* Bailout of Suntech one in a series
* Beijing wary of social instability resulting from masslayoffs - economist
* Airlines, shipping industry consolidations showing mixedresults
* Keeping firms in saturated sectors afloat puts broadercompetitiveness at risk
By Pete Sweeney
SHANGHAI, Oct 31 (Reuters) - The looming bailout of SuntechPower may mark a temporary victory for the city of Wuxiin its struggle to keep its champion employer afloat, but ithighlights a singular weakness in China's reform strategy: adeep-rooted political inability to allow inefficient businessesto go bust.
As Chinese leaders prepare to convene for a key economicreform meeting in mid-November at which they will establish thepolicy template for the next 10 years, dealing with widespreadindustrial overcapacity is supposed to be at the forefront.
A plan issued in October by the China's State Council, thecountry's cabinet, said it would block new projects and relymore on market mechanisms to get control of overinvestment inunderutilised sectors.
To do that it must overcome the impulses of localgovernments such was Wuxi's, whose investment arm submitted aletter of intent on Wednesday to invest $150 million in SuntechPower's Chinese subsidiary - which is swamped in some $1.76billion in debt - and restructure the company.
"Although this represents forward progress of a sort, it'snot nearly enough to provide any comfort for long-terminvestors," Morningstar analyst Stephen Simko said in a researchnote. "Suntech remains a toxic name."
The deal will leave foreign investors with slightly morethan the nothing they would have gotten if the firm liquidated,but it will also ensure that Suntech employees will not feel thepain.
This is hardly the first time this has happened - while NewYork-listed Suntech Power defaulted on an overseas bond inMarch, China has never allowed a formal corporate bond defaultat home.
The rescues have not been limited to major listed companiessuch as Suntech and LDK Solar, but have also beenextended to macreconomically insignificant unknowns includingchemical fibre manufacturer Shandong Helon; Chaori Solar EnergyScience and Technology ; and Yichang Three GorgesQuantong Coated and Galvanized Plate.
"There's no political support for dealing withovercapacity," said Zhu Haibin, economist at J.P. Morgan.
This unwillingness has contributed to rising levels ofcorporate debt in China, which Zhu estimated now stands at acomparatively high 125 percent of GDP.
Economists say much of China's overcapacity is not a productof market failure but rather of the overweening ambitions oflocal Chinese politicians.
Most of the affected industries are either directly orindirectly related to sectors Beijing designated as "strategic"in previous economic plans, including clean energy, steel, andshipbuilding.
TOO MUCH MEDDLING
Su Bo, China's vice-minister of industry, told a conferencein September that "administrative interference" in industry wasone of the biggest causes of overcapacity, adding thatpreferential policies in areas such as land allocation haddistorted the market and created unfair competition.
The subsidies and protections Beijing has granted itsstrategic industries have damaged relations with tradingpartners, who routinely accuse Chinese companies of dumpingproducts into foreign markets to suppress competition.
The policy has also engendered destructive price wars athome between different companies selling identical products, allof them insulated from bankruptcy by their local governments.
In the solar sector, for example, local governments quicklyperceived that assembly of solar panels was both low-tech andlabour intensive, making it easy to start up a factory andgenerate local employment.
"Each local government has the ambition to build their ownempire," said Zhang Zhiming, head of China research at HSBC inHong Kong. Zhang has argued that Beijing needs to rein in localgovernment overinvestment, pointing out that steel capacity inChina is now seven times higher than Japan's and more than thenext 10 countries' combined output.
But Beijing has to balance the economic benefit against thepolitical risk massive nationwide lay-offs would entail.
"Given Beijing desires stability, you cannot rein this intoo abruptly," said Zhang. "If you force consolidation, peopleare going to get laid off and the local economy will get hit."
This bodes ill for those who hope the issue will beaddressed quickly.
The Ministry of Industry and Information Technology (MIIT)has already ordered some 19 different sectors to reduceproductive capacity, but it appears the order is paired withguidance that they should do so without laying off any workers.
Chinese airlines, for example, which saw margins destroyedby minor municipal or provincial government players that wereonly able to compete through brutal ticket price wars, have beenordered to consolidate in the name of better service.
But a source at a centrally owned airline said that therestructuring was designed less to improve cost efficienciesthan reduce competition through generous buyouts.
"We were told we had to buy up smaller airlines, but it wason a 'buy one get one free' basis: If we acquired a goodairline, we had to buy a bad one as well," she said.
The source said that the acquiring airlines had been orderedto import the entire staff of the target airline and maintaintheir salary levels untouched. If the incoming manager was paidmore than an internal manager of the same level, the sourcesaid, the internal manager would be given a raise to catch up.
Shipbuilding is another industry that continues to sufferfrom a capacity glut in the face of weak global demand. But heretoo it seems that there is strong resistance to demands thatlocal governments close idle shipyards.
In August, Beijing moved to raise lending standards forshipbuilders in an attempt to starve the weaklings out, and domestic media have reported that a swathe of small shipyardshave gone bust.
But the crackdown did not last long, and now Beijing hasannounced plans to subsidise "green shipbuilding", which someindustry observers have interpreted as code for anothersurreptitious bailout that will allow weak shipyards to rebrandthemselves as "green" in order to continue to receive governmentsupport.
- Budget, Tax & Economy