Best of the Week
Most Popular
1. US Housing Market Real Estate Crash The Next Shoe To Drop – Part II - Chris_Vermeulen
2.The Coronavirus Greatest Economic Depression in History? - Nadeem_Walayat
3.US Real Estate Housing Market Crash Is The Next Shoe To Drop - Chris_Vermeulen
4.Coronavirus Stock Market Trend Implications and AI Mega-trend Stocks Buying Levels - Nadeem_Walayat
5. Are Coronavirus Death Statistics Exaggerated? Worse than Seasonal Flu or Not?- Nadeem_Walayat
6.Coronavirus Stock Market Trend Implications, Global Recession and AI Stocks Buying Levels - Nadeem_Walayat
7.US Fourth Turning Accelerating Towards Debt Climax - James_Quinn
8.Dow Stock Market Trend Analysis and Forecast - Nadeem_Walayat
9.Britain's FAKE Coronavirus Death Statistics Exposed - Nadeem_Walayat
10.Commodity Markets Crash Catastrophe Charts - Rambus_Chartology
Last 7 days
Has the Fed Let the Inflation Genie Out of the Bottle? - 10th Aug 20
The Strange Food Trend That’s Making Investors Rich - 10th Aug 20
Supply & Demand For Money – The End of Inflation? - 10th Aug 20
Revisiting Our Silver and Gold Predictions – Get Ready For Higher Prices - 10th Aug 20
Storm Clouds Are Gathering for a Major Stock and Commodity Markets Downturn - 10th Aug 20
A 90-Year-Old Stock Market Investment Insight That's Relevant in 2020 - 10th Aug 20
Debt and Dollar Collapse Leading to Potential Stock Market Melt-Up, - 10th Aug 20
Coronavirus: UK Parents Demand ALL Schools OPEN September, 7 Million Children Abandoned by Teachers - 9th Aug 20
Computer GPU Fans Not Spinning Quick FIX - Sticky Fans Solution - 9th Aug 20
Find the Best Speech Converter for You - 9th Aug 20
Silver Bull Market Update - 7th Aug 20
This Inflation-Adjusted Silver Chart Tells An Interesting Story - 7th Aug 20
The Great American Housing Boom Has Begun - 7th Aug 20
NATURAL GAS BEGINS UPSIDE BREAKOUT MOVE - 7th Aug 20
Know About Lotteries With The Best Odds Of Winning - 7th Aug 20
Could Gold Price Reach $7,000 by 2030? - 6th Aug 20
Bananas for All! Keep Dancing… FOMC - 6th Aug 20
How to Do Bets During This Time - 6th Aug 20
How to develop your stock trading strategy - 6th Aug 20
Stock Investors What to do if Trump Bans TikTok - 5th Aug 20
Gold Trifecta of Key Signals for Gold Mining Stocks - 5th Aug 20
ARE YOU LOVING YOUR SERVITUDE? - 5th Aug 20
Stock Market Uptrend Continues? - 4th Aug 20
The Dimensions of Covid-19: The Hong Kong Flu Redux - 4th Aug 20
High Yield Junk Bonds Are Hot Again -- Despite Warning Signs - 4th Aug 20
Gold Stocks Autumn Rally - 4th Aug 20
“Government Sachs” Is Worried About the Federal Reserve Note - 4th Aug 20
Gold Miners Still Pushing That Cart of Rocks Up Hill - 4th Aug 20
UK Government to Cancel Christmas - Crazy Covid Eid 2020! - 4th Aug 20
Covid-19 Exposes NHS Institutional Racism Against Black and Asian Staff and Patients - 4th Aug 20
How Sony Is Fueling the Computer Vision Boom - 3rd Aug 20
Computer Gaming System Rig Top Tips For 6 Years Future Proofing Build Spec - 3rd Aug 20
Cornwwall Bude Caravan Park Holidays 2020 - Look Inside Holiday Resort Caravan - 3rd Aug 20
UK Caravan Park Holidays 2020 Review - Hoseasons Cayton Bay North East England - 3rd Aug 20
Best Travel Bags for 2020 Summer Holidays , Back Sling packs, water proof, money belt and tactical - 3rd Aug 20
Precious Metals Warn Of Increased Volatility Ahead - 2nd Aug 20
The Key USDX Sign for Gold and Silver - 2nd Aug 20
Corona Crisis Will Have Lasting Impact on Gold Market - 2nd Aug 20
Gold & Silver: Two Pictures - 1st Aug 20
The Bullish Case for Stocks Isn't Over Yet - 1st Aug 20
Is Gold Price Action Warning Of Imminent Monetary Collapse - Part 2? - 1st Aug 20
Will America Accept the World's Worst Pandemic Response Government - 1st Aug 20
Stock Market Technical Patterns, Future Expectations and More – Part II - 1st Aug 20
Trump White House Accelerating Toward a US Dollar Crisis - 31st Jul 20
Why US Commercial Real Estate is Set to Get Slammed - 31st Jul 20
Gold Price Blows Through Upside Resistance - The Chase Is On - 31st Jul 20
Is Crude Oil Price Setting Up for a Waterfall Decline? - 31st Jul 20
Stock Market Technical Patterns, Future Expectations and More - 30th Jul 20
Why Big Money Is Already Pouring Into Edge Computing Tech Stocks - 30th Jul 20
Economic and Geopolitical Worries Fuel Gold’s Rally - 30th Jul 20
How to Finance an Investment Property - 30th Jul 20
I Hate Banks - Including Goldman Sachs - 29th Jul 20
NASDAQ Stock Market Double Top & Price Channels Suggest Pending Price Correction - 29th Jul 20
Silver Price Surge Leaves Naysayers in the Dust - 29th Jul 20
UK Supermarket Covid-19 Shop - Few Masks, Lack of Social Distancing (Tesco) - 29th Jul 20
Budgie Clipped Wings, How Long Before it Can Fly Again? - 29th Jul 20
How To Take Advantage Of Tesla's 400% Stock Surge - 29th Jul 20
Gold Makes Record High and Targets $6,000 in New Bull Cycle - 28th Jul 20
Gold Strong Signal For A Secular Bull Market - 28th Jul 20
Anatomy of a Gold and Silver Precious Metals Bull Market - 28th Jul 20
Shopify Is Seizing an $80 Billion Pot of Gold - 28th Jul 20
Stock Market Minor Correction Underway - 28th Jul 20
Why College Is Never Coming Back - 27th Jul 20
Stocks Disconnect from Economy, Gold Responds - 27th Jul 20
Silver Begins Big Upside Rally Attempt - 27th Jul 20
The Gold and Silver Markets Have Changed… What About You? - 27th Jul 20
Google, Apple And Amazon Are Leading A $30 Trillion Assault On Wall Street - 27th Jul 20
This Stock Market Indicator Reaches "Lowest Level in Nearly 20 Years" - 26th Jul 20
New Wave of Economic Stimulus Lifts Gold Price - 26th Jul 20
Stock Market Slow Grind Higher Above the Early June Stock Highs - 26th Jul 20
How High Will Silver Go? - 25th Jul 20
If You Own Gold, Look Out Below - 25th Jul 20
Crude Oil and Energy Sets Up Near Major Resistance – Breakdown Pending - 25th Jul 20
FREE Access to Premium Market Forecasts by Elliott Wave International - 25th Jul 20
The Promise of Silver as August Approaches: Accumulation and Conversation - 25th Jul 20
The Silver Bull Gateway is at Hand - 24th Jul 20
The Prospects of S&P 500 Above the Early June Highs - 24th Jul 20
How Silver Could Surpass Its All-Time High - 24th Jul 20

Market Oracle FREE Newsletter

How to Get Rich Investing in Stocks by Riding the Electron Wave

Can China's Central Planners Revive China’s Economic Miracle?

Economics / China Economy Jun 10, 2014 - 12:18 PM GMT

By: John_Mauldin

Economics

For years, when asked whether I thought China would experience a hard landing, I would simply answer, “I don't understand China. Making a prediction would be pretending that I did, so I can’t.” The problem is that today China is the most significant macroeconomic wildcard in the global economy. To understand both the risks and the potentials for the future you have to reach some understanding of what is happening in China today. Last week we started a two-part series on what my young associate Worth Wray and I feel is the significant systemic risk that China poses to global growth.


The first thing in my inbox this morning here in Tuscany was a note from a friend about the growing scandal in Quingdao. For a long time many of us have known that there has been “double counting” in the commodities trade sector in China, where local “entrepreneurs” create multiple warehouse receipts on which to borrow money cheaply, and then invest in what are essentially subprime securities that pay higher rates. Everyone “knows” that the government is not going to let anyone lose money on investments, so what could possibly go wrong? It turns out that Chinese warehouse officials are now emigrating in significant numbers to parts unknown around the world, armed with only their passports and whatever money they made through producing such bogus receipts. My sources suggest that the size of the problem is approaching $1.3 billion (far greater than the number being bandied about in public reports). Since one of the guiding principles operative in any scandal is that there is never just one cockroach, I expect the ultimate losses to be far larger. And it appears that the People’s Bank of China is finally going to let people lose money on these fraudulent schemes. Good for them. But to suggest there is no risk in cleaning up corruption and fraud misses the point of our own subprime crisis. In a world where global economic trade and international banks are so intricately linked, trying to determine the actual risk to the system is difficult. And as I will note in my “final thoughts” section, corruption is a very real issue.

We are going to try gamely to finish with China today, having left at least three or four letters worth of copy on the editing floor. There is just so much information and misinformation to cover. I’m going to turn it over to Worth and then follow up with a few final thoughts of my own. (Please note that this letter will print exceptionally long as there are a number of charts and other graphics.) Now let’s do a deep dive into part two.

Can Central Planners Revive China’s Economic Miracle?

By Worth Wray

In my Thoughts from the Frontline debut this past March (“China’s Minsky Moment?”), I highlighted the massive bubble in Chinese private-sector debt and explored the near-term prospects for either (1) a reform-induced slowdown or (2) a crisis-induced recession. Unfortunately, it was not an easy or straightforward analysis, considering the glaring inconsistencies between “official” state-compiled data and more concrete measures of all real economic activity, which is why I suggested that China is simultaneously the most important and most misunderstood economic force in the world today.

With the stakes now higher than ever, I returned to Asia’s “miracle” last week (“Looking at the Middle Kingdom with Fresh Eyes”) and probed deeper into the shadows (including China’s shadow banks) with the help of my new friend Leland Miller and a few illuminating excerpts from his Q1 2014 China Beige Book (the largest and most comprehensive survey series ever conducted on a closed or semi-closed economy).

Pulling back the Bamboo Curtain, Leland’s data revealed aspects of the Chinese economy that John and I could have only guessed at before, giving us a rare opportunity to explore regional contrasts in Chinese economic activity, to survey the modest (but still insufficient) rebalancing among sectors, and to identify a series of pressure points within the credit markets that suggest last summer’s interbank volatility may return in 2014.

Unfortunately, Leland’s key insights confirmed our fears that China’s consumption-repressing, debt-fueled, investment-led growth model is slowing down and starting to sputter… but not collapsing (at least not yet).

What happens next – with huge implications for global markets – depends largely on the economic wisdom and political resolve of China’s central planners, who must find a way to gradually deleverage overextended regional governments and investment-intensive sectors while also rebalancing the national economy toward a consumption-driven growth model.

Finessing the challenges will require not just one but a series of miracles.

Like Every Other Investment-Driven Growth “Miracle”

After 34 years of booming economic growth averaging over 9% per year (the longest sustained period of rapid economic growth in human history), China’s credit-fueled, investment-driven growth model is exhausted and increasingly unstable. As you can see in the chart below, the Middle Kingdom’s credit boom is well past the point of diminishing marginal returns; and no one can deny that the misallocation is widespread, with capacity utilization now below 60%. (I should also note that Societe Generale’s Wei Yao has consistently published some of the best research on China in recent quarters; personally, I won’t be surprised to see her vault to rock-star status as the People’s Republic decelerates.)


Source: Wei Yao & Claire Huang, “SG Guide to China Reform.” Societe Generale Research, May 14, 2014.

Moreover, state-perpetuated distortions in the cost and availability of financing are (1) funneling huge amounts of capital toward increasingly unproductive, state-directed investments, and (2) pushing household and private business borrowers into the shadows, where the burden of substantially higher interest rates drags on household consumption.


Source: Wei Yao & Claire Huang, “SG Guide to China Reform.” Societe Generale Research, May 14, 2014.

It doesn’t require much imagination to connect the dots. Structural distortions in Chinese financial markets are a major cause of debt-fueled overinvestment; and without sweeping structural reforms (along with a major crackdown on corruption at all levels of government), captive capital will continue to flow toward unproductive investments, capacity utilization will continue to fall, and China’s investment boom will continue its march toward a mega Minsky moment.

This kind of structural distortion is a classic symptom of an overextended investment boom and a warning sign that rebalancing – whether it’s induced by voluntary reforms or an involuntary debt crisis – will not be easy. The critical adjustments – gradual deleveraging and structural rebalancing – will require a greater slowdown in economic growth and a sharper fall in still-bubbly asset prices than China’s policymakers are letting on.

“This is not an easy task,” The Daily Telegraph’s Ambrose Evans Pritchard says, in a truly brilliant article published this week, “not least because land sales and taxes make up 39% of state revenue in China, and the property sector employs 20% of workers one way or another. It is clearly a bubble of epic proportions and already losing air. Mao Daqing from Vanke – China’s top developer – says total land value in Beijing has been bid up to such extremes that is on paper worth 61.6pc of America’s GDP. The figure was 63.3pc for Tokyo at the peak of the bubble in 1990.” Yikes.

As Peking University professor Michael Pettis explains in his 2013 book, Avoiding the Fall: China’s Economic Restructuring, “Every country that has followed a consumption-repressing, investment-driven growth model like China’s has ended with an unsustainable debt burden caused by wasted debt-financed investment. This has always led to either a debt crisis or a lost decade of very low growth.”

China’s “miracle” is no different from any other investment-driven growth binge where high levels of leverage (directly or indirectly paid for by the household sector), combined with high levels of fixed investment, eventually result in excessive and unsustainable debt loads. Pettis elaborates:

While these policies can generate tremendous growth early on, they also lead inexorably to deep imbalances. As demonstrated by the history of every investment-driven growth miracle, including that of Brazil, high levels of state-directed subsidized investment run an increasing risk of being misallocated, and the longer this goes on the more wealth is likely to be destroyed even as the economy posts high GDP growth rates. Eventually the imbalances this misallocation created have to be resolved and the wealth destruction has to be recognized. What’s more, with such heavy distortions imposed and maintained by the central government, there is no easy way for the economy to adjust on its own…. [Furthermore], Beijing [will] not be able to raise the consumption share of GDP without abandoning the investment-driven growth model altogether.

In other words, the world’s second largest economy is approaching its debt limit and the end of the line for investment-led growth… but China’s financial system is structurally designed to prevent capital from flowing freely toward more productive uses. One way or another, the world’s largest contributor to global economic growth must slow down – either because Beijing has the foresight, resolve, and political capital to pursue aggressive economic and financial market reforms or because party elites fail to address the country’s structural imbalances and policy-induced distortions before the credit bubble pops. “Debt,” Pettis explains, “as we will learn over the next few years in China, has always been the Achilles’ heel of the investment-driven growth model…”

Which Way to Sustainable Growth?

Among the various reforms set forth in last November’s Communist Party Third Plenum, ranging from financial liberalization to a crackdown on corruption and pollution, the most challenging is the gradual deleveraging of the Chinese economy while simultaneously rebalancing the national economy toward a more sustainable, consumption-driven growth model.

To continue reading this article from Thoughts from the Frontline – a free weekly publication by John Mauldin, renowned financial expert, best-selling author, and Chairman of Mauldin Economics – please click here.

Important Disclosures

The article Thoughts from the Frontline: Can Central Planners Revive China’s Economic Miracle? was originally published at mauldineconomics.com.
John Mauldin Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules