Why We Should Worry About China

Authored by Daniel Lacalle via The Mises Institute,

Many of our readers might remember the late 80s. There were hundreds of movies, songs and books about the inevitable Japanese economic invasion.

The ones of you that did not live that period can see that it did not happen.

Why? Because the Japanese growth miracle was built on a massive debt bubble and, once it burst, the country fell into stagnation for the better part of two decades. It still has not recovered.

China presents many similarities in its economic model. Massive debt, overcapacity and central planned growth targets.

Many economists and investors feel relieved because China is still growing at 6.8%. They should think twice. On one side, that level of growth is clearly overestimated. By any realistic measure of growth, China’s Gross Domestic Product annual increase is significantly lower than the official figures show. Patrick Artus, global chief economist at Natixis Global Asset Management, as well as other economists have noted that there has been a significant decoupling since mid-2014 between the government’s official growth reading and more reliable indicators. On the other hand, even if we agree with the official readings, this growth has been achieved using a worryingly high level of debt.

Chinese growth of 6.5% per annum came with more than 14% annual growth in money supply. Total debt has quadrupled since the financial crisis, and official messages of “measures to curb indebtedness” have shown a different reality. China has added more debt in 2017 than the The European Union, the US, UK, and Japan combined. The IMF estimates debt as a proportion of Gross Domestic Product may rise from 235% to almost 300% by 2022.

This increase in debt would not be a concern if it yielded solid economic returns, but the latest figures show that more than 40%of the Hang Seng Index components are adding debt to repay interests, and China needs now four times more debt to generate the same growth as in 2007. Now bond yields are soaring, which triggered a rise in bond cancellations. Companies postponed or canceled a total of 71 bond issuances worth a combined $13.42 billion in November, according to Reuters. Although bond yields are not at excessive levels, with the Chinese 10-year bond still below 4%, most companies and households cannot absorb a modest rise in yields due to the weak returns and revenues they have. A massive housing bubble has made high-risk debt rise.

Overcapacity has soared, and industries face the impossible task of keeping capacity and jobs as well as deleveraging. And exporting its way out of overcapacity is not easy. In 1992, only two G20 countries had China as one of their top five export destinations, now there are fifteen. However, in 1992 China had a productive capacity deficit, now it has 60% overcapacity, and – as it cannot destroy that excess in a centralized planned economy – it intends to export it. But this is almost impossible to achieve when excess capacity is an endemic problem all over the world.

It is true that Chinese imbalances are mostly local-currency denominated, that household savings rate is healthy and that the high productivity sectors are doing well, but that was the case with Japan in the late 80s as well. And none of these factors offset the large risks created by the housing bubble and excess debt taken by state-owned conglomerates and private businesses. These risks are highly disinflationary and are likely going to impact long-term growth and inflation expectations globally. As China tries to export its way out of the bubble, the impact on prices and trade all over the world should not be underestimated. We should not ignore the financial risks either. Although China’s financial concerns are mostly concentrated in its own system and currency, this does not mean that worldwide spill-over effects can be ruled out.

China is a big risk, and the best outcome for all the world economies is that the government forgets impossible growth targets and focuses on reducing the rising financial imbalances. All of us will prefer a modest Chinese growth-rate rather than an inevitable crisis.

Comments

zorba THE GREEK bobcatz Fri, 12/15/2017 - 20:54 Permalink

The USA should hire all excess Chinese laborers at very low wages to help rebuild the aging infrastructure. By not using American labor, the US could save 75% on the cost and use that money to shore up Social Security and Medicare. Maybe they can start with the railroads as they are very out dated. I think I'm having a deja vous. 

In reply to by bobcatz

BobEore Stuck on Zero Fri, 12/15/2017 - 20:29 Permalink

As I recently wrote, in response here to two punters competing to outdo each other in describing the decrepit condition of the Chinese socio-economic situation...

"the Chinese, no matter their innate weaknesses... inherent fears, phobias, or plethora of problems which might prevent them ON THEIR OWN...TO own the rest o the world and then some... have - as my writings have repeatedly pointed out ...

TEAMED UP WITH TEAM TALMUDIC KABBALA KAPITALISM for the final takedown... of a common foe."

In light of this REALITY... and the fact that the teeming masses of Kansas lumpen proletariat are hardly the stuff from which casino operating sraeli-firsters can spin a cloth of further self enrichment...

your dreams of a new "chinese-style" neo-feudal renaissance in the midwest... are unlikely to come to pass.

The model which their talmudist masterz have in mind for benighted merikans is more like the one which the crypto-tribalist jesuits applied to their native charges in C16th Paraguay with considerable success. \enslaving souls so as to bring them to "god"/

Welcome to "Trumplandia" peons.

In reply to by Stuck on Zero

Antifaschistische Fri, 12/15/2017 - 19:14 Permalink

The thing to worry about in China, is that when their currency ends up in deval territory, a billion people are going to work even HARDER to get ahead.  Which means they will be willing to be even more competitive in the world product landscape.Example:  Maybe the "buy America only" guys are willing to spend $800 on a 'made in America' impact wrench from Snap-on.  But when the Chinese are selling one 'almost' as good, for $120....even the strong begin to fall.  Just wait until the currency deval pushes that to $90.  Everyone throws in the towel then.

hongdo Antifaschistische Fri, 12/15/2017 - 21:07 Permalink

Right.  Something you know if you ever lived in East Asia.  There, when your market share starts to drop you work harder and lower prices to get it back.  Whatever it takes.  In the US they will make jokes about losing money on each sale and making it up on volume.  But what they are doing is going all in to break the competition because they have no choice but to gamble and win or gamble and die.  No cushy govt safety net to bail them out which US companies and workers seem to expect.

In reply to by Antifaschistische

chestergimli hongdo Fri, 12/15/2017 - 22:40 Permalink

The reason you folks talk so much about the economy going down is because of the financial monetary system. There is absolutely no reason for the physical economy to have any problems whatsoever. Mankind needs to divorce their thinking selves from any and all monetary systems and the numerical value of anything. All humans need to be concerned about is having the materials and manpower to get things done. Everyone who is physically and mentally capable, except wives with children, needs to do some kind of necessary labor in order to earn a share of the goods and services that their neighbors labor at to produce and distribute.

Isaias has said in chapter 25 verses 5 and 6: For he shall bring down them that dwell on high, the high city he shall lay low. He shall pull it down even to the ground. The foot shall tread it down,THE FEET OF THE POOR, THE STEPS OF THE NEEDY.

In reply to by hongdo

PitBullsRule Fri, 12/15/2017 - 19:18 Permalink

Hmmm, the Japanese growth miracle didn't happen eh?Ya ever heard of Toyota?  How about GM, the company that went bankrupt and used to be the largest company in America?  How's the American Car industry doing?  How many electronics companies are American?  Ever heard of Motorola?  They used to be the largest electronics company, now much of Motorola is owned by the Chinese.  I stopped reading after the 2nd paragraph, because it seems like the author is full of shit.

uhland62 PitBullsRule Fri, 12/15/2017 - 19:27 Permalink

They'd have to say farewell to the world they knew if they'd acknowledge that China is a big elephant to topple over. Nothing is forever, of course, which hopefully will not come in my lifetime. My country, Australia, is the meat in the sandwich. We need the exports to China to fund the large trade deficits with the US.Militarily tied to the US and economically tied to China, what is not to like. Nobody has any recipe. 

In reply to by PitBullsRule

Yogizuna PitBullsRule Fri, 12/15/2017 - 21:48 Permalink

Of course the "Japanese growth miracle" happened, then the stock market crashed and land prices were in trouble. In 1989, almost no one wanted to believe that Japan and it's stock market were peaking out. I had my own topics in the Money Talk area on the old Prodigy system back then, and when I wrote that Japan was about to go into long term decline, everyone argued with me that could not be the case because of this reason or that reason. But it happened and of course the rest is history. And back then, almost no one thought China would replace Japan as the second largest economy by 2010 either. I still have most of those conversations on old floppy disks. :)   

In reply to by PitBullsRule

Endgame Napoleon Fri, 12/15/2017 - 19:20 Permalink

I don’t wish anything bad on them, but a lot of their prosperity has come at the expense of displaced American workers, not that it is their fault that leaders of US companies do not care about the citizens of their own country.

khnum Fri, 12/15/2017 - 19:27 Permalink

Between 2009 and 2030 850 million chinese will become middle class by 2022 76 per cent of China's urban population will be middle class right now there are 568 Chinese billionaires to the US's 563 according to Hurun a Chinese based research firm.Quantity has a quality of its own shortly China wont be needing us wtf does Walmart and the massive hardware outlets do then?