China, Cognac, Hollande, Politics and Bubbles

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Sweet Dreams are Made of This.


Dreams are fashionable these days, not the  least in and about China. Take for instance the new Chinese leadership under Xi Jinping and their new propaganda leitmotiv, The Chinese Dream, quite obviously chosen to compete with the arch-typical American Dream. There are other Chinese dreams beyond the one Mr. Xi Jinping wants his fellow citizens to cherish: some front line actors of the French Luxury industry, including a few from Cognac, seem to have a proclivity for daydreaming about China The Eternal Shangri-La Market. 

Jean-Marie Laborde, chief executive of the Rémy Cointreau  group, went on the record this week with a glorious blend of sober business assessment and 24-karat reverie plus wishful thinking. First the business graveness: “I can confirm that the start of the year is soft (for our company) in China . . . We expect a lackluster first half in China and its impact will be felt by the company.” (as per The Financial Times) and then a shot of sweet dreams: Flat Cognac sales in the first half of this year in China are to be followed by a “significant improvement” in the second half, according to Mr. Laborde. I think he’s wrong even if, believe me, I wish I were wrong…

Mr Laborde is, almost certainly, well aware of the real causes of the sharp slowdown in Chinese demand over the past six months for Rémy’s most exclusive cognacs. One can excuse him for being less than candid on the matter.

Why this sudden shyness of high-end consumers to give away, say Louis XIII, which fetches about $2,500 a bottle, to corporate friends or Louis Vuitton’s bags for their loved ones? It is a direct consequence of the urgency among high-ranking Chinese officials or, to be more precise, about everybody who is somebody in China, of putting  on an austere (and thrifty) face. State officials are shying from lavish expending on perishable goods. Perhaps hyper-expensive watches may fare better; in times of uncertainty people go for durable investments.

It had been many years, perhaps four decades, since a quake of this intensity had shaken China’s elite. The austerity campaign may be just the beginning of a political and social upheaval that could take a few years to complete its course.

Terrible news for the Big Cognac Houses which have made enormous investments emboldened by their faith in the Chinese market. According to Financial Times, Rémy makes 40% of its operating profits from cognac sales in China… Mr. Laborde and his pairs have thus many million reasons to wish that the slowdown turned out to be, as he pointedly said, “cyclical, not structural.” Sweet dreams are made of this.

The Bursting of a Bubble

Luxury goods companies would certainly like to believe that the impact of the Chinese Gov’s campaign will eventually fade away. Are the profitable business as usual days to return? Perhaps once the new administration feels solidly established in power? As of today, it doesn’t look plausible. The opposite, that a New Normal is here to stay (gee, thanks Mauldin) may be just too awful for them to accept, so it’s understandable the recourse to wishful thinking. It’s more palatable , like Mr. Laborde does, to indulge in some denial  and, at least in public, put up a brave face and have a go at daydreaming that everything will be all right again.

We now know that nearly all premium spirits and luxury goods companies have been hit by the Chinese government’s austerity campaign.  The days when consumption of XO Cognac in China grew at 15% YOY are very probably gone.

Cognac prices, a bubble about to burst

History tells us that bubbles always burst and if China’s demand drops for a period of say two years the Cognac price bubble will fatally burst. The Big Cognac Brands have invested heavily and hoarded enormous stocks of Cognac, bought land and pushed raw eau-de-vie prices just too high to be healthy; they have somehow bet their destiny on a sustained Chinese demand. It now looks like a lousy bet, I’m afraid.

If politics in China don’t have a drastic turnabout, we can already assume that XO prices are bound to go down significantly in the coming months. It is more difficult to predict what will happen to the more affordable VS and VSOP in China; after all, the Chinese government’s rhetoric turns around eradicating corruption and extravagant luxury, so perhaps the more modest qualities can withstand the tsunami. Perhaps, but in any event this will depend on politics, even more than in the case of XO and super-premium Cognacs, which are fatally going to be singled out as symbols of “extravagant luxury.” 

First of all we have to consider that the price of an average Big House VSOP in China –say around 50 USD- may not seem a luxury in Europe or the USA, but in China, at least in most parts of the country, that’s still a lot of money. The new authorities in Beijing have made a priority of defusing social unrest and one of the easiest and more at hand actions is to get social inequality less blatant; that means in fact to correct the most barefaced inequality, which isn’t between the very rich and the rest of the population, but rather between the new middle classes and the rest, particularly the nascent class of urban poor, recent immigrants from the country side who often have to endure appalling living conditions . Part of the ongoing rhetoric of the Chinese government is modulated to deal with this problem and in that context, VS and VSOP are to be considered luxury products; indeed, the same applies to French wine, French perfume, French apparel…

At the end of the day, the problem for imported high-end consumer goods in China has to do with politics and symbolism. In the context of the bursting of the price bubble, producers in Cognac have all the interest to keep tabs on what is happening in China’s political scene.

Know thy customer or else…(A primer to the coming Chinese politics)


Luxury goods exporters to China have misapplied the First Commandment  of Commerce, “Know thy customer.” They went about their marketing in the crassest humdrum way, just trying to boost their customers' craving for luxury goods and profligate living. Most of the people in charge of commercial strategies in China didn’t even know or plainly didn’t care about one crucially important item that all their customers had in their wallets: their Communist Party membership card.

The Chinese Communist Party is the world's largest political organization, boasting more than 80 million members (Ok friends, that equals the population of Germany and is about 123% of France’s). Every powerful and wealthy Chinese is a member of the Party. The overwhelming majority of the customers of the French luxury industry in China are members of the Party. For the time being at least.
The new leadership, elected at the 18th CCP’s congress last November, is going to proceed to a mammoth purge in the coming months and, from their point of view, they have many sensible reasons to do so. 

The Purge to Come

The executives of the luxury goods companies would have been wise to read carefully the outgoing leader,  Hu Jintao's report at 18th Party Congress (find it here) . Mr Hu Jintao's report included  many ill-omened references to corruption within the party. He also made quite explicit references to the empowering of the third generation of Party leaders and a barely disguised inference that the new leaders needed to start with a clean slate. For all practical purposes, all that means a sweeping purge among the older and often not too honest party cadres, who happen to be a significant part of the most conspicuous consumer of imported luxury products.

Each and all of the 80 million party members know all too well what a purge can mean in China. A general urge to be low profile has seized all levels of Chinese officialdom. Understandably, the sales of XO cognac have plummeted and Louis Vuitton has had to rush to unwind its plans to open a dozen of outlets in the Mainland. British distributor Diageo (Johnny Walker) appears stunned after seeing its premium Chinese spirits’ sales nose-dive by 41% in three months or so.

Signs of the gigantic scale of the change that could be just about to happen in China have become increasingly frequent in the last few weeks. The very official theoretical review of the CCP has moved forward to put a figure to the purge: 30 million party members should be expelled, more than one third of the membership (37.5% to be precise). It is not an official figure, and chances are that the leadership has let the figure be public to inject a high dose of healthy alarm and a general not-me-please attitude in all the 80 million members. 

And then, of course, the cause for the cleansing, as formulated in the Party documents, is fighting corruption to restore the implicit contract between the Party and the Chinese people or, as Mao would have said, the masses.

The Primacy of Politics

The opening of China to a free market economy hasn’t had its political equivalence. The 1.3 billion Chinese are still far away from a Western style parliamentary democracy and the Xi Jinping  leadership, as of now at least, doesn’t show any leaning in changing that, rather the opposite. The state-controlled press seems bent on a narrative based on dialectics: after thirty years in which the economic transformation of the country has been given top priority, there must be a correction on the political front. Mr. Xi’s rhetoric and the unprecedented attention given by him to internal balance of forces within the Communist Party suggest that he favors a line of tightening his control on China’s ideological debate.  Now that the gigantic transformation of the economy is achieved, he seems convinced that the hour has come for the primacy of politics.

In fact, he represents the third generation of party leaders since 1949, when the CCP seized power after a grisly civil war. The second generation were the post-Cultural revolution group and the third, epitomized by Mr. Xi, are the ones who have become adults during the last 30 years, after the CCP, without ever saying it black on white, gave up the centralized state-run socialist economics. The second generation of leaders are now entrenched in power, both in the economy and somewhat less in the Party; it is more than likely that many of them will be targeted in the coming purge, which won’t be anywhere as gruesome as the one Mao launched in 1952, when in the first two months, only in Beijing, 150,000 cases of corruption were uncovered by "self confessions" and "denunciations." The collective memory of the terrible repression that followed is very present in today’s China.

Badly timed Hollande

It doesn’t take a fine analyst to sense the relative abundance of nationalistic rhetoric in the most recent CCP documents. Every detail in the new leadership’s public communication speaks of a steadfast determination to build up a credible superpower demeanor, call it the Big Comeback of China to the forefront of the world scene. Part of that superpower gestalt is to be communicated through the narratives used to deal with contradictions on the international arena, be it a few forgotten islands in the Pacific or the quarrel with the Europeans about subsidized solar panels.

Many officials in the EU are weary of the relations with Beijing. The frustrating never-ending trade deficit and a growing irritation about Chinese assertiveness are behind many foolish attitudes. That is particularly visible in the current socialist administration in France. Too bad.

Besieged by a perfect storm resultant of an ugly fiscal crisis, the lose of manufacturing jobs to globalization and his spectacular unpopularity, President François Hollande ill-advisedly decided to have a go at playing the China bashing card on the solar panels issue.

Accusing China of dumping and cloak-subsidizing its solar panels for export may be media-friendly. Could it allow Mr. Hollande to score some badly needed points as a defender of French jobs? Maybe, It all would boil down to him trying to convince the EU to impose punitive tariffs (47.6 %) on Chinese solar panels in August, after succeeding in getting Italy, Portugal and Lithuania to go along in a first tariff of 11%.

Now, the Chinese have come back with a barely disguised threat of retaliating against French wine (they are “to investigate” wine imports from the EU, they say). China accounts for nearly 30% of Bordeaux's wine exports and is the third-largest market for French wines. If the Chinese finally decide to go on the offensive against French wine, alas, Cognac can hardly escape unscathed.  

Mr. Hollande hasn’t shown an extraordinary statesmanship on the international stage until now. His hand in a commercial wrangle with Beijing doesn’t look enviable either. 

Would the Chinese government be unhappy to see wines from Australia and South America replacing the French? They have indeed a powerful geopolitical incentive to court the Australians and the commodity rich Latin Americans.

Meanwhile, the capability of Paris to sustain a commercial brawl with Beijing seems uncertain in these days of French recession and fiscal conundrum. 

I think that the whole French luxury industry, and particularly Cognac, has to watch the Chinese situation carefully so as to always know what is happening there and avoiding being stunned by the colossal dimension of even minor changes in the Chinese society, let alone the ongoing political process.

Historic Memory

From The Sydney Morning Herald – Wednesday 27 February 1952


HONG KONG, February 26 (A.A.P.Reuter).-  One of the most relentless purges in China's history is now under way. Its declared aim is to stamp out growing corruption, waste and bureaucracy among Communist Party officials and business circles.

 Mainland Press reports reaching Hong Kong say that in the Red capital, Peking, where the purge started, 150,000 cases of corruption were uncovered by "self confessions" and "denunciations."
 Executions, mass arrests, mob trials and "self confession" rallies have been increasing daily over the last two months.
The Communist leader. General Mao Tse-tung, signalled the purge late last year with a call for a nation-wide drive to wipe out "the bourgeois evils" of corruption and extravagance.
 The official Communist Press and Radio took up the cry with a blast of propaganda. This admitted that corruption had soared to an alarming extent since the "liberation" of the mainland.


 High Communist officials have toppled from grace and an unknown number has been executed.
 Many more are in gaols.
In some cases women publicly announced that they would divorce their "criminal" husbands and teach their children to hate their fathers.
 Reports of cases of embezzlement, bribery, and waste of public funds by officials and merchants have outweighed everything else in the Mainland Press, including the normal daily attacks against "American aggression" in Korea.
 A Peking official Press report which reached Hong Kong yesterday, said an 'austerity check up committee ' of the People s Government, on General Mao's instructions, had decided the purge would not end until all corruption was exterminated. It would be carried on another month, and would be prolonged if the aim was not achieved.