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Congress and the China cash controversy

Congress has figured out one way to cope with unsafe toys made in China. But when to comes to regulating Chinese investment in U.S. firms, Congress hasn’t yet decided what, if anything, it ought to do.
Image: Workers assemble toy cars on the production line in China.
Workers assemble toy cars on the production line at Dongguan Da Lang Wealthwise Plastic Factory in Dongguan, China on Sept. 4, 2007.Eugene Hoshiko / ASSOCIATED PRESS
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Congress has figured out one way to cope with unsafe toys made in China. This week the Senate passed a bill requiring more testing of foreign products and increased fines for firms that make unsafe items.

But when it comes to regulating Chinese investment in U.S. firms, Congress hasn’t yet figured out what, if anything, it ought to do.

Right now, China has a powerful vehicle called China Investment Corp, a “sovereign wealth fund” stocked with $200 billion that Beijing can use to buy partial ownership of American (or other) firms.

The fund has invested, for example, in The Blackstone Group, an American private equity firm.

The Chinese are not the first to use a sovereign wealth fund to gain partial stakes in foreign firms.

Kiribati, a Pacific island nation, set up the first sovereign wealth fund in 1956 to invest proceeds from the sale of its phosphate.

And Norway set up a sovereign wealth fund for its oil revenues in 1990. Other nations have done likewise.

But China isn’t Norway or Kiribati.

Second-largest U.S. trade partner
An ever-growing powerhouse in manufacturing, China is America’s second largest trading partner, the third biggest market for U.S. exports, and the top source of its imported goods.

China is also a nation governed by a regime with interests that sometimes conflict with those of the United States.

Those conflicts include China's territorial claims on Taiwan and in its strategic ties to Iran.

But it is clear from listening to Democratic congressional leaders that they haven’t yet quite figured out how to cope with the sheer power of Chinese sovereign wealth.

On Thursday when a reporter asked House Speaker Nancy Pelosi whether Congress needs to pass legislation to regulate sovereign wealth funds investing in U.S. corporations, she avoided giving a specific answer.

“The whole issue of China, I think, has to be looked at,” she observed.

Changing the topic from sovereign wealth funds, she asked, “Do you know that the Chinese ownership of our total debt is over $900 billion?”

She was referring to total Chinese holdings of U.S. Treasury securities, corporate bonds, and stocks, not just investment in stocks alone.

According to Treasury data, Chinese holdings of Treasury securities, corporate bonds, and stocks amounted to $922 billion as of last June, with only $28 billion, or three percent, of that total related to stock ownership.

More than half of the Chinese holdings are in U.S. Treasury bonds.

Pelosi called for “some bipartisanship about what the proper approach would be in terms of ownership of our total debt, in terms of how their currency is valued, and addressing other issues as well.”

Pelosi brings to this controversy the experience of a Democrat who fought tirelessly against President Bill Clinton when he championed the 2000 bill to give permanent trade privileges to China.

A big win for Clinton in 2000
Clinton won and Pelosi lost, as Congress approved permanent normal trade status for Beijing, ending a tradition of annual congressional reviews of trade with China.

China’s success since the passage of that bill has enabled Beijing to invest its earnings abroad through its sovereign wealth fund.

This week the House Financial Services Committee summoned witnesses from the sovereign wealth funds of Norway and Singapore to testify about their operations.

Rep. Paul Kanjorski, D- Pa., chairman of the subcommittee on Capital Markets, Insurance, and Government Sponsored Enterprises, said, “Our hearing established that we still don’t have a thorough understanding of all the ramifications that are occurring and will occur in the future. We need further hearings and further investigation.”

He added, “If you think about what sovereign wealth funds really represent to us as a nation, it’s like reverse foreign aid — and now it’s coming back not as foreign aid to the government of the United States, but to our industries.”

Analogy to foreign aid
The Pennsylvania Democrat made the analogy between sovereign wealth funds and US foreign aid to nations around the globe.

“Probably the most critical part of our foreign aid system is that we do use it to accomplish a national security purpose. We tell people what to do, what they can buy with our money,” Kanjorski noted.

So, he asked, why should the Chinese and others who have sovereign wealth not likewise “be driven by their own national interest in the future and do the same thing we’ve been doing?”

If the Chinese sovereign wealth fund buys ten percent of an American pharmaceutical company, such as Pfizer, would that worry Kanjorski? “Ten percent? It probably wouldn’t set off alarms,” he replied.

But suppose, Kanjorski said, China Investment Corp. were to buy a controlling interest in an American pharmaceutical firm. What are the consequences “if they want to take all the patents over to China? Or if they want to use some of the patents for biological warfare?”

But he added, “I don’t think we should be paranoid about it. We also, unfortunately, are in terrible need of these funds.”

If the American people don’t save more of what they earn, then “it is inevitable that we are going to have not only sovereign wealth funds come into this country, but we are basically going sell the assets of the country. And we’re doing that,” he said.

But Kanjorski is not ready to call for a limit such as not permitting a sovereign wealth fund to own more than 50 percent of a US corporation.

Lessons from the Persian Gulf
Sen. Evan Bayh, D-Ind., one of the 83 senators who voted for the China trade deal in 2000, recently returned from a trip to the Persian Gulf states of Abu Dhabi and Qatar where he discussed their sovereign wealth funds with government officials.

Bayh said, “The Gulf states have been long time investors and have done so in a very responsible way. They have focused on being financial investors, (with) no evidence of any sort of political agenda.”

Other nations’ sovereign wealth funds need to reach a consensus on “behaving in a manner as the Gulf funds have been behaving.”

The International Monetary Fund is writing a code of behavior or “best practices” for these sovereign wealth funds.

“Let’s forge a consensus on best practices and see if the Chinese embrace them,” Bayh said last week. “If they do embrace them, then the issue is, do they then follow through on what they said? There needs to be some oversight process” whether through the IMF or the Treasury.

And the United States does have an executive branch group, the Committee on Foreign Investment in the United States, which screens proposed foreign investments that could jeopardize national defense.

In Bayh's own state of Indiana, one can see the animosity that foreign investments can spark among the electorate.

Two years ago, Indiana Gov. Mitch Daniels, a Republican, carried out the lease of the Indiana turnpike to an Australian-Spanish consortium.

According to observers in Indiana for the 2006 election, the backlash against that lease played a contributing role in the defeat of three Republican congressmen.

Daniels, who himself is up for re-election this fall, does not think the turnpike deal was a factor in their defeat. But he acknowledges that among people in Indiana who were up in arms about the lease, “the X-word (xenophobia) was a factor.”