I keep getting asked the question “Is China a Bubble?”
And I keep answering “I have no idea, that is not my area of expertise.” But I offer up Andy Xie, no stranger to these pages, as a local expert. And now, let’s add another person to defer to: GMO’s Edward Chancellor.
Barron’s Alan Abelson references Chancellor’s recent piece “China’s Red Flags.”
“Such debacles usually start, Edward has found, with a compelling growth story. Another feature is a blind faith in the competence of the authorities. The ignominious list includes: excessive capital investment; a surge in corruption; easy money; fixed- currency regimes; rampant credit growth; moral hazard; precarious financial structures; and rapidly rising property prices powered by dodgy loans.
Of these, rapid credit growth is the most important leading indicator of financial instability, followed by an asset price bubble. Low interest rates and strong money growth play a significant part, too, in creating memorably bad outcomes. China, unhappily, has its share of these dubious qualities as well as being inflicted by a huge speculative mania.”
Here are the 10 factors that Chancellor flags. They suggest China’s boom will go bust. Each item starts by referencing a specific classic bubble indicator, and follows with the specific China variant (in parens).
1. Great investment debacles generally start out with a compelling growth story (The China Dream)
2. Blind faith in the competence of the authorities The Communist Party of China We Trust)
3. General increase in investment (Chinese investment Boom)
4. Corruption (rampant in China)
5. Easy money (Money supply grew by nearly 30%, interest rates maintained well below nominal growth rates).
6. Fixed currency regimes (Chinese currency, the renminbi, is pegged to the U.S. dollar)
7. Rampant credit growth (new bank lending increased by nearly RMB 10 trillion, a sum equivalent to 29% of GDP)
8. Moral hazard (China’s leading banks, among the world’s largest by market value, are seen as too big to fail)
9. Precarious financial structures (Chinese banks are particularly reluctant to report problematic loans).
10. Strong credit growth and rapidly rising property prices (a widespread belief that the property prices can only go up)
The entire GMO piece can be found here a nd is well worth some Saturday morning face time . . .
China’s Red Flags
GMO, March 2010
Red Flags Over China
Barron’s, March 29, 2010