Bullish on Turmoil

One of the most interesting trends in global analytics and economic commentary is the “Indestructible China” myth.  Somehow China gets a free pass from economic reality while the rest of us mortals live under the weight of actual economic cause and effect. 

China is no more immune to bubbles and busts than the next country and its addiction to the dollar peg means it is importing all the rotten monetary policies of the US. 

The extent of the monetary excess in China can be summed up by this Bloomberg headline yesterday, “China Regulator Said to Seek to Curb Third Mortgages”. 

Yip, that’s right, in China right now getting stricter on, not first, not second, but third home ownership joins the other cosmetic measures for what passes as “monetary tightening”. 

China reeks of a property bubble and as Adrian Saville said in Business Report the other day, if it looks like a bubble, feels like a bubble and floats like a bubble, it probably is a bubble.

This is way more then just a financial phenomenon.  Monetary excess plays out in massive capital consumption and mal-investment.  China wants to maintain the global credit bubble status quo in a world that simply cannot support that same structure of production any longer.  Nonsense you say, China has a huge and growing pool of domestic demand so it will wean itself off export addiction.  Eventually yes, in the interim, no.  Producing and building and creating stuff (whether it be wigets or houses or office parks) that no one wants anymore, or that no one wants yet, hinders a nations ability to consume and retards its ability to access wealth and capital.  While it is an axiom that production begets ones ability to consume, even more accurately it is production that someone wants that begets ones ability to consume.  China may have a stack of people who need to live somewhere, but housing demand is always more a function of access to and availability of capital than it is a straight Malthusian calculation of housing need as such – after all, it’s not like Chinese people don’t already have places to live. 

The excessive monetary expansion in China in 2008 and 2009 will, as an axiom, have a negative real economic impact on China.  The more difficult question to answer is whether this negative impact will be prolonged and lead to a visible deflationary recession, or whether it can be outweighed by China’s unquestionably strong fundamentals, from its productive people, to its sheer size, to its resources, to its massively urbanising and emerging middle class. 

The difference between mal-investment in China and the demographically dormant and mature economies of Europe and the USA is that China can probably grow into its excess quite quickly, while the others may never grow into theirs.

The problem analytically right now is that China is such a complex animal that no-one really knows how things will play out in that nation over the coming decade.  Certainly on a pure long term systemic basis Chinese growth must slow as its short-sighted demographic policies start impacting growth in its productive age population in the next decade.  That coupled with diminishing productivity growth at the margin could easily see real growth falling toward 5-6% per year rather than the 9-10% we’ve become used to.  That in itself would be healthy, but the transition to a more sustainable growth path probably requires some painful dislocation. 

Taking the necessary real sector dislocation together with the monetary tidal waves that have hit and may yet hit China in the years ahead, it is hard not to whole-heartedly agree with Jim Grant when he says that, when it comes to the enigma that is China, he’s “Bullish on Turmoil”. 

Take 15 minutes to read Jim Grant’s excellent thoughts on China from page 29-32 below.  Especially illuminating are his views on ‘hot money’ flows into China. 

“In our opinion, the lowest-probability event on the Sino-American monetary front is tranquility.” 

Enjoy.

Grants Interest Rate Observer 2009W-Break