Zachary Maxwell

The Great Bubble of China: Next to Pop?

I lived in China for many years. What is your email or how can we exchange emails?

The Great Bubble of China: Next to Pop?

5. The stock market is a massive bubble. Companies that are majority government owned, receive massive government support in terms of contract awarding, taxes and are supported by government controlled big banks and likely considering the legal system suffer from much false accounting and that also receive subsidies by the government and were supported by the general boom and low labor rates and the low currency were trading in the not too distant past at p/e ratios of 50 or more. Many companies made profits by owning other companies whose stock prices were rising. Stock manipulation was rampant, and likely still is. Many company execs were known to manipulate their own stocks. The majority of companies on the market are majority government owned and many of those companies are bloated and corrupt and inefficient and are not as profitable as they look, if at all, even considering the positive conditions in terms of economic growth and cheap loans under which they have been operating.

6. The one child policy is a disaster waiting to happen. If Europe and Asia have aging populations, this is nothing compared to what China will face with its (admittedly spottily enforced) one child policy. China will grow old before it grows rich.

7. The peasants are poor. They never made any money during the boom and probably never will. They benefited most from money being sent home by their children in the cities. They depend on farming for their survival and dont have substantial savings. They represent 75% of the country. For China to reform agriculture, the peasants need to leave the land and farming needs to be mechanized. Then China will be able to compete internationally in agriculture. Otherwise its agriculture will be inefficient (witness the latest DOHA round and China's approach on agriculture). However if China allows land to be consolidated and becomes efficient in agriculture, peasants will receive small compensation for their land and will not be able to support themselves in their old ages. Nobody has yet found a reasonable solution for this problem, which affects a good 800 million + of China's 1.5 (likely) billion people.

China has other problems as well, but this covers the major issues. The China bubble has benefited the Chinese immensely, the smart money rode it up and used it to full advantage. Especially those selling real estate and factory deals to foreigners, but also the Chinese themselves. The smart money knows the reality. There is no such thing as an economic miracle. When you see one, run the other direction. Or sell short in the long term.

China will continue to grow and prosper over the long term. China will over time produce reasonable (3-7%) economic growth. But the days of 10+% growth and unlimited optimism will be looked upon as we today look upon the internet bubble, a beautiful illusion while it lasted.

The Great Bubble of China: Next to Pop?

I agree with Mr. Rong completely, he has a good understanding of the situation in contemporary China. I (as all thoughtful Westerners should) wish China the best, China and her people has much to contribute to the world and her people have suffered far more than their share this century, its people do not deserve to suffer more. It pains me to state the reality. Unfortunately, the reality is dire.

1. All of Asia has relied for decades on mercantilism to encourage quick development, artificially low currencies and cheap loans to subsidized industry, with Western debt being purchased by Asia to maintain the ability of the West to consume. Japan was the first (in Asia) to take that route. China was the last to be able to develop on this model, the West cant absorb anymore debt (especially the US, suffering a crisis largely as a result of this cheap money and its own profligacy) and Western workers arent worth 10 times Chinese workers, that means that Chinese labor rates must rise relative to US and European labor rates. And the problem with this is that much industry was built on the assumption of very rapid long term growth based on this artificially cheap labor. Chinese labor is no longer cheap, its currency is rising quickly as are labor rates there. Much industry is uneconomic and will have to be abandoned. This is already happening as Chinese factories move en masse to cheap labor countries like India and Vietnam where labor rates are a third of those of China. China will face the same problems as Korea and Japan did, no longer able to fund growth with cheap labor, they must now depend on efficiency and innovation, a much harder road for which China is not at all prepared.

2. The Chinese real estate complex is a first order bubble. Government officials control the banks, land use regulation, the real estate development companies, the cement and steel companies, the stock market where these companies are listed and all other factors. Insiders (typically government officials) in every city and town in the country thus caused a massive run-up in real estate prices in order to benefit.

Imagine if the Republican party (or the Democratic, for that matter) controlled the US legal system entirely without check or balance, legally owned all of the land and could legally confiscate land at will(and often did so) or forbid development at will, owned all of the real estate companies, owned all of the banks and owned all of the steel and cement and resource companies. Can you imagine the corruption? You dont need to imagine, for that is today's China. Much wealth was created in this real estate bubble which would only have looked reasonable if China could have been expected to grow at 11% a year for the next twenty years. That wont be the case and the Chinese real estate bubble will burst. They average apartment in Shanghai is more than $130,000 USD. Average salary might be $4000 dollars per month. Shanghai is one of the largest cities in the world and these kinds of extreme price to income ratios are normal in large Chinese cities. The Chinese real estate bubble will be a heavy weight on banks (and thus on lending) ( a la the Japanese bubble) and apartment owners (and thus on consumption) for a very long time to come.

3. China's banks are bankrupt. US banks are bankrupt and the US has a legal system Can you imagine what the situation would be if there were no legal system and administration officials and local government officials controlled the banks and their lending. That is China. Not to mention the fact that the companies that they are lending to are usually majority government owned. The results of such a system are not difficult to predict. And in the meantime, private non-state owned industry that is often efficient (and yes even creative at times) is severely starved for capital except for through illegal networks banking that charge very high rates.

3. China has a one child policy. High savings rates are necessary because there is no public medical care that functions, no pension system in place. Imagine the savings rate in the US if there were no medicare or social security and parents were dependent on their children and could only have one child. China's savings are China's pensions, not a fund for consumption. This substantially limits the potential of the Chinese market. Not to mention that China is currently close to double digit inflation and real returns on deposits are negative (conveniently enough for real estate and the stock markets).

4. China's is not yet creative. While China is improving, it has spent its time copying innovation rather than creating it during that last thirty odd years. Chinese culture encourages conformity, though that is changing, however as of now China is not prepared to compete with competition at equal labor rates with countries in which innovation is fostered and more natural. Japan and Korea had two generations to learn to be creative and are still struggling, and they were much freer societies where dissent and non-conformity and innovation were encouraged to a much greater degree. China cannot be expected to become more creative than these societies in a such a short time span. This will limit China's exports volumes when it competes with countries such as India and Vietnam that can boast much cheaper labor.

4. China will have to spend a fortune to pay for its environmental mess. The north of the country is a rapidly spreading desert, desertification and its impact on farming are potentially catastrophic. This will be incredibly expensive to deal with. The rivers are polluted beyond anything the West has ever seen, this will be enormously expensive to clean up and will require the shutting down of industries or paying huge sums to clean them up. The same is true of air quality and land poisoned by chemicals and heavy metals.