Why China’s Economy Could Be Toast

Today we’ll jump on board our old hobby horse, China, and enjoy a leisurely ride. We’ll cover ghost cities gone bust, stimulus options, iron ore and the IMF. After reading, you’ll realise why we expect sharp share price falls ahead .

We say that because China’s own economic restructuring will define Australia’s direction over the next few years. And although we’ve made the point before, we’ll make it again: China’s rebalancing hasn’t even started yet. For example, the property market is still booming.

From Bloomberg:

‘China’s June new home prices rose in all but one city, led by the biggest metropolitan centers and underscoring Premier Li Keqiang’s struggle to rein in speculative investment even as the economy cools.

Prices climbed in 69 of the 70 cities the government tracked last month from a year earlier, the National Bureau of Statistics said in a statement today, matching the data in May. The southern business city of Guangzhou posted the biggest increase with a 16 percent advance from a year earlier. Prices climbed 13 percent in Beijing and 12 percent in Shanghai. All three cities had their biggest gains since the government changed its methodology for the data in January 2011.

Meanwhile, because of the economic slowdown (driven by an increasingly inefficient credit bubble, not by policy) everyone is calling for more stimulus. But it’s no wonder China’s Finance Minster Lou Jiwei keeps pushing back on stimulus rhetoric. It’s the last thing China’s economy needs right now. To pursue more stimulus spending would be insane.

Even the IMF, generally late to the party on most issues, has just come out and issued a dire warning to China. Not that China’s really listening though, as the Telegraph reports:

‘The Fund said wealth products (WMP) and trusts – a disguised second balance sheet of banks, worth $2 trillion – "could over time evolve into a systemic threat to financial stability". A sudden loss of confidence could "trigger a run" and set off "a severe credit crunch".

‘"As of now, the authorities still have sufficient tools and fiscal space to address potential shocks. However, failure to change course and accelerate reform would increase the risk of an accident or shock that could trigger an adverse feedback loop," it said. China has been warned.

‘Beijing’s replied dismissively that "vulnerabilities were well under control". It said the fast growth of wealth products and trusts were a healthy sign of "market-based intermediation". ‘Any risks were "manageable". Bad loans in the banking system "remained low and Chinese banks had some of the highest capital and provisioning ratios in the world". Do you laugh or cry?’      

Rio Tinto and BHP are heading into this maelstrom with guns blazing, which you can probably get away with doing when you’re amongst the world’s lowest cost producers of iron ore. They are producing more iron ore as each year passes and will be doing so up until around 2015 as prior expansion projects kick in.

But we wouldn’t like to be an iron ore producer a bit higher up on the cost curve. They will be in all sorts of problems when China’s credit fire starts to burn itself out. The iron ore price is currently around US$130, a very healthy level. We expect it to be under US$100 by the end of the year.

Ordos, China’s famous ghost city, may well just be the canary in the coalmine. Bloomberg reports that the city has gone ‘bust’.  Below is a photo, taken on 13 July, showing half-finished apartment blocks in the city. The ones that are finished are largely empty. What a masterpiece of central planning.

There’s not much more to say. Unless it restructures now, China’s economy is toast. Burnt toast. 


Greg Canavan+
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From the Archives…

The Agonists and the Ecstasy of the Financial Market
12-07-13 – Dan Denning

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11-07-13 – Dan Denning

Asiana Boeing 777: Lifesaving Defence-Tech ‘Miracle Materials’ in Action
10-07-13 ­– Byron King

Interest Rates: Something Wicked This Way Comes
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The End of a Share Market Correction… or the Beginning?
8-07-13 – Dan Denning

Greg Canavan is a Contributing Editor at Markets & Money and Head of Research at Port Phillip Publishing. He advocates a counter-intuitive investment philosophy based on the old adage that ‘ignorance is bliss’. Greg says that investing in the ‘Information Age’ means you now have all the information you need. But is it really useful? Much of it is noise, and serves to confuse rather than inform investors. And, through the process of confirmation bias, you tend to sift the information that you agree with. As a result, you reinforce your biases. This gives you the impression that you know what is going on. But really, you don’t know. No one does. The world is far too complex to understand. When you accept this, your newfound ignorance becomes a formidable investment weapon. That’s because you’re not a slave to your emotions and biases. Greg puts this philosophy into action as the Editor of Crisis & Opportunity. He sees opportunities in crises. To find the opportunities, he uses a process called the ‘Fusion Method’, which combines charting analysis with more conventional valuation analysis. Charting is important because it contains no opinions or emotions. Combine that with traditional stock analysis, and you have a robust stock selection strategy. With Greg’s help, you can implement a long-term wealth-building strategy into your financial planning, be better prepared for the financial challenges ahead, and stop making the same mistakes that most private investors do every time they buy a stock. To find out more about Greg’s investing style and his financial worldview, take out a free subscription to Markets & Money here. And to discover more about Greg’s ‘ignorance is bliss’ investment strategy and the Fusion Method of investing, take out a 30-day trial to his value investing service Crisis & Opportunity here. Official websites and financial e-letters Greg writes for:

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