Saturday, January 30, 2010

223) China's economy: ready to implode?

China: Ready to implode?
Few Little Words
25 October 2009

If debt financed consumption has shown us one of the worst economic downturns of our times then what debt financed production can have for us in the pack, another major downturn for the economy which has just begun to recover?

Chinese economy is heavily dependent upon exports as they form a big chunk of its GDP. Just before financial meltdown the ratio of exports to GDP for China was as high as 40%. After the meltdown last September the exports as a percentage of GDP fell down considerably by around 30%. This means that the Chinese GDP must have suffered big time. But still we come to know that Chinese economy has grown by 8.9% in real terms. How did this happen?

China is presently continuing with its fiscal stimulus plan which if seen as a percentage of GDP is much higher than the one which is the US has provided for its economy. However, till now only a small part of that plan is actually executed in China. Then from where the Chinese miracle growth came?

One argument could be that fall in exports is more than made up by the increase in the domestic consumption. However, this is not the case. To understand the Chinese growth really will have to dig deeper to understand how the numbers are calculated in China. In China, unlike other countries, GDP numbers are measured in terms of production and not in terms of consumption, i.e. manufacturing of goods is counted in GDP but not the sales.

In the last year, there was a significant increase in bank credit in China. In fact, it increased by as much as 28%. There is also significant evidence about increase in purchase of raw materials by China. This means that the credit liquidated by the banking system is used to increase production. In normal conditions, this cannot sustain for long as soon the producer would run out of money. However, if bank is willing to lend to the producer he can produce goods for inventory.

In a situation when demand for the goods produced by these manufacturers has decreased, increasing production would essentially mean that the finished goods are rotting in the warehouses. Ultimately this cannot continue for long as one of the bank, manufacturer or channel partner would have to book losses. No economy can sustain for long if it produces goods for which there is no market. This would also have serious repercussions for the Chinese as well as the world economy which is still suffering with the pain of sub-prime crisis led financial meltdown.

Year 2008 has shown us that economic model based on debt financed consumption is not so good then Chinese idea of debt financed production looks more absurd. China, however, can continue this conundrum for a little loner than the expected owing to huge reserves, of the order of $2 trillion, but ultimately this will have to come to an end. “When” is the question and what will be the impact of that? The answer depends on the way of ending. Let’s wait and see.

Words ought to be a little wild for they are the assault of thoughts on the unthinking. -Keynes

1 comment:

  1. The Chinese economy is ready to implode. The signs are everywhere. It is widely known that the Chinese government has for years been subsidizing Chinese industry both directly and indirectly via currency manipulation and lax environment and labor regulation. Neither planned nor subsidized economies last very long and always end badly.

    While American industry has suffered in the short run, ultimately what doesn't kill them will make them stronger. To compete with Chinese subsidized firms, American firms have had to drastically increase efficiency just to survive. The lessons learned will enable American industry to flourish after the Chinese implosion.

    But the real winners are the American consumers. Cheap Chinese goods have been a windfall for American families. And with the increased American industry efficiency, the savings should continue long after the Chinese implode.

    Ingrain this economic principle into you thinking: government subsidy of industry always = bad, free and open markets always = good. Vote accordingly.


Comments are useful, provided that they refer exactly to the subject of the post, and present some relevant argument.
Comentários são bem-vindos, desde que relativos ao tema do post e apresentando argumentos substantivos.