China's Economy "Bottoming Out"? - Not So Fast!

Tyler Durden's picture

While China's equity index continues to plumb new depths, the macro data of the past two weeks has been the crutch for US equity bulls losing faith in the fiscal cliff negotiations - growth is up, investment is up, and inflation is down - with analysts hailing the news as evidence that the Chinese economy has "truly bottomed out." As Michael Pettis, of China Financial Markets, notes though "I think we need to be very cautious and refrain from allowing ourselves to get too caught up in the huge sigh of relief that the sell side is heaving. Growth rates in China will continue to slow dramatically in the next few years, and if there are temporary lulls, as there must be, these do not represent any sort of “bottoming out” at all." His perspective is simply that Beijing cannot afford 'politically' to allow the transition/adjustment/reforms to take place too fast - and occasionally needs "to step on the investment accelerator." The bottom-line, he notes, is that "you can get as much growth as you like if you expand credit, but once expanding credit has become the problem, it cannot also be a permanent solution to slower growth. The country’s balance sheet continues to deteriorate – and the most recent growth spurt implies faster deterioration – and this, ultimately, is the main constraint of the Chinese growth model."


SHCOMP vs HSI or Industrial Output vs PMI


Via Michael Pettis, China Financial Markets:

The big news in the past two weeks has been the slew of economic data suggesting that China has firmly turned the corner on its economic closedown.




I think we need to be very cautious and refrain from allowing ourselves to get too caught up in the huge sigh of relief that the sell side is heaving. Growth rates in China will continue to slow dramatically in the next few years, and if there are temporary lulls, as there must be, these do not represent any sort of “bottoming out” at all. They simply represent the fact that Beijing cannot afford politically to allow the adjustment to take place too quickly, and from time to time Beijing is are going to step on the investment accelerator to speed things up temporarily.


More credit


Doing so of course will only make the adjustment longer and more painful, but given how difficult politically the transition to a balanced economy is likely to be, we would be crazy to expect otherwise.




You can get as much growth as you like if you expand credit, but once expanding credit has become the problem, it cannot also be a permanent solution to slower growth. The country’s balance sheet continues to deteriorate – and the most recent growth spurt implies faster deterioration – and this, ultimately, is the main constraint of the Chinese growth model.


Within the banking sector we are seeing all kinds of strains as companies and banks stretch for liquidity. Large-company receivables are growing quickly, as are payables (no one, it seems, wants to part with cash), loans simply are not getting repaid, and deposits are no longer growing, perhaps because flight capital is more than enough to offset China’s very high trade surplus.




Remember that thanks to disguised flight capital and commodity stockpiling the surplus is almost certainly a lot larger than reported, and yet banks are still feeling the liquidity squeeze. And for all their happy noises, the authorities nonetheless are worried, at least about certain parts of the banking system.




Most worrying of all Charlene Chu, perhaps the only analyst who actually understand what is happening in the banking system, released a new report with Fitch Ratings that is described in a Reuters article:


Fitch Ratings says faster growth of broad credit in Q312 was one factor behind the recent improvement in Chinese economic data. In a comment published today, the agency highlights that, after slowing from Q411 to Q212, broad credit is back on track to surpass CNY17trn (USD2.7trn) in 2012.


Fitch’s measure of broad credit includes shadow and offshore sources omitted from the central bank’s official total societal financing metric.


This marks the fourth year in a row that net new credit will exceed one-third of GDP,” said Charlene Chu, Head of Chinese banks’ ratings at Fitch. At current growth rates, by 2013 China’s banking sector assets will have expanded by nearly USD14trn since 2008. This is equivalent to replicating the entire US commercial banking sector in just five years. Such massive balance sheet expansion has limits, according to the agency.


You can accelerate investment forever


It is, to me, astonishing that China in just five years is “replicating the entire US commercial banking sector”, and yet so many analysts are expressing delight with China’s return to growth. Of course you can generate growth if you force such a tremendous expansion in credit, but this is simply unsustainable.


I know I’ve said this many times, and I apologize for boring regular readers, but while I expected that politics would require a jump in growth over the rest of this year and the beginning of the next, this “good growth” tells us nothing about the health of the underlying economy. It only tells us how difficult politically the transition is likely to be.


My guess is that the more difficult the consolidation of power, the longer the period of above 7% growth – so the happier the sell-side analysts are, the more worried long-term investors should be. At some point growth will start dropping rapidly again, and of course the same analysts who are now hailing the return to rapid growth will assure you, when growth begins to slow sharply again, that this was part of Beijing’s plan and was fully predictable. China is slowing because Beijing wants it to slow, they will say, and that’s a good thing. Meanwhile the fact that China is speeding up is also a good thing.




I also published for Foreign Policy last week a longer piece on the challenges facing the new leadership in China. My main argument in the Foreign Policy piece is that both historical precedents and a common sense understanding of the rebalancing process suggest that politics, not economics, will determine China’s success. So far Beijing has succeeded largely because of its ability to collect and control the total savings of the country, and unleash waves of investment whenever necessary.


Many countries have done the same things, but once credit expansion is no longer efficiently invested, few countries have made the transition to a different growth model. Powerful groups who benefitted from the old growth model – in China they are referred to generically as “vested interests” – have always succeeded in diluting or preventing the necessary reforms.


The rebalancing always occurs anyway, either in the form of a debt crisis and negative growth or in the form of a long period of no growth and slow rebalancing. Some times – very rarely – the country completes the rebalancing and then moves swiftly on to becoming a developed country, but this doesn’t happen often. Of the dozens of developing economies that have experienced investment-driven growth miracles in the past 100 years, the only ones that have managed the transition to developed country status are South Korea, Taiwan, and maybe Chile. This is a pretty limited success ratio.


China’s previous success, in other words, tells us noting about how it will manage the next stage, and the precedents give us little reason to assume that the country can’t help but advance to the next stage of development. In fact the more confident Beijing is that it will manage the transition successfully, the less likely it is to succeed, which is why I am delighted that policy advisors seem so much more pessimistic than sell-side analysts. What happens to China will be determined largely by the political decisions it will make in the next few years, and it is foolish to assume we know how things will turn out.

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I am more equal than others's picture

Red-line reality meet Bernake green-line fantasy

Winston Churchill's picture

No problem .will get MERS and Rinda Gleen right on it.

Kitler's picture

"Nothing to worry about now boys, we've just bottomed out"

~ Captain Joseph Hazelwood of the Exxon Valdez

jonjon831983's picture

Unfortunately, the guy lost out and sold. :(


It'sa like them ol wild west days of railroadin.  Sell or get a rumblin train next to ya.

Kitler's picture

Your Chinese is simply awful...  

For the record it's "Oh leely?"

(Remember: Flied lice as opposed to fried rice)

redpill's picture


Wrong also.  The grossly oversimplified and liguistically-blackfaced characterization of most asian accents would be both the r and the l trading places.  So it would be 'oh learry?"

akak's picture

And you are wrong as well.

It is not Asians who have problems with the sounds "r" and "l", but ORIENTALS.  Russians and Arabs and Turks and Indians generally have no problems with those phonemes, and are ALL "Asians" too.

Kitler's picture

So you're saying Larry Summers is actually pronounced Rally Summels? Wow!

When they said learning Chinese was hard they weren't kidding.

Being Free's picture

Note to numbnuts (yes you Ben): "you can get as much growth as you like if you expand credit, but once expanding credit has become the problem, it cannot also be a permanent solution to slower growth"

Quinvarius's picture

It is amazing how the banking system has basicly raped the entire planet and shut down everyone's access to money but their own.

SheepDog-One's picture

The central banksters put to shame any James Bond or superhero comic villain and make them all look like rank amateur bumblers.

resurger's picture

Guess what, Obama said after the Fiscal Cliff debate, the Economy will


God Help the entire planet man.

Quinvarius's picture

GDP probably will.  QE3 plus QE4 has to come after the debt thing is handled.  They are about to pour gasoline all over this frankenconomy and turn it loose.  The only bumpy ride this bus will have is going to be me backing up and running over Kaminsky repeatedly.

SheepDog-One's picture

Sell-side equity dorks seem to believe every economy is a superball.

Global Hunter's picture

"1 out of every three equity Sell-Side Dorks now works part-time on call odd hours in the local 24 hour supermarket"

q99x2's picture

About 8,000 miles beneath my seat I have a couple billion upside down Chinesers and they seem to be a stirring up like a hornets nest over that South Sea oil. Wonder if there is anything like a magnet that I can move along the floorboards to make them move in different directions down there.

Quinvarius's picture

I think the Chinese are becoming pretty much the same as US trailer park Republicans.  Too many people have been telling them they are running the show now.  The strut around like miniature Jersey Shore juiceheads.

I saw that Jungle Gold show where they are running around in South America stealing everyone's claims and taking potshots at people with shotguns.  They seem like a bunch of arrogant cocksuckers.

SheepDog-One's picture

What americans cant comprehend is China just doesnt give a shit....hell they just let 50 million Chinese in the 1960's starve to death, and only said 'Oh well'. We really think theyre staying up late at nite worried if their rubber dogshit exports to Wal*Mart are going to be purchased by americans on the EBT cards? 

akak's picture


What americans cant comprehend is China just doesnt give a shit....

Oh, but they do give (a) shit --- and most expeditiously!

Just check any Chinese roadside for the proof.... or any post here by AnAnnoyingUs.

Alas, alas, triple alas.  In Chinese Citizenism, the poop is all.

Just have to bear with it.

Super Broccoli's picture

come on !

China will take years before being able to develop it's very own market


SO BEFORE IT DOES it will be dragged down in this global consumption meltdown


Does anyone really believe in their cooked books ? I mean they have a fully (we have partially) dictatorial regime that decides whatever numbers will come out !

Global Hunter's picture

Growth will come from taking over Vietnamese and Japanese oil rights, don't be so pessimistic!

SheepDog-One's picture

The big problem with americans, and I see it everywhere, is we apparently believe everyone else looks at things the exact same way we do. I think theres a real big wakeup call coming to those who think China has the same philosophy as western round eye.

Global Hunter's picture

I think that China is just flexing a little while the Western powers strech themselves in Afghanistan, Iraq, Libya, Egypt, Israel, Bahrain, Pakistan, Sudan, Uganda, Germany, Italy, Greece, Spain, this latest stuff with Iran and Syria has really knocked the West back, and China is taking advantage.  But then I'm just a round eye TRYING to think like them.

Joe Davola's picture

Didn't I read here yesterday that China was flourishing?

akak's picture

It's actually spelled "floorwashing".

Caviar Emptor's picture

China and US economic systems will inevitably converge. They become more capitalistic as we get more centralized. Else both mutually dependant systems implode. In the end it won't matter to average Joe where the crap he buys comes from, or who he's working for: work for company X, buy in company store, pay rent for a company flat. Been sayin it.

Global Hunter's picture

+1, and I thought I'd gone mad.  It seems the obvious alliance for both countries from the perspective of its leadership/governments.  The Chinese will get some more territorial gains in Asia, while they continue mining resources in Africa, and they will continue buying Treasuries.

Life for those not paying attention in most countries will slowly get worse.

Caviar Emptor's picture

Yup. Two obese dancing partners trying not to step on each other's toes, trying to hold up and ignore the other's fetid body odor. But dance on they must because each has a hand in the other's pocket.

NEOSERF's picture

Here in MA, Gov Patrick announced tax receipts are down $225M and likely $560M for the full fiscal year and is cutting the budget accordingly.  A canary in the coal mine if ever I saw one...would like to know what is falling short - business or consumer or both and what industries.

Caviar Emptor's picture

<<would like to know what is falling short - business or consumer or both and what industries>>.

It's both, aka a spiral goin viral. The Deflation side of the Biflation equation

rosethorn's picture

Good work giving us this essay by Dr. Pettis.  He is a fairly even handed observer of China's economic situation.

Vegetius's picture

We are being lead to believe that with collapsing exports to Europe and the USA, the Baltic Dry index in freefall and your average Chinese man and woman buying gold as quickly as they can that all is not just OK, its booming again in the People's Republic of China. Somehow I doubt it, if thats so why are the wealthy in China trying to vamoose with their money to the land of the round eyes, maybe because the rule of law works here and they might get to enjoy their cash without having to go to war with the ASEAN countries and Japan or get robbed by the party members.

Rustysilver's picture


Here in Ct, next door, same $hit. We had the largest tax increase ever last year.  This fiscal year we are in the hole for about $200-$300M.

Next year (2 year budget) projection are for $1b red ink. State worker gave in some in last year negotiation, with future no layoff clause. Trying to sell my house and move to Greece.

kevinearick's picture


Economics 4 Laborers

This is how the economy works, from the perspective of the people that work, physically transforming capital to adapt:

I charge $125/hr to fix your elevator, because your landlord puts me in a line behind lower bidders that are incapable, trying to get me to compete with them. I charge for my time in line. On the flip side, when I raise my price with the landlord's persistence, he calls the corporation, at $250/hr, to maintain control of the labor process. It's an induction ponzi.

For the most part, the union elevator mechanics cannot fix your elevator and keep their jobs, because, like you, they are not supposed to know what is inside that proprietary (arbitrary) computer (PLC). Like all other dc automation, all they can do is patch, with expensive gadgets and parts, which serve as bubble gum, tie wire, and duct tape. And every time they patch, your rent goes up, because it's all about THE PRICE OF LABOR, to transform capital as required to adapt to changing conditions, and embedded capital naturally resists change up to a ratcheting threshold.

When you start migrating up levels in the system, enterprise architecture, circular queues within queues, the price goes up. The middle class is not paid to understand what I am talking about, but the intelligent kids investing in their children's future, with deferred income, do. I'm telling them how to turn their cars into elevators, which has substantial implications; that there is no point in getting started until middle class die off takes hold; and capital will destroy itself, because it cannot see beyond itself, with a the middle class positive feedback signal, which we have left relatively intact.

I prefer to work on the old stuff, because I am an old-timer, but it's in the kid's interest to wipe the slate clean, hence the repetitious nature of empires. Intelligent kids don't stand in line for the opportunity to give their work to the latest and greatest empire icon, which is why Apple is going the way of Microsoft.

Explicit middle class democracy is a lottery ponzi, always has been. Only the dress changes, as capital tries to hide its increasingly nonperforming nature behind a growing nonperforming middle class, with a majority vote to enslave labor. Look at the data (recast with price of labor on the left side).

Now, with all these kids watching on empire TV reprogrammed for the purpose, they see a middle class placing me in a line, to stand in another line, to stand in another line as a homeless person, so it has plenty of jobs, to artificially drive up real estate prices for non-performing capital, to house replicating non-performing robots, in a big circle jerk, all hoping they will not be the next to go over the cliff.

Labor walks in, and then out of capital black holes. Size and ignition depends upon position. The aggregate output gap is a function of the individual output gaps, the difference between proven potential to adapt and system resistance. Getting cheaper labor from China to move in the wrong direction, to prop up the middle class facade, faster, is not the solution; it's the problem. The Obama administration running its operation through the veterans is understandable, but misguided. The US Navy doesn't have a single admiral labor will accept.

The taxman is suffering from income deferral, surprise, surprise. Capital always assumes that empires are forever, and it is always wrong. What Bernanke and Greenspan have done, under the Fed's employment policy, is to turn humans into robots, fixed assets, so they cannot alter the status quo. What do you do with a factory full of robots that are obsolete?

msjimmied's picture

Maybe I'm not a savvy web crawler. but I had to look up some components to find another supplier. The prices are getting ridiculous domestically. Have you tried Thousands of suppliers, many selling American made goods, cheaper than you can find domestically. Go figure. If you can't find it, or don't want to go through thousands of people hawking stuff, post what you are looking for, and you are INUNDATED with offers. Try A dry hole...we don't make a damn thing anymore, and even if we did, good luck finding it. That's a problem right there, no market place where people can find suppliers. We should remedy that, if we have anything left to sell at all.