Wednesday, November 5, 2008
Many people argued that China would "decouple" from Western economies, weather the financial crisis relatively unscathed, and thus help to give the world economy some stability.
Unfortunately, that is not happening. For example:
- China's GDP has slowed from 12 percent to 9 percent
- The Chinese stock market is down 60%
- Chinese banks are facing a liquidity crisis
- According to Bloomberg: "Decades of state-directed lending left China's four biggest banks with bad loans equal to almost 40 percent of outstanding loans in 1998. They were still sitting on $171 billion of soured debt, or 6.1 percent of total advances, at the end of June"
- Chinese businesses are getting slammed. Indeed, some factory owners are abandoning and simply walking away from their factories
- China's real estate market is facing a slump.
The Telegraph writes:
Hopes that the BRIC quartet (Brazil, Russia, India, and China) would take over as the engine of world growth have proved yet another bubble delusion.And leading economist Nouriel Roubini writes in an article entitled "The Rising Risk of a Hard Landing in China: The Two Engines of Global Growth – U.S. and China – are Now Stalling":
China says 53pc of the country’s 3,600 toy factories have gone bust this year. Economist Andy Xie says China is at imminent risk of its own crisis after allowing over-investment to run rampant, like Japan in the 1980s. “The end is near. They’ve been keeping this house of cards going for a long time with bank support,” he said.
China's derivatives exposure may be less than Western nations, and its growth will probably not fall as dramatically as the growth of American, British and other Western economies, but China is still getting hammered by the economic crisis, which will further damage the global economy.
"For the last few years the global economy has been running on two engines, the U.S. on the consumption side and China on the production side, both lifting the entire global economy. The U.S. has been the consumer of first and last resort spending more than its income and running large current account deficits while China (and other emerging market economies) has been the producer of first and last resort, spending less than its income and running ever larger current account surpluses.
The latest batch of macro data from China are mixed but all pointing towards a sharp deceleration of economic growth: official GDP data showing growth down to 9% from the 12% of a couple of years ago; sharply falling spending on consumer durables (autos); falling home sales and sharp fall in construction activity; leading indicators of the manufacturing sector (the Chinese PMI) showing a value of 44.6% (i.e. an outright contraction of manufacturing as a level below 50% indicates a contraction), its lowest level ever since its publication. 9 out of 11 PMI sub indices showed contraction - Output, New Orders, Input Prices, Purchases of Inputs, New Export Orders, Imports, Backlogs of Orders, Stocks of Major Inputs. Output index fell to 44.3 from 54.6 in September, while new orders dropped to 41.7 from 51.3, while the inventory index climbed to 51.4 from 50.5. The decline in total orders has been even stronger than in export orders, thus suggesting a weakening in both domestic and export demand. And the decline in construction activity is without doubt a major contributor to the recent weakness in industrial activity in China.
And of course the Chinese equity bubble (P/E ratios reached a ridiculous level of 60 plus late last year) has now gone bust big time with the Shanghai index now having fallen over 60% from its bubbly peak.
There is thus now a growing risk of a hard landing in China. Let us be clear what we mean by hard landing. In a country with the potential growth of China hard landing would occur if the growth rate of the economy were to slow down to 5-6% as China needs a growth rate of 9-10% to absorb about 24 million folks joining the labor force every year; it needs a growth rate of 9-10% to move every year about 12-14 million poor rural farmers to the modern industrial/manufacturing urban sector. The whole social and political legitimacy of the regime of the ruling Communist party rests on continuing to deliver this high growth great transformation of the economy. Thus, a slowdown of growth from 12% to 5-6% would be the equivalent of a hard landing or a recession for China. And now a variety of macro indicators suggest that China is indeed headed towards a hard landing.***
And once Chinese export growth sharply decelerates and net exports sharply fall you can expect a severe fall in capex spending in China as there is already a large excess capacity of exportable goods given the massive overinvestment of the last few years.
Can aggressive monetary/credit and fiscal policy easing prevent this hard landing? Not necessarily.
Could fiscal policy rescue the day and prevent a Chinese hard landing? The optimists argue yes by pointing out that fiscal deficits and public debt are low in China and that China has the resources to engineer a rapid fiscal stimulus in a short period of time. But the ability of China to implement a rapid and massive fiscal stimulus is limited for a variety of reasons.***
The second engine of global growth – China on the production side – is also on its way to stalling. Thus, with the two main engines of global growth now in serious trouble a global hard landing is now almost a certainty. And a hard landing in China will have severe effects on growth in emerging market economies in Asia, Africa and Latin America as Chinese demand for raw materials and intermediate inputs has been a major source of economic growth for emerging markets and commodity exporters. The sharp recent fall in commodity prices and the near collapse of the Baltic Freight index are clear signals that Chinese and global demand for commodities and industrial inputs is sharply falling. Thus, global growth – at market prices – will be close to zero in Q3 of 2008, likely negative in Q4 of 2009 and well into negative territory in 2009. So brace yourself for an ugly and protracted global economic contraction in 2009."