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Monday, November 07, 2011

A Really Good Article About The Chinese Economy

Some of the theme is wrong, but enough of the facts are there so you can get a glimpse of it.

The material facts are not that the problem is a credit crunch - this man's business is not capable of supporting the money he owes and hasn't been for years. The problem is that very few in China was afraid of massing large debts, and the entire economy has been slowly pulled into a cycle of rapidly increasing credit.

The reason why so many empty buildings have been built is that they are good collateral. It's true that the young want homes, but the big push to build ever more buildings has been driven by people buying property as collateral and an investment. Those empty cities you see discussed are bought cities. Businessmen wanted the buildings as collateral for much cheaper loans, and almost any structure turned into a paying investment.

Note the recursiveness of all this. The local governments fund their operations heavily from the sale of land to developers. The average people aren't making much in earning, so those with capital and savings have lent it out at high returns to businessmen and developers. Larger funds of capital are often lending to developers. The banks have lent on collateral - mostly homes and commercial buildings - but they are really dependent on payments funded by an ever-increasing society-wide expansion of lending.

This is such a classic credit bubble that it has global implications. The structural capacity of China to grow real GDP is probably now in the 4-5% range, and the longer they continue the credit push to get it higher, the worse the end result will be. Some time in the last five years the Chinese economy shifted from being propelled by business expansion to propulsion via credit expansion, and that never does last much longer than seven years. The max seems to be about 10 years. So they are very close to the end!

The businesses are facing narrow profit margins and declining profit margins. Having been hit hard by inflation, now they face rapidly rising credit costs. As their ability to pay their loans declines, the incomes of the population will be cut, which will cause further problems for businesses.

The Chinese government is pursuing the only option it can, which is to transfer these loans to banks at lower rates somehow, accepting large future credit losses as the cost of continuing to do business. But I think they cannot pull it off, because too much of the money circulating in population at large is dependent on the repayment of interest - actual incomes from enterprises don't support the Chinese economy any more. This is a recipe for disaster - businesses have become increasingly dependent on being money lenders, and such a situation is impossible to unravel in an orderly fashion.

The seven year debt-reset of the Old Testament seems to have had a mathematical basis that holds true over a wide range of human economies.

Interesting to see the link between our economy and oil prices. The recent dip in oil prices brought a small surge in consumer activity and now oil again is moving closer to $100 along with economic signals that show a slowing economy.
This is precisely what happened in Japan thirty years ago; buildings were used as collateral for ever increasing credit until the bubble popped; and it's been downhill ever since. Japan's population was younger at the start of that downturn than China's is now, and more socially cohesive.

Expect "lost decades" in China coming soon.
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