Plutocrats: The Rise of the New Global Super-Rich and the Fall of Everyone Else (34 page)

The subtle hand of the Chinese government in appointing its rising class of plutocrats—according to Hurun, there were 271 billionaires in China in 2011, and the cutoff to make the list of the one thousand wealthiest Chinese was $310 million—is perhaps most apparent in the emergence of red dynasties, whose scions are known as the “princelings.” These are the sons and daughters of today’s Chinese leadership, and often the grandchildren of the leaders of the Maoist revolution. They form an important political faction in the Chinese Communist Party, and many of them are plutocrats. Li Peng was China’s premier from 1987 to 1998. Today, his family are utility tycoons. His daughter Li Xiaolin, who has been called “China’s Power Queen,” serves as chair and CEO of China Power International Development, and his son Li Xiaopeng managed Huaneng Power International, the country’s largest independent power generator, before entering politics in 2008. Zhu Yunlai, son of Zhu Rongji, another former premier, who was in office from 1998 until 2003, is a senior executive at CICC, the Chinese investment bank, which counts the illustrious private equity firms KKR and TPG among its shareholders. In rent-seeking societies, the plutocrats are appointed by the state. Who better to appoint than your own children?

Another sign of the political nature of wealth in China is Beijing’s ability to defrock its oligarchs. That reversal of fortune is often dramatic—a strong predictor of China’s future jailbirds is its current rich list. In 2002, Zhou Zhengyi, who made his fortune in Shanghai real estate, was identified as the eleventh richest man in China, with a fortune of $320 million; in 2003, he was imprisoned on corruption charges. In 2008, Huang Guangyu, the Beijing-based founder of the GOME retail chain, was named the second-richest, by
Forbes
. In 2010, he, too, was jailed for corruption. The list goes on. The point isn’t that China’s plutocrats are squeaky clean and are being unjustly imprisoned—like all businesspeople in a rent-seeking society they have their original sins. But where all property involves, if not theft, then at least some rule bending and palm greasing, everyone is vulnerable. As
The Economist
noted in 2003, Zhou’s dealings were far from exceptional: “If they wanted to, China’s authorities could probably find grounds for accusing most of the country’s richest people of bending (if not breaking) the rules. But China’s legal culture thrives on the principle of ‘killing the chicken to scare the monkeys.’ Mr. Zhou . . . was a conspicuous potential chicken.”

—

The dramatic denouement of the March 2012 NPC is that now the biggest monkey is directly in the state’s sights, too. Bo Xilai, the charismatic former chief of the thirty-four-million-strong Yangtze River megalopolis of Chongqing, was one of the leading elite critics of China’s rising inequality: on the eve of the NPC he told reporters in Beijing that the country’s Gini coefficient had exceeded 0.46 (it is 0.45 in the United States) and warned: “If only a few people are rich, then we’ll slide into capitalism. We’ve failed. If a new capitalist class is created then we’ll really have turned into a wrong road.” But at the same time, Bo was a princeling—his father was Bo Yibo, one of the Eight Immortals of the Communist Party—and the patriarch of a clan with wealth as well as political power. His son Bo Guagua reportedly drove up in a red Ferrari to pick up a daughter of then U.S. ambassador Jon Huntsman for a date. (Guagua denies driving the Ferrari; the Huntsman daughter says she can’t remember the make of the car.) Guagua was educated at Harrow, the British public school with an annual tuition of $50,000; Oxford, where he helped organize the Silk Road Ball; and Harvard. Bo’s wife, Gu Kailai, is a lawyer who ran a lucrative international law firm, Kailai, and an advisory firm called Horus Consultancy and Investment. Since Bo Xilai’s fall from grace, the family’s documented fortune is now pegged at $136 million and the figure seems to rise every day.

In early March 2012, Bo was one of China’s rising leaders—he was seen as a strong candidate for membership in the Standing Committee of the Politburo, the nine-person body that rules China. Over the next five weeks, in the most dramatic political fight in the country since Tiananmen Square, Bo went from princeling to pariah, first losing his job and then facing investigation for “suspected serious violations of discipline.” Gu, his wife, has been charged with murder. The fall of Bo Xilai is partly a tale of red capitalism intrigue and skulduggery—the attack on the Bo clan began with the mysterious hotel death of a British national who worked with Gu and alleged efforts to block investigation of it. But it is also being read as a fight between the red oligarchs, personified by Bo, and the reformers, who are fighting for a more transparent and competitive system. As Stephen Roach, the former chairman of Morgan Stanley Asia who now teaches at Yale, told me, “The emphasis once again is shifting much more back to the reformers. . . . [Bo Xilai’s sacking is] very powerful evidence in favor of returning to this pro-reform, pro-private-enterprise, pro-market-based direction that China has been on for the last thirty-two years, barring a few pretty obvious bumps in the road from time to time.”

Professor Roach is right. Bo Xilai was China’s most visible advocate of state capitalism, a system rife with opportunities for rent-seeking. His downfall has been part of a wider drive to make the Chinese economy more fair and open, most notably Premier Wen Jiabao’s striking attack on state banks, an important source of wealth for the red oligarchs. As Wen told an audience of business leaders in remarks broadcast on China National Radio, “Let me be frank. Our banks earn profit too easily. Why? Because a small number of large banks have a monopoly. . . . To break the monopoly, we must allow private capital to flow into the finance sector.”

But as in the other emerging markets, and indeed in the West, too, understanding China’s great political struggle as a fight between venal red rent-seekers and virtuous market reformers doesn’t tell the entire story. Some of the most successful princelings are the children of some of China’s most effective market reformers, and even the entrepreneurs whose fortunes are largely based on creating real value needed a helping hand from the state to survive and thrive. To paraphrase Proudhon, in a country like China, where money and government are so intimately intertwined, all fortunes required a little rent-seeking.

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On January 22, 2007, Mike Bloomberg, the mayor of New York, and Chuck Schumer, the senior senator for the state, released a study they had commissioned from McKinsey, the world’s leading management consultants. The report, titled “Sustaining New York’s and the US’ Global Financial Services Leadership,” warned of impending financial crisis and offered detailed guidance on how to avert it.

Less than seven months later, the greatest financial crisis since the Great Depression did indeed begin, when BNP Paribas, the French bank, froze withdrawals from three of its funds, a step we would see in hindsight as the opening shot in the economic Armageddon of 2008.

But this is not the story of two Cassandras and their unheeded cry that Wall Street’s bubble was about to burst. Instead, the Bloomberg/Schumer report focused on a very different danger: the risk that London, or perhaps Hong Kong or Dubai, might soon eclipse New York as the world’s financial capital. Were that to happen, Schumer and Bloomberg warned in an op-ed published in the
Wall Street Journal
on November 1, 2006, foreshadowing the full report, “this would be devastating for both our city and nation.”

To avert such disaster, Schumer and Bloomberg counseled urgent action. The first problem to fix was the overly harsh regulation of Wall Street. As they wrote in their op-ed, “While our regulatory bodies are often competing to be the toughest cop on the street, the British regulatory body seems to be more collaborative and solutions-oriented.” The full McKinsey report, made public two months later, elaborated on this danger: “When asked to compare New York and London on regulatory attractiveness and responsiveness, both CEOs and other senior executives viewed New York as having a worse regulatory environment than London by a statistically significant margin.”

A specific risk posed by America’s overly strict financial regulators, McKinsey warned, was that their approach was driving the highly desirable derivatives business abroad. “Europe—and London in particular—is already ahead of the U.S. and New York in OTC [over the counter—which is to say difficult for regulators to monitor] derivatives, which drive broader trading flows and help foster the kind of continuous innovation that contributes heavily to financial services leadership,” the McKinsey report cautioned. “‘The U.S. is running the risk of being marginalized’ in derivatives, to quote one business leader, because of its business climate, not its location. The more amenable and collaborative regulatory environment in London in particular makes businesses more comfortable about creating new derivative products and structures there than in the U.S.”

Moreover, the report sounded an alarm about the future. America’s overly zealous regulators were on the verge of another colossal mistake: they were planning to raise capital requirements for U.S. banks, a measure McKinsey warned was unnecessary and would weaken the country’s financial champions in the fierce global competition for business. “U.S. banking regulators have proposed changes that would result in U.S. banks holding higher capital levels than their non-U.S. peers, which could put them at a competitive disadvantage,” the study said. These tougher new requirements were unnecessary, in McKinsey’s view. Instead, the report advocated a more sophisticated approach that took into account the economic environment. “This application also ignores some of the changes in capital requirements that occur as a result of economic cycles,” the report argued. “In a strong economic environment, for instance, capital requirements in a risk-based system should actually decline.”

Read with the benefit of hindsight, the Bloomberg/Schumer/McKinsey report is a parody of hubris. The overall concern with overly harsh U.S. regulators, a year before regulatory laxity permitted the worst financial crisis in three generations, is clearly absurd. The specific fears are even more specious. Alarm about a U.S. regulatory environment that was unduly restrictive of derivatives—those were the very financial instruments at the heart of the crisis. Worry that new capital requirements would be unnecessarily onerous—when it turns out that higher capital requirements were precisely what the banking system needed. Had Michael Moore set out to write a satire about the shortsighted greed of U.S. financial and political elites, he could not have invented better examples.

The arguments in the report are so wrong that it is easy to mock McKinsey, the author, and Bloomberg and Schumer, the sponsors. But what is really striking is how bipartisan and transatlantic the consensus within the Anglo-American financial and political elite was on the ideas in the study. Bloomberg is an independent; Schumer is a Democrat. Eliot Spitzer, the erstwhile sheriff of Wall Street as New York’s attorney general and then governor of New York State, joined Bloomberg and Schumer at the press conference announcing their report and broadly supported its conclusions. Two days before Bloomberg and Schumer took to the op-ed pages of the
Wall Street Journal
to raise the curtain on their report, another bipartisan pair, Glenn Hubbard, the dean of Columbia Business School, former Bush adviser, and future Mitt Romney adviser, and John Thornton, the active Democratic donor and former president of Goldman Sachs, announced that they, too, had organized a study on costly regulation and whether it was causing the U.S. capital markets to lose ground to foreign rivals.

Hank Paulson, the Republican Treasury secretary and former chairman and CEO of Goldman Sachs, traveled to New York a few weeks after these twin editorials to give a speech to the Economic Club of New York on “The Competitiveness of U.S. Capital Markets” in which he praised the Bloomberg/Schumer op-ed as being “right on target.” To make his point that Americans were in danger of overregulation, Paulson approvingly quoted a Democratic predecessor as secretary of the Treasury and fellow former Goldman Sachs chairman, Bob Rubin: “In a recent speech, former Treasury secretary Bob Rubin said this about regulation: ‘Our society seems to have an increased tendency to want to eliminate or minimize risk, instead of making cost/benefit judgments on risk reduction in order to achieve optimal balances.’”

A final U.S. contribution from the department of irony. A few weeks after the Schumer/Bloomberg op-ed had been published, one captain of finance wrote a letter to the editor to support their fight against “overregulation.” He was John Thain, then the CEO of the New York Stock Exchange. Two years later, Thain, by then CEO of Merrill Lynch, was forced to sell the nearly hundred-year-old firm to Bank of America at a fire sale price because of a financial crisis caused in great measure by inadequate regulation.

Across the ocean, the elite consensus was equally strong. A few days after the McKinsey study was released in New York, Sir Howard Davies, the director of the London School of Economics, former head of Britain’s top regulator, the Financial Services Authority, and former deputy governor of the Bank of England, opined, from the snowy slopes of Davos, that Bloomberg had “set a cat among the snow eagles this week.” The New York mayor, Sir Howard argued, was absolutely right: the American capital markets “are losing market share relentlessly against London.” The English peer’s fear was that in order to level the global playing field, the United States would try to impose its overly onerous regulatory approach on the rest of the world: “The Americans, as we know, are famously generous people, and they are even prepared to export their regulations, free of charge to the rest of the world.”