What the Google Attack Means for China’s Economy

By Josh Lipton  JAN 15, 2010 12:50 PM

Will this be the turning point skeptics are waiting for?


There’s no doubt that a slew of powerful American companies representing a very broad range of industries suffered a potentially damaging cyber attack, which was well executed and surgical in its strike.

The question remains about who carried out the assault.

Today, the New York Times reports that, when Google (GOOG) engineers first started to suspect that Chinese intruders were hacking into private Gmail accounts last month, they initiated a secret counteroffensive.

The engineers, after gaining access to a computer in Taiwan they deduced as the source of the attacks, determined that at least 33 other companies -- including Adobe Systems (ADBE), Northrop Grumman (NOC), and Juniper Networks (JNPR) -- were also victims. Bloomberg reported that Yahoo (YHOO) was similarly targeted.

Working alongside American intelligence and law enforcement officials, the Google team figured out that the masterminds of the attacks were actually on the Chinese mainland.

However, as the New York Times emphasizes, while the sophistication of the attacks suggests the involvement of Chinese government agencies -- or at least, their approval -- Google’s team couldn’t definitely close the case.

According to Ars Technica, researchers at VeriSign (VRSN) released a report that “unambiguously declares that the Chinese government was, in fact, behind the effort.” However, Adobe denies the claims made by the security software firm, so the mystery remains unsolved.

For his perspective on this headline-grabbing cyber attack and its implications, we thought it would be useful to check in with Gordon Chang.

A specialist on China, Chang offers a uniquely contrarian outlook on the country: He’s a member of that small group of dedicated skeptics who believe the miracle of China is a mirage, a view he outlines and defends in his book The Coming Collapse of China.

First, Chang believes there’s no doubt that the Chinese government is responsible for this latest cyber attack. Accountability for the offensive rests squarely in Beijing with the Communist dictators who control that country.

“You cannot maintain this kind of firewall, and have such tight control over the Internet, and simply not know of cyber attacks going out of China,” Chang tells us. “We are talking about large-scale, concerted attacks here.” He adds, “Look around the Chinese society: There really is no organization apart from the Chinese central government, the Communist Party and the Chinese People’s Liberation Army that has the resources to conduct such a campaign. The conclusion is inescapable: This is an operation mounted by China.”

But what does the Chinese government have to fear from a company like Google? What’s the objective, the purpose, of targeting the Internet giant?

The government in China, says Chang, is worried most simply about its citizens communicating freely and openly with each other and the growing unrest in the country. The nation is volatile, he notes, with protests potentially becoming out of hand.

There were more than 127,000 such "mass incidents" last year, he says, a significant increase from the middle of this decade.

If the Chinese economy suffered a setback later this year, Chang says, this social unrest could grow stronger, and ultimately threaten and overwhelm security forces there. The chances of the economy experiencing such a hiccup, as Chang sees it, are real.

“In 2009, the government flooded the economy with $1.1 trillion in stimulus, either directly or through the banks,” Chang says. “This is not sustainable in a $4.6 trillion economy. This will create imbalances and dislocations.”

Most Chinese men and women no longer support the Communist Party, Chang argues. So those ruling the country have that much more to fear from any kind of broad economic weakening.

“People do not buy into the ruling party’s orthodoxy,” he says, “so we see a ruling group that increasingly relies not on what it says, but on economic performance and nationalism.”

Looking ahead, Google’s threat to withdraw from China, says Chang, could have profound ripple effects for other foreign companies working there.

“The truth is, a lot of companies are very upset regarding Chinese predatory behavior,” he notes. “China has been trying to close up its economy by excluding foreigners or at least reduce them to minor positions. So this could be a turning point in terms of foreign business investment in China and participation in the economy.”

As we noted in a previous article, As China’s Economy Grows, So Do the Skeptics, there’s a small but elite group of heavyweight investment strategists and market pros that don’t believe the hype when it comes to China.

The problem, skeptics argue, is that China’s growth isn’t natural or organic but due to easy bank lending and massive government stimulus. Short-seller Jim Chanos, founder of Kynikos Associates, is moving to short China while James Grant, editor of Grant’s Interest Rate Observer, had this to say:

“Early or late, we say, the economy of the People’s Republic will hit something bigger than a speed bump. It will suffer inflation or deflation or a hybrid disorder suitable to an economy that manages to combine the worst features of capitalism and socialism.”

Of course, China still retains its many fans, including Pulitzer Prize winning columnist Thomas Friedman, who told his readers this week that he wouldn’t bet against China.

He pointed out that China’s central bank tightened monetary policy, and he’s comforted, he says, by a political class focused on addressing the country’s real problems as well as a mountain of savings with which to do so.

“Shorting China today?” wrote Friedman. “Well, good luck with that, Mr. Chanos. Let us know how it works out for you.”
No positions in stocks mentioned.

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