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Sunday, 21 September 2014

Fragile China consumption theories and the folly of pipe dreams

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It’s not often that I hear one of the BBC’s business presenters ask the very question I would have asked but it was the case this morning and it was: “China cut rates yesterday; is that good or is that bad?” Judging by the mindless excitement which was pervasive in equities yesterday, the spotty nosed geeks seemed to think so but I can assure you that it was not good.

Anthony Peters, SwissInvest Strategist

There must be something in the water, especially in the Anglo-Saxon countries, which prevents investors to understanding Asian wage earners. In actual fact, the story is relatively simple. Over the past fifty years, the West – Europe ahead of the USA – has built up a cradle-to-grave social security safety net which has generated some sort of axiomatic belief that earnings can be spent and that if there is anything left, it can be saved.

In Asia, it is the other way around; earnings are here to be saved and only the surplus is to be spent. Understanding this goes a long way to also understanding such phenomena as the Chinese property bubble.

The property bubble in the US was to a large extent generated by buyers buying because the market was going up. In the aftermath of the dot.com bubble, the transatlantic get-rich-quick merchants were looking for the next big thing. With imported disinflation and low interest rates, real estate looked like a copper-bottomed investment opportunity and, once they were off to the races, the whole country was on board too. In China it is about saving for the future. With limited social security, saving for retirement is top of the “to do” list and investing in property is the first stop for long term capital formation. In fact, China suffers across the board from over-investment.

I recall when, in the depth of the post-Lehman depression, we kept on hearing that the Chinese leadership would have to encourage its people to take over from the Americans as consumers of last resort. I was never able to follow that line of thinking.

All Westerners see is a pool of one and a quarter billion potential consumers whereas in fact it is one and a quarter billion savers. The consumers were in the West but they have had to reduce consumption and with consistent investment rates and falling demand, China is lumbered with the mirror image of the Western imbalances. Cutting rates in China will therefore do nothing.

Do I get the feeling that the PBOC might be as clueless as to how to deal with its problems as Western central banks are about dealing with theirs. The fact remains that monetary policy is like the pain-killer which can fight the symptoms but which cannot cure the causes. After all the excitement in European hours, the feel-good factor has been waning and by the close in Asia, stocks are down again quite emphatically.

I recall when, in the depth of the post-Lehman depression, we kept on hearing that the Chinese leadership would have to encourage its people to take over from the Americans as consumers of last resort. I was never able to follow that line of thinking.

Laying pipe dreams

Meanwhile, whether it is China or France, the dream of an infrastructure led boom appears to live on. Spanish regional indebtedness is a prime example of how and why this can go horribly wrong. In their race to attract private sector construction activity to their area, Spanish municipalities invested like crazy in order to enhance their attractiveness as a investment location.

When the bubble burst, they suddenly found themselves long of roads, swimming pools and sport stadia with no demand and in some cases even less than that. New Dealism is tricky to manage and although President Hollande loves the idea of using deficit funded infrastructure as a creator jobs and as a driver of growth, if the follow through fails to materialise, then it becomes White Elephantism.

Spain, Ireland and, not least of all, Japan have a story or two to tell on that subject. Swapping one imbalance for another imbalance is not only no way to fix the system; it can be a very expensive miscalculation too.

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Alas, it is that time of the week again. All that remains is for me to wish you and yours a happy and peaceful weekend. May you, if asking yourself why it is that bankers are people who lend you an umbrella when the sun is shining and ask for it back when it begins to rain, it is that water companies do the opposite and impose hose-pipe bans when it is dry and your plants are gasping, only to lift them again when it’s peeing with rain and you don’t need the darned hose anyhow.

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