Why China's economic 'miracle' can't last
Posted
May 19 2009, 02:36 PM
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By Vitaliy N. Katsenelson
Be careful about investing your hard-earned dollars in China's economic 'miracle.'
One should not confuse China's swift economic growth -- retail sales up 14.8%, industrial production up 7.3% and car production ahead 18% -- with sustainable growth.
The US consumer is deleveraging and the global appetite for goods is declining -- and Chinese exports dropped 22.6% in April.
This raises a question: How can China, with its mainly export economy, thrive when its exports are falling?
The answer is that today's China is a story of two competing economies: the real economy, producing goods and services for mostly external consumption, which is declining at a tremendous rate; and the economy stimulated by government spending, which is currently expanding as if on steroids.
The second one is clearly keeping things going right now. Here's how:
- The Chinese central bank has a significant advantage over ours. The Fed can print a lot of money -- and it has -- but there's almost nothing it can do to speed spending. The Fed cannot force corporations and consumers to spend. Since China isn't a democracy, it doesn't suffer this limitation of a democracy.
- China's communist government owns a large part of the money-creation and money-spending apparatus. As a result, money supply shot up 25.5% in March. And, since the government controls the banks, it forced them to lend more money out.
- Finally, China can force government-owned corporate entities to borrow and spend. And the government can spend quickly, which is important when trying to build infrastructure. If the Chinese government decides to build a highway, it simply draws a straight line on the map. Any obstacle -- even a hospital or a school -- becomes a casualty of the greater good.
Why China has to stimulate
The Chinese government goes to great lengths to stimulate its economy because it doesn't have the kind of social safety net one sees in the developed world. It needs to keep its economy going at any cost.
Millions of people have migrated to its cities, and now they're hungry and unemployed. People without food or work tend to riot; to keep that from happening, the government is more than willing to artificially stimulate the economy, in the hopes of buying time until the global system restabilizes.
This type of growth is simply not sustainable, as it comes from borrowing. Its quality is low -- hundreds of billion-dollar decisions made on the fly don't inspire a lot of confidence in their efficacy. It will result in a huge pile of bad debt; simply put, forced lending is bad lending. The list of negative consequences is very long, but the bottom line is simple:
There is no miracle in China's miraculous growth, and China will pay a price. The only question is when the bill will come due and how big it will be.
Vitaliy N. Katsenelson, CFA, is director of research at Investment Management Associates in Denver, Colo., and he teaches a graduate investment class at the University of Colorado at Denver. He is the author of "Active Value Investing: Making Money in Range-Bound Markets" (Wiley 2007).
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