Tuesday, 8 April 2014

China and its growing pains

The Chinese economy is treated like a problem child by the media but does not deserve its bad reputation

Growing pains have led to a lot of bad press recently for both China and Justin Bieber.  The development of both has been closely watched for any signs they are going off the rails.  Bieber has been much maligned for bad behaviour as he shakes off a boyish image.  China has been the driver of growth in the global economy but may not continue to fulfil this role.  Just like Bieber, much of the new stories on China are negative but China is different in that it does not deserve the harsh treatment in the press.

Big trouble in little China?

Like a spoilt kid growing up in front of the media, a developing economy can always expect a few troubles along the way.  Even more so when every step is analysed in detail as has been the case with the once-in-a-generation rise of a new superpower (China, not Justin Bieber).  The Chinese economy always seems to be on the cusp of a breakdown according to many experts.

The current concern with China is the high level of debt amid a surge in investment.  Some of the money has gone into projects that have not panned out as shown by empty housing apartments and dodgy infrastructure ventures.  The bulk of wayward spending tends to turn up in out-of-the-way places, such as the far-flung regions of China.  Here, both private and public investment is driven more by politics than by financial fundamentals.

Local politicians need a growing economy to please their masters in central government.  Large building projects are a convenient shortcut to achieve this and banks can be cajoled into lending to maintain their political connections.  Banks have limited room to move in China due to regulations which limit the level of interest rates on savings.  This encourages savers to stash their money in what is referred to as the “shadow banking sector”.  These offer higher returns on savings and provide firms who are shunned by banks access to loans.  But being outside the normal banking system means that this sector is harder to keep tabs on and influence through policy.

Bigger worries elsewhere in the world

Talk of politicians pushing projects and shady banks does not seem to bode well for China, but its banking sector is likely to be no worse than Western banks.  Banks in the US pushed dubious mortgages throughout the global financial system during their own lending binge.  At least any direct ramifications of a banking meltdown will be mostly contained within China.  Yet, such worries fail to take into consideration one crucial factor – the controlling influence that is the Chinese government.

The government in China has both the willingness and the ability to step in and shore up the banking sector if required.  The Chinese government intervened with a massive fiscal stimulus in 2008 and 2009 as the global economy slowed.  In comparison, most Western governments only managed a half-hearted response to the global financial crisis.  A sluggish economy with high unemployment is not something that the Chinese government would tolerate as its own existence would be under threat.

Another positive for China is that any potential problems with its banking sector are not symptomatic of bigger issues.  The financing for debt in China does not come from overseas but through China’s own reserves.  Neither is the surge in investment causing the overall economy to overheat as evidenced by subdued levels of inflation and a relatively low volume of imports.  The contrast with countries making up the “fragile five” could not be starker.  China is likely to ride out any bumps in the future as it develops but the same may not hold true for the turbulent career of Justin Bieber.

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