Cablegate: China Investment Corporation Meeting With

DE RUEHBJ #1308/01 0990650
O 080650Z APR 08





E.O. 12958: N/A

SUBJECT: China Investment Corporation Meeting with
U.S.-China Economic and Security Review Commission


1. (SBU) Summary: China Investment Corporation
General Manager Gao Xiqing met with Commissioners
of the U.S.-China Economic and Security Review
Commission on March 31, 2008. Gao suggested that
U.S. officials be patient with CIC as it evolves
relative to sovereign wealth fund (SWF) best
practices. Other SWFs have had many years to
improve their operations. Criticizing CIC
management, who are all proponents of reform, too
soon and too hard would be counterproductive.
Gao sees no problem if SWFs, including CIC, are
treated like other large institutional investors.
However, CIC would be concerned if it believed it
was being held to a separate standard. If the
U.S. wants to engage economically with a large
transition economy like China which supports
market reform, it will need to accept engagement
with large state-owned enterprises. CIC is
seeking passive investments and is subject to
less government direction than western countries
assume. Gao perceives a shifting sentiment in the
U.S. regarding the CIC that is distinctly anti-
China; by comparison, the British have been the
most positive and practical, the French most
negative, and the Germans the most indecisive.
End Summary.

CIC Seeks Passive Investment, Not Control

2. (SBU) In response to delegation concerns about
CIC taking controlling stakes in its investments,
Gao stated CIC does not want board seats and has
instructions to take passive roles in its
investments. The Blackstone and Morgan Stanley
deals are representative of the types of
investment terms in which CIC is interested.

Much Less Government Control Than the West Thinks
--------------------------------------------- ----

3. (SBU) When the State Council created the CIC,
it did not want to get involved in specific deals,
according to Gao. Reporters had it wrong when
they said the Chinese Government was directly
involved in CIC's investment in Morgan Stanley.
The CIC did not even tell the State Council about
the deal until hours before it was announced.
However, the CIC has to work within the Chinese
Government system while at the same time using
market principles. The CIC is operating on a
commercial basis and has to take responsibility
for its decisions. Gao did acknowledge that
long-term financial interests sometimes have a
political component but this is no different than
the blurred line that exists between the U.S.
Government and U.S. business, he added.

4. (SBU) Gao's interaction with government
officials is mainly through informal channels.
There is no regular contact regarding investment
decisions, he stated. Board members that
previously worked for ministries, however, do
report back to their old offices. Former MOF
officials rejected the first compensation package
because pay was not tied enough to performance.
They knew that the package would ultimately pass
but they "had their own bosses to answer to,"
according to Gao.

Future of CIC Depends on Performance and Profile
--------------------------------------------- ---

5. (SBU) CIC is an experiment; if it is deemed a
success (including not attracting too much
political controversy) it will get more funds to
manage, explained Gao. The financial return
target is several percentage points above the
rate of inflation. Officials from Norway's SWF
told CIC not to be too transparent on its asset
allocation because markets will figure out the

BEIJING 00001308 002 OF 004

strategy. CIC has instituted international
benchmarks for all major asset classes similar to
U.S. pension funds.

If You Don't Want to Deal with SOE's, Walk Away
--------------------------------------------- --

6. (SBU) In reply to delegation comments that the
U.S. is concerned about transparency because
government ownership can be an instrument of
foreign policy, Gao commented that that the U.S.
ultimately needs to decide whether it wants to
engage economically with a large transition
economy. China is moving towards a free market,
but in the interim, state enterprises will still
play a role in foreign trade and investment. CIC
has sent letters to the SEC and other securities
regulators saying it has no intent to control
major businesses and is always open to uestions
in response to market rumors about its activities.
Some delegation members commented that the U.S.
is going through a period of angst and stressed
that U.S. policy on FDI has been much more stable
than rhetoric. Gao noted a similar situation in

China's Perception of Unfair U.S. Treatment

7. (SBU) In a uniquely Confucian interpretation
Gao commented that the U.S., like a big brother,
should be more helpful to China rather than
saying China has to act in a certain way. He has
been working with the U.S. for a long time and
feels there is a recent shift in sentiment, with
the U.S. now less welcoming to foreign direct
investment and foreigners. One delegation member
responded that this is because Americans do not
see the bilateral economic relationship as

8. (SBU) On the need for greater transparency for
SWFs, Gao described U.S. corporate disclosure
rules as draconian and questioned why specific
classes of investors are being singled out.
Commission members stressed that concerns about
SWFs are not just about China, and all large
money managers are required to disclose their
holdings. Gao replied that U.S. disclosure rules
are understandable when institutional investors
are investing on behalf of small investors, but
less necessary when investors (like CIC) are
investing their "own funds." While Gao
understands recipient countries' concerns about
investments by government entities, if SWFs were
treated differently than other large investors
(hedge funds for example), or CIC is treated
differently than some other SWFs (including the
Alaska Fund), China would have concerns.

9. (SBU) Delegation members noted that, in
considering SWF policy, Congress will take into
account the source of SWFs' assets, which is an
important criterion. Norway's resources are from
non-renewable natural resources, while China's is
from large balance of payments surpluses due in
part to an undervalued exchange rate. The U.S.
also has unique concerns about national security
in relation to China that differ from Norway.
One delegation member noted that China will be
treated differently in this regard. Gao
emphasized that the U.S. and China are too big to
cut off trade and investment and the more the U.S.
engages with China the more it promotes reform.
CIC officials are the ones promoting reform in
China. Give us time, he emphasized. Zhao
Haiying, Chief of Strategic Asset Allocation and
Research noted that "it takes two hands to clap"
and that if the United States did not have a
large current account deficit China could not
have a large current account surplus. She
stressed that both sides need to work together to
reduce imbalances between savings and investment,

BEIJING 00001308 003 OF 004

though the needed structural policies would take

10. (SBU) One commission member said that China
was violating its IMF obligations by manipulating
its currency. Zhao responded that many countries
have rigid exchange rate regimes, there was only
a consensus in the last few years that the RMB
was misaligned, and that the rate of appreciation
had picked up.

IMF Unfair Regarding Best Practices, Transparency
--------------------------------------------- ----

11. (SBU) When the CIC was founded Premier Wen
established 3 principles for the organization: be
transparent and responsible for shareholders, be
responsible to markets, and obey laws of
recipient countries. This, Gao stated, is
consistent with draft IMF principles on SWFs.
The IMF, however, needs to be careful not to push
too aggressively. The Chinese public see the IMF
suspiciously - a "tool of U.S. imperialism." Its
policies are directed at singling out specific
countries. If the codes of conduct are going to
be voluntary, the IMF should support quietly an
SWF-led process, and not take a leading role.
More broadly, Western countries should give CIC
time. The CIC, he emphasized, is only six months
old, and it took Singapore and other SWFs twenty
years until they achieved transparency. "If you
push too hard it will backfire", he added.

Mixed International Reaction to CIC

12. (SBU) The British are dealing with the CIC
better than the United States, according to Gao,
focusing more on quietly addressing practical
concerns and less on high-level political debates.
This is more productive than talking at the
Ministerial level and the "see a yellow face and
get them out" attitude Gao sees in dealing with
the U.S. The French have been "hostile" and
wanted CIC to agree to organizational changes in
their bilateral communiqu during Sarkozy's visit,
which CIC refused. Sarkozy is going back forth
on the issue of CIC's investment in France, he
added. Germany's Merkel appears to be changing
her mind in response to German businesses' desire
to do large deals.

13. (SBU) CIC frequently consults with Norway's
sovereign wealth fund. Relaying their experience,
Norwegian representatives noted that CIC is on
the right path and that criticism will wane once
other countries are more familiar with CIC's
leadership and operations. Gao repeatedly
questioned why the United States is focusing on
unrealized fears. There is a natural tendency
for SWFs to go to more welcoming countries, he

Corporate Structure, Governance, and Remuneration
--------------------------------------------- ----

14. (SBU) An eleven member board oversees the CIC
which includes: five current government officials
(Two Deputy Governors of the PBOC (including the
Chair of SAFE), and Vice Ministers from the NDRC,
Ministry of Commerce and Finance); three
Executive Directors (the Chairman, General
Manager and a Senior Vice President); two
Independent Directors (retired Minister of
Finance Xiang formerly Chair of the National
Social Security Fund and Wang Xincheng, former
Vice Chairman of the NDRC); and one
representative of the working staff - a mid-level
manager. They meet a mandatory minimum of once
per year but convene "from time to time".

15. (SBU) Major policy decisions are made by the
seven member Executive Committee which is

BEIJING 00001308 004 OF 004

comprised of the Chairman, General Manager,
Senior Vice President, Chairman of the
Supervisory Board, CIO, Deputy CIO, and Chief
Risk and Finance Officer. Other organizational
structures include an International Advisory
Board whose membership has still not be finalized
and an Investment Committee which includes the
Chairman, General Manager, Chair of the Committee
and mid/front-line managers making specific
investment decisions.

16. (SBU) Salaries are based on the performance
of the fund, however, general policy documents
issued by the State Council limit compensation,
which has been a major impediment to attracting
investment professionals. The salaries of the
top seven executives are determined by the State
Council and are not related to the public sector
pay scale. However, senior compensation is
limited due to Premier Wen's concerns about
public criticism of excessive salaries before CIC
had established a successful track record. While
salaries should be generally market-based, they
should "not be a major contributing factor
between rich and poor." Salary increases should
be a little less than the fund's profit margin
and executive pay raises should not increase by a
much higher rate than the general worker's salary
increase. Gao noted that Singapore's SWF
executives had very low salaries for the first 8-
10 years.

17. (U) The delegation has reviewed and cleared
this cable.

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