WSJ:China CIC Chief Sees Rising Risk of Euro Breakup
By LINGLING WEI, ALMAR LATOUR and ANDREW BROWNE
The head of China's giant sovereign wealth fund sees mounting risks of a breakup of the euro zone and says China Investment Corp. has scaled back its holdings of stocks and bonds across Europe.
The comments by CIC Chairman Lou Jiwei are among the most bearish pronouncements yet on Europe by a senior Chinese official. They reflect growing dismay in Beijing at how European leaders are handling the escalating crisis in China's largest export market, and anxiety over the potential for global contagion.
"There is a risk that the euro zone may fall apart and that risk is rising," Mr. Lou told The Wall Street Journal.
In a wide-ranging interview—his first with a Western media organization in five years—Mr. Lou also called for China to release controls on its capital account, a move that would free up cross-border investment flows and set the Chinese yuan free. After the euro-zone crisis ebbs, it might be the time to open up the capital account, Mr. Lou said, adding his voice to a growing chorus of calls from China's reformers to revamp the country's financial system in a bid to rebalance China's economy.
Global investors have been scrutinizing CIC's investment strategy lately because of frequent market speculation about the potential for China to come to the aid of the euro zone by purchasing European debt. CIC officials have stressed that the fund is a commercial investor and won't be part of any coordinated Chinese investment push.
Mr. Lou said CIC sold down its exposure to European peripheral countries a long time ago, before incurring any losses, and has reduced its holdings of European stocks and bonds.
"Right now we find there is too much risk in Europe's public markets," he said. Mr. Lou didn't specify which peripheral countries he was referring to, but such countries generally include Greece, Portugal and Ireland, which have been forced to take international bailouts, as well as the much bigger Spain and Italy, where bond yields have surged to levels that many in the markets consider unsustainably high.
CIC is unlikely to be an investor in common euro-zone bonds created to support the debt-laden euro bloc. Some European officials have floated the idea of creating a form of collective debt to help support larger European countries.
Mr. Lou, a computer-scientist-turned-economist, said he doesn't think Europe is ready to launch such debt yet. "Europe hasn't formed necessary fiscal discipline and hasn't got the right policies in place," he offered, adding that such bonds would not be a suitable investment for CIC. "The risk is too big, and the return too low."
Still, the fund will continue to invest in the Continent by focusing on private equity and direct investment, including infrastructure, Mr. Lou said. "Right now, we're underweighting on developed countries and overweighting on emerging markets."
Mr. Lou said the rest of the world will be vulnerable to the European debt crisis, though its impact on Asia is likely to be relatively small. Still, the debt woes in Europe have caused a sharp slowdown in China's exports, a pillar of China's economy, Mr. Lou said.
"Nobody can keep their powder dry if everyone else's is wet," Mr. Lou said.
With about $410 billion in assets under management, CIC is the fifth-largest sovereign fund in the world. It was founded by the Chinese government in 2007 to seek better returns for China's currency reserves, which had typically been parked in low-yielding securities such as U.S. Treasurys. Chinese leaders have singled out better management of China's $3.3 trillion foreign-exchange reserves, the world's largest, as a priority for the financial sector.
In the interview, Mr. Lou also expressed confidence in China's economic growth. "The one economy we have the most confidence in is China," Mr. Lou said, adding that CIC is looking for overseas investments opportunities with "a China angle or a China factor."
As a result, CIC is focusing on China's neighbors, such as Russia, and is bullish on Africa and Latin America whose growth is driven by domestic consumption as well as Chinese demand.
But Mr. Lou also acknowledged the challenges facing China's economy, the world's biggest after the U.S. Chinese leaders have recognized that to make China's economic growth sustainable, it must readjust the country's growth model from one driven by exports and investment to one that relies more on domestic consumption. The rebalancing will "take fundamental and painful reforms over a long period of time," Mr. Lou said.
One of the much-needed reforms, many have argued, is to boost Chinese people's buying power by opening up the capital account and making the yuan a fully convertible currency.
"From an observer's point of view, it's time to open up," Mr. Lou said. "But today may not be the right timing," he added. "There is a crisis going on. But after the crisis, it might be time."
Liberalizing the capital account, Mr. Lou said, would lead to "natural diversification" of China's foreign-exchange reserves, a stated goal of the country's currency watchdog.
Mr. Lou, now 61 years old, became head of CIC in 2007 after serving as deputy secretary-general of the State Council, China's Cabinet. Before that, he was vice finance minister and vice-governor of the southwestern province of Guizhou. He played an important role in overhauling China's tax system and has been widely viewed as reform-minded.
CIC was criticized in China for losses on its 2007 investments in the U.S. financial sector, including in Morgan Stanley MS +7.75% and Blackstone Group LP. But it delivered a 12% overall return in both 2009 and 2010, according to the most recent figures available. That makes the fund one of the world's best-performing country funds, according to Z-Ben Advisors, a Shanghai-based research firm that tracks the financial sector.
In the interview, Mr. Lou said that CIC hasn't yet reached its target of having 50% of its portfolio in long-term assets such as infrastructure, commodities and real estate and the other half in public securities. "Although CIC is a long-term investor, sometimes we have to sacrifice long-term returns to reduce short-term volatility," he said.
