Andy Xie Warns "The Bubble Economy Is Set To Burst" As Political Tension Soars

Authored by Andy Xie via The South China Morning Post

Central banks continue to focus on consumption inflation, not asset inflation, in their decisions. Their attitude has supported one bubble after another. These bubbles have led to rising ­inequality and made mass consumer inflation less likely.

Since the 2008 financial crisis, asset inflation has fully recovered, and then some. The US household net worth is 34 per cent above the peak in 2007, versus 30 per cent for nominal GDP. China’s property ­value may have surpassed the total in the rest of the world combined. The world is stuck in a vicious cycle of asset bubbles, low consumer ­inflation, stagnant productivity and low wage growth.

The US Federal Reserve has indicated that it will begin to ­unwind its QE (quantitative easing) assets this month and raise the ­interest rate by another 25 basis points to 1.5 per cent. China has been clipping the debt wings of grey rhinos and pouring cold water on property speculation. They are ­worried about asset bubbles.

But, if recent history is any guide, when asset markets begin to tumble, they will reverse their actions and ­encourage debt binges again.

Recently, some central bankers have been puzzled by the breakdown of the Philipps Curve: that falling unemployment rates would lead to wage inflation first and consumer price inflation next. This shows how some of the most powerful people in the world operate on flimsy ­assumptions.

Despite low unemployment and widespread labour shortages, wage increases and inflation in Japan have been around zero for a quarter of a century. Western central bankers assumed that the same wouldn’t happen to them without understanding the underlying reasons.

The loss of competitiveness changes how macro policy works. Japan has been losing competitiveness against its Asian neighbours. As its population is small, relative to the regional total, lower wages in the region have exerted gravity on its ­labour market. This is the fundamental reason for the decoupling between the unemployment rate and wage trend.

The mistaken stimulus has the unintended consequences of dissipating real wealth and increasing inequality. American household net worth is at an all-time high of five times GDP, significantly higher than the bubble peaks of 4.1 times in 2000 and 4.7 in 2007, and far higher than the historical norm of three times GDP. On the ­other hand, US capital formation has stagnated for decades. The outlandish paper wealth is just the same asset at ever higher prices.

The inflation of paper wealth has a serious impact on inequality. The top 1 per cent in the US owns one-third of the wealth and the top 10 per cent owns three-quarters . Half of the people don’t even own stocks. Asset inflation will increase inequality by definition. Moreover, 90 per cent of the income growth since 2008 has gone to the top 1 per cent, partly due to their ability to cash out in the ­inflated asset market. An economy that depends on asset inflation always disproportionately benefits the asset-rich top 1 per cent.

There have been so many theories on why inequality has risen. The misguided monetary policy may be the culprit. Germany and Japan do not have significant asset bubbles. Their inequality is far less than in the Anglo-Saxon economies that have succumbed to the allure of financial speculation.

While Western central bankers can stop making things worse, only China can restore stability in the global economy. Consider that 800 million Chinese workers have ­become as productive as their Western counterparts, but are not even close in terms of consumption. This is the fundamental reason for the global imbalance.

China’s model is to subsidise ­investment. The resulting overcapacity inevitably devalues whatever its workers produce. That slows down wage rises and prolongs the ­deflationary pull. This is the reason that the Chinese currency has had a tendency to depreciate during its four decades of rapid growth, while other East Asian economies experienced currency appreciation during a similar period.

Overinvestment means destroying capital. The model can only be sustained through taxing the household sector to fill the gap. In addition to taking nearly half of the business labour outlay, China has invented the unique model of taxing the household sector through asset bubbles. The stock market was started with the explicit intention to subsidise state-owned enterprises. The most important asset bubble is the property market. It redistributes about 10 per cent of GDP to the government sector from the household sector.

The levies for subsidising investment keep consumption down and make the economy more dependent on investment and export. The government finds an ever-increasing need to raise levies and, hence, make the property bubble bigger. In tier-one cities, property costs are likely to be between 50 and 100 years of household income. At the peak of Japan’s property bubble, it was about 20 in Tokyo. China’s residential property value may have surpassed the total in the rest of the world combined.

How is this all going to end? Rising interest rates are usually the trigger. But we know the current bubble economy tends to keep inflation low through suppressing mass consumption and increasing overcapacity. It gives central bankers the excuse to keep the printing press on.

In 1929, Joseph Kennedy thought that, when a shoeshine boy was giving stock tips, the market had run out of fools. Today, that shoeshine boy would be a genius. In today’s bubble, central bankers and governments are fools. They can mobilise more resources to become bigger fools.

In 2000, the dotcom bubble burst because some firms were caught making up numbers. Today, you don’t need to make up numbers. What one needs is stories.

Hot stocks or property are sold like Hollywood stars. Rumour and ­innuendo will do the job. Nothing real is necessary.

In 2007, structured mortgage products exposed cash-short borrowers. The defaults snowballed. But, in China, leverage is always rolled over. Default is usually considered a political act. And it never snowballs: the government makes sure of it. In the US, the leverage is mostly in the government. It won’t default, because it can print money.

The most likely cause for the bubble to burst would be the rising political tension in the West. The bubble economy keeps squeezing the middle class, with more debt and less wages. The festering political tension could boil over. Radical politicians aiming for class struggle may rise to the top. The US midterm elections in 2018 and presidential election in 2020 are the events that could upend the applecart.


I hate cunton Thu, 10/12/2017 - 23:14 Permalink

There is inflation.  It's a lie to say there isn't.  But wages aren't going up because everybody is buying everything on credit since interest rates are low.  People can manage the payments so they buy lots of crap with low wages.

zzzz88 Thu, 10/12/2017 - 23:16 Permalink

everyone knows this will end someday, even though we do not know the exact time. after the burst, we look back, we will believe this is the biggest joke in human history

booboo Thu, 10/12/2017 - 23:32 Permalink

“half of the people don’t even own stocks”
Whoopty fuckin doo. Trust me, they own plenty of bad stocks, stealth bailouts made sure of that, they just don’t know it but are eating the losses daily

gouyou Thu, 10/12/2017 - 23:38 Permalink

I've been wondering about something in the last few months: with QE, do we really have an asset inflation, or was money devalued and most of us aren't yet aware of it? Are assets correctly priced and will the next correction happen through massive inflation?

Singelguy gouyou Fri, 10/13/2017 - 06:19 Permalink

Niether. Asset prices are overinflated and the real inflation rate is much higher than the official "seasonally adjusted" inflation rate. If you go to you will find the real CPI as well as the real unemployment numbers.

What most people fail to appreciate is that the value of any currency is based upon the confidence in that currency by investors. That confidence is based upon the government managing that economy and currency. Venezuela is a classic example. It has become abundantly clear that Maduro is an idiot when it comes to economics. All confidence has been lost in his government, capital is fleeing the country, and the inflation rate of the bolivar is over 2000%.

In reply to by gouyou

Batman11 Fri, 10/13/2017 - 05:10 Permalink

High inflation was a problem in the Keynesian era.National economies were quite separate and labour had strong unions to demand pay rises.Let’s change everything, but still use ideas that came from this era like the tightening of national labour markets."Testifying before Congress in 1997, Greenspan attributed the “extraordinary’” and “exceptional” performance of the nineties economy to “a heightened sense of job insecurity” among workers “and, as a consequence, subdued wages.”Alan Greenspan’s traumatised worker.What are they traumatised by?The threat of their jobs being off-shored.The global labour market doesn’t tighten.What is the new threat that keeps showing itself?The inflation they don’t look at, asset price inflation.The financial sector leverages it up until the ponzi scheme collapses.The Japan 1989, bust, 2008 ......Let’s keep looking in the wrong place and use the wrong target based on a world that disappeared 40 years ago.

Batman11 Fri, 10/13/2017 - 05:18 Permalink

The FED have provided the evidence against independent Central Banks.Let’s imagine the FED weren’t independent and could avail themselves of advice from those whose thinking was more advanced before 2008.All the financial instability of recent times was helping those outside the mainstream work out what was going on.Steve Keen can you help the FED (he sees 2008 coming in 2005)? 1929 situation is brewing up and Steve knows just where to look to see it.Richard Werner has been studying financial crises since 1989 in Japan and has got a lot further than the “black swan” of the mainstream.Richard Werner can you help the FED?What you are seeing is unproductive lending building up in the economy, just like Japan before 1989.Productive lending goes into business and industry and gives a good return in GDP.Unproductive lending goes into real estate and financial speculation and it shows up in the graph above as it doesn’t give a good return in GDP.Alan Greenspan hasn’t seen the problems developing and suddenly slams on the brakes can help the FED.What have you forgotten Alan?He’s forgotten the delays in the system.There were delays while the teaser rate mortgages reset; the new mortgage repayments became un-payable; the defaults and other losses accumulated within the system until everything came crashing down in 2008.The FED had tightened much too fast by not appreciating the delays in the system.The independent Central Bank can get shut off in its own little world and not keep up with the latest thinking.A little outside help can go a long way.

Batman11 Batman11 Fri, 10/13/2017 - 05:22 Permalink

The new experts that cut their teeth in the era of unprecedented financial crises presided over by the independent Central Banks. The Central Banks made the same mistakes so many times it provided no end of material to help them in their work.Steve Keen - Minsky moments and affects of debt on the economyRichard Werner - Money and debt, bank credit and how it must be allocated for economic success, studying Japan around 1989Richard Koo - After the Minsky Moment, studied 1929, Japan 1989 and 2008.Michael Hudson - The history of economics, the difference between earned and unearned income   

In reply to by Batman11

Fantasy Free E… Fri, 10/13/2017 - 07:40 Permalink

p { margin-bottom: 0.1in; line-height: 120%; }a:link { }Americans still believe deeply in the central bank concept.   Even folks who disagree with Fed policy have a deep belief the various macro economic theories. None of this is based on intellect. It is instinctive to place faith in a central authority. Sociopaths intuitively know how to exploit human instinct, even being subject to its influence themselves. The bubbles will continue as long as humanly possible. Americans don't mind losing as long it is at the hands of or on the advice of  “experts”. Bubbles are an enormous profit engines and don't die a natural death. The deep state, through political power owns the world's central banks. Without something like interest rates rising due to defaults the bubbles will continue.  

MK ULTRA Alpha Fri, 10/13/2017 - 08:14 Permalink

The USA is going to war with China through war with Chinese proxy North Korea. US-China trade deficit of nearly 400 billion dollars annually will end. The recycling of US dollars into raw materials is vital to the Chinese mercantile economy. It will take two years for China to use raw material and food stuff stockpiles and US treasury notes of nearly one trillion dollars. It's called a burn rate and China never had any intention of becoming a consumer oriented economy like the West. That was lip service for lackey Yankee capitalist Running Dogs like the author. US consumer products exports to China are blocked at every level. It isn't fair trade, it's a one way street and the street is coming to a dead end. US investors in US multinationals with significant exposure to China need to re-evaluate geopolitical risk. One must understand, central banks are at war, the US central bank has lost the war, now it is war by other means which is real war.