Part III: China Today

China today plays the role Japan played in the late 1970’s: global economic bogeyman.

Having accumulated $2 trillion in foreign currency reserves through an export-oriented policy that  piggybacks on an artificially low fixed exchange rate, the Chinese economy is poised to become the world’s largest over the next two decades. It has grown, on average, approximately 10 per cent per year since Deng Xiaoping’s market reforms began in 1979. Ceteris paribus, it could be 20 per cent larger than the American economy by 2050.

Evidently, these stats obscure per capita figures that rank China as just above a low-to-middle income country. Its per capita income figure of $3,259 USD ranks alongside the Congo, Iraq and Cape Verde. Not exactly global superpowers. Not to mention growing income inequality in China, whose Gini coefficient (measure of income inequality) of .47 has some fearing outbreaks of social unrest.  So while the country boasts 130 billionaires, and nearly a million millionaires, another 150 million Chinese still live in abject poverty.  China is still very much a developing country.

Such definitions aside, however, the country’s near-exponential growth record since 1979 and its role as the world’s second largest economy makes it worth analyzing. And while beliefs that it will one day overtake the US as the world’s largest economy assume that that China’s path will continue unimpeded into the future, given the reversal of fortune experienced in Japan, we know this to be far from certain.

In the short-term there are significant risk signals emanating from China.

In particular, cheap credit and the low-value of the Renminbi have pushed the Chinese stock and property markets to perhaps unrealistically high levels.  The Shanghai Stock Exchange was up 80% in 2009. Its smaller cousin, the Shenzen Stock Exchange was up 117%.

Moreover, Chinese banks lent over a trillion yuan ($175 billion USD) in January 2010 alone, more than 1/5 of the country’s annual planned loan allocation. This builds on 2009 figures which saw over $1.3 trillion USD lent throughout the country, mostly on property and infrastructure projects.

And finally, China’s exports, on which it depends heavily for its growth, were stagnant for 14 straight months due to weak demand from Europe and the U.S. Subsequently, China’s 2009 growth figures, near 9% despite the global economic downturn, need to be taken with a grain of salt given their input driven nature.

The rapid appreciation of stock and property values, and the ensuing rise in consumer inflation, are thus largely built on speculation and, literally, borrowed paper.  As interest rates rise to contain inflation, or more recently as the Chinese government has pushed to restrain lending, both property and stock portfolios in China could be in for a rude 2010.

Combined with growing pressure for a relaxation of control over the Yuan’s artificial exchange rate, much of this sounds like Japan in the early 1980’s.

However, luckily for them, that’s where the comparison ends.


2 Comments on “Part III: China Today”

  1. Denis says:

    Interesting post Dan. Question for you – if 2010 is indeed “rude” to Chinese property and stock portfolios, do you think it will help the inequality (i.e. Gini coefficient) problem or hurt it?

    On one hand, it would seem to help. The benefits of equity bubbles, by their very nature, flow mostly to those rich people who own most of the equity, and of course property ownership and poverty are hardly positively correlated.

    On the other, as we have seen, when markets get “rude” it’s often the poor that suffer the most – the poor become destitute, and so on. See: almost every country recently.

    So… what do you think will happen to the Gini Coefficient as interest rates rise, lending is restrained, and (potentially) various frothy markets come back to earth?

  2. danxherman says:

    Given the Chinese Government’s preoccupation with social stability, highlighted by recent moves to increase minimum wages in Shanghai and in various parts of the country as well as efforts to increase pension and healthcare provision, I don’t think it’s too far out to think that a crash would be met with a renewed leveling effort, which in turn would move inequality down.

    Their 2009 stimulus package was largely focused on infrastructure. 2010 should be more focused on social spending to build up local confidence and local spending. The direction of the Chinese savings rate, currently in the 40+-% range, will play a significant role in which way the world goes, and whether China can maintain the real growth rate in the 7-10% range it needs to maintain employment growth despite lacklustre demand from Europe and the US.

    One interesting point about China’s .47 Gini co-efficient. While Canada’s comes in at (out of memory so don’t quote me) around .32, and the EU-15 average is .31. The U.S. is at .466.

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