Questions Arise About Beijing’s Support for Free-Trade Zone; Premier Li Keqiang Doesn’t Attend Launch of Shanghai Free-Trade Zone

October 7, 2013, 11:39 a.m. ET

Questions Arise About Beijing’s Support for Free-Trade Zone

Premier Li Keqiang Doesn’t Attend Launch of Shanghai Free-Trade Zone

ANDREW BROWNE

Two decades ago, when Deng Xiaoping wanted to send a message to the world that China was still open for business, he dropped by Shanghai as part of his barnstorming “Southern Tour.” That trip has gone down in Communist Party history as a turning point in China’s modern economic fortunes. It was part of Mr. Deng’s strategy to outflank his conservative rivals in Beijing, who had seized control after the military onslaught against the Tiananmen Square protests in 1989. And it offered high-level endorsement of Shanghai’s cherished goal to restore its lost glory as the financial capital of East Asia. “It will take many years, but we should act now,” Mr. Deng was quoted as saying.By showing up in Shanghai, Mr. Deng sent an unambiguous—and very personal—message that economic change was back on the agenda.

The historical parallels were clear to everybody at last month’s ceremony to launch a much-touted Shanghai free-trade zone. Liberal overhauls in China have been on hold for a decade, stymied by vested interests in the central bureaucracy, local governments and state monopolies. And so the zone has stirred hopes that the new leadership intends to complete Mr. Deng’s unfinished reform agenda from the 1990s.

Yet one VIP was missing at the launch party: the main sponsor of the zone itself, Premier Li Keqiang.

Mr. Li’s no-show has raised questions about whether economic reformers in China really are back in charge again.

Instead of flying down himself, Mr. Li sent his commerce minister—one of the least powerful members of his cabinet—a move that suggested to some that the zone had been effectively demoted or that it was a focus of top-level disagreement.

The symbolism matters a great deal because the outlook for the world’s second-largest economy hangs partly on the free-trade zone’s success. And its opening comes just before a key Communist Party meeting in November that will set out the government’s economic agenda for the next 10 years.

The zone covers just 11 square miles, but it’s been heavily advertised as an incubator for financial innovations that will eventually spill over to the entire country. Among the most important are interest rate liberalization and easier cross-border capital flows. Those overhauls, in turn, are meant to engender broader changes to get credit flowing to where it’s most needed—small and medium-size enterprises that drive the consumer economy in industries from logistics to health care. That’s a crucial part of an overhaul aimed at rebalancing lopsided growth fueled by investments and exports.

There have been other troubling signals, too. Officials have so far failed to publish detailed guidelines on the zone’s operations.

That’s made it hard for investors to figure out whether it’s the game-changer they’d been led to expect, or represents more modest change—or nothing at all.

Much was made of the idea that the zone would flip on its head the traditional Chinese approach to foreign investment, in which every area of business activity is prohibited unless it is explicitly allowed. Within the zone, everything is permitted unless it is explicitly forbidden—a so-called negative list approach. Yet that list includes hundreds of no-go areas, though it may be revised next year.

“A lot of people are scratching their heads and saying: ‘What does all this mean?'” says Frederic Cho, special adviser for Asia corporate finance at Sweden’s Handelsbanken Capital Markets, who worked in Shanghai in the 1990s.

The zone certainly has prominent boosters. Hu Shuli, the editor in chief of Caixin Media, one of China’s most respected independent media groups, wrote that the zone “very probably” marks the third wave of reform after the creation of Special Economic Zones for foreign investment in the 1980s, and China’s entry to the World Trade Organization at the turn of this century.

Former U.S. Treasury Secretary Hank Paulson, writing in the New York Times, cited the zone as evidence that prospects for reform in China “are better than at any point since the 1990s.”

Yet there’s an odd dissonance between all the talk about the zone, and the absence of movement on the ground. Just about the only excitement generated so far has been in Hong Kong-listed companies that include the word “Shanghai” in their names. The stock prices of several have soared on vague expectations that the zone will bring in business.

Mr. Deng’s visit to Shanghai, by contrast, triggered an instant stampede of businesses to the city. In the absence of office space, multinational corporations squeezed into hotel suites. Morgan Stanley found a home in the Shanghai Center—one of the few modern office blocks in town—only by building an extension that obliterated the tennis courts.

The city embarked on a manic makeover. At one point, as many as one in five construction cranes in the world were operating in Shanghai.

This time around, American businesses seem largely unimpressed: so far, Citigroup Inc. is the only American bank to sign-up for a presence in the zone.

“Operating specifics remain scarce,” the U.S.-China Business Council, a voice for many of America’s largest companies, said in a recent letter to its members. The zone’s attractiveness “remains subject to additional policy decisions yet to be finalized,” it added.

Mr. Deng was a master political tactician and used those skills to outfox conservatives opposed to change. He took a famously cautious step-by-step approach to economic change—”crossing the river by feeling the stones”—but wasn’t afraid to be decisive when it mattered. And he excelled at selling his vision to his own people and the world.

On all those counts, it’s too early to say whether China’s new leaders have Mr. Deng’s political acumen, and whether they can pull off far-reaching change.

“I’m totally convinced that Li Keqiang is eager to get things going,” says Mr. Cho. “But there’s a lot of resistance.”