Meeting a New Capitalist Power

Striding to the heart of China's fledgling capitalism, President Clinton joined traders at the new Shanghai Stock Exchange yesterday, donning a red trader's jacket and hailing them for their "ingenuity and energy."

From a diplomatic view, the presidential praise and symbolism are examples of perfect "market timing."

China has risen to the main stage of world finance. In the past several months it has leveraged wealth amassed from more than a decade of double-digit, export-led economic growth and begun to eclipse Japan as East Asia's pivotal financial force, say analysts.

"The pendulum of pan-regional leadership has now swung decisively away from Japan and toward China," according to Stephen Roach, chief economist at Morgan Stanley Dean Witter in New York. "China's impact as an international economic power has never been greater," Mr. Roach adds.

Financially troubled East Asia is the biggest winner. In the past several months, Beijing has stood by a pledge to forgo a devaluation of its currency that could spark a flash fire of competitive devaluations across the region. It has won plaudits from Singapore to London.

While Beijing has held the line on its currency, Tokyo has dithered over reviving its huge economy and leading East Asian economies out of a downward spiral.

For a developing country, China's wields unusual heft. It has issued $30 billion in world equity markets, $7.5 billion last year alone, says Nicholas Lardy at the Brookings Institution in Washington. With Hong Kong, China holds $86.2 billion in US Treasuries, reports the Federal Reserve Bank of New York.

In a further sign of China's embrace with capital markets, state and semi-state mainland firms, including some tied to the military, have issued $7 billion worth of bonds denominated in US dollars, says Roger Robinson at the Center for Security Policy in Washington.

Finally, this past year China solidified control over Hong Kong. Because of the slumping economy and banking malaise in Japan, it has become the region's most dynamic financial center.

"These are strategic achievements by China," says Mr. Robinson. "Our capital markets are the big prize for its future 21st-century funding strategy."

The deepening involvement of China in world capital markets bolsters the president's highly controversial policy of "constructive engagement," say analysts.

In world finance, Beijing has apparently recognized that its interests are best served by cooperating according to multilateral norms. On money matters, China is now bound closer to industrialized democracies and to the ways of capitalism. "We might be seeing the emergence of financial deterrence instead of nuclear deterrence," says Jonathan Pollack, a China analyst at the Rand Corp. in Santa Monica, Calif.

But some US lawmakers and analysts believe that by ushering China into capital markets, Washington has handed it a potent weapon for a new kind of cold war - "conflict by capital." Mainland Chinese firms might try to defraud foreign investors. Or a cash-flush country like China could use its might to destabilize foreign markets and economies and wrest a strategic advantage.

"China could literally blackmail us by suddenly selling its holdings in US Treasuries and creating a crash in the [US stock] market," says Rep. Jerry Solomon (R) of New York, a former money manager and sponsor of a bill aimed at shielding US equity markets.

Indeed, the mere hint last July by Prime Minister Ryutaro Hashimoto that Japan could dump its massive holdings of US Treasuries was enough to propel the Dow Jones Industrial Average to its largest point drop since the mega-meltdown in October 1987. (Japan has repeatedly made the threat, directly or obliquely, in private meetings with US officials, an administration official said on condition of anonymity.)

The prospect of conflict by capital carries weight because of the explosion in world currency flows. New technology allows traders to tap a computer key and zip billions of dollars around the world. And dozens of countries this decade have dismantled barriers to capital.

China's new capital market involvement also grabs attention because of concerns US investors are unwitting accomplices to efforts by China to illegally influence US elections.

Wang Jun, director of the China International Trade and Investment Corp., attended a White House coffee for political contributors in 1996 hosted by Clinton. CITIC has issued $800 million worth of bonds in the US. Mr. Wang is also chairman of the Poly Group, a huge arms merchant under the general staff department of China's military.

And Great Wall Industry Corp., a subsidiary of a defense-industry group called China Aerospace Corp., has approached a New York investment bank about making a bond offering in the US, a source said on condition of anonymity. A China Aerospace official and military officer, Liu Chaoying, channeled $300,000 to Democratic fund raiser Johnny Chung, who says he handed over $100,000 of that to the party.

Critics of China and its powerful purse aim to prevent state-owned mainland companies, especially those related to its military and security apparatuses, from tapping US markets.

MOREOVER, some analysts and lawmakers believe the government insufficiently shields US investors from losses in firms that engage in questionable accounting and business practices. Bills in both houses of Congress, entitled the Market Security Act, would require the Securities and Exchange Commission to vet foreign applications to issue equities in US markets. "We need a special watchdog agency specifically committed to making sure no entity can engineer fluctuations that could bring our markets down," says Representative Solomon.

Still, when it comes to financial markets, China appears to be both victim and victimizer. Any country that seeks to manipulate free markets must anticipate high risks and potential losses, say some analysts. They bluntly reject the notion China would use the bond or currency markets to gain a strategic advantage.

"Loony," says a senior administration official who spoke on condition of anonymity.

"Nonsense," says Mr. Lardy. China holds US Treasuries because they offer an incomparably safe way to store wealth. Govern-ments like China alone lack the wherewithal to stage a sustained assault on capital markets. The markets are so big and fickle that protracted efforts at manipulation could backfire. Also, China must know that efforts at jigging markets usually fail, especially those that counter basic economic trends, analysts say.

China has recently learned about market give and take. Its cost of raising foreign capital has shot up as overseas banks and investors recognized the shaky accounting and management of many mainland firms.

So far, China has emerged as a nation entangling its economic interests with industrialized countries, not as a cash-rich rogue. "It's a question of interdependence: We want them [China] to be intertwined," says James Mulvenon, a China military expert at Rand. "That way, they will no longer be a strategic threat."