Whilst there’s nothing like a Black Monday bloodbath in China to invigorate the bear case, it is worth bearing in mind that the Chinese stock market isn’t quite the NYSE.
Yes, Chinese investors have been turning to stock market investing at accelerating rates over the past decade, but despite all that growth, stock ownership is still the exception not the norm in China. And because it isn’t the norm, the feed through to the real economy is unlikely to be as significant as it would be in say, America, where every man and his dog is taught from birth to watch CNBC and to own a portfolio.
On that front, Mark Williams at Capital Economics makes a sterling point this Tuesday. It’s all very well panicking about China’s slowing growth, but panicking about China’s stock market implosion is misplaced. It was obvious, he notes, that the market being in the grip of a speculative bubble. That the bubble has now popped, however, tells us little about what is going on in China’s economy.
From Williams:
The surge in prices that started a year ago was speculative, rather than driven by any improvement in fundamentals. A combination of poor data and policy inaction in China may have triggered today’s market falls but the bigger picture is that we are witnessing the inevitable implosion of an equity market bubble.
Similarly, falling equity prices in China shouldn’t be a cause of trouble in the wider economy or abroad. Only one in thirty people in China owns equities. Just 2% of China’s equities are owned by foreigners.
What we should be more worried about perhaps, at least according to Steve Keen, the heterodox economist from Kingston University in London, are the two things that differentiate this crash from the one that occurred in 2007-08.
As Keen notes on Tuesday:
China’s stock market in 2007 lacked the two essential pre-requisites for a genuine crisis: private debt was only about 100% of GDP, and it had been relatively constant for the previous decade. This bust however is the real deal, because unlike the 2007-08 crash, the essential ingredients of excessive private debt and excessive growth in that debt are well and truly in place.
So, arguably, once again, it’s China’s credit binge which matters most. And in particular the rate at which it took hold of the population post 2009, unprecedented in terms percentage of GDP:
Keen makes the point that for the rest of the world to deleverage back in 2008, China inevitably had to leverage up, because someone had to become the consumer of last resort. And more to the point, someone had to fund that consumption on an investment basis.
But as Keen explains a lot of that credit didn’t flow to consumption in the conventional sense. Instead, it took the form of a proxy investments in what were hoped to be appreciating assets, like property. More so, a lot of it was also channelled through state-owned enterprises rather than standard and wisely distributed consumer or SME lending.
As he explains:
One key peculiarity about China’s economy—and there are many—is that much of its growth has come from the expansion of industries established by local governments (“State Owned Enterprises” or SOEs). Those factories have been funded partly by local governments selling property to developers (who then on-sold it to property speculators for a profit while house prices were rising), and partly by SOE borrowing. The income from those factories in turn underwrote the capacity of those speculators to finance their “investments”, and it contributed to China’s recent illusory 7% real growth rate.
With property price appreciation now over, those over-levered property developers aren’t buying local government land any more, and one of the two sources of finance for SOEs is now gone. Borrowing is still there of course, and the Central Government will probably require local councils to continue borrowing to try to keep the growth figures up. But the SOEs are already losing money, and this will just add to the Ponzi scheme. The collapse of China’s asset bubbles will therefore hit Chinese GDP growth much more directly than the crashes in the more fully capitalist nations of Japan and the USA.
In short, don’t worry so much about the stock market, worry more about the potential collapse of other major Chinese asset classes like property, ghost towns and factories. That’s how the credit links back to the real economy.
Related links:
Reminiscences of a Chinese stock operator - FT Alphaville
