Global Market Insights | A Fisher Investments Blog

“Excellent Horse-Like Lady”: An Economic Lesson From North Korean Pop Music

When my colleagues and I were reading up on North Korea’s recent political happenings last week, we chanced upon this amazing clip.* It’s a music video for a song by Bochonbo Electronic Music Band, whose lead singer was Hyon Song Wol—one of North Korea’s biggest pop stars and, many suspect, either the new wife or mistress of leader Kim Jong Un.

Excellent Horse-Like Lady

Yes, that’s the real title.

The video is fascinating and frightening at the same time. It features Ms. Hyon scurrying about a textile factory, cheering on the workers to greater productivity. It’s a blatant propaganda piece, like the band’s other two hits, “I Love Pyongyang” and “We Are the Troops of the Party” (watch the latter at your own risk—it’s a disturbing ode to Kim Jong Il). South Korean intelligence officials say she’s “responsible” for these songs, though given Bochonbo Electronic Music Band was a rare state-sanctioned pop group, I’d imagine the Workers Party propagandists at least had a hand in the lyric writing. (No word on whether the earsplittingly awful combination of decades-old synthesizers and traditional melodies are Ms. Hyon’s doing or the government’s work.)

The band was massively popular in North Korea in its mid-2000s heyday—mainly because North Koreans had precious little else to choose from since the government controls all forms of entertainment. Realizing this as I watched “Excellent Horse-Like Lady,” I just about shed a tear of joy and gratitude for the fact that I live in a free nation where the government doesn’t control what I listen to and watch—we’re all free to choose.

And not just choose, but to create—which carries plenty of economic benefits. In free, democratic nations, people are free to start a band, write a song, record and release it as they wish. Free commerce lets them sell their work and, potentially, earn a livelihood from it (or at least earn enough to keep going while they keep their day job). Intellectual property rights allow artists to protect their work, giving them even more incentive to create. Free enterprise lets people form record labels, creating jobs for sales people, marketers and talent scouts. It also lets people open bars, clubs, theaters and other concert venues where artists can perform, earning more money from ticket and merchandise sales and helping create jobs for service and technical staff. Easy interstate commerce and a lack of travel restrictions enable musicians to tour—and successful touring musicians need drivers and road crews. Which means more jobs.

More jobs, more economic output and more good music—pretty good byproducts of artistic and economic freedom, if you ask me. North Korea, take note.

*Hat Tip: Todd Bliman

Creative Stimulus

Over the past month, the UK government has taken a rather creative approach to addressing Britain’s economic issues. Instead of injecting money directly into the economy by spending on public infrastructure projects, the Treasury will use its strong balance sheet to underwrite bank lending to the private sector. In theory, the government’s guarantee would incite banks to lend more at lower interest rates, making it easier for businesses to secure much-needed loans to finance their investments and expansion.

The first such program, the “Funding for Lending” scheme, was announced last month, kicks off August 1 and runs through January 14. Banks can borrow up to 5% of the value of their loan books from the Bank of England, and participating banks will be required to lend these funds to households and small businesses. If all banks participate fully, £80 billion will be available over the next 18 months—and since the banks will borrow at only 0.25 points above the BOE’s funding rate, they should be able to extend cheaper loans.

Chancellor George Osborne announced a similar plan Wednesday. Through “UK Guarantees,” the Treasury will back up to £40 billion in bank loans to private-sector developers, which will use the funds used to finance major construction projects that have had difficulty attracting private investment. To limit taxpayer risk, the projects must meet certain conditions to qualify, which has prompted some skepticism over how impactful the scheme would be. The BBC’s Stephanie Flanders sums up this argument thusly:

To qualify for the partial guarantee (which will be tailor-made for each project) the backers must also be able to demonstrate that they definitely would not be able to go ahead without this carefully delineated government support. In other words, it has to be a perfect project in every possible respect, but somehow not quite perfect enough to get up and running entirely on its own.

I can see the logic behind this, but to me it misses a key ingredient—namely, the possible reasons why these projects haven’t yet been able to secure funding. I don’t believe this has as much to do with the projects’ inherent quality as it does with banks’ general hesitance to lend over the past couple years. In my view, this reluctance stems from banks’ uncertainty about pending regulatory changes. Since the Independent Commission on Banking launched its review of the UK’s banking regulatory system in 2010, banks have expected regulatory capital requirements to become stricter. The prospect of this likely disincentivized banks from lending since it wouldn’t be worth the hassle of having to raise more capital later.

Last month, however, Chancellor George Osborne unveiled the government’s new banking regulatory reform package, and the particulars are significantly watered down from the ICB’s recommendation. Capital requirements will be only 3% of total assets, lower than the ICB’s 4%-plus recommendation and in line with the Basel III international standard. Tier 1 capital requirements will be only 17%, at the low end of the ICB’s target range. And banks’ proprietary trading can include simple hedging strategies, which should help them manage risk in their loan books. Together, these easier requirements should make it easier and more attractive for banks to lend more freely at cheaper rates.

In my view, the clearing regulatory uncertainty should increase UK Guarantees’ (and Funding for Lending’s) chances of success. I imagine a number of perfectly qualified projects were simply victims of banks’ general reluctance to lend while future regulatory requirements were uncertain. The new scheme, combined with the clearer regulatory landscape, should give them a strong second chance. Though, as always, only time will tell how much these schemes boost growth.

Sliding Toward Freedom?

In some of my recent writings about Europe, I’ve made the point that increasing public spending on communication, energy, transportation and other infrastructure projects isn’t always a surefire way to increase economic growth—especially in the long term. Sometimes it can provide a small boost, but because governments are responsible for choosing which projects to spend on, there’s no guarantee the money’s spent efficiently. Officials might miss more impactful opportunities. Since the private sector tends to deploy capital in a more productive manner, the best way to stimulate growth is typically to make it easier for private firms to invest. Loosening monetary policy to increase bank lending, removing regulatory barriers that might prevent firms from accessing capital markets and other similar measures can help struggling economies grow.

China seems to be learning this lesson right now, and over time, I suspect it may eventually force officials to move from today’s command economy to a freer, more open system—something all Chinese would likely benefit from.

Chinese policymakers have two primary stimulus options: increasing Fixed Asset Investment (FAI, the official name for infrastructure spending) and loosening monetary policy by raising banks’ annual loan quotas. They used both tools in the wake of the 2008 – 2009 global recession, as shown in Exhibits 1 and 2, and the economy responded nicely—growth topped 10% in 2010. And when they sought to contain inflation in 2011 so they could boost growth during the once-a-decade handover of power in 2012 without risking runaway inflation, they sharply reined in FAI and loan growth.

Exhibit 1: Chinese Fixed Asset Investment (Year Over Year)

 

Source: Thomson Reuters. As of 12/31/2012.

 

Exhibit 2: Chinese Bank Lending (Year Over Year)

Source: Thomson Reuters. As of 12/31/2012.

 

To kick start growth ahead of the communist party’s undemocratic election this autumn, officials again increased loan quotas and fixed asset investment. Yet the economy continued slowing. GDP grew 8.1% in Q1 2012 and, as announced Friday, only 7.6% in Q2. China ’s large state-owned firms have benefitted from the government funds directed their way through FAI and from state-owned banks’ preference for lending to them, but the private sector has struggled, as detailed in this recent article from the Associated Press.

Recent statements from Premier Wen Jiabao and other ranking economic officials suggest Chinese leaders understand their economy likely can’t flourish over time without a robust, productive private sector. And, based on several recent policy changes, they seem to understand economic and financial sector liberalization is the only way to promote the private sector’s expansion. They’ve deregulated finance in the city of Wenzhou , and they plan to enact this program nationwide if it successfully improves private firms’ access to credit. They’ve more than doubled corporate bond issuance quotas since 2010, slashed foreign investment caps to expand the market for corporate debt, and begun allowing short selling and other hedging strategies to attract more foreign investors. Last week, they announced Chinese citizens may invest in foreign hedge funds, giving the Chinese more financial freedom—and giving wealthy citizens more investment opportunities outside of real estate. They’ve also deregulated some industries, like auto insurance, and they plan to adopt a market-oriented fuel pricing model.

Slow, steady economic liberalization has long been China ’s goal, and the economic slowdown seems to have forced officials to speed up their plans. If these new market forces successfully take hold and China’s private sector resurges, I have a hunch Chinese policymakers will be keen to liberalize more and more segments of the economy and capital markets—especially considering the likely next President and Premier, Xi Jinping and Li Keqiang, favor the market-oriented reforms of Wen and President Hu Jintao. This would only benefit China over time—more economic freedom typically means more prosperity for all levels of society. Even more importantly, according to Wen, economic freedom must go hand in hand with political freedom for society to remain peaceful.

Granted, a free China is a long, long way off. But if recent actions indeed are the seed of full freedom, that’s not a bad long-term byproduct of an economic slowdown.

Is North Korea Waking Up?

When Kim Jong Un became North Korea ’s leader after the death of his father, dictator Kim Jong Il, the world wondered whether the Swiss-educated 28/29-year-old (reports vary) would open his long-repressed country. North Korea has been shut off from the outside world for decades, as the Kim dynasty and military rulers strengthened their power by spreading lies about the US , South Korea and other democratic nations. Their logic: If North Koreans believe these nations are backwards, corrupt and trying to kill them, then they’ll readily accept the autocratic military and communist leaders who are simply trying to protect them.

For a long time, that strategy worked. Even as famine gripped North Korea in the 1990s—exacerbated by the government’s hijacking food aid—the brainwashed citizens believed all other nations were enemies, and most never even dreamed of revolting. They accepted regular blackouts in Pyongyang and near-total darkness in rural areas, because as far as they knew, South Korea was even more backward. Life, they were told, was far worse outside North Korean borders. And so North Koreans accepted their fate and practically worshipped the Kim family.

Over the last decade, however, things have changed. The few North Koreans who are allowed to travel are smuggling South Korean television dramas into the country, and bootlegged copies spread through Pyongyang like wildfire. These shows illustrate a South Korea far different from the impoverished and, later, crime-ridden society the North’s propagandists described. When North Koreans watch them, they see South Koreans with jobs, freedom and high quality of life. They shop. They wear fun clothes. They eat organic meat and vegetables at cafes. They go out at night and take the subway home after having a few drinks. They love and laugh. (And, since Korean dramas tend to be tragic love stories, they die too, but that’s neither here nor there.)

And with the realization that South Korea ’s a pretty neat place, eventually, comes the realization North Korea isn’t. Now, it seems, Kim Jong Un is trying to delay that epiphany:

 

Kim Jong Un Sends Cautious Signals of Reform

Andreas Lorenz, Der Spiegel

 

The changes are small, but symbolic. The spread of modern clothing and hair gel may not seem like much, but think about what this meant for China: Until Deng Xiaoping began opening China’s economy in the early 1980s, most (if not all) Chinese dressed in a very plain version of the traditional Mao suit. China , though not as backward as North Korea , was economically underdeveloped—bicycles, not automobiles, packed city streets, and commerce as we know it didn’t exist. The entrance of modern clothing was one of the first signs of an economic sea change. Today’s China would be unrecognizable to time travelers from 30 years ago.

Only time will tell whether Kim Jong Un transforms from North Korea’s “Great Successor” to “Great Reformer”—especially considering North Korea’s path isn’t his, alone, to determine. He rules at the military’s behest, and if he steps too far afield of the generals’ wishes, they’ll likely rein him in (or worse). But for now, his willingness to admit some of the state’s failures and allow grey markets to operate a bit more freely are encouraging signs.

Is China Taking on Its Banks?

Something strange is afoot in China.

On Thursday, a rather scathing critique of China’s large state-run banks was published on Xinhua—the state-run news agency.

China Exclusive: Court Ruling Renews Concerns Over Banks’ Dominance

The court decision in question ruled that state-run Industrial and Commercial Bank of China (ICBC) does not need to return the 21 million yuan (£2.1 million or $3.3 million) it seized from an investor in 2006. The investor used ICBC’s phone banking system and a stop-loss strategy to buy gold at below-market rates and re-sell at market prices. He argued this arbitrage was within ICBC’s trading guidelines, but the bank disagreed, cancelled all 126 of his orders due to “system malfunction” and seized his profits. A court battle ensued, and the Higher People’s Court of Shandong province ruled in the bank’s favor—upholding the decision to cancel the trades and seize his assets without due process. The investor is appealing, and China’s blogosphere is a-twitter (pun intended) with accusations of favoritism toward “the monopoly industry.”

Typically, one would expect China’s authoritarian government to censor such protests—the courts, banks, large businesses and news agency are all intertwined with the Communist Party. Instead, they published a piece highlighting the protests and reiterating many longstanding criticisms of China’s financial institutions—in a sense, tacitly siding with the investor.

Put in the context of the government’s recent statements about China’s financial sector though, this seemingly bizarre turn makes sense. Premier Wen Jiabao’s is frustrated with China’s big banks, and his criticism has become increasingly loud in recent months (see this recent post for more). He’s not pleased they’re shutting out small businesses and entrepreneurs, and he believes that’s harming China’s economic potential—and he’s right. He and other policymakers have adopted several measures to try to increase private banking activity, and now it seems the government’s issuing a stern warning to ICBC and the other state-run banks: Get your acts together, stop your corrupt practices and start lending more freely. Or else.

If you think that won’t do much good, remember, this is China—not a democratic nation with a transparent judiciary. China’s justice system deals swiftly with business executives who step afoul of the government (put blankly: they get executed). If I were an executive at ICBC or another state-run bank, and I realized the government didn’t have my back anymore, I’d start making big changes. Now.

(For more on China’s efforts to decrease state-run banks’ influence, check out my recent column on InvestorPlace.)

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