What was the most important event to precede the 2008 financial crisis? Was it BNP closing its money market funds or the oil price exceeding the $100 mark? No, it was the introduction of the iPhone in 2007. And what’s the event of 2020? Surely it is Covid-19, right? No, says GaveKal’s Louis Gave, it’s the renminbi. ‘The renminbi is for the dollar what the iPhone was for Microsoft: the introduction of a parallel operating system.’
With the benefit of hindsight, the events that triggered the financial crisis back in 2008 pale into insignificance compared with a far more important event that had nothing to do with the financial crisis at all, Gave says in what’s the first of GaveKal’s opinion articles that will be regularly published by Investment Officer as from today.
To understand why, it’s important to realise the similarities between computer operating systems and reserve currencies. At Gavekal, we use Microsoft for two main reasons. First, almost all our clients use Microsoft—and naturally we want to be able to swap files with them seamlessly. Second, almost everyone else in our field uses Microsoft, which means any new team-member we hire will already be proficient in Word, Excel, PowerPoint and all the other products in the Microsoft suite.’
So for it to make sense to switch to another operating system, it would have to be much more than just marginally better. The parallels with the US dollar are obvious. The US dollar is the Microsoft of the trading and reserve currency world. Everyone uses the US dollar because everyone else uses the US dollar. For any currency to replace the US dollar, the new currency would need to be not just marginally better, but many miles better. Today, nothing comes close. Consequently, the US dollar remains the cornerstone on which the global financial architecture is built.
So just as Apple has concentrated on capturing certain niches such as design and the high-end Western consumer market, while pretty much abandoning the big corporate IT system spend to Microsoft, the renminbi can find its own niches. In the process it created a new, parallel operating system— creating a new consumer market that turned out to be at least as big, if not bigger.
Why revisit this well-trodden territory? Because if the US dollar is the Microsoft of the global currency system, there is little doubt that in recent years China has tried to position the renminbi as its Apple. First, China tried to capture “niche” markets that were at best peripheral to the incumbent currency behemoth: financing intra-Asian trade, funding commodity imports into China, and financing infrastructure projects in places such as Myanmar, Sri Lanka and Pakistan where, historically, infrastructure projects have struggled to attract funding. But owning niche markets only gets you so far. If they are all you own, at best you will end up stuck somewhere between an “also ran” and a “never was.”
Now, let’s accept that the US dollar has too many embedded advantages (not least, dominance of the SWIFT system) for the renminbi ever to be able to challenge the US currency at its own game. And let’s also assume that Xi Jinping is serious about establishing the renminbi as Asia’s principal trade and reserve currency (and given the threats coming out of Washington that the US could cut China off from the US dollar financial system, Xi should be serious). Then China really doesn’t have much of a choice: it must follow Apple’s example and build a parallel operating system that doesn’t try to compete with the US dollar on its own turf.
This brings me back to the most important event of 2020. If, in retrospect, the launch of the iPhone was the most important event of 2007, then what will go down in investment history as the most important event of 2020? Today, the answer appears obvious: the Covid-19 pandemic. But then, at the time, the start of the subprime bust clearly appeared to be the most important event of 2007. Now we can say it was the iPhone launch. So, in 13 years time, will we look back at Covid as the major driver of structural change that emerged in 2020? Or will we look back at something completely different?
Could it be that we find ourselves looking back at this year’s IPO for China’s Ant Technology Group, together with the drive by the People’s Bank of China to launch a digital renminbi (see Questions On The Digital Renminbi), as the start of a new era? An era when, all of a sudden, consumers and companies across the emerging markets no longer needed to use the US dollar, nor even the SWIFT system, to trade with each other? Just as Apple did not try to compete with Microsoft for what was seen then as the core tech market—the large corporate IT budget—but instead focused on the high-end consumer, today’s Chinese fintech companies have little interest in grabbing a share of large corporate transfers and becoming big players in the US-dominated SWIFT system. Instead, like Apple, the two Chinese fintech giants Alipay and WeChat Pay are focusing on going directly to the consumer (see the great research on China fintech from our colleagues at Gavekal Fathom China).
And like Apple, they are attempting to establish a new, parallel operating system, by helping Chinese consumers (and increasingly consumers in other emerging markets) with payments and cash transfers (bypassing SWIFT and US control), by providing micro-loans (that are growing like weeds, bypassing the traditional banking system), and by offering savings products (mostly money market funds) and insurance policies (that again completely bypass traditional methods of delivery).
The irony of all this is that if Ant Group and WeChat-owner Tencent are successful in their endeavors, then we will end up in a situation where, while the democratic and federal United States controls the highly-centralized part of the global payments system that focuses on big transfers for large corporates, the deeply authoritarian and centralized China will control a much more diffuse and decentralized part of the global payment system focusing on small payments and consumer needs. It’s like Apple versus Microsoft all over again—with the opportunity to buy Apple at 2007 prices.