Whether it's a marginal decrease or a full-scale hard landing, China's economic growth rate is expected to fall in 2012. The amount that China's growth rate decreases in 2012 will be a strong determinant of the performance of emerging markets equities and commodities. However, until recently the only evidence of this hard landing has been falling commodity prices. However, new economic releases from China provide investors a greater clue about the high probability. Here are four of the biggest indicators that back up a hard landing in China.
#1: Chinese electricity consumption down - According to Nomura's Ziwhei Zhang, Chinese electricity consumption declined 7.5% for the month of January 2012. This January's power consumption levels are the lowest since 2002 and imply a significant contraction of economic activity.
#2: China is unable to control high inflation - China's most recent inflation came out 0.4% higher than last month's release at 4.5%. This was significantly higher than an expected slight decline in inflation. The reality is that as long as China maintains its peg to the U.S. dollar, China will be unable to control inflation. Through the Fed's aggressive money printing as the U.S.'s high trade deficits, China imports inflation from the U.S. to keep exports high. As a result, any additional easing beyond this is untenable and will bring inflation to uncontrollable levels. The lack of monetary stimulus increases the likelihood of a hard landing.
#3: Housing Related Activity is a Disproportionately Large Percentage of GDP - When including real estate investing (tripled to 6% of GDP since 2000), construction, furniture purchases, and other home related spending, the housing market influences over 40% of China's GDP. With China on the verge of a popping housing bubble, its dependence on construction and real estate will cripple the entire economy.
#4: China has an overleveraged public sector - On the national level, China's debt to GDP is extremely low at a 18.9% debt-to-GDP ratio. However, this masks the actual fiscal realities of Chinese debt. According to Moody's, China has 10.7 trillion yuan ($1.7 trillion dollars) of debt owed by local governments. When adding in local government debt and future contingent liabilities (these bring up the national debt to 77% of GDP), China total debt adds up to about 100% of GDP (similar level to the U.S.). In addition to this, Chinese banks have been agreeing to extend existing loans' maturities to avoid current default. The fact that the Chinese government is pushing these extensions highlight the existing insolvency in the Chinese state-owned banking system.
Opponents argue that since China is a centrally planned economy, the uninterrupted authority of the state to take action will keep the country's economic growth consistently above 8%. That did not work well for the USSR or the mercantilism practiced by the Spanish Empire in the past and government intervention cannot permanently prop an economy in 2012 either. The bottom line for investors is to avoid Chinese equities (NYSEARCA:FXI) and commodities outside of precious metals and agriculture (especially base metals and oil).
Disclosure: I am short FXI.