The efficient market theory argues that for any given risk level there is given rate of return and you can’t boost return without boost return, Making the expected return for a given level of risk is a hard thing to do. My point is that above $50 billion, passive investing is impossible.

HZ: If BHP makes more profit, so be it. If they set a moderate goal, they could still set up the incentive structure so that good performance is rewarded and bad performance penalized on the managers’ part.

The trouble with that structure is that CIC managers have no control over decisions that BHP makes. If CIC loans money or is a supplier for BHP then what is good for BHP is bad for CIC, and vice versa, and so rewarding CIC mangers for BHP performance will cause problems.

While your criticisms are valid, what I suggested may still be the least bad alternative. Alternatives are limited in the first place:

1) If they want to be an active financial investor in the public market, well the game is zero sum. For some to make above market returns others must make below market returns. Taking into account of the size of investment pool, high cost structure of active management and the risk their managers might expose them to, I don’t see this as attractive. Pension funds could do passive investing and count on returns in decades, not years.

2) If they want to PE or strategic acquisition they will run into a lot of resistance in the West.

3) If they want to do greenfield — well, CIC doesn’t have the expertise.

So they might as well set a moderate goal. They did say that they will be doing mostly corporate debts, didn’t they? Tilting it towards increasing supply of commodities that China will surely need doesn’t sound too bad a policy either. If BHP makes more profit, so be it. If they set a moderate goal, they could still set up the incentive structure so that good performance is rewarded and bad performance penalized on the managers’ part.

Also, I don’t think that the dangerous people are in the CIA now. The CIA fought hard against the Iraq war, and the Bush administration had to bypass and vilify the CIA to get the Iraq war started. The danger in focusing on the CIA is that you miss where the danger comes from. The CIA stopped being used for most covert operations in the 1970’s with the Church Commission, and then it moved to the NSA. Once people started looking at the NSA, it moved elsewhere.

Finally, I don’t think very highly of Yasheng Huang’s ideas. He sees everything in terms of a "transitional economy" which I think is bad framework. Also he talks about the golden age of the 1980’s when rural industries had access to large amounts of capital and neglects to mention that this age ended in the early-1990’s when the rural financial institutions went broke.

If you do it view fiscal policies then you get into the very messy world of public finance. One is also constrained by the fact that the pension liabilities have already been promised, and you really can’t change the benefit structure without having riots. Also, one problem with aggregate numbers is that it misses the question of "who gets what?" Brad’s point that the policies of the Chinese government might reduce total return for the Chinese economy is valid, but it misses the "who gets what?" question.

This is an important blind spot since a lot of economic theory is based on the premise that organizing an economy in a certain way will boost efficiency and increase total output and that is a good thing. It is, but if you boost efficiency and people don’t get that extra output, you might find yourself in trouble.

HZ: CIC is certainly acting as a strategic investor not a financial investor. Why should it be the one to re-capitalize the agriculture bank? Since it is funded with debt, it should mostly invest in debt as well.

CIC shouldn’t re-capitalize ABC. Also CIC is funded with debt, but those debts are now on the balance sheet of the Chinese government and not on CIC’s balance sheet.

HZ: Suppose it provides companies like BHP with low cost project funding, then hurdle rate of RoA could go down and still give BHP a decent RoE. This will then create more supply at lower cost.

Which is useless to CIC, if it can’t get any of that extra funds, and it’s useless to the Chinese government if it can’t access any of the productivity boost via taxation. Also decreasing the cost of raw materials might be a bad thing. The problem from a public administration point of view, is that what *will* happen is that BHP will collude with CIC to provide low cost loans which will boost BHP’s profits. This may not be a good thing. Also "transparency" isn’t going to solve the problem. I know that California farmers are given access to water at below market rates, and I know that Chinese SOE’s are also given preferential treatment by banks. Now what?

The way CIC does it is that if CIC gives away loans at low interest, then there is less money to pay bonuses at the end of the year. The investor wants to maximize returns on loans. The borrower wants to minimize it. You get a balance. If the lender has incentives to reduce the interest rate, then the lender and borrower will collude to give away free money. This is generally a bad thing.

People have these strange ideas about "transparency" missing that large parts of the financial system are intentionally opaque. Would you do business with a bank that made your checking account transactions public?

Most of Chinese income and growth comes from domestic sources. The trade surplus is a politically hot topic in the United Staes, but it’s not the main source of Chinese economic growth. The roots of Chinese saving started during the central planning era when money wasn’t useful so people saved lots of it.

http://money.cnn.com/2008/04/29/magazines/fortune/seven_years_learn_chinese.fortune/index.htm?postversion=2008043005

A recent study by the economist Angus Maddison projects that China will become the world’s dominant economic superpower much sooner than expected - not in 2050, but in 2015. Angus Maddison’s forecast (which uses purchasing power parity) isn’t built on outlandish assumptions. He assumes China’s growth will slow way down year by year, and America’s will average about 2.6% annually, which seems reasonable. But because China has grown so stupendously during the past decade, it should still be able to take the crown in just seven more years. The world’s largest economy until 1890 was China’s. That’s why Maddison says he expects China to "resume its natural role as the world’s largest economy by 2015." That scenario makes sense. Then the Industrial Revolution sent the West on a more prosperous path. Now the world is returning to a common economy, this time technology- and information-based, so once again population triumphs.

http://onlinejournal.com/artman/publish/article_3156.shtml

US CIA even financed a $245,000 investment to the University of Hawaii to research whether the tense situations in ethnic areas of China would lead to a split of the country. Actually, the research results disappointed their aim. America has been continuously backing the independent movement of Tibet all along. A movie "Seven Years in Tibet" produced by U.S. fooled the American with distorted historical facts. Funding was poured into foundations in U.S. to continue the anti-Chinese activities.

“Humanitarian Interventionists and Benevolent Global Hegemonists, most of whom lack even a rudimentary understanding of China’s long and complex history, share a particularly nasty trait. Many of these Globocops imagine because they have downloaded a few pages of separatist propaganda from tibet.org, and shed a tear or two while watching ‘Seven Years in Tibet,’ that qualifies them as China experts. They believe this qualifies them to pass judgment about whether China ‘deserves’ to remain intact or be forcibly Balkanized by the World’s Only Remaining Superpower. Their attitude rivals that of the most contemptible 19th century imperialists.”

The CIA-attempted Balkanization of China has already come with its own blowback of anger at the US from China. And, whatever you think of China, remember we owe them nearly $300 billion in loans. They lent us the money for Bush’s recent rebate. Bottom line, it’s pointless that the US and other Western nations keeps creating impressions that the Chinese are hitting on Tibetans, when in fact recent the recent video from China showed just the opposite, Tibetans in their region attacking Han Chinese who live there.

China Threat to be focus of U.S. attention in Asia: CIA Director Michael Hayden

http://www.reuters.com/article/topNews/idUSN3055603720080430

"China, a communist-led, nuclear state that aspires to — and will likely achieve — great power status during this century, will be the focus of U.S. attention (in Asia)," CIA Director Michael Hayden said. China is an economic and strategic competitor with the United States, Hayden said in a Kansas speech on 21st-century trends, adding the country was likely to continue a "troubling" military buildup.

But there are risks when a nation depends on the individual dreams of 1.3 billion people rather than a coherent political system with clear rule of law. China faces an environmental crisis… The gap between rich and poor has become dangerously wide… Each of these problems is far too broad to be solved, or even grasped, by the average citizen. And because the government continues to severely restrict political freedom, people are accustomed to avoiding such issues. My students taught me that everything was personal—history, politics, foreign relations—but this approach creates boundaries as well as connections. For many Chinese, if a problem doesn’t affect them personally, it might as well not exist…" http://ngm.nationalgeographic.com/2008/05/china/journey/hessler-text

"…45 percent of Chinese urban residents are at health risk due to stress, with the highest rates among high school students… In China, there is no concept of the rebellious teenager. Across Chinese society, parents appear completely at sea when it comes to raising their children… She intends to marry a foreigner because they are richer and more reliable… Some observers of Chinese society look at children like Bella and see political change: Her generation of individualists, they predict, will one day demand a say in how they are governed. But the reality is complicated. Raised and educated within the system, they are just as likely to find ways to accommodate themselves to it, as they have done all along…" http://ngm.nationalgeographic.com/2008/05/china/middle-class/leslie-chang-text

Three Chinese Banks now the World’s Largest with Western Banks suffering from US Mortgage Collapse

http://afp.google.com/article/ALeqM5iBo7t1tdnq1FDBnfWXMn1FXVH8qg

PARIS (AFP) — Three Chinese institutions were among the world’s top four banks at the end of 2007 at a time when the market capitalisation of Western banks was suffering from a global financial crisis, a study showed Wednesday.

The number one spot in the rankings, compiled by the Boston Consulting Group, was occupied by the Industrial and Commercial Bank of China, with market capitalisation of nearly 340 billion dollars (218 billion euros).

In second place was China Construction Bank, followed by HSBC of Britain, Bank of China, Bank of America and Citigroup of the United States.

The study found that banks in North America and Western Europe had suffered a loss of 695 billion dollars in market capitalisation at the end of 2007 while their counterparts in emerging market countries Brazil, Russia, China and India had seen their market capitalisation increase by 753 billion dollars.