I’ve realized that China’s economic situation is too tricky to fit into one post so I’ve decided to take a different direction with it and write a series of China Essentials. Hope that works.
As much as the Chinese authorities have tried to hide their dirty laundry, nobody can hide these forever.
Here are China’s loudest ticking bombs:
China’s economy relies heavily on exports, in fact, it accounts for nearly 30% of the country’s GDP – in contrast to the United States that draws about 11% of its GDP from it. And while China’s export industry was inevitably destabilized by the 2008 crash, for the most part they were able to contain the damage and resume business as usual. Until last Wednesday, when China’s PMI (purchasing managers index- an indicator of financial activity that indicates the purchasing managers’ acquisitions of goods and services. In other words, this index estimates how much was sold to firms at each stage), fell for the first time in 32 months. This is an sign of domestic economic weaknesses for China more than for any other country since they rely so heavily on exports and manufacturing.
Residential property prices have been in free-fall since September, and I really mean free-fall, within the first few weeks of the last quarter developers were cutting their properties asking price by 32%. While everyone was expecting China to develop some sort of fiscal polity to relax China’s tightening measures and cool the market, Premier Wen Jiabao shocked the world by announcing that he plans to continue to “strictly implement the central’s government real estate policies in the coming months to let citizens see the result of the curve” (Forbes).
However, unlike an U.S. bubble, a bubble burst in China wouldn’t hit the homeowners first. Because in China real estate investments are seen viewed as a way of saving, not borrowing, the required down payments are often up to 40%. Instead local governments would take the biggest hit as they rely most heavily on land sales, transfer fees, and real estate-related taxes (these often make up to 50 and 60% of the city government revenues).
Maybe China’s worry is that if they loosen up the country’s fiscal policy any instability would incapacitate the authorities from keeping the Yuan at a fixed rate (1USD = 6.36 CNY). And if the value of the Yuan fluctuates freely with the market the chances of the value of the currency raising like crazy are enormous, and with that, China would loose business to the Southeast Asia tigers.
Earlier this month, the People’s Bank of China announced that it would lower the percentage of deposits commercial banks must hold in reserve (by 50 basis points) – again, see Money as Debt. The cut drops the level to 21% for large banks and 19% for smaller banks. What is really odd is the timing, right now the rest of the world’s central banks are adjusting their policy to facilitate access to foreign capital by lowering its cost instead.
In addition, as a result of the international pressure created for China to address the realities of the local economy, Beijing announced that four cities and provincial governments (Shanghai, Shenzhen, Zhejiang and Guangdong) will be allowed to start issuing bonds for the first time in China’s history (Zhejiang is expected to issue $8 billion Yuan in bonds, including half three-year bonds and half five-year bonds). The proceeds will fund infrastructure projects already under construction. Read more on China’s real estate bubble.
All together these policy changes are just really strange moves in the part of China dearest, so we shall see how it plays out…