Monday, 1 September 2014

The Hazards of a Giant Stumbling.

No. This is not about the US.

I am not an expert in China, but I'm trying my best to understand China's growth trajectory, especially since my usual source has dried up.

Here's a quote from an expert, or at least one familiar with the issue:
A study by the Chinese Academy of Social Sciences showed the debt/gross domestic product ratio for China’s non-financial corporations was 113 per cent by the end of 2012. Standard & Poor’s found that, a year later, these firms’ total debt amounted to US$14.2 trillion (S$17.7 trillion), eclipsing the US$13.1 trillion of outstanding debt in America and making China the world’s largest issuer of corporate debt.

He goes on further to add:
...the investment-led growth model that facilitated double-digit growth in the decade after 2001 has exacerbated structural weaknesses, which must now be addressed. Indeed, China must stem the pace of real-estate investment, which accounted for more than 13 per cent of GDP in recent years — a move that will undoubtedly lead to slower economic growth and, in turn, reduce the profitability of China’s non-financial corporates further.

But all is not lost! is too early to bet on a corporate-debt crisis in China. For starters, no one knows at what corporate leverage ratio a crisis will be triggered. In 1996, when Japan’s public debt/GDP ratio reached 80 per cent, many Japanese economists and officials worried about a looming crisis. Almost two decades later, the ratio has surpassed 200 per cent — and still no crisis has erupted.
The rumours of China's (impending) demise, may have been exaggerated. Or misread. Or misunderstood. Or gleefully anticipated by those that want or expect China to fail. Or fall. Or at least stumble.

But do we want that?

A quote from a game I used to play: "When elephants fight, grass gets trampled."

For as long as China's growth is on track, wealth is generated, lives are improved, the Chinese people and society moves forward, enjoying better standard of living, and the Chinese government is invested in the current regime and has no desire to rock the boat.

But if the Giant stumbles, will the Giant take responsibility for not reigning in the shadow banks, the out of control over-emphasis on infrastructure and real estate development/ bubble, or the rising corporate-leverage ratios/huge corporate debt?

Or will the Chinese government blame external forces for tripping up the Chinese Miracle, because of jealousy, to protect the status quo, to keep the Chinese people down, so that China will not rise as it is predestined?

When the economy regime is no longer working for China, she may well abandon it, threatened it, try to change it.

And if the people who are used to galloping growth, increasing standard of living suddenly find that the ride is over and turn on the Chinese government for failing to keep the ride going, what will the Giant do?

A Galtieri.

Falklands war.

Argentina was faced with economic malaise (inflation of 600%, GDP -11.4%, wages -19.2%) and
... the Galtieri government hoped to mobilise the long-standing patriotic feelings of Argentines towards the islands, and thus divert public attention from the country's chronic economic problems and the regime's ongoing human rights violations.
Interestingly, China was one of the UN Security Council members that abstained from voting on the resolution condemning Argentina for invading the Falklands. Perhaps they were far-sighted enough to consider that they might do a Galtieri one day?

When the ride stops, the Chinese government will no longer have any incentive to subscribe to the existing regime.

Stagnation is destabilising. And the people may turn against the government. Or slip into despair.

A war/conflict could whip up patriotic fervour, distract the people from the poor economy, and in any case, what do you expect, we're at war!

And war can boost the economy.

And there are signs of belligerence and aggression. There are signs of China trying to "slice the salami". There are signs that China's influence is breaking up alliances, or at least threatening to.

But is this all anti-China alarmism?

Well, China doesn't want to stumble, and a part of them (I believe) wants to rise peacefully. But things may be out of the Chinese Governent's control.


What are the risks. First, Interest rates.

If corporate debt is indeed the problem, the risk rises if interest rates rises, or rises too fast, or rises too soon. The signs are the US Federal Reserve is likely to keep rates low for the near future. This should help.

However, the "loose cannon" are the Shadow Banks. If they choose for whatever reason to tighten credit, they could trigger a crisis. And they are under no central control.

Second, the real estate bubble in China. This is worrying, because popping a bubble is almost always painful. Especially if it has persisted for too long. It is not impossible to pop the bubble in a controlled manner, but this remains to be seen. And the Chinese Government may not have any options to deal with such a crisis.

The long term solution (and the third "risk" or rather opportunity) is to transform the Chinese economy into a consumer economy - to increase domestic consumption. But this is not easy. There are many steps to take to move towards such an economy. Such as provision of basic welfare to free up discretionary income.

The outlook does not seem optimistic to me.

And some sort of crisis which may be accompanied by some sort of conflict in the region seems highly probable to me.

I could be wrong of course.

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