Unintended Consequences – The Great Chinese Depression – Part Two in the series.
The butterfly has wings
The role of an economist – Art of predicting the cause and effect – in an economy.
I am standing at the edge of the abyss!
I don’t like the feeling one little bit!
I have addressed the global financial tsunami – and the turning Japanese by the world’s western economies through Government inaction on interest rates and debt – and whilst I have commented on China ‘Ad Nausium’ there is no choice in the continuing saga – China is and will be in the spotlight in the foreseeable future.
One cannot avoid this – China is in the “no pain – no gain” threshold.
China is a one-party state, with real power lying with the Chinese Communist party. The National People’s Congress (NPC), decides on national economic strategy, elects or removes high officeholders, and can change China’s constitution – it normally follows the directives of the Communist party’s politburo.
China’s Xi Jinping is the current President – he may have many deficits, but a deficit of confidence is not one of them.
“Confidence is rising, not falling,” says Barme. The well-regarded China economist, Arthur Kroeber, concurs: “Xi Jinping’s government is not weak and desperate, but forceful and adaptable.”
Add that mix to Xi Jinping’s Dream – Xi said that young people should “dare to dream, work assiduously to fulfill the dreams and contribute to the revitalization of the nation.” According to the party’s theoretical journal Qiushi, the Chinese Dream is about Chinese prosperity, collective effort, socialism and national glory.”
Premier Li Keqiang said that “But however deep the water may be, we will wade into the water. This is because we have no alternative. Reform concerns the destiny of our country and the future of our nation.”
According to official party sources, the Chinese Dream is the “essence of Socialism with Chinese characteristics”.
Yes a Dream – the groundwork for collaboration of all within the State to achieve prosperity – a rebalancing from investment to consumption – a Chinese ideology.
Louis Althouser – Ideology refers to the system of abstracted meaning applied to public matters, thus making this concept central to politics. Implicitly, in societies that distinguish between public and private life, every political or economic tendency entails ideology, whether or not it is propounded as an explicit system of thought.
This is important in maintaining the illusion of China – dictatorial control on everything – and controlling that – which is not in the ruling party’s interest.
It is all an illusion – the ruling party must maintain the ‘stability’ of the county as a whole – including the domestic and international facade on the economy and control of the currency in the international arena.
What ruling party says – whether it is now or in the future – as with economic targets – will transpire. It is up to everyone else to decipher the real truth.
Domestically the change in China is best summed up by Statya J. Gabriel –
“China is undergoing an economic (class) revolution from a feudal to a capitalist social formation. I’ve rooted this controversial argument in definitions of feudalism and capitalism based on the production, appropriation, and distribution of the surplus fruits of labor. “
At this point it is necessary to emphasize that the NPC are not idiots. They themselves are well aware of the need to transform domestically – the problem stems to the 22 provinces / regions within China and the endemic corruption.
Economically the path is set – it is up to the provinces to comply.
It is up to the world to decipher what is going on.
China’s socialist market economy is the world’s second largest economy by nominal GDP, and the world’s largest economy by purchasing power parity according to the IMF.
When one looks at the Gross Domestic Product (GDP) it appears that China has had huge problems with the quality of data that it receives at the National Bureau of Statistics – and we have ongoing corruption issues within the State / Regions and capital fleeing at an alarming rate – the Central government is attempting to turn the tap off – but the damage is done – over $1 trillion exported over the 2015 calendar year.
This capital fleeing China does have an impact on the statistics – the capital controls put in place by the ruling party are being bypassed through fictitious invoicing and illegal investment transfers to ghost companies.
From The Economists’ article on ‘ironing out the Chinese Ruffles’ :-
China has a history of ironing out the ruffles in its growth figures. No less an authority than Li Keqiang, now the premier, once said that local GDP data were “man-made and therefore unreliable”. The most notorious case of manipulation came in 1998 in the aftermath of the Asian financial crisis. Many Asian countries suffered recessions but China claimed to grow by a hefty 7.8% that year. Looking at other indicators, many economists concluded that growth was in fact closer to 5%.
This year 2016 – the estimate is for 6.8 percent growth.
The pain – after the gain.
China was the savior for commodity based economies in the past 8 years – the impressive domestic infrastructure and housing build together with the export trade – was immense – the motivator of a substantial growth phase was the release of liquidity into their own market which was the catalyst to re-ignite the commodity boom.
Yes debt – an incredible amount of debt – for an incredibly large country with a huge population.
When one looks at the situation in the near term – it appears that mainstream economists have the ear of the politburo – in that there is no restrictions on debt within the State.
This is no more evident than in the recently released figures.
Rabobank, Michael Every, “..not only has China not begun to delever at all, but since McKinsey’s update (January 2015), its debt has risen by another 70% of GDP!”
According to Every, China’s 2015 debt-to-GDP might be as high as 346%, and while that is in line with wealthier developed economies – but it is “vastly higher” than any EM peer.
If China wants to maintain growth at say 6 or 7 percent annually – then the only way that this can be achieved is to allow debt bubble to grow exponentially – with lower interest rates internally – and this in itself is an unsavory thought in view of the now current debt levels.
Mind you mainstream economists would readily agree with this hypothesis – maintain the illusion – yet the end result would be catastrophic.
The butterfly has wings – debt in itself is not the solution.
This growth phase is now at an end – more so through economic necessity.
The 2016 calendar year – in reality will not show a pretty picture at the end of the day – the debt situation must be addressed – more so in light of the continual closure of companies and the layoff of workers – one can only defer debt for a short amount of time and the increase in non-performing loans means management (and the lending banks) have to juggle increased interest expense – against the employees wages and benefits – against declining income.
Yes – China has to undertake a transformation from export based – to a consumer based economy – in so doing address the bloated debt situation – the knock on effect is a far lower GDP – as debt contracts.
The Chinese authorities however will ‘maintain the dream’.
The switch to a consumer based economy is an interesting and necessary switch – that in any inflationary economic cycle may have succeeded with a soft landing – except for the mere fact that globally – trade is collapsing and the onset of a deflationary environment – through inept global central banks.
All central banks have embraced lower interest rates (or negative interest) – debt and deflation – the era of deflation and low growth.
As all countries are saturated with debt any exogenous factors will only compound the situation at the end of the day – increasing the risk of a ‘harder’ landing in China.
China together with all the external economies have to adjust accordingly – more due to inept leaders and central banks in not addressing the problem of debt – in fact to their stupidity gorging themselves on low interest rate monies to increase and support a bloated bureaucracy – whilst implementing ‘austerity’ on the masses – low interest rate consumer loans maintaining the consumption splurge on their balance sheets.
With the Chinese – it is not the ability to generate tradable goods for export – as it appears from the trade data that these are more than satisfactory – it is the domestic reconfiguration necessary after a debt engorged economic growth phase.
The drop in global commodity prices was a warning – what economists should have seen – was the glut in supply – no more evident than what was showing in heavy equipment manufacturers accounts.
For the Central authority to tackle the debt situation – it is necessary that the manufacturing ‘overcapacity’ be addressed – global demand has simply collapsed – and from my point of view will not be coming back in the short term.
Simply put – a complete review and restructure of the private and public listed non performing and indebted companies – usually these would be one in the same – whether in raw material processing and / or manufacturing industries – throughout the whole of China.
In any other country this would be mandatory selection – instigated by the Banks – companies reviewed and if insolvent and unable to maintain profits after all expenses and interest payments – liquidated – whereby the strongest survive.
In this instance their are 22 individual provinces and political interests at play.
The impact of consolidation and restructure will have the effect of increasing unemployment and that will be the NPC’s next issue – the problem with an increase in the unemployed will lead to social unrest – this is proven through history.
China’s growth phase has ended – the simple fact of the matter is that the contraction phase must be implemented – a deleveraging by the sound enterprises – thereby causing a lower than expected growth factor for several years.
The problem for the Chinese authorities is whether they control this deleveraging – through application of principles from orthodox economic thought – which will lead to a deleveraging by circumstance – a complete collapse and closure of companies – or undertake specific reform to minimize the adjustment cost:-
Prof. Michael Pettis: “….the most efficient ways for Beijing to minimize the adjustment costs for the economy and reduce the risk of a debt-related disruption is to allocate debt-servicing costs to local governments by forcing them to liquidate assets directly or indirectly to pay down debt, and to increase household wealth by transferring wealth directly or indirectly from local governments to the household sector. Successful reforms must be consistent with these two goals.”
These goals would transfer wealth to the household sector – it is whether the 22 local governments / regions are inclined to co-operate in this venture – without continual opportunism and corruption coming to the fore.
Chinese New Year is coming – the year of the monkey – to me a defining point for China in 2016 – the Chinese workers will demand their bonuses and these must be paid – or they will be demanded.
It does not matter with whom one is employed – the biggest date on the Chinese calendar must be fully funded by all and sundry – deferral of other debt obligations – meet the workers requirements – otherwise their will be social chaos.
There is already labor unrest in northern China and in the south – principally in Guangdong – which has had one of the highest personal incomes in China – are all approaching critical mass – in light of high unemployment and social instability in those areas.
China is just too big to manage as a single economy – to this end – all of the Chinese population – excluding the middle class and elite – are suffering together – and it need not be this way.
Regional self-interest must take precedence over empty expressions of nationalistic fervor – the ruling party – PRC – should identify each region and make the necessary policy adjustments.
The regional interests need to be respected – the ignorance of these by the PRC will only cause dissent and no doubt a forceful reproach to any disrespect to the ‘dream’.
International prospects and advantages are available to the Pearl River Union, which are hindered by national obligations to Xi Jinping.
The Yangtze People’s Republic must override the antiquated communist doctrine of a sole ruling People’s Republic of China model – of a unitary PRC and in so doing create a specific economic zone that benefits its own people, not the Tibetans and not the Manchurians.
Likewise, the Yellow River Federation must overcome its imperial handicap of constantly sacrificing its prosperity to the interests of Beijing.
The volatility in the stock market is evidence that investors are losing faith in the Chinese economy – this in itself is endemic – a warning to the ruling body – yet they are intent on maintaining an illusion in the stock market at all costs.
When the market was on its way up – the NPC led the charge with its desire to command very high valuations for Chinese stocks – as higher stock prices would also help China’s state-owned enterprises (SOEs) cut their debt levels because they can then sell the shares they own to pay back borrowings.
The government’s propaganda machinery propped up the stock markets – while at the same time – officials relaxed rules to make it easier for investors to borrow money to buy stocks – spurring demand from both unsophisticated small investors and opportunistic wealthy ones.
The government’s successful economic track record gave its pitch the required credibility – gullible institutional investors eventually joined the party – even though the price to earnings rations recorded – did not match the valuations.
A warped stock value logic –
On April 20, Bank of China’s share price was 4.74 renminbi, with a P/E of 7.8. A report by state news agency Xinhua in the Communist Party newspaper People’s Daily noted that “the current price-earnings ratio of Bank of China is … undervalued.”
In a country where gambling – though illegal – is part and parcel of the culture and persists in clandestine settings – the stock market merely presented an alternative.
The illusion of the dream must be maintained – Beijing-based Tsinghua University’s School of Economics last week instructed students at a graduation ceremony to
“shout loudly the slogan, ‘revive A shares, benefit the people,’” according to a report by James Kynge of The Financial Times.
“A-shares” refer to shares bought and traded on Chinese exchanges such as the ones in Shanghai and Shenzhen – and mostly held mainly by local investors and qualified foreign institutional investors.
Other foreigners are allowed to buy only “B-shares.”
Time and trend is against their attempts to interfere in these markets – the Chinese ‘bear’ cannot be stopped – the pain of restructure internally amongst the various regions must be addressed – the deleveraging internally will be at a huge cost with the gain for the future.
No doubt the world will be watching and wishing for a different result – the facade will be maintained by the National Bureau of Statistics – and the rise of social disorder will be quashed with brute force.
No more evident than the recent arrest of Wang Baoan, the head of China’s National Bureau of Statistics who was arrested for “serious violations of party discipline,” – that being to dare to talk about the capital outflow of $1 trillion during the 2015 calendar year and the impact on the statistics.
The Central Bank (PBOC) – would be well aware that depreciating the currency is not the answer – deflationary movements within the country – do not solve the enormity of the debt crisis.
In fact they have a short term benefit of devaluing current assets.
Yet – at the same time the strengthening of the USD – due to the global situation – and made worse by Japan’s decision to make introduce negative interest rates – only increases the length of the useless loop of currency devaluation.
As if that’s not bad enough – the foreign exchange reserve depletions in China – are an even worse indicator of China’s descent into the “Great Chinese Depression of 2016.”
It was perfectly fine to peg the currency to the USD – when the USD was in decline – as this avoided the ‘currency manipulation’ tag and assisted local manufacturers in marketing their goods – but the attempts to devalue the Yuan against a rising USD – has only created mayhem on currency markets – and thus devalued bond assets and implicitly impacted other regional countries currencies.
Then Davos, Switzerland -A senior Chinese official affirmed “China’s intention to decouple its currency from the U.S. dollar” – and no doubt manage this against a ‘basket of currencies’ as indicated by the PBoC.
Remember these words –
“There’s some catch-up to do” – Mr. Fang, a director-general in the Office of the Central Leading Group on Economic and Financial Affairs….”Once we’re done with it, the yuan will be stable again.”
This is when it comes to adjusting the yuan’s value against the dollar.
Is that not a warning of what is to come during this year – is this not the reason that major players – the opportunists – are selling / shorting the Yuan and the PBoC are continually having to intervene in the markets?
Continuing volatility on the Yuan – together with all regional currencies – a lovely state of affairs that will have dire consequences and will contribute to the ongoing currency wars.
Beware the dragon – the one item that will stand in the way of continued devaluation – the likes of private hedge funds and investors shorting the Yuan.
One in particular – George Soros waging a currency gamble that the Yuan – and the USD peg – is ‘easy’ pickings.
The dragon does not take kindly to interference from the likes of currency speculators – obviously Soros is unaware of the ‘Century of Humiliation’ of foreign corporations running China – it means pride and with the high levels of foreign exchange reserves that are still held allows the China to defend its currency.
Hong Kong on the other hand is in dire straits – speculators and in particular Soros should concentrate on this currency and allow the Chinese the right to stand in the market and adjust as necessary – we know that they will not – hence a continuing volatile situation in the currency in the short term.
Great Chinese Depression of 2016 – a necessary precursor to China’s reemergence as a dominant world economic power – a nightmare for the rest of the world – the catalyst to export deflation and destroy the debt bubble globally.
Now we have a global financial tsunami – with a continuing trade collapse – and the ‘global earthquake’ of deflation that will affect the world economies – all due to short term political greed, opportunism and debt.
Edit: 2 February 2016
The Chinese New Year – more money by the PBoC to avoid an embarrassment with workers bonuses – maintain the illusion in the stock market and last but not least – strengthen the Yuan.
Gong Xi Fa Cai Soros, Bass, Ackman, Druckenmiller, Tepper, Schreiber, Einhorn, Scogging, and Carlyle (umm yes Carlyle – ex Presidents Club)…
China shares climbed higher today after the country’s central bank injected more liquidity into the financial system and guided the renminbi to its highest fix in almost a month.
The PBOC added 100B yuan ($15.2B) in short-term loans to money markets, in a move to stave off potential liquidity squeezes ahead of the week-long Lunar New Year holiday that starts Feb. 7.
Shanghai Composite +2.3% to 2,749.