November 11, 2004

A BILLION ENRONS:

Crash landing coming for China: China is trying hard to slow down its scorching economy without going bust. But the sins of the past persist and they are hard to wash away. Massive over-investment, lack of a sophisticated financial system, the rigidity of a largely centrally planned economy, and staggering inequalities - all point to a hard fall. (Jack Crooks, 11/12/04, Asia Times)

As much as we would like to believe that China represents a rip-roaring free market economy - the implication of a fawning financial press - the fact is that China's economy is still 50-70% centrally planned. And we know centrally planned economies are prone to shortages and bottlenecks. They lack the flexibility to properly absorb and assimilate huge investment pools. Thus they spur political corruption.

"In China, almost every investment involves a government decision, political influence or semi-official payoff," writes Barry Naughton, professor of Chinese and international affairs at the University of California, San Diego, in an open letter to Chinese Premier Wen Jiabao, in Foreign Policy magazine. "There is no question the economy is seriously overheated, rippling electricity shortages cause blackouts and inflict significant economic damage. Huge investments in real estate and popular industrial sectors generate useless capacity that threatens to sap the country's economic strength for years to come?.The almost weekly scandals in the financial sector are making investors nervous and sinking important deals," he wrote.

"Risk-taking is inseparable from lending. Every loan, even if fully secured, is a kind of speculation," writes Jim Grant in his book "Money of the Mind". In China, security has played little role in lending, it is all about speculation.

According to The Economist magazine, China's banks have been little more than conduits for pouring money into local governments and state-owned companies, with little regard for risk or profit. The build-up of non-performing loans have led to insolvency of virtually the entire banking system. By end-2003, outstanding loans had surged to 145% of GDP, the highest such ratio in the world. Bad debts to banks at 40% of GDP are a threat to fiscal stability. Most Chinese bankers, particularly in local branches, cannot tell a good loan from a bad one. There is no need to, because local managers' pay has depended on asset growth. ­Lending lots and attracting deposits quickly have been all that counted - risk, return and capital adequacy have meant nothing.

The magazine also notes that local governments have illegally underwritten $100 billion in loans to bankroll favored investment projects.


Wall Street has never been able to see past the billion people, which they don't even understand is a bane rather than a boon.

Posted by Orrin Judd at November 11, 2004 8:55 AM
Comments

You say, "which they don't even understand is a bane rather than a boon."

I'm confused. I thought that you had held a pro-life view. How is the sentiment you express above consistent with that?

It seems to me that those who fear large populations and demean those of us that have large families, see other people as just more "mouths to feed" instead of the material from which human treasures will arise.

Posted by: C. Cooper at November 11, 2004 9:47 AM

C.:

China isn't a family. No nation, especially if run centrally, of a billion people can function. It'll have to devolve into several nations before it can even begin to be coherent.

Posted by: oj at November 11, 2004 10:03 AM

Good thing we're gonna give all that money to Wall Street when we privatize Social Security so they can invest in China for us.

Posted by: Chris Durnell at November 11, 2004 11:44 AM

China is the next Enron.

Posted by: M Ali Choudhury at November 11, 2004 12:47 PM

The Economist constantly berates the U.S. for "massive" deficits and "pathetic" savings rates. They suffer from a particularly severe form of Deficit Obsession Disorder so I don't think it's such a good idea to take them seriously with regards to China either.

I think the Chinese are taking a bit of a gamble but it might pay off.

Posted by: Bret at November 11, 2004 1:04 PM

The Economist is run by a bunch of self-important private-school toffs who know nothing about anything.

The growth in the Chinese economy is solely a function of its ability to extract resources and use it population as cheap labor. Since it has a lot of area and a lot of people and they were starting from ground zero after the Cultural Revolution, it was fairly simple to create seemingly massive economic growth. The Chinese tradition of scholarship and South China's traditional of entreprenuership helped. However, since this was a planned economy for the most part, when it got or gets to a certain level it will essentially hit an iceberg.

The crony capitalism, the boodling that goes on in China to get even the smallest tasks done will devastate that economy in the long run as it has done in other potential growth areas like Mexico, Brazil and Argentina. The Thais, who experienced a similar boom and bust in the 90s, liberalized their economy further and created some degree of accountability for fraud and bribery, some transparency. China currently has none. Let's see if they can move ahead or if a Soviet-style collapse is in the offing.

Posted by: Bart at November 11, 2004 1:25 PM

USSR-type collapse.

Posted by: Sandy P at November 11, 2004 1:32 PM

It's the old error that American businessmen make when looking at China. All they see is all those potential customers and they never look beyond that facade.

Posted by: Joe at November 11, 2004 6:37 PM

What if they decide to stave off the collapse by "foreign adventure", i.e. war and conquest? Clinton (all genuflect and burn the pinch of incense before their Divine Images) sold them all that nuclear ICBM technology...

And if they do implode without taking out the rest of the world (or at least their neighbors) in war, wasn't a total economic collapse what killed Weimar Germany? (Three guesses who picked up the pieces from that one...)

Posted by: Ken at November 11, 2004 8:22 PM

The seeds of warlordism are already there. In addition, there is a natural regionalism being re-created again. Canton and Szechuan may not want to support the poorer more hidebound provinces.

It could devolve into 7 or 8 Chinas with some being like Taiwan and others making Pol Pot's Cambodia look like a church picnic.

Posted by: Bart at November 12, 2004 6:41 AM
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