China's Stimulus Takes a Page out of Greenspan's Book

Let me preface this piece by saying, as always, let's take government figures with a grain of salt. Second, for readers of Fund My Mutual Fund, many of the topics discussed in this piece have been hashed out on the website many months ago. Lost in the shuffle of the earnings bonanza came news that would normally move the US markets itself: the Chinese GDP. It came in at 7.9%. From a 40,000 foot point of view, if you are a Keynesian, you have to be thrilled with the success of the Chinese stimulus in terms of supporting the economy while the export model suffers. [Jun 9, 2009: China Car Sales Jump 47% Year over Year on Subsidies] We won't even begin to contrast this to the US stimulus, in which case even France is beating us in terms of effectiveness. [Jul 8, 2009: NYT - France's Stimulus Projects, Unlike in US - Were "Shovel Ready"]

But as we warned as far back as February, China is following the Alan Greenspan model. [Feb 16 2009: Is China Pulling an Alan Greenspan?] We wrote then:

Some very interesting data out of China of late in terms of loan growth - in fact staggering data.

Before I write the rest of this entry, don't take it as bashing the Chinese. In fact they are learning from the masters of manipulation - the United States. They are following the Greenspan playbook - to forestall a normal economic cycle, flood the system with dollars... which creates new bubbles. Keep kicking the can down the road, until one day it all implodes (which is what we are enjoying now after 20 years of kicking).

But now we see China is embarking on the same game plan - which in the long run will lead to bad outcomes, but in the short(er) run can goose values.

Chinese banks extended a record 1.62 trillion yuan ($237 billion) in loans in January, more than double the year before, as lenders heeded government calls to loosen credit controls to help revive the economy. Facing an abrupt slowdown due to plunging demand for China's exports, regulators have sought to boost liquidity after years of trying to rein in lending. Banks made 771.8 billion yuan ($113 billion) in new loans in December, figures show, up nearly 15 fold over the same month a year before.

Money supply, as measured by M2, climbed 18.8% at the end of January from a year earlier, accelerating from the 17.8% rise at the end of December, according to the PBOC.

Greenspan was lauded as a genius for the sugar highs he created; both on the ground and in the "efficient markets" that are supposed to sniff out stupidity. Any problem in the economy was met with a torrid fire hydrant of cheap and easy money. The aggregate sugar high lasted a long time and hid a lot of disfigurement under the surface. What happens in China? The same? Already there has been talk of much of this money going into the stock market, and real estate market. (sound familiar?) [Jun 29, 2009: China Business News - $170B of Bank Loans Funneled into Stock Market] And many of these loans will go bad; thankfully China has a massive foreign exchange reserve to pay for the bad loans, but there will be consequences of inefficient allocation of capital. [May 27, 2009: How is China Spending their Stimulus Money; and How many Loans will go Bad?]

As speculators, do we care? Apparently not, judging from the US model of the past 20 years - we just are happy to get while the getting is good (bubble?! nah!) and when the inevitable sugar high wears off, we'll look at each other in embarrassed fashion that we "were duped".

Also keep in mind the social issues on the ground. As we wrote in 2008, China leaders have to worry about political upheaval; the peasants there actually strike back if things get really bad. [Dec 7, 2008: WSJ - China Fears Restive Migrants as Jobs Disappear in Cities] The peasants in the U.S. on the other hand, turn on American Idol and shrug their shoulders while regurgitating 30 second dogmatic sound bites ingrained in their brains from their affiliated political party. Two different worlds. So a bigger question for China is, even if they know the effects of stimulus are foreboding, can they risk not doing them? [Jan 26, 2009: NYT - College Educated Chinese Feel Job Pinch]

Again, regular readers will be well versed in these topics, but I am glad to see the Wall Street Journal catching on as well:

• China's government said its economy's rebound remains uneven and unstable, even as a surge in growth has prompted economists to debate whether officials need to start cooling things down. The government's eight-month-old stimulus program helped boost China's gross domestic product growth to 7.9% in the second quarter, the National Bureau of Statistics reported Thursday, up from 6.1% in the first quarter.
• Some economists are urging Beijing to fine-tune its expansionary policies to lower the risks of asset-price bubbles and inflation.
• But Mr. Li noted that prices are still declining and that many industries are faced with excess capacity. "Total demand is still insufficient, and economic growth is below its potential rate," he said. China's consumer price index fell 1.7% in June from a year earlier, the fifth straight monthly decline, while the producer price index fell 7.8%, the seventh straight monthly drop. Concerns about deflation, as well as continued worries about unemployment, are likely to keep pressure on the government to continue stimulus efforts.
• Some economists also remain concerned about private businesses' continued reluctance to invest, especially as industrial profits continue to fall. But the increasing evidence that the worst of the slowdown is over for China is fueling debate about the proper course for policy in coming months.
• Value-added industrial output, the key measure of manufacturing activity, rose 10.7% in June from a year earlier. That compares to growth of just 3.8% in January and February. The expansion in fixed-asset investment -- money poured into items such as plants and real estate -- in urban areas rose 33.6% in the first half of the year from a year ago, as the government ramped up new projects.
• The People's Bank of China has already started to take some measures to fine-tune the rapid flow of credit. On Thursday, the central bank used its weekly sale of three-month bills to continue to guide money-market interest rates higher for the third straight week.
• China's retail sales in June rose 15% from a year earlier, in line with May's 15.2% growth. Although retail sales are an imperfect barometer of private consumption because they include government purchases, the data nevertheless suggest private consumption demand remains steady for now. [Mar 17, 2009: NYT - In China's Stimulus Spending, Seeds of Surge], [Jan 13, 2009: AP - China Trade Slump Worsens; Exports Fall - So Do Imports], [Jan 8, 2009: NYT - As Trade Slows, China Rethinks Its Growth Strategy], [Dec 7, 2008: NYT - China's Economy, In Need of Jump Start, Waits for Citizens to Loosen Fists]

Comments

[Ricard:]

I'm not sure what to make of this article. On one hand, stimulus is supposed to do exactly what the author accuses Greenspan of doing in the past. On the other hand, we can see Japan's (as well as our) disastrous attempts at government stimulus, paying for enough pork to make a pig the size of California.

Maybe the answer is 'when it rains, you get wet', or 'sh*t stinks'. Luckily for China they have some room to maneuver. After all, to have stimulus work *too* well would be a very desirable problem for us to have.

Jul 20 06:22 AM

[Sober Realist:]

One to two years of bubble growth is all China will be able to get out of its pump priming. Michael Pettis compares it to Japan's 1987 economy crash where they enjoyed another 2 years of bubble growth before the their house of cards came down. Derek Scissors gives China only one year:
www.heritage.org/Resea...
He describes China's current surge in bank loans as an "utterly unsustainable pace for lending and indicates severe damage to banks. With the old ratio, banks were at best holding their own in terms of bad debt. With the new ratio, tens of billions--and perhaps hundreds of billions--of dollars of loans will not be repaid. Official denials will flow like water, but the simple numbers are inescapable: China's economic recovery is being constructed on the back of a savaged banking system."
A recent Bloomberg article suggests that China's stock market is already "locked in" to repeat 2007. Here's the excerpt:

"The Shanghai stock market is already up 75% this year, while the national average price of residential properties jumped more than 20% in the first half, Mingchun Sun, Nomura’s chief China economist, noted in a report.

Liquidity conditions were at their loosest in two decades and Shanghai’s price/earnings ratio was well below its historic peak.

“In other words, we believe a bubble is inevitable and will only grow bigger, possibly exceeding that of 2007,” Sun said.

All bubbles burst, messily, so why don’t policymakers act now?

One reason, Sun said, is that many investment projects launched by the state will take three to five years to complete, requiring additional bank financing in 2010 and 2011.

“Therefore, a sudden and aggressive tightening would not only face substantial resistance from local governments, but may also delay the completion of some of the projects and bring immediate and unnecessary non-performing loan problems to banks,” he wrote.

So monetary conditions are likely to stay loose until 2012 or even later, he said...."

Since we are right now lying in the wreckage of the largest credit bubble the world has ever seen, China's chances of government stimuli pulling them through the current economic reality are slim to none. China has no plan B for an L-shaped readjustment. China's recent bond sale failure is an ominous sign. From Stratfor:
"Beijing failed in its effort July 17 to sell government debt, indicating that even the Chinese government may be souring on its financial plans."

Jul 20 06:59 AM

[John Galt:]

The peasants in China do fight back, but they are dirt poor and starving. The peasants in America have cable TV and are most likely over weight. People in a lot of the world would love to be a "poor person" in America. If the average person in China makes 4,000 dollars per year and that number is even skewed by increasingly affluent cities... The people in rural china are literally dirt poor.

Chinese banks extended a record 1.62 trillion yuan ($237 billion) in loans in January, more than double the year before, as lenders heeded government calls to loosen credit controls to help revive the economy.
- That sounds like the US of A from 2002ish to 2006ish.

Jul 20 08:42 AM

[Sober Realist:]

Mark,
An interesting first hand account of the current Chinese real estate market:
seekingalpha.com/artic...
"China needs to increase domestic consumption for stable internally driven growth. You can’t increase domestic consumption if you’re buying real estate. So this is yet one other way that this whole liquidity injection is preventing a transition to a consumption-based economy. You really do wonder how long the Chinese will keep up this level of “pump priming”. If they realize how much they’re screwing themselves for the next decade, the central government might just tighten liquidity."

Jul 20 10:56 AM

[Graham and ...:]

This is not the right book to "take a page out of."

Jul 20 11:01 AM

[Abe Mishima:]

The bubbles in the US and Japan were promulgated by overpaid people with an false sense of wealth. Who were the overpaid? Real estate brokers acting like hogs, brokers pumping worthless stocks, tech workers with low productivity and exaggerated salaries, and high school graduates who thought they should be paid more than college grads. Now that the recession has forced people to look in the mirror and face the fact that they are replaceable/expendable in the grand scheme of things, the entire foundation of our consumer economy has been undermined. There are fewer fools to purchase that which is overpriced or unnecessary. China may crash eventually, but not like us. Hopefully the citizens still have a work ethic. In America, only the illegal Mexicans work their butt off. Until we get rid of the slacker mentality in our society, and the "something for nothing" attitude that afflicts our workers, this will not be our last bubble. Lazy is as lazy does. Every bubble is due to mental laziness. Think about it.

Jul 20 03:46 PM

[Glen L.:]

@Abe Mishima: although I can't argue that the average American worker has grown fat and lazy, this has nothing to do with the market bubbles. They were created by the Federal Reserve and the government, via easy credit policies, which convinced Joe Sixpack to buy and hold vastly overvalued tech stocks, and that his house was worth far more than an honest market would price it. Greenspan and Bernanke, and Rubin and Paulson, are just the latest in a line of scumbag bureaucrats who sacrificed the nation's economic health on the altar of the Big Banks they work for. Blaming this on the laziness of the common man is exactly what they would have you believe, by the way, to deflect attention from themselves. Don't be suckered by them.

Jul 20 05:21 PM

[Abe Mishima:]

Glen, we have to blame the intellectual laziness of bankers, ratings firms, and wealthy investors who fueled the real estate craze. My own lack of due diligence (PhD and all) is something I'll have to live with for a long time. Greenspan may have knowingly contributed to the bubble, or possibly, he was just stupid. History has to decide that. Joe 6P was merely on the bottom grabbing bananas made available to him by the above. Joe was just a pawn in the game of life.

Jul 20 06:27 PM

[Mad Hedge F...:]

Cath the overflow in Hong Kong. The upside breakout to a new 10 month high of 19,500 in Hong Kong’s Hang Seng Index last night, up 70% from its March low, could be a signal for better emerging market performance everywhere. I have always viewed the former British crown colony as the older, better dressed, more respectable brother of its rougher, often irresponsible, riskier sibling in China. Hong Kong companies offer experienced management, believable accounting, and liquid, unrestricted securities to trade. The Hong Kong dollar is pegged to the US currency, eliminating currency risk for dollar based investors. Foreign capital flows into Hong Kong have been huge this year, as investors cash in their US blue chips for Chinese ones. Once considered a place where you only played with your “mad” money, Hong Kong is rapidly becoming a core holding. Look at Marty Whitman’s 3rd Avenue Fund, which has and eyebrow raising 39% of its holdings in Hong Kong stocks. Now there’s a bet and a half! Hong Kong is the China play that lets you sleep at night. Look at the iShares Hong Kong Index ETF (EWF).

Jul 20 08:45 PM