Tuesday, January 18, 2011

Shorting China

. Tuesday, January 18, 2011

A thought experiment: What will be said if, in 2013 or thereabouts, the Euro has broken up, China is in the middle of a banking crisis, and the concomitant drop in global demand drives down commodity prices and slows down growth in Brazil and the petrostates? For the last several years we've heard little except how broken the Anglo-American economic model is, and how the days of U.S. as leader of the global economy are over, and yet all of the above not only seem within the range of possibility but now appear more likely than they did just a year ago. If it happens, will everyone be talking about the "unipolar moment" once more?

None of those things are assured of course, but the probability of one or all of them happening is well above zero. Many hedge funds are now betting on a Chinese slowdown:

The manager, who wanted to remain anonymous, said: “The Chinese delegation has said all week that there will be double-digit growth for years to come and the Brits have lapped it up. But the data doesn’t add up. We think we’ve experienced credit bubbles over the past few years, but China is the biggest. And yet the global economy is looking to China as not just a crutch but a springboard out of the recession. It’s crazy.” ...

He follows Mark Hart of Corriente Advisors, the American hedge fund manager who made millions of dollars predicting both the subprime crisis and the European sovereign debt crisis, who started a fund based on the belief that rather than being the “key engine for global growth”, China is an “enormous tail-risk”.

There have been academics and analysts who have argued about the dangers of China’s economy overheating for some time. But for many, the fact that hedge funds, particularly those with track records on previous crises, are launching specific funds is the sign that the bubble is close to bursting.

One academic said: “Economists have contrarian views all the time. But these hedge funds have their shirts on the line and do their analysis carefully. The flurry of 'distress China’ funds is a sign to sit up.” ...

A recent study by Fitch concluded that if China’s growth falls to 5pc this year rather than the expected 10pc, global commodity prices would plunge by as much as 20pc. China is the global price-setter for oil, coal and base metals.


That doesn't make them right of course, and China came through its last financial crisis relatively unscathed. But the pattern of recent history is that catch-up growth can happen very rapidly for awhile, but cannot sustain itself forever, especially when it is state-led. We've seen this story before. China has been papering over real problems for quite awhile now, and may not be able to keep it up forever. There is a lot of malinvestment (especially by local government), a sketchy banking sector, a real estate bubble, and quite a lot of rent-capture and cronyism. Despite rising incomes and an appreciating yuan (in both real and nominal terms), Chinese household savings has been going up, which may indicate that Chinese citizens may be nervous about their future incomes. And of course there's the growing demographic nightmare.

Predictioneering is a fool's game, so I won't do it. But looking around the world it's easy to think that the U.S.'s problems are more easily managed than many of its presumptive rivals. That's a depressing thought in one sense, as the U.S. has certainly seen better days. On another level, it's worth remembering that the period of U.S. leadership has corresponded with large advances in standards of living and large declines in violent conflicts. There are worse things than the persistence of the old order.

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