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China Economy: 7 questions that you should ask

Originally appeared here.

1. Will the economy be overheated?

Continued expansion of monetary policy over the past two years and the 4 trillion Yuan fiscal stimulus helped China to stage a strong recoveryBut the expansionary policy has made huge inflationary pressure and asset bubblesInflation will be the top thing you should be looking at.

 

2. Will the government lean towards containing inflation or sustaining growth?

People are unhappy with the inflation, making inflation-fighting among the top priority of the governmentOr is itAs much as fearing the inflation going out of control, the Chinese government is equally concerned about growth being not fast enoughAs Michael Pettis put itChina will do what ever it takes to hit 9% growth.

 

3. Will the economy ran into stagflation?

Indecisiveness between inflation-fighting and growth-supporting may lead to awkward consequenceI certainly hope that the government will not cut interest rate to slow the economy like Turkey, but the Turkish case does help to highlight some of the paradoxes we have in Chinese economyInflation-fighting and growth-supporting are incompatible, and in attempt to do both at the same time, there is a possibility of achieving none of them.

 

4. Are there any chance that the real estate market bull market is headed towards a abrupt end or a soft lending?

If Inflation-fighting becomes too aggressive, the real estate bull market will likely end even though many people believe that the trend of urbanisation will keep the demandAlthough the real estate market has stayed firmed in 2010 as far as prices are concerned, transaction volumes have droppedOne of the real estate developersLongfor (960.HK) now expects the prospect of real estate companies for 2011 will be even more difficult.  If there is a hard landing in the real estate market, the economy will likely be in great trouble.

 

5. Will the government allow Chinese Yuan to appreciate much faster?

One way to contain inflation would be to allow Chinese Yuan to appreciateWe might continue to hear pressure from the west on China to allow Yuan to appreciate fasterThe question is at what rate of increase would Chinese allow.

 

6. How about the structural adjustment?

To address global imbalances, it is important for China to shift from an export- and investment- driven economy to a domestic consumption driven economyThere is certain progress, but not quite enoughInvestors have been talking about the domestic consumption theme for 2 years or so as the government is supportive on domestic consumptionThe facts are wages are still low on average to allow much consumption, and Chinese people are still more incline to saveIt would be interesting to see if the market expectation of these consumer companies can really materialise, as I suspect some of those will not.

 

7. Will China be friend with neighbours and other countries?

The conflicts between the two Koreas highlights the geopolitical uncertainties in the regionChina, of course, had some territorial clash with Japan, which subsequently led to an alleged export embargo of rare earthGoing forward, the geopolitical risks in Asia is certainly something that investors should be aware of.

 

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.