 52, 56, 154, 197 Asian Tigers, 39 asset allocations, 6, 110, 118, 119, 137 asset management companies, 80 Audi, 209 audit oversight rules, 131 Australia, 102, 122, 124, 127, 154 Australian Foreign Investment Review Board (FIRB), 127 Bahrain, 220 balance of payments, 34, 151, 180 balance sheets, 5–8, 30, 76–83, 90, 94, 151, 172, 180, 191, 219

banking crisis, 22, 23, 29, 75, 79, 197 banks: Agricultural Bank of China (ABC), 43, 75, 138, 141; Asian Development Bank, 50; Asian Infrastructure Investment Bank, 125; Australia and New Zealand Bank, 150; Bank of China (BoC), 37, 42, 75, 80, 83, 84, 123, 141; Baoshang Bank in Inner Mongolia, 139; Barclays, 154; Beihai Bank, 37; BNP Paribas, 201; China Construction Bank (CCB), 43, 46, 75, 82–87, 131, 141, 142, 165; China Development Bank (CDB), 5, 30, 63, 64, 69, 70, 125, 138–141, 156, 157, 172; China Development Bank Finance, 156; China Investment Bank (CIB), 138; Commonwealth Bank of Australia, 150; European Bank for Reconstruction and Development (EBRD), 167, 169; Everbright Bank, 138, 141; Export-Import Bank of China (CHEXIM), 5, 30, 70, 125, 156, 163, 164, 165, 173; Hengfeng Bank, 37; Huabei Bank, 37; Imperial Bank of China, 37; Industrial and Commercial Bank of China (ICBC), 42, 43, 75, 80, 84, 112, 138, 141, 142; joint-stock commercial banks, 139; National Australia Bank, 150; Northwestern Farmers’ Bank, 37; People’s Construction Bank of China, 42, 75; Postal Savings Bank of China, 131; Royal Bank of Scotland, 84, 108, 154

I nde x Banque publique d’investissement (Bpifrance), 145, 215 Beijing: Blackstone representative office, 106, 108; headquarters of Chinese sovereign funds, 154–157; projection of influence, 197, 198 Beijing Fengshan Investment Company, 156 Beijing Jiyuan Investment, 181 Beijing Kunteng Investment Company, 156 Beijing University of International Business and Economics, 158 Beijing Wonderful Investment, 102 Belt and Road Initiative (BRI), 5, 14, 29, 30, 57, 67–70, 114, 117, 140, 150, 167, 191; Twenty-First Century Maritime Silk Road, 166 Big Data, 135 BlackRock, 220 Blackstone, 100–109, 119, 179, 192 Boeing, 209 bonds: bond purchase bank, 93; China’s interbank bond market, 94; Costa Rican government bonds, 183; COVID-19 Response Bond, 215; foreign currency bonds, 42; government bonds, 7, 14, 29, 31, 63, 64, 92, 93, 215; green bonds, 215, 220; guarantees, 140; investment-grade corporate bonds, 137; public offerings, 94; purchases and interbank lending, 55; special treasury bonds, 92, 93, 94, 111, 142, 190; US Treasury bonds, 90, 142 Boyu Capital, 132 Brazil, 58, 102, 122 British Columbia, 120 budgets, 6, 8, 26 Buffet Effect, 9 bureaucracies, 8, 15, 19, 43, 96, 186 bureaucratic competition, 7, 19, 90, 152, 176; CIC and bureaucratic politics, 95–100; rivalries, 19, 177, 182; rivalry between SAFE and CIC, 152, 175, 176, 178, 182, 192 Buttonwood Investment Platform, 30, 155, 156, 157, 158, 180, 181, 182

capital controls, 52, 75, 191, 203 capital flight, 12, 52, 191 capital flows, 3, 12, 32, 52, 68, 100 capitalism: China’s unconventional capitalism, 194; Deng Xiaoping and, 43, 44; remnants of, 38; state capitalism, 18, 19; varieties of, 23, 25, 26 Carlyle Group, 179 Cassa Depositi e Prestiti SpA, 165 Central Committee of the CPC, 46, 70, 201; Economic Bureau of the Policy Research Office of, 58; Organizational Department of, 111; Politburo of, 200; Secretariat of, 89; Third Plenary Session of the Eighteenth CPC Central Committee, 15; Third Plenum of the Eleventh Central Committee, 38, 41 century of humiliation, 51 Chee, Felix, 110, 119 Chen Deming, 66 Chengdu Tianqi, 124 Cheng Siwei, 87 Chen Jinhua, 39 Chen Yuan, 63, 71, 88, 132 Chen Yun, 40, 41, 63, 132 Chile, 120; Economic and Social Stabilization Fund, 219; Pension Reserve Fund, 219 China-Africa Development Fund, 67, 157, 161 China-Africa Industrial Capacity Cooperation Fund, 68, 157 China Banking and Insurance Regulatory Commission, 139 China Banking Regulatory Commission (CBRC), 80, 82, 89 China-EU Co-Investment Fund, 167 China Export and Credit Insurance Corporation (SINOSURE), 140 China International Capital Corporation (CICC), 132, 133, 168 China Investment Corporation (CIC): and Belt and Road Initiative, 124–129; and China’s technology edge, 129–135; corporate structure, 98; funding

270

I nde x structure, 92–95; in global markets, 100–108; institutional evolution, 109–119; investment in companies along semiconductor supply chains, 134; investment in natural resources, 119–124 China-Italy Industrial Cooperation Fund, 118 China-Kazakhstan Production Capacity Cooperation Fund, 167, 169 China–Latin America Production Capacity Cooperation Investment Fund (CLAC Fund), 68 China Life Insurance, 123 China Merchants Holdings International (CMHI), 126 China National Cereals, Oils and Foodstuffs Corporation, 112 China National Chemical Corporation (ChemChina), 163 China Post Capital, 131 China-Russia relations, 201; China-Russia Research and Technology Innovation Fund, 118; Sino-Russian Year of Science and Technology Innovation, 201 China Securities Regulatory Commission (CSRC), 49, 85, 86 China Social Science Academy, 58 China Southern Securities, 43 China Three Gorges Corporation (CTG), 163; CTG South Asia Investment Ltd, 163 China-US Industrial Cooperation Partnership, 127, 128, 200 Chinese People’s Political and Consultative Conference (CPPCC), 64 Chinese securities brokerage firms, reform of, 85–87 Chongqing, 51, 112 CITIC Capital, 130, 132 civil aviation, 15, 79 class struggle, 38 climate change, 220 Cold War, 4, 19, 48, 195, 205 collateral (financial), 32, 151 collateral damage, 183, 199

command economy, 37, 38, 39 Committee on Foreign Investment in the United States (CFIUS), 129, 200, 211, 213 commodities: commodity-based sovereign wealth funds (SWFs), 1, 6, 95, 116, 118, 185, 186, 193, 214; prices, 63, 113, 123; global markets, 6 commodity economy (China), 40 comparative advantage, 4, 56, 188, 193, 197 conflict of interest, 88, 115 Coordinating Committee for Multinational Export Controls (COCOM), 212 corporate governance, 4, 14, 68, 82, 87–89, 96, 131, 139, 147, 196 COSCO: COSCO Pacific, 126; COSCO Shipping Ports, 166 Costa Rica, 183, 198, 199 COVID-19, 2, 10, 117, 207, 212, 215, 217, 218, 219 critical minerals, 79 Cross-Strait Common Development Fund, 123 Cultural Revolution, 36, 38, 39, 40, 41, 112 Currency Wars (Song Hongbing), 62 current account, 32, 90 CVC Capital Partners, 179 cybersecurity, 134 cyberspace, 4, 195 Cyberspace Administration of China, 134 debt-to-equity conversion, 111 Decision on Reform of the Economic System in 1984, 39–40 Deng Xiaoping, 39, 43, 100 deposits, 31–34, 42, 51, 55, 75, 85, 93 developmental states, 19, 20 dichotomy: between liberalism and market institutionalism, 9, 17; between the state and the market, 2, 17, 18 Didi Chuxing, 91, 129, 133, 134, 188; acquisition of Uber, 133–134 Ding Xuedong, 112, 113, 114, 115, 125, 191 Dombrovskis, Valdis, 211

271

I nde x elites: access to foreign countries’ elites, 17; China’s political elites, 78; displacement of domestic elites and replacement by foreign interests, 3; elite scholars, 107; international elites, 147; political elites, 10, 78; Western elites, 22 Environmental, Social, and Governance (ESG), 220 Eurasia, 70, 197 Euromax Terminal (Netherlands), 166 European Commission, 206, 211 European Investment Fund, 167 EU-US Trade and Technology Council, 212 exchange rate, 34, 44, 47, 69, 93, 95, 142

Gabriel, Sigmar (German economy minister), 210 General Agreement on Tariffs and Trade, 49 General Motors’ pension plan, 179 geoeconomics, 9–11, 15–17, 21, 24, 30, 119, 170, 185–221 German Federation of Financial Analysts and Asset Management (DVFA), 24, 216 German Foreign Trade and Payments Ordinance, 211 global financial crisis, 61–68, 88, 97, 100–114, 204, 208, 214 global food supplies, 113 Global Infrastructure Partners (GIP), 126 globalization, 57, 116; of Chinese capital, 11; de-globalization, 24; financial globalization, 194 “Going Out” strategy, 30, 35, 56, 65, 69, 114, 171, 173, 174 Goldman Sachs, 105, 116, 127, 128, 129, 200 great power competition, 4, 24, 195, 221 Greece, 25; Piraeus Terminal, 126 Gross, Bill, 179 Guangzhou, 44 Gulf War (first), 219 Guotai Securities, 43

Fang Shangpu, 64, 183 financial engineering, 7, 8, 27, 29, 142, 190 financial intermediaries, 43, 173 financial reforms, 11, 17, 42, 44–47, 52, 53, 60, 77, 81, 117, 139 financial repression, 12, 31, 32 Financial Stability Board, 196 Financial Stability Bureau (of the PBoC), 82, 83 fiscal stabilization, 34 Five-Year Plan, 116, 135 Fonds Stratégique d’Investissement (FSI), 25, 214, 215 food security, 113 foreign direct investment (FDI), 21, 32, 48, 49, 72, 114, 116, 186, 187, 217; reviews, screening, and screening regimes, 116, 127, 206–213 foreign exchange entrusted loans, 150, 151, 170, 171; SAFE entrusted loans program, SAFE Co-Financing, 172–183 foreign exchange reserves management, evolution of, 31–73 Foreign Investment Risk Review Modernization Act (FIRRMA), 213 foreign takeovers, 23, 211–214, 216–218 France-China Cooperation Fund, 118 Fujian, 50

Hassana Investment Company, 166 He Guoqiang, 132 He Jinglei, 132 Holding Foreign Companies Accountable Act, 131 Hong Kong: Chinese University of Hong Kong, 69; Hong Kong dollar, 48, 154 Huang Ju, 81, 82 Huang Qifan, 112 Huaxia Securities, 43 Hu Chaoyuan, 69 industrial policy, 15, 17, 46, 185, 214 inflation, 2, 32, 46, 59, 64, 65, 69, 90, 143, 203 inflationary pressure, 64 infrastructure investment, 113, 126, 155

272

I nde x initial public offerings (IPOs), 84, 100–105, 122, 129–134, 138 innovation-driven development, 135 insolvency, 13, 54, 91 institutional investors, 9, 17, 47, 71, 79, 109, 113–118, 129–136, 146, 166–186, 191–208 International Finance Corp, 161 International Forum of Sovereign Wealth Funds (IFSWF), 21, 99, 205

lithium, 124 Liu Kegu, 64 Liu Lefei, 132 Liu Yunshan, 132 Ma, Jack, 130, 131 Macron, Emmanuel, 201 Made in China 2025, 135 Mao-era ideology, 39 Mao Zedong (Mao), 36, 40, 41 Midea Group, 209, 210, 213, 217 Ministry of Commerce (China), 96, 127, 152 Ministry of Finance (China): and Central Huijin, 80; and China Investment Corporation, 90, 95, 190; and the reform of China’s commercial banks, 80, 138 mono-banking system, 37 Morgan Stanley, 100, 101, 105, 108, 109, 192 Mubadala Investment Corporation, 166, 220 Mumtalakat, 220 Munich Re, 179

Japan-China Industrial Cooperation Fund, 118, 128 Jiang, Alvin Zhicheng, 132 Jiang Zemin, 45, 53, 56, 57, 82, 132 Jin Qi, 161, 162 Kazakhstan, 120, 167, 169, 220; Kazakhstan National Fund, 219 Kuka, 209, 210 Kuwait, 1, 205; Future Generation Fund (FGF), 219; Kuwait Investment Authority, 6, 145 Landbridge Group, 126 Law (of the PRC): Company Law, 88, 94; Criminal Law, 52; foreign exchange management law, 150; Joint Venture Law, 48; PBoC Law, 92 Leading Small Group: CPC Central Financial and Economic Leading Small Group, 53; Leading Small Group on Reforming the Shareholdings of SOCBs, 81, 82 Leung, Antony, 101, 102, 104, 105 leverage: explicit leverage, 6, 7, 8, 29, 94, 95, 143, 151, 190, 215; financial leverage, 6, 7, 8, 94, 187, 196, 218, 220; implicit leverage, off-balance-sheet leverage, 7, 8, 29, 30, 149, 151, 190, 219; political leverage, 29, 182 Li Guixian, 44, 45, 48 Li Keqiang, 69, 163, 174, 210 Li Lianzhong, 58 liquidity shortage, 23

National Audit Office, 107, 113 national champions, 23, 79; yangqi, 79 National Council for Social Security Fund, 96 National Development and Reform Commission (NDRC), 57, 67, 106, 114, 203 National Finance Work Conference, 47 National Pensions Reserve Fund (NPRF, China), 23, 25 National People’s Congress, 39, 48, 52, 56, 58, 64, 87, 92 National Social Security Fund, 21, 131 Navigator Investco, 166 nonperforming loans (NPLs), 12, 54, 75–78, 80–84, 137–139, 197 Norway, 5, 96, 159, 205, 219; Government Pension Fund of Norway, 9, 145 Oettinger, Günther, 210 Office for State-Owned Financial Institution Reform, 83

273

I nde x opportunity costs, 13, 59, 62, 90, 91, 153, 176, 204 Oreshkin, Maxim, 201 Organization for Economic Co-operation and Development (OECD), 205

risky assets, 7, 34, 146, 151, 154 Russia, 102, 117, 120–122, 164–169, 188, 202–208, 214 Russia-China Investment Fund, 128 Russia National Wealth Fund, 145 Russian Direct Investment Fund (RDIF), 202

Pan Gongsheng, 70, 131 Paulson, Henry, 102, 205 Pearl River Delta, 43 People’s Bank of China (PBoC): and China Investment Corporation, 95; and China’s commercial banks reform, 80; and China’s foreign exchange reserves, 35; and State Administration of Foreign Exchange (SAFE), 35, 74, 150, 152, 157, 181, 190; and State Central Administration of Foreign Exchange (SCAFE), 152 People’s Insurance Company of China, 37, 140 planned economy, 9, 39, 40, 41, 43, 152 policy-financing institutions, 5, 197 Politburo, 51, 71, 81, 132, 200; Politburo Standing Committee, 40, 69, 132 Port Melbourne, 126, 127 Port of Darwin, 126 princelings, 132 private equity, 28, 30, 79–87, 101–117, 123, 132, 135, 147–151, 161–168, 177–179, 200 proceeds, debt and bond, 8, 29, 92, 93, 94, 95, 142, 190, 215, 220 Project44, 129 Public Investment Fund (of Saudi Arabia, or PIF), 167, 219, 220

SAFE-affiliated investment funds, 152–160 SAFE Co-Financing Office, 24, 30, 170–175 Samruk Kazyna, 220 Samsung Asset Management, 166 sanctions, 10, 20, 27, 113, 186, 202, 204 sanctioner, 20 Santiago Principles, 99, 184, 191, 199, 205 Sarkozy, Nicholas, 214, 215, 216 Saudi Arabia, 165, 167, 168, 169, 205, 218, 219, 220 Schwarzman, Stephen, 100, 103, 104, 105, 106, 107, 108 Schwarzman Scholars Program, 107 Securities and Exchange Commission (SEC), 102; chairman of, 102; filings, 101, 130 seed capital, 7, 8, 94, 95, 111, 187 Semiconductor Manufacturing International Corporation (SMIC), 134, 135 shadow reserves, 146 Shantou, 50 shareholder capitalism, 14 Silk Road Fund (SRF), 5, 21, 68, 116, 125, 135, 150–157, 160–170, 181, 197–199; cooperation with foreign institutional investors, 167–169 Singapore, 1, 48, 102, 114, 123, 145, 153, 169, 181, 205, 220 socialism, 39, 41, 43, 44; socialist economy, 40, 43; socialist modernization, 39 Society for Worldwide Interbank Financial Telecommunication (SWIFT), 27, 202 South Korea, 12, 131, 205 sovereign wealth funds (SWFs), 1, 21, 95, 193, 214 Soviet Union, 36, 37 special economic zones (SEZs), 50, 51

Qatar Investment Authority, 145, 220 Qian Yingyi, 39, 46 Red Guards, 38 reform and opening up, 11, 38, 39, 41, 44, 51, 52, 56, 61, 74, 100, 205 renminbi, 32, 34, 48, 56, 69, 91–95, 142, 144, 154, 162, 163 reserve assets, 6, 33–35, 65, 94, 142, 150, 151, 191, 195, 203, 204 Reuter, Till, 209

274

I nde x special purpose vehicles, 13, 16, 22, 23, 54, 78, 79, 82–87, 119, 136, 165, 181, 189 special treasury bonds, 92, 94, 111 stagflation, 2 State Commission on Economic System Reform, 39 State Council: and the beginning of China’s reform and opening up, 39, 41, 42, 46; and the consolidation of the PBoC headquarters, 38; and discussion of China’s foreign exchange reserve management, 61, 66; and foreign exchange entrusted loans, 174–175; and stateowned capital investment companies, 15–16 statecraft: economic statecraft, 11, 20, 21, 71, 182, 183, 193; financial statecraft, 9, 27, 194, 221 State Economic and Trade Commission, 106 state-led investment, 30, 109–118, 193, 196, 200, 205–208, 211, 217, 221 state–market relations, 2, 11, 12, 17–27 State-Owned Assets Supervision and Administration Commission (SASAC), 15, 16, 79, 172 state-owned capital, 3, 4, 11, 29, 205, 206, 212; state-owned capital investment companies, 15, 16 State-Owned Financial Assets Supervision and Administration Commission, 79, 99 sterilization, 31, 32, 65, 90 stock exchanges: Hong Kong Stock Exchange, 48, 84, 130, 131, 133, 138; Milan Stock Exchange, 168; Nasdaq, 129; New York Stock Exchange (NYSE), 129, 130, 131, 133; Shanghai Stock Exchange, 37, 43, 84, 131; Shenzhen Stock Exchange, 43 strategic industries, 3, 15, 23, 24, 144, 172, 206, 209, 213–217 strategic minerals, 146; stockpiling of, 58 supply chains, 24, 204, 207, 212, 221

Taiwan, 56, 182, 183, 186, 198, 202, 204 Taiwan Semiconductor Manufacturing Company, 135 Talison Lithium, 124 Teck Resources, 119, 120, 121, 123 Temasek, 9, 114, 135, 145, 220 Third Plenum of the Eleventh Central Committee, 38 Tianjin, 51 treaty ports, 51 Trump, Donald: administration of, 107; visit to Beijing, 127, 168, 201 Tu Guangshao, 112, 116, 117, 118 Turkey: Kumport Terminal, 125, 126; Turkey Wealth Fund, 145 Uber, 133 Ugalde, Edgar, 183 UK-China Cooperation Fund, 118 Ukraine, 186, 202, 204 United Arab Emirates (UAE), 28, 164, 167, 205 United States: and agreement with China on relaxed export controls on high-tech products, 66; and normalization of diplomatic relations with China, 47; Federal Reserve, 28, 70, 203; Federal Reserve Bank of New York, 33; State Department, 126; US-China Economic and Security Review Commission, 183; US-China trade war, 71, 127, 139 Vietnam, 102, 117 Voith, 210 Wang Chunying, 35 Wen Jiabao, 62, 63, 66, 82 Windfield Holdings, 122, 124 World Bank, 28, 49, 205 World Economic Forum, 107 World Trade Organization (WTO), 12, 13, 49, 54, 78, 79, 81 Wu Xiaoling, 59, 87, 136

275

I nde x Xiamen, 50 Xie Ping, 83, 136 Xie Zhichun, 142 Xi Jinping: and Belt and Road Initiative, 5, 57; and China’s strategic use of foreign exchange reserves, 67–70, 112, 160, 200–201; and Jack Ma, 131; prioritization of capital management in China’s economic reform, 16; and Stephen Schwarzman, 107

Yi Gang, 68, 69, 83, 112, 162, 178 Yi Xianrong, 58 Zeng, Jeffrey Zhijie, 132 Zeng Peiyan, 58, 132 Zhao Ziyang, 39 Zhonghui Reserve Investment Company, 157 Zhongnanhai, 202 Zhou Xiaochuan, 59, 65, 70, 76, 82, 86, 149, 153, 161, 162, 170 Zhou Zhongshu, 171 Zhuhai, 43, 50 Zhu Rongji, 45, 51, 54, 56, 82

yangqi, 79, 172 Yasir al-Rumayyan, 220

276