Can China be a force for stability in all this economic turmoil?
In mid-September, just after the Asia-wide Mid-Autumn Festival and following the US announcements of Lehman Brothers’ Chapter 11 filing, the buyout of Merrill Lynch, and the bailout of AIG, China’s stock markets dropped more than 7 percent in two days…
The week is turning out to be yet another bloodbath for the Shanghai composite index in a year that has seen China’s major index lose more than 60 percent thus far, but at a time like this it is worth remembering that China’s underlying economic fundamentals remain very strong.
Indeed, China just came off yet another positive month of growth capped by the successful hosting of the Olympics, continuing the performance seen throughout all of 2008. If it is true that China’s economy is doing spectacularly well, what causes the apparent contradiction of one of the world’s best performing economies having one of the worst-performing stock markets?
In brief answer to this complex question, let me just say two things. First, a slow-down in China’s economy and markets was almost inevitable, given its incredible performance in the last several years. How many successive quarters can we expect any economy, much less one the size of China’s, to maintain 10 percent or higher growth?
Second, the theory of decoupling - the idea that China and other developing countries are mature enough to continue to develop on their own during an economic decline in the US and elsewhere - seems increasingly discredited.
These two factors lend support to the argument that a down-turn in China is to be expected and, I would suggest, not as much to worry about as pessimistic prognosticators about China suggest.
We are living in an inter-connected world and nobody, not even the world’s fastest-growing major economy, can resist the forces that are sweeping the globe. As John Donne famously said, no man is an island, and in the same way, nor is any economy able to ignore the looming economic clouds on the horizon. What form should China’s response take, a wait and see attitude, or a more active global monetary policy? I saw that China should act.
This financial crisis calls to all economies to act. China, with its strong economic performance in August and year-to-date, may appear to be an island of calm and prosperity, but it may later be found to have been in the eye of the storm, with the worst yet to come. According to recent data from economists at China’s National Bureau of Statistics, economic performance indicators seem healthy, but it is important not to be passive and watch from the sidelines as US financial institutions come tumbling down.
China’s economy does indeed seem robust. Starting with the major driver of the economy, China’s consumption continued to show signs of strength, with retail sales growth near a 12 year high, maintaining a 23.2 percent pace of growth in August, only slightly lower than July’s 23.3 percent.
At the same time, CPI - the consumer price index, or basic inflation - decreased to 4.9 percent in August, continuing the downward trend.
Actually, many economists were regarding the fight on inflation to be one of China’s core economic policies of 2008, but in a surprise change of policy, China’s leadership appears to have reversed into a more expansionary monetary policy. Trying to goose the markets before they opened, on September 15, the People’s Bank of China cut interest rates by about a quarter percent, down from 7.47 percent to 7.2 percent and, in perhaps the most surprising move of all, cut the bank deposit reserve ratio by a full one percent after having just increased it by one percent in June. There is something of a mixed message in these two actions.
The message, that the economy is ready for a rate cut and needs to increase liquidity, could also be evidence that the PBOC overshot the mark and caused excessive monetary tightening this summer, contributing to some of the most abysmal stock market performance in three years.
Is the PBOC acting wisely? Time will tell if they are cutting too soon in a knee-jerk reaction to try to prop up the falling stock and property markets, or if they are presciently avoiding a much harder crash in the wake of the latest subprime casualties and possibly other factors yet to come.
While some of this data could be construed as negative, China experienced other positive economic results in August. For example, the trade surplus was up by 25.7 percent year-to-date, compared with Jan - Aug 2007 figures. Exports are down slightly, but still strong, FDI continues to be healthy. The massive factory closings in Guangdong and Zhejiang provinces, for example, notwithstanding, China’s exporters are becoming leaner and more competitive in the strong RMB environment.
So the question originally posed, why is there a contradiction of China’s strong economy on the one hand, and its weak stock markets on the other?
Is this a sign that global markets cannot decouple and are doomed to falter together, or is it that somebody needs to act more decisively? All eyes are again on the US to see how it proceeds, but just as China became a stabilizing force in the Asian Financial Crisis of 1997, a breakwater against waves of selling, is there a way China could again use its economic and financial strength to stabilize roiling markets?
China is in a unique position to show leadership in this crisis, except this time it is not just in Asia but rather on the global stage, and it is not just the Asian currencies it will be helping to stabilize, it will be the US dollar. China should act. Some would say China must act.
How? By continuing to buy more bonds and debt from the US, rather than, as one economist from the China Investment Capital Corporation speculated, paring back US dollar holdings. Furthermore, a stronger RMB would allow it to do better in this regard, as well as increase imports, so letting the currency appreciate more quickly should be a key leadership consideration right now. This is China’s chance to lend a helping hand when friends are in need. It is nothing less than a chance for China to emerge onto the global financial stage, just as it did on the cultural stage in August with the Olympics.
No country is an island in our globalized world. Everybody has a stake. With global alarm bells sounding, can China passively wait for the US to get through its bailouts and hope that the world financial system remains intact? Or does this bell ring for another? Whom does the bell toll for? China, it tolls for thee.
Republished from September 19, 2008
Jason Inch is a Shanghai-based consultant and co-author of the new book, Supertrends of Future China. Email: Jason@ChinaSupertrends.com
