Not just another fake.docx

Not just another fake.docx

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Notjustanotherfake

Notjustanotherfake

ThesimilaritiesbetweenChinatodayandJapaninthe1980smaylookominous.ButChina’sboomisunlikelytogivewaytoprolongedslump

China'seconomy

Jan14th2010|BEIJING|fromPRINTEDITION

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IllustrationbyDerekBacon

Correctiontothisarticle

CHINAreboundedmoreswiftlyfromtheglobaldownturnthananyotherbigeconomy,thankslargelytoitsenormousmonetaryandfiscalstimulus.Intheyeartothefourthquarterof2009,itsrealGDPisestimatedtohavegrownbymorethan10%.Butmanyscepticsclaimthatitsrecoveryisbuiltonwobblyfoundations.Indeed,theysay,ChinanowlooksominouslylikeJapaninthelate1980sbeforeitsbubbleburstandtwolostdecadesofsluggishgrowthbegan.Worse,wereChinatofalternow,whiletherecoveryinrichcountriesisstillfragile,itwouldbeasevereblownotjustathomebuttothewholeoftheworldeconomy.

Onthefaceofit,thesimilaritiesbetweenChinatodayandbubble-eraJapanareworrying.Extraordinarilyhighsavingandanundervaluedexchangeratehavefuelledrapidexport-ledgrowthandtheworld’sbiggestcurrent-accountsurplus.Chronicoverinvestmenthas,itisargued,resultedinvastexcesscapacityandfallingreturnsoncapital.Afloodofbanklendingthreatensafuturesurgeinbadloans,whilemarketsforsharesandpropertylookdangerouslyfrothy.

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Relatedtopics

∙Asset-pricebubbles

∙Financialmarkets

∙Asianeconomy

∙Chineseeconomy

∙Japaneseeconomy

Justasinthelate1980s,whenJapan’seconomywastippedtoovertakeAmerica’s,China’sstrongreboundhasledmanytoproclaimthatitwillbecomenumberonesoonerthanexpected.Incontrast,arecentflurryofbearishreportswarnthatChina’seconomycouldsoonimplode.JamesChanos,ahedge-fundinvestor（andoneofthefirstanalyststospotthatEnron’sprofitswerepurefiction）,saysthatChinais“Dubaitimes1,000,orworse”.Anotherhedgefund,PivotCapitalManagement,arguesthatthechancesofahardlanding,withaslumpincapitalspendingandabankingcrisis,areincreasing.

Scarystuff.However,acloseinspectionofpessimists’threemainconcerns—overvaluedassetprices,overinvestmentandexcessivebanklending—suggeststhatChina’seconomyismorerobustthantheythink.Startwithassetmarkets.ChinesesharepricesarenowherenearasgiddyasJapan’swereinthelate1980s.In1989Tokyo’sstockmarkethadaprice-earningsratioofalmost70;today’sfigureforShanghaiAsharesis28,wellbelowitslong-runaverageof37.Granted,pricesjumpedby80%lastyear,butmarketsinotherlargeemergingeconomieswentupevenmore:

Brazil,IndiaandRussiarosebyanaverageof120%indollarterms.AndChineseprofitshavereboundedfasterthanthoseelsewhere.InthethreemonthstoNovember,industrialprofitswere70%higherthanayearbefore.

China’spropertymarketiscertainlyhot.PricesofnewapartmentsinBeijingandShanghaileaptby50-60%during2009.SomelavishprojectshavemuchincommonwiththoseinDubai—notably“TheWorld”,aluxurydevelopmentinTianjin,120km（75miles）fromBeijing,inwhichhomeswillbearrangedasamapoftheworld,alongwiththeworld’sbiggestindoorskislopeandaseven-starhotel.

Averagehomepricesnationally,however,cannotyetbecalledabubble.OnJanuary14ththeNationalDevelopmentandReformCommissionreportedthataveragepricesin70citieshadclimbedby8%intheyeartoDecember,thefastestpacefor18months;othermeasuressuggestabiggerrise.Butthisfollowedafallinpricesin2008.Bymostmeasuresaveragepriceshavefallenrelativetoincomesinthepastdecade（seechart1）.

Themostcitedevidenceofabubble—andhenceofimpendingcollapse—istheratioofaveragehomepricestoaverageannualhouseholdincomes.ThisisalmostteninChina;inmostdevelopedeconomiesitisonlyfourorfive.However,TaoWang,aneconomistatUBS,arguesthatthisrich-worldyardstickismisleading.Chinesehomebuyersdonothaveaverageincomesbutcomelargelyfromtherichest20-30%oftheurbanpopulation.Usingthisgroup’saverageincome,theratiofallstorich-worldlevels.InJapantheprice-incomeratiohit18in1990,obligingsomebuyerstotakeout100-yearmortgages.

Furthermore,ChinesehomescarrymuchlessdebtthanJapanesepropertiesdid20yearsago.One-quarterofChinesebuyerspaycash.Theaveragemortgagecoversonlyabouthalfofaproperty’svalue.Owner-occupiersmustmakeaminimumdepositof20%,investorsoneof40%.Chinesehouseholds’totaldebtstandsatonly35%oftheirdisposableincome,comparedwith130%inJapanin1990.

China’spropertyboomisbeingfinancedmainlybysaving,notbanklending.AccordingtoYanWang,aneconomistatBCAResearch,aCanadianfirm,onlyaboutone-fifthofthecostofnewconstruction（commercialandresidential）isfinancedbybanklending.Loanstohomebuyersandpropertydevelopersaccountforonly17%ofChinesebanks’total,against56%forAmericanbanks.Abubblepumpedupbysavingismuchlessdangerousthanonefuelledbycredit.Whenthemarketbeginstocrack,highlyleveragedspeculatorsareforcedtosell,pushingpriceslower,whichcausesmoreborrowerstodefault.

EvenifChinadoesnot（yet）haveacredit-fuelledhousingbubble,thefactthatpropertypricesinBeijingandShanghaiarebeyondthereachofmostordinarypeopleisaserioussocialproblem.Thegovernmenthasnotkeptitspromisetobuildmorelow-costhousing,anditisclearlyworriedaboutrisingprices.Inanattempttothwartspeculators,ithasreimposedasalestaxonhomessoldwithinfiveyears,hastightenedthestricterrulesonmortgagesforinvestmentpropertiesandistryingtocrackdownonillegalflowsofforeigncapitalintothepropertymarket.Thegovernmentdoesnotwanttocomedowntoohard,asitdidin2007bycuttingoffcredit,becauseitneedsalivelypropertysectortosupporteconomicrecovery.Butifitdoesnottightenpolicysoon,afull-blownbubbleislikelytoinflate.

Theworld’scapital

China’ssecondapparentpointofsimilaritytoJapanisoverinvestment.Totalfixedinvestmentjumpedtoanestimated47%ofGDPlastyear—tenpointsmorethaninJapanatitspeak.Chineseinvestmentiscertainlyhigh:

inmostdevelopedcountriesitaccountsforaround20%ofGDP.Butyoucannotinferwastefromahighinvestmentratioalone.ItishardtoarguethatChinahasaddedtoomuchtoitscapitalstockwhen,perperson,ithasonlyabout5%ofwhatAmericaorJapanhas.Chinadoeshaveexcesscapacityinsomeindustries,suchassteelandcement.Butacrosstheeconomyasawhole,concernsaboutoverinvestmenttendtobeexaggerated.

PivotCapitalManagementpointstoChina’sincrementalcapital-outputratio（ICOR）,whichiscalculatedasannualinvestmentdividedbytheannualincreaseinGDP,asevidenceofthecollapsingefficiencyofinvestment.Pivotarguesthatin2009China’sICORwasmorethandoubleitsaverageinthe1980sand1990s,implyingthatitrequiredmuchmoreinvestmenttogenerateanadditionalunitofoutput.However,itismisleadingtolookattheICORforasingleyear.WithslowerGDPgrowth,becauseofacollapseinglobaldemand,theICORrosesharplyeverywhere.Thereturntoinvestmentintermsofgrowthoveralongerperiodismoreinformative.Measuringthisway,BCAResearchfindsnosignificantincreaseinChina’sICORoverthepastthreedecades.

MrChanoshasdrawnparallelsbetweenChinaandthehugemisallocationofresourcesintheSovietUnion,arguingthatChinaisheadingthesameway.Thebestmeasureofefficiencyistotalfactorproductivity（TFP）,theincreaseinoutputnotdirectlyaccountedforbyextrainputsofcapitalandlabour.IfChinawereaswastefulasMrChanoscontends,itsTFPgrowthwouldbenegative,astheSovietUnion’swas.YetoverthepasttwodecadesChinahasenjoyedthefastestgrowthinTFPofanycountryintheworld.

Eveninindustrieswhichclearlydohaveexcesscapacity,China’scriticsoverstatetheircase.ArecentreportbytheEuropeanUnionChamberofCommerceinChinaestimatesthatinearly2009thesteelindustrywasoperatingatonly72%ofcapacity.Thatwasatthedepthoftheglobaldownturn.Demandhaspickedupstronglysincethen.Thereportclaimsthattheindustry’sovercapacityisillustratedby“astartlingfigure”:

in2008,China’soutputofsteelperpersonwashigherthanAmerica’s.Sowhat?

AtChina’sstageofindustrialisationitshouldusealotofsteel.AmorerelevantyardstickistheAmericaoftheearly20thcentury.AccordingtoMsWangofUBS,China’ssteelcapacityofalmost0.5tonnesperpersonisslightlylowerthanAmerica’soutputin1920（0.6tonnes）andfarbelowJapan’speakof1.1tonnesin1973.

ManycommentatorscomplainthatChina’scapital-spendingspreelastyearhasmerelyexacerbateditsindustrialovercapacity.However,theboomwasdrivenmainlybyinfrastructureinvestment,whereasinvestmentinmanufacturingslowedquitesharply（seechart2）.Giventhescaleofthespending,somemoneyissuretohavebeenwasted,butbyandlarge,investmentinroads,railwaysandtheelectricitygridwillhelpChinasustainitsgrowthintheyearsahead.

Someanalystsdisagree.Pivot,forinstance,arguesthatChina’sinfrastructurehasalreadyreachedanadvancedlevel.Ithassixoftheworld’stenlongestbridgesanditboaststheworld’sfastesttrain;thereislittleroomforfurtherproductiveinvestment.Thatisnonsense.Acount