There is a tendency in US coverage of China to treat the Chinese government as some impenetrable unitary organization executing a well-honed plan. This view is pretty far from the reality.

We were reminded of this point with all the news coming out of China’s regulatory crackdown on so many of its Internet companies. China’s government is very different from that of most other countries, especially the US, but that does not mean it is not subject to all the foibles and inefficiencies faced by all governments. As with any government, there are trade-offs embedded in all its policies. Typically a very different set of trade-offs than we see in the US, but they still exist. So viewing it as a monolithic robot acting with precision in all matters gives a very flawed interpretation of what is happening there.

We actually started writing this post years ago, when the world was coming out of the Financial Crisis. We were shocked that so many die-hard US capitalists were extolling China’s ability to escape that crisis seemingly unscathed. They argued that success must be the result of the glories of centralized planning. We heard someone say exactly that on that bastion of Socialism CNBC. This things go in wave, and so we are once again faced with flawed perceptions of China’s latest actions, so we are dusting off this draft.

To be clear, we are not criticizing or praising China’s government here in this post. Instead, we are just pointing out that the way we in the US view China repeatedly leads to misunderstanding, and this can wreak havoc with business plans and investment portfolios.

As we noted in our piece last week on the brewing crackdown on China’s Internet companies, as draconian as the government’s moves may seem to us, it is possible to view them as part of a coherent policy framework. So we have been repeatedly dismayed this week when people ask us “Why is China destroying it’s best industries and best companies?”. The government does not see it that way, and likely has a list of rational reasons for its actions. We may not agree with those reasons, but it is a mistake to see this as an act of pointless destruction.

Although China effectively has only one political party, that does not mean the government acts in unison or that there are no divisions within that party. China has multiple nexus of power, as you would expect in a country so large. There are so many divisions within that government that we know many people there who are frustrated at how slowly and uncoordinated the government sometimes moves.

First and foremost, there is a big divide between what the central government in Beijing wishes and what actually happens on the ground. The Centre may send down a policy, but actually implementing that policy is often left up to officials in the provinces and local entities. Then there is the divide between all the different departments within the government. The Finance Ministry may want to move in one direction while the National Development and Reform Council wants to move in another. Then multiply that divide between the center and the regions, where the local branches of the two ministries may move in opposite directions than the ministers in Beijing have ordered. This is not chaos, there are all sorts of processes in place for sorting these things out, but it is important to understand that the government rarely moves in a coordinated fashion. The same is true in the US with the divide between the Federal and State governments, or in Germany between Berlin and the various Lander. China’s process is just much harder to understand because it is much less transparent. For a good explanation of how this plays out in China’s Financial sphere we would highly recommend Victor’s Shih’s book “Factions and Finance in China”, which delves into all these issues.

Our sense is that these local vs. central dynamics are just starting to kick in now. For instance, over the weekend we read reports that certain cities are cracking down on ride-sharing app DiDi’s ability to hire drivers. This has not been a focus for the central government, but it is highly possible that some local official looking to get promoted to Beijing sensed that the political winds are pointing in this direction and took the initiative to demonstrate they were doing their job rigorously. This may or may not be part of the central government’s long-term plan, but we will likely see further local action against any company targeted at the national level.

The second thing to keep in mind around the latest news is that the government is addressing some very legitimate concerns about the behaviors of the company’s involved. China’s Internet is full of years of complaints about some of the predatory practices taking place around many of the companies being targeted. Alibaba/Ant Financial run a massive consumer and small business lending operation, and it has gone largely unregulated for years. Think about how abusive those kinds of businesses can be in the US. We should not assume that there is a grand plan behind the crackdown beyond the basic need to regulate a slew of companies that have strayed far beyond the bounds of reasonable business practice. We have been reading accounts from China scholars all week saying the government warned about all of this years ago in Communist Party journals which almost no one outside China reads. There are some legitimate policy concerns being implemented here. We may not agree with all of those, but I suspect we would be surprised at how many we do agree with.

And that leads to third factor – no policy is perfect. As we noted above, there are trade-offs with all policies. And just like policy initiatives from every government everywhere, there are going to be some mistakes and many, many unintended consequences. The list of these in the latest events is long and growing too rapidly to list. The government will take steps to tamp down and fix some of these, for instance they seem to be stepping into calm the stock market, which is a whole other policy initiative with its own set of consequences. This is not a mystical 100-year plan with flawless execution. This is humans making decisions with limited resources and limited information. And as all of the above factors should make clear, the government does not have that many tools at its disposal to quickly implement policy, leading to the recent heavy hand.

In all of this, we do not mean to excuse China’s government. They have clearly done damage to their own economy and to their leading companies. This is still an authoritarian regime that operates in a wholly opaque manner. But we have to be careful to not think of them as omniscient or omnipotent. They absolutely did not fully understand all the consequences they would unleash. The recent regulatory crack-down is an obvious reminder that doing business with China is fraught, but we need to better understand their reasoning and methods, or we risk making the wrong responses. Despite the US-China trade war, and years of predictions about a “de-coupling” it should be clear that China’s economy is too large to ignore (and that de-coupling does not seem to be happening). We are going to be doing business there and working with them for years to come.