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China’s Blowing, We’re Buying: The Great China Bubble Debate

 Noted contrarian Jim Chanos recently made some statements that have the investment community (not to mention fellow contrarian and China Bull Jim Rogers) buzzing about whether China is on the verge of popping a massive economic bubble. Such a pop would surely send catastrophic shockwaves across the fragile global economy.  But is China really on the verge of financial Armageddon?


Before we answer that question, we’d like to start by clarifying our position on China. First, we do believe there is a real estate bubble in China.  One need only look at the empty city of Ordos in Inner Mongolia, to find proof of that. This fact comes as no surprise, as central economic planning and loose monetary policy almost always lead to speculative bubbles across all asset classes.


However, we do not believe a deflationary “pop” is imminent - at least not in China.


Here’s why:


According to the World Factbook, China’s total external debt at the end of 2007 was $363B USD, while their debt to GDP ratio was only 5%. That’s a mere fraction of the United States’ current $13T debt which accounts for 95% of annual GDP, or the UK’s $9T debt which accounts for 365% of their annual GDP, not to mention other European basket cases like Ireland whose roughly $2T debt is nearly 1,000% of GDP. Thus, when the sovereign dominoes begin to fall, we feel China will be among the last to topple as they have the most reserves, not to mention a massive commodity stockpile and an undervalued currency ripe for debasement.


Another reason we feel the China bubble has time on its side, is that government intervention in the form of economic stimulus is perfectly acceptable in the PRC. Remember, the Chinese are communist. The government is SUPPOSED to provide for the well being of the people. So while “Cash for Clunkers” gets everyone up in arms here in the States, it’s received with open arms in the PRC. If current policy continues, we feel this widely accepted policy of government subsidization will ultimately allow the Chinese to inflate the kind of bubble the American government can only dream of.


So why invest in a country that’s inflating the biggest bubble in the history of history? Because the early stages of an economic bubble are highly profitable. Think of the US economy in 2004-2006. It was a great. Fortunes were made. Everyone was happy. Only when the “pop” comes do bubbles get a bad name. If we could find a way to perpetually inflate an economic bubble without ever realizing the pop (which is exactly what all major governments are attempting to do as we speak) we’d all be millionaires. But until then, we must simply identify what stage of the bubble cycle a given economy is in, and invest accordingly. And try not to look too far in the future. Because if you look far enough, we’re all dead anyway.  

Disclosure: American Contrarian holds a portfolio of US listed companies operating in China.