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The London Brief - April 30th, 2021

The London Brief

April 30th, 2021

I took my first shot of a COVID vaccine this month. The process was efficient. I got a letter, signed up online and booked a time. Three people checked me in separately, gave me a new mask before entry, verified if I had allergies and inquired about blood clots. Then it was into a short queue, and then to a nurse’s station where I rolled up my sleeve and got a quick injection. The ‘card master’ then gave me a written validation that I had taken my first shot of the vaccine. Apparently, this card is going to be important in the future, but it looked like my Blockbuster’s card from many moons ago. Maybe I’ll need it for flights or to get a cup of coffee. My side effects were benign. I felt tired the next day, but mostly I felt hungry; I had an incredible urge for munchies of all sorts. Anyway, there are worse things than having a case of the munchies so I would recommend contributing to the health of humanity and getting vaccinated. However, it’s only possible if your country has stocked up on enough doses.

Slow Japan

You can tell Japan is ageing, because it took them a long time to figure out how to order vaccines. Japan relegated itself to one of the weakest performing equity markets this year on the back of its COVID management. It has a COCOA App problem. This is not a shortage of chocolate but rather stands for COVID-Tracing Smart App, which has been malfunctioning for four months. The health ministry was slow to share information with developers. Because officials in charge of the app were not familiar with information technology, they did not understand the need to do an operations checks or understand how bad the glitches were. The companies that signed the contracts had little app experience. Six businesses were involved with subcontractors and contractors. Because responsibility was vague their responses to errors were delayed. The problems were even pointed out in advance, but the six firms and lack of accountability meant that they failed to avoid problems.

Thus, we come to the case of Toshiba. Toshiba is a highly storied company and was once a technology pioneer. Although originally it produced torpedoes and mines for the Japan military in World War II, it later pioneered a number of Japan firsts such as radar, the TAC digital computer, colour TVs, microwave ovens, colour video phones, the MRI system, laptops and NAND. There is even a Toshiba science museum that bears testament to all their achievements. However, after an accounting scandal and sharp losses that almost put the company into bankruptcy, the company had to raise large amounts of equity from foreign investors and now about 40% of the share register is controlled by offshore shareholder activists.

Toshiba has too many businesses. It would take a full day to list their subsidiaries it seems, yet the company’s equity value is less than $20 billion. Similar to the Japan government’s COVID app, there is a lack of accountability and all of its divisions have margins well below peers. Toshiba’s myriad of businesses would pair well with other Japanese conglomerates, who are also trying to pare down non-core businesses and scale up areas where they are strong. Toshiba has refused to get with the broader economic agenda and as a result received an opportunistic private equity bid from CVC. Toshiba’s president at the time used to be the head of CVC Asia, so it looked like a bad case of cronyism at first. But the Toshiba board released him from duty and appointed a former president to balance the interests of shareholders and the company. Now more reputable firms like KKR and Bain are said to be considering bids of their own. Will the future story of Toshiba be a break-up and potential modernization of corporate Japan, or will it continue to be the same story of slow movements and ageing? Time will tell.

The National Security Dilemma of CDBDs

Joe Biden and staff are looking at the potential for China’s roll out of CDBDs and how it could impact national security. CDBDs are digital currencies backed by central banks. China is in the lead on CDBDs as mentioned in a previous London Brief. 87% of its population uses digital payments. There have been over $300 billion in transactions in China’s pilot program[1] while only 14% of the world’s central banks have moved to a pilot program of some kind. China’s mobile payments volume is RMB 314 trillion in 2020. The negatives of CDBDs are that it could disintermediate banks and make deposits more expensive; it could potentially drive out the private sector; there are threats to privacy; and there would be a new competition between USD, RMB and EUR. The positives would be they could target monetary and fiscal policy; provide inclusion; reduce costs and efficiencies; and improve financial crime risk.

In 2020, RMB payments for international trade were about 15% of the total. However, to avoid U.S. sanctions digital currencies may be an effective tool. Payment systems mostly use SWIFT, despite China’s efforts to build a rival system called CIPS. China’s digital currency could be used to bypass SWIFT and thereby U.S. sanctions. However, indiscriminate use domestically could disintermediate China’s banking system and curb its control of credit in the economy.

The head of one global bank said, “It could fundamentally change how Chinese companies do business by 2022 or 2023.”[2] This would allow countries like Iran and North Korea to be able to trade internationally because only China would have visibility. China’s NDRC said efforts to turn the RMB into a reserve currency for international trade should continue at a ‘steady and careful’ pace by pushing forward dual-currency cooperation with countries that participate in the Belt and Road initiative. DBS, HSBC and Standard Chartered are increasing their presence in the Greater Bay area, a government scheme to link HK and Macau with nine major cities in Guangdong Province and drive cross-border yuan payments.

Jack Lew noted in 2016 that overuse of sanctions “could undermine our leadership position within the global economy, and the effectiveness of our sanctions themselves”. However, Trump loved the tool imposing it twice as much as the Obama and Bush administration combined. Sanctions are like antibiotics. The more they are used, the more ineffective they become. Longer-term, sanctions may undermine longer term national security as it encourages the use of alternative payment technologies.

However, countries looking at adopting RMB for trade should be careful as some low-income countries have found out.

The Godfather

Chinese lenders have used legal contracts to give them a hidden advantage over other creditors when lending to low-income countries, which may undermine global debt relief efforts. According to data from NGOs, contract terms were unusually strict and give Chinese loans priority for repayment while prohibiting borrowers from restructuring their Chinese debts in coordination with other creditors. There are far-reaching confidentiality clauses that make it hard for other creditors to know the true financial position of the borrower and citizens cannot hold leaders accountable for hidden debts. There are cross-default clauses if a nation takes an action adverse to the interests of the PRC; this entitles China to immediate repayment if a diplomatic relationship with China were terminated over say issues like Taiwan. China’s involvement hurt creditor discussions in Zambia. 30% of contracts require the borrower to maintain a special bank account as security for debt repayments with a bank acceptable to the lender. 75% of contracts contain ‘no Paris Club’ clauses which exclude the borrower from restructuring by the Paris Club of official bilateral creditors.

End Note

While we wait for international travel to normalize and struggle to understand the role of digital currencies, it’s easy to forget some of the interesting things happening on Mars. For the first time, there was domestic flight on another surface other than our own. A helicopter at 2500 rpm flew for thirty seconds (helicopters on earth fly around 400 rpms but the Mars atmosphere has such a low density that the blades have to turn at a higher velocity to generate the appropriate friction for flight). (Probably Amazon drone deliveries will not be the first order of priority for early settlers).

In fact, the COVID period may prove to have been one of the most innovative. Recently, I’ve been analysing a number of IPOs and companies looking to list through a SPAC. Some “innovations” don’t strike me as terribly creative like cryptocurrency mining; app delivery services or collaborative workspaces. But I’ve seen companies that use data-sets from cells, synthetic cells and human trials and plug them into an AI-driven architecture to improve the speed of clinical trials (similar to the Moderna approach to vaccine development); new clinical trials that are looking to reverse the process of ageing from recent advances in our understanding of cell biology and senescence cells; new approaches to semiconductor connectivity for smaller nanometre chip designs; and the use of new programming techniques for unstructured data to make AI more effective. The ease of funding for new ideas and the rewards to getting them to market have never been higher. The pessimists are probably not unjustified in saying it will die down and there will be a minefield of failed ventures once the Fed starts increasing rates, but it’s fun to dance while the music is still playing.

Cobham, Surrey

April 30th, 2021

[1] Citigroup, “China Deep Dive into DCEP, April 2021 [2] Economist, “Handle with Care”, April 24th, 2021

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