Monday 23 April 2018

China alarm over? No, this is merely a pause in an ongoing debt crisis

Investors looked set for another white-knuckle day as Chinese, Hong Kong and Japan shares dipped in and out of negative territory
Investors looked set for another white-knuckle day as Chinese, Hong Kong and Japan shares dipped in and out of negative territory

Jeremy Warner

Phew! What a relief.

After weeks of botched decision making and dithering, the Chinese authorities have finally ridden, Alan Greenspan-like, to the rescue.

They’ve cut the official interest rate, and they’ve added liquidity to markets by reducing the reserve requirements for banks.

All that’s required now is for Janet Yellen, chair of the US Federal Reserve, to row in behind these actions, signal that a US rate rise is for the moment off the table, and the crisis – such as it was - will be over before it even properly began.

That, at least, is one way of looking at it. Yet the more correct way is as a timely reminder that all is still far from well in the global economy.

For the moment, the focus is on China, and the difficulties it is having in switching from past engines of growth – exports and capital investment – to a more Western and sustainable form of economic expansion more solidly based on domestic consumption.

Look further afield, however, and you find that almost everywhere is mired in its own particular form of economic unhappiness. For much of the rest of the emerging markets economy, it’s the end of the Chinese dependent commodities boom, leaving many resource dependent countries scratching around to pay their bills and service mountainous foreign currency debts. In Japan, whose economy, like China’s, is similarly dependent on investment and exports, Abenomics is also struggling to counter the effects of the Chinese slowdown.

Greece may have achieved a stay of execution, but Europe as a whole remains firmly stuck in a state of political and economic crisis of almost biblical proportions, with no sign of the shift in political attitudes necessary to solve it.

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The main Anglo Saxon economies are at least growing, but in both Britain and the US, these are manufactured recoveries still heavily dependent on rising consumption and record low interest rates. Britain’s near 6pc current account deficit is testament to just how beholden to foreign inflows of capital the UK has become to fund its expenditures.

When the former Chinese leader Wen Jiabao fired the starting gun on the present era of market-based reform by describing the Chinese growth story as it then was as “unstable, unbalanced, uncoordinated and ultimately unsustainable”, he might have been talking about the global economy as a whole. The Western financial crisis has done little to correct this underlying state of instability.

What we instead see is the so-called “Greenspan-put” - the belief in financial markets based on experience that whenever the going gets tough, the Federal Reserve will come riding to the rescue – played out on a global scale. At the height of his pomp, Mr Greenspan was credited with almost god-like powers. Today, his legacy is viewed far less kindly; by persistently underwriting markets, and thereby suspending the usual rhythm of the business cycle, he is widely seen as a major part of the mischief that led up to the Western financial crisis.

This hasn’t stopped policymakers repeatedly applying the same therapy to its aftermath. After a fashion, it’s worked. The economies that have done best are the ones that have applied fiscal and monetary stimulus most liberally. The biggest practitioner of all has been China. Unwilling to countenance any setback to stellar rates of growth, and the legitimacy they bestow on the ruling Communist Party, China unleashed a fiscal and credit expansion of massive and unprecedented proportions. This has brought growth and jobs, but it has also reinforced pre-existing imbalances in the Chinese economy.

As it happens, exports have not really been part of the Chinese growth story for a long time now. Rather, the main driver has been debt-fuelled investment, particularly property, where the Field of Dreams delusion of “build and they will come” has been pursued to an extreme degree. The resulting credit, housing and construction booms have since come home to roost with a vengeance. Industries that relied heavily on the construction bubble – from building materials to consumer durables such as washing machines – have fallen off a cliff.

Consumer spending has admittedly been rising strongly to meet this contraction in capital investment. Service industries too, if you can believe the official Chinese data, have been growing strongly, both in nominal terms and as a proportion of GDP, but not by enough fully to compensate for the fall off in investment.

Like some kind of circus act, the idea was to jump from one galloping horse to another. Unfortunately, investment has been cooling far more rapidly than the consumer economy can grow. Officially, China grew by 7pc on an annualised basis in the first half, bang on target. Many Western observers believe the true figure to be 4pc or less, which for China is close to stall speed.

Almost unbelievably, there was no mention whatsoever of the stock market turmoil in Tuesday’s edition of China’s People’s Daily. Like Stalinist era pictures of Trotsky, the offending material has been airbrushed out of the official record. A perquisite of a fully functioning market economy is transparency and free flow of information. On this, as on so many other things, China still has a long way to go.

If nothing else, the events of the past few weeks have served to highlight anew what should have been a self-evident truth; that China’s authoritarian form of state-directed capitalism has not, after all, succeeded in somehow suspending the usual rules of economics. You’d be amazed how many otherwise rational and well-informed Western observers came to believe this nonsense, eulogising the Chinese economic model as in some way superior to its Western counterparts. It is to be hoped that the scales have now fully fallen from everyone’s eyes.

None of this is to represent the Anglo-Saxon model in its current form as an economically more sustainable one. America and Britain are in many respects the reverse image of China, with far too little investment in the economic mix, and too much credit-fuelled consumption. Both models, it would seem, have through their love of debt made themselves prone to financial and economic crisis. The Chinese authorities may succeed in staving off the moment of truth a while longer yet, but the summer storm in stock markets has very much sounded the warning bell.

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